value and opportunity

James Montier has issued a very interesting reasearch piece on why profit margins are so high.

This is something which is also bugging me all the time. The Chart on page 2 is especially interesting:

He then continues deriving the sources of profit margins and comes to an interesting conclusion: That the increase in Government spending is the major source of current margins !!!

This is quite interesting. In practice, I think his theory has some minor issues, for instance he implies that US corporate profits are only produced within the US, which for many big companies (Apple, McDonalds) is clearly an oversimplification.

If I look at companies like Volkswagen for instance, a lot of the high margins come from the booming BRIC countries, however also those times will end.

I also find it intersting to think about how his theory works in practice. If one looks at Apple for example, one could clearly see that one part of the high margins are also low production costs in Asia which means lost jobs and higher unemployment (and lower wages) in the US.

However, as the unemployed (and other US citizens) get direct and indirect paymants from the government, in theory this enables them to buy Iphones without having a job. So indirectly the US Government pays for Iphones.

Another point which is missing in Montier’s model are the current low interst rates. Based on average debt ratios, this might add a point or two in corporate profit margins as well.

As always, one has to be careful not to fall into the “confirmation bias” trap, but I find it highly likely that current record profit margins are driven by a unique combination of high Government spending, low interest rates and booming BRIC countries which most likely will not last.