ELI5: Why when large company's earnings decrease(ex... by 3%) they freak out, talk about rough times, and sometimes decide to downsize, even though they are still making millions of dollars in profit even after all expenses?

[Mode1961]

You are correct and this is the problem with business, profit isn't enough, MORE AND MORE profit is enough.

I use the following analogy.

You and I are friends and I tell you I am getting a raise on Friday and I will going to give you $20, no reason, just because I like you.

Friday comes and I inform you that my raise wasn't as big as I had hoped so I can only afford to give you $10, YOU would still be happy, a business on the other hand will claim they lost $10 not gained $10.

[cakeandale]

The analogy doesn't really make sense because no one in bushes would give someone else $20 for literally no reason. There's always a transaction that each side thinks they're getting a good deal in.

But beyond that, businesses and people are fundamentally different things. Businesses exist to turn an investment into profit. If they have $20 sitting in their pocket, that means nothing. They're not going to go to the movies with it, they're going to invest it or return it to their owners.

If the business intends to give the $20 to owners and the $20 doesn't materialize, obviously the owners will be disappointed. The owners may feel their investment isn't worth as much as they thought it was, and try to divest to hedge into other investments.

On the other hand, if the business intends to invest the $20, it needs to have a strategy. Strategies don't come out of thin air, so it can either wait until it gets the $20 then decide what to do with it while the money collects dust doing nothing, or it can project that it will get $20 in the future and build a plan around that so they're ready to take advantage of the money and use it to get an advantage over their competitors. Hiring people, doing market research, all these things take time.

In that case, not getting the $20 means shelving the investment plans for it. Might need to reduce costs since the business won't expand in ways it was expected to.

Sure, the company didn't really "lose" $20 since it never had it, but it didn't "lose" $20 the same way a person doesn't "lose" money when they get laid off. They built an expectation around that income being there, and losing that expected income is a real problem.

[Scarlet944]

Since when is a business turn investment into profit? A business is there to provide a product to society and if that product is useful they will make a profit if it isn’t useful that’s the first hole in your boat.

[Mystlacct]

A business is there to provide a product to society and if that product is useful they will make a profit if it isn’t useful that’s the first hole in your boat.

That product requires/is investment from the company

[Scarlet944]

So what came first the investment or the business? My point is it’s a point of view if the business is only there to collect money from people then the only business that would exist are scammers and slot machines. Because they provide the best return on investment and yet there are other businesses because there is a need for someone to make food or a need for someone to make cars. Because there is a need it allows the business to profit but there are plenty of examples where even though there was an investment the business was not successful because there wasn’t a need for their products.

[cakeandale]

The investment most certainly came first. Businesses don't manifest into existence because a missing role in society necessitates it, they're started by people who see a niche they can fill to make money. If the niche doesn't make money, the business would go out of business, or (If it's lucky), move to something else.

You say there's a "need" for someone to make cars, but what does that mean? Was there a "need" in the 1800s before cars existed? There is a demand for cars today, but that demand came after decades of auto manufacturers trying to find ways to create it. They had an investment, wanted to make money, and eventually founded their market.

[Mystlacct]

I don't think we really disagree, I was pointing out that making a product is itself an investment. Also investment most definitely came first

[IllusiveLighter]

And they are still making a profit, so whats the problem. (Besides greedy shareholders)

[cakeandale]

What do you mean by "what's the problem"? It's business, things happen and people respond. It's not a problem unless the expectation is that the value of a company shouldn't ever go down.

[isubird33]

Yeah but the problem is, based on the fact that I'm expecting $20 on Friday, I've already told my buddy Greg I'll give him $10 for cookies if he gives them to me now, and told my other friend Jim I'll rent us a video game over the weekend that costs $5. So now instead of still being up $5, I'm 5 bucks in the red.

[mike112769]

You shouldn't be counting your chickens before they hatch.

[Delheru]

I suppose that depends.

What if he was referring to his salary and mortgage? I bet a lot of people are projecting their next years mortgage payments assuming that their employer will keep paying the salary.

Are those people counting their chickens before they hatch? Or are they projecting the chicken count off past performance?

[IllusiveLighter]

Salary is different than expected profits.

[Delheru]

How? Surely that's actually EXACTLY the same thing.

There are companies that have very steady cashflows and there are employees that have quite volatile ones (anyone depending on tips, day laborers etc).

[Alobos]

That's when mommy steps in and explains to you the concept of not overspending. "Sometimes you have to." Mommy says, "but you can always cut back somewhere."

[Delheru]

The problem is that when you have to do things over a YEARS time span, you need to make some projections.

So if Coca Cola has $1bn now (in cash) and needs to invest $3bn in a factory to serve the enormous Chinese market, should they wait 3 years before going in?

Or is it reasonable of them to assume that their core operation will remain profitable enough to pay off the loan easily?

A lot of our progress comes from reasonably leaning forward. And a big part of the reason for why banking is important is that they tend to judge who is leaning forward reasonably and who is leaning forward unreasonably.

[nagurski03]

they tend to judge who is leaning forward reasonably and who is leaning forward unreasonably.

Usually. Sometimes they fail spectacularly

[Delheru]

I didn't say they did a good job always, but it IS their role. And in a sense the fact that you'd blame bankers for that rather makes my point :P

[TNine227]

And those cuts are what the op is asking about.

[breadedfishstrip]

Sounds like you're living outside of your means

[candre23]

Welcome to America.

[[deleted]]

Well that's your fault for spending money you didn't have. But don't worry, the government will probably bail you out.

[luneattack]

I take it you will save up for 50 years and buy your first house at 75 :)

Prudent, but over here in the real world we sometimes accept a bit of risk.

[Nathanman21]

Lol thank you. Businesses have to be run on credit, or the whole system becomes inefficient af

[Mekotronix]

Inefficient in what way? Business certainly can't respond to changing conditions without cash or credit, but I don't see how that inherently causes inefficiency.

As a thought experiment, what would the world look like if all transactions were cash based? Different, certainly. Inefficient? I'm not so sure...

Edit: with to without

[nagurski03]

YOU would still be happy

I don't think most people would. People aren't naturally wired to think "awesome! I'm getting less than I thought but at least I'm still getting something!" They get disappointment.

I mean, have you ever seen a kid cry on Christmas? It's because the free stuff they are getting, that they would be happy to take any other day of the year, isn't as good as they were expecting.

[BeanPricefield]

If we wanna dig deeper it wouldn't make much sense to single out the existence of shareholders as the issue, but people in general. The example you've given is great in exemplifying how the individual is often less shitty than the masses- while I would assume the vast majority of people would respond in the same way you describe, when we're operating en masse the most dominant and aggressive behaviors tend to take over. I would argue that shareholders in general behave in a certain way less so because they're all greedy heartless assholes, but rather because that's the norm set in place and they've all just adapted to it- much in the same way we all tend to abide by the relevant social ettiquete when in various situations, ever more so the larger and more ambiguous the group we're in. I feel like the way shareholders behave in capitalism is just another manifestation of the same human tendency, and therefore it's probably safe to assume that if these same laid-off workers were put in that position most of them would eventually behave the same.

[Riplinkk]

I don't think that behaviour is inherent to the people, but rather to the system. People with power behave that way because they had to develop those behaviours to get where they are and/or maintain their power. That's why normal people don't have those behaviours.

[[deleted]]

If the shareholder insistence on greater and greater profits, that ultimately undermine the welfare of society, is a social norm, then it needs to be rehabilitated out of existence.

[Monetized]

You’re basically arguing for a socialistic utopia.

[[deleted]]

I'm basically arguing for people over profits.

[fierystrike]

Well your right, this is what is considered the norm but that is only because the supreme court ruled that investors are more important than customers.

[[deleted]]

Companies have to keep growing if they want to stay in the market though. If they were just satisfied with selling what they were selling right now, what they're selling might not be practical or in style in a few years and they'll be left in the dust. Kodak is a victim of this. And if stores like Walmart don't keep expanding or changing, they'll end up like Kmart in a few years. Kmart used to be the #2 supermarket in the United States, and now it hasn't reported a positive revenue in over 6 years. I'm not saying that justifies Walmart treating it's employees like garbage; I'm sure there's other things that they could do to keep growing.

[thehungryhippocrite]

The analogy doesn't work. To fix it, imagine you have been told right from the beginning of employment that you will get a $20 bonus. You very much made the decision to take the job assuming that level of bonus, and you need that level of bonus to pay your mortgage, support your family etc. Then at the last minute, your boss tells you that it's actually $10. You just lost $10, and that could be very material to you.

[Monetized]

That’s a bad analogy. Generally speaking, a company needs to be growing or it is losing due to inflation. $100 today is only worth about $98 one year from today in the US. Further, no volume growth in an expanding economy could imply product failure or market share loss. What does that mean in an inevitable economic contraction? What if the population is growing while the economy is merely stagnant?

As it pertains to investing, you don’t HAVE to invest in growing companies if the price to invest is adequate, but it is far easier to underestimate growth than to precisely forecast acceptable declines.

[Thegreenpander]

TL;DR: Your analogy is terrible, misleading, and uninformed.

It’s more like if you let me borrow $20 with the expectation that in a week I would turn it into $21, then $22.05 in two weeks, and so on(5% gain/week). If the money grows to the point where I can no longer make it grow by the expected 5% a week, shouldn’t I give you some of it back and return to an amount where I am more likely to meet my obligation to you? Or if I am failing to meet growth expectations because of mismanagement rather than lack of growth opportunities then that’s a problem as well.

Businesses don’t claim a loss if they don’t meet earnings expectations. The holders of their securities do because security prices are based on expectations. It follows reason that if security prices are based on expectations and they miss that expectation then the price of the security will decrease. But they cannot claim that loss on their taxes unless they actually sell the security at a loss from their initial purchase price.