Why Are Corporate Profits So High Compared To A Generation Ago?
June 21, 2011, 04:46 AM
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From the Washington Post:
With executive pay, rich pull away from rest of America

It was the 1970s, and the chief executive of a leading U.S. dairy company, Kenneth J. Douglas, lived the good life. He earned the equivalent of about $1 million today. He and his family moved from a three-bedroom home to a four-bedroom home, about a half-mile away, in River Forest, Ill., an upscale Chicago suburb. He joined a country club. The company gave him a Cadillac. The money was good enough, in fact, that he sometimes turned down raises. He said making too much was bad for morale.

Forty years later, the trappings at the top of Dean Foods, as at most U.S. big companies, are more lavish. The current chief executive, Gregg L. Engles, averages 10 times as much in compensation as Douglas did, or about $10 million in a typical year. He owns a $6 million home in an elite suburb of Dallas and 64 acres near Vail, Colo., an area he frequently visits. He belongs to as many as four golf clubs at a time - two in Texas and two in Colorado. While Douglas`s office sat on the second floor of a milk distribution center, Engles`s stylish new headquarters occupies the top nine floors of a 41-story Dallas office tower. When Engles leaves town, he takes the company`s $10 million Challenger 604 jet, which is largely dedicated to his needs, both business and personal. ...

Other recent research, moreover, indicates that executive compensation at the nation`s largest firms has roughly quadrupled in real terms since the 1970s, even as pay for 90 percent of America has stalled.

This trend held at Dean Foods. Over the period from the `70s until today, while pay for Dean Foods chief executives was rising 10 times over, wages for the unionized workers actually declined slightly. The hourly wage rate for the people who process, pasteurize and package the milk at the company`s dairies declined by 9 percent in real terms, according to union contract records. It is now about $23 an hour. ...

While no company over this period of time - from the 1970s to today - can be considered completely typical, Dean Foods offers a better comparison than most because fundamentally it hasn`t changed.

The dairy business is still the root of the company; it was on the Fortune 500 by the late `70s and remains there today. It grew then and more recently through acquisition. Moreover, both chief executives - Douglas and Engles - could boast records of growing the company and profits.

From 1970 to 1979, while Douglas was the chief executive, sales at Dean Foods tripled and profits increased tenfold, to $9.8 million, according to company records. Similarly, from 2000 to 2009, sales at what would be Dean Foods had roughly doubled, and so had profits, to $228 million. (Engles became chief executive after the company he led bought Dean Foods in 2001 and adopted its name.)

I`m guessing from all this that the CEO`s compensation as a % of corporate profits went up from about 3% in the 1970s to about 4% these days. So, there`s no apparent economy of scale in CEO pay. That change from 3 to 4% is not insignificant, but the big change since the 1970s seems to me to be the huge growth in corporate profits. And that seems kind of odd. I paid a lot of attention to the business world from, say, 1979 into the early to mid 1990s, but the size of corporate profits these days seems hard to reconcile with economic theory.Adam Smith 101 says that more perfect competition will lead to lower profits.

You might think that regional monopolies and oligopolies that allowed higher profits than the risk adjusted cost of capital would have been worn down over the decades by increased competition caused by the huge improvements in shipping, communications, data processing, and globalization. But I don`t see much evidence for that. I`m not surprised that Apple has very high profit margins on innovative products, but why does, say, P&G do so well these days on toothpaste and detergent?

I mean, sure, we all know that corporate executives have been winning in the struggle with workers over pay. But why hasn`t increased competition between corporations competed away the profits won away from employees?