A New York Times analysis of more than 2,000 publicly traded companies outside the financial sector found that most of them grew sales faster than costs, a notable feat as costs of wages, raw materials and components rose and supply chains expanded in the global economy. were confused.
As a result, profit margins, which measure how much money a company makes from every dollar of sales, rose well above the prepandemic average. Overall, companies made an estimated $200 billion in additional corporate profits last year because of that increase in margins.
The windfall sent stocks soaring in a wave of market exuberance, but possibly beyond what company fundamentals deserved. The price-to-earnings ratio — an indicator of how much investors pay for every dollar of corporate profit — for all companies in the S&P 500 climbed to 23 at its peak, compared with an average of 18 in the decade before the pandemic. With such a high P/E ratio, stock prices were particularly vulnerable to a sell-off.
And now there are good reasons for investors to be concerned about earnings. Many federal stimulus programs set up during the pandemic have ended or are being terminated. The Fed raises interest rates. And business leaders warn that the supply chain problems that may have helped them increase profits last year have become a burden.
Deere, the maker of agricultural, construction, gardening and other equipment, said material costs were still rising and parts were missing to complete certain products, slowing sales. Cisco, which makes computer networking equipment, also complained that it couldn’t get certain components.
Particularly worrisome for investors are signs that demand for some goods and services is leveling off or even falling. Walmart noted that higher food costs seemed to have reduced demand for other items. And while Target expected demand for things like clothing and home goods to decline as government stimulus expires, “the company didn’t see the magnitude of that shift,” said its CEO, Brian Cornell.
Shares of clothing retailer Gap fell sharply last week after it announced disappointing earnings for the first three months of the year, as well as a more pessimistic outlook for earnings for the remainder of 2022. The company was hit hard by a deep drop in sales for its Old Navy brand, which tends to attract lower-income consumers because it has cheaper merchandise than Gap stores.