Companies
Push Prices Higher, Protecting Profits but Adding to Inflation
Corporate profits
have been bolstered by higher prices even as some of the costs of doing business
have fallen in recent months.
The prices of oil, transportation,
food ingredients and other raw materials have fallen in recent months as the shocks
stemming from the pandemic and the war in Ukraine have faded. Yet many big businesses
have continued raising prices at a rapid clip.
Some of the world’s biggest companies
have said they do not plan to change course and will continue increasing prices
or keep them at elevated levels for the foreseeable future.
That strategy has cushioned corporate
profits. And it could keep inflation robust, contributing to the very pressures
used to justify surging prices.
As a result, some economists
warn, policymakers at the Federal Reserve may feel compelled to keep raising interest
rates, or at least not lower them, increasing the likelihood and severity of an
economic downturn.
“Companies are not just maintaining
margins, not just passing on cost increases, they have used it as a cover to expand
margins,” said Albert Edwards, a global strategist at Société Générale, referring
to profit margins, a measure of how much businesses earn from every dollar of sales.
PepsiCo has become a prime example
of how large corporations have countered increased costs, and then some.
Hugh Johnston, the company’s
chief financial officer, said in February that PepsiCo had raised its prices by
enough to buffer further cost pressures in 2023. At the end of April, the company
reported that it had raised the average price across its snacks and beverages by
16 percent in the first three months of the year. That added to a similar price
increase in the fourth quarter of 2022 and increased its profit margin.
The bags of Doritos, cartons
of Tropicana orange juice and bottles of Gatorade sold by PepsiCo are now substantially
pricier. Customers have grumbled, but they have largely kept buying. Shareholders
have cheered. PepsiCo declined to comment.
Other companies that sell consumer
goods have also done well while continuing to raise prices.
The average company in the S&P
500 stock index increased its net profit margin from the end of last year, according
to FactSet, a data and research firm, countering the expectations of Wall Street
analysts that profit margins would decline slightly. And while margins are below
their peak in 2021, analysts forecast that they will keep expanding in the second
half of the year.
For much of the past two years,
most companies “had a perfectly good excuse to go ahead and raise prices,” said
Samuel Rines, an economist and the managing director of
Corbu, a research firm that serves hedge funds and other
investors. “Everybody knew that the war in Ukraine was inflationary, that grain
prices were going up, blah, blah, blah. And they just took advantage of that.”
But those go-to rationales for
elevating prices, he added, are now receding.
The Producer Price Index, which
measures the prices that businesses pay for goods and services before they are sold
to consumers, reached a high of 11.7 percent last spring. That rate plunged to 2.3
percent for the 12 months through April.
The Consumer Price Index, which
tracks the prices of household expenditures on everything from eggs to rent, has
also been falling, but at a much slower rate. In April, it dropped to 4.93 percent,
from a high of 9.06 percent in June 2022. The price of carbonated drinks rose nearly
12 percent in April from 12 months earlier.
“Inflation is going to stay much
higher than it needs to be, because companies are being greedy,” Mr. Edwards of
Société Générale said.
But analysts who distrust that
explanation said there were other reasons consumer prices remained high. Since inflation
spiked in the spring of 2021, some economists have made the case that as households
emerged from the pandemic, demand for goods and services — whether garage doors
or cruise trips — was left unsated because of lockdowns and constrained supply chains,
driving prices higher.
David Beckworth,
a senior research fellow at the right-leaning Mercatus
Center at George Mason University and a former economist
for the Treasury Department, said he was skeptical that
the rapid pace of price increases was “profit-led.”
Corporations had some degree
of cover for raising prices as consumers were peppered with news about imbalances
in the economy. Yet Mr. Beckworth and others contend that
those higher prices wouldn’t have been possible if people weren’t willing or able
to spend more. In this analysis, stimulus payments from the government, investment
gains, pay raises and the refinancing of mortgages at very low interest rates play
a larger role in higher prices than corporate profit seeking.
“It seems to me that many telling
the profit story forget that households have to actually spend money for the story
to hold,” Mr. Beckworth said. “And once you look at the
huge surge in spending, it becomes inescapable to me where the causality lies.”
Mr. Edwards acknowledged that
government stimulus measures during the pandemic had an effect. In his eyes, this
aid meant that average consumers weren’t “beaten up enough” financially to resist
higher prices that might otherwise make them flinch. And, he added, this dynamic
has also put the weight of inflation on poorer households “while richer ones won’t
feel it as much.”
The top 20 percent of households
by income typically account for about 40 percent of total consumer spending. Overall
spending on recreational experiences and luxuries appears to have peaked, according
to credit card data from large banks, but remains robust enough for firms to keep
charging more. Major cruise lines, including Royal Caribbean, have continued lifting
prices as demand for cruises has increased going into the summer.
Many people who are not at the
top of the income bracket have had to trade down to cheaper products. As a result,
several companies that cater to a broad customer base have fared better than expected,
as well.
McDonald’s reported that its
sales increased by an average of 12.6 percent per store for the three months through
March, compared with a year earlier. About 4.2 percent of that growth came from
increased traffic and 8.4 percent from higher menu prices.
The company attributed the recent
menu price increases to higher expenses for labor, transportation
and meat. Several consumer groups have responded by pointing out that recent upticks
in the cost of transportation and labor have eased.
A representative for McDonald’s
said in an email that the company’s strong results were not just a result of price
increases but also “strong consumer demand for McDonald’s around the world.”
Other corporations have found
that fewer sales at higher prices have still helped them earn bigger profits, a
dynamic that Mr. Rines of Corbu
has coined “price over volume.”
Colgate-Palmolive, which in addition
to commanding a roughly 40 percent share of the global toothpaste market sells kitchen
soap and other goods, had a standout first quarter. Its operating profit for the
year through March rose 6 percent from a year earlier — the result of a 12 percent
increase in prices even as volume declined by 2 percent.
The recent bonanza for corporate
profits, however, may soon start to fizzle.
Research from Glenmede Investment
Management indicates there are signs that more consumers are cutting back on pricier
purchases. The financial services firm estimates that households in the bottom fourth
by income will exhaust whatever is collectively left of their pandemic-era savings
sometime this summer.
Some companies are beginning
to find resistance from more price-sensitive customers. Dollar Tree reported rising
sales but falling margins, as lower-income customers who tend to shop there searched
for deals. Shares in the company plunged on Thursday as it cut back its profit expectations
for the rest of the year. Even PepsiCo and McDonald’s have recently taken hits to
their share prices as traders fear that they may not be able to keep increasing
their profits.
For now, though, investors appear
to be relieved that corporations did as well as they did in the first quarter, which
has helped keep stock prices from falling broadly.
Before large companies began
reporting how they did in the first three months of the year, the consensus among
analysts was that earnings at companies in the S&P 500 would fall roughly 7
percent from a year earlier. Instead, according to data from FactSet, earnings are
expected to have fallen around 2 percent once all the results are in.
Savita Subramanian, the head
of U.S. equity and quantitative strategy at Bank of America, wrote in a note that
the latest quarterly reports “once again showed corporate America’s ability to preserve
margins.” Her team raised overall earnings growth expectations for the rest of the
year, and 2024.