Corporate profits aren't what they seem

By The Associated Press

NEW YORK – Is the great profit engine of corporate America running out of steam?
While other parts of the economy struggled the past two years, large companies managed to rack up higher profits quarter after quarter. Now reality is catching up with big business.
As companies close their books on the final three months of last year, the big ones in the Standard amp& Poor’s 500 stock index appear likely to earn about $230 billion. That would be $12.6 billion more than a year earlier. But the increase, 5.8 percent, is less than half the speed at which quarterly profits grew the first nine months of 2011, and one-fifth the speed they have grown since the beginning of 2010.
What’s more, almost all the profit growth comes from two companies, one of them among America’s most favorite, the other among its most hated – Apple and the bailed-out insurance company AIG. Take away those two companies and profits for the remaining 498 are expected to grow a measly 1.1 percent, according to FactSet, a provider of financial data.
The immediate future looks no better. For this quarter, which ends March 31, profits for the Samp&P 500 are expected to be up about 1 percent from the year before. And that’s with Apple and AIG thrown in.
“Were the economy to sustain a shock, this makes us more vulnerable,” says Barry Knapp, chief U.S. stock strategist at Barclays Capital.
In a report Thursday highlighting “unusually weak” results so far, Goldman Sachs strategist David Kostin noted that stock analysts have been cutting their estimates for what Samp&P companies will make for all of 2012. His projection has profits rising just 3 percent by the end of the year, and it has stocks in the Samp&P 500 no higher than they were when the year started. That would reverse a strong 6.9 percent rise so far this year.
The darkening profit picture comes at the wrong time for the economy, which is finally gaining momentum. The country added an unexpectedly robust 243,000 jobs last month, and unemployment has fallen to 8.3 percent, the lowest in three years.
Rising profits have helped the country heal from the Great Recession. They have allowed companies to hire, invest in equipment and software and raise stock dividends. The danger is that as profit growth ebbs, so will the boost to the economy.
The reasons for the slowdown are myriad:
* Among the almost 300 companies that have reported profits so far, some seem to have run out of ways to cut costs, and are making less profit from each sale, a first in the recovery. To help lift its drooping profit margins, for instance, Colgate-Palmolive said last week that it was raising prices in North America for the first time in two years. Profit fell 5 percent last quarter.
* Other companies point the finger overseas. Dow Chemical, the nation’s largest chemical maker, blamed “considerable weakness” in debt-mired Europe for its profit last quarter of 25 cents per share, before a one-time charge. That was less than expected. 3M, the maker of Scotch tape, is worried about slower growth in emerging markets like China, and says that helps explain its unexpectedly tiny 3 percent profit growth last quarter.
* Still others point to the strengthening U.S. dollar, which means profits that companies collect in foreign currencies like the euro translate into fewer dollars when they’re brought home. In cutting profit forecasts for 2012, Procter amp& Gamble, Google and Pfizer all cited the stronger dollar. Their stocks have all dropped this year.
But perhaps the biggest reason for the small gains is simple – an investing version of the law of large numbers. With profits crushed by the recession, it didn’t take much early in the economic recovery for companies to report big increases. But now that profits have climbed fast for two years, it’s harder to show a jump by a similar proportion.
“The base is much more challenging,” says John Butters, senior earnings analyst at FactSet.