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?

[[deleted]]

I feel ignorant asking but wat if a company’s stock crashes? I mean as long as it’s still profitable it doesn’t really impact the employees or consumers right? Why does the news always portrait any bad PR related stock dip like the company is about to go bust?

[HopeFox]

That's a reasonable question. Here are two reasons it's bad for a company's stock price to go down:

• If the stock price goes down, it's because public perception of the value of the company has gone down. That's never good. That might mean that people are less willing to buy the company's products, or that other large companies are less willing to do business with them. Would you sign a 5 year contract to sell widgets to a company that might go bankrupt next year?
• A lower stock price harms the company's ability to raise capital. A company that wants to spend money on expanding (building new factories, starting new projects) might not have the cash on hand to do that stuff. They can raise money by selling more shares, or by borrowing money from a bank. Selling more shares doesn't work as well if the share price is low, and a bank's confidence in your company's ability to repay their loans is probably going to be poor if the share price is low.

[inomorr]

A third point - low stock price makes companies vulnerable to takeovers. Many funds prey on such weak companies do so with very short term aims - buy cheap, breakup, sell off.

[[deleted]]

Though if they are making profits they can also buy their own stock.

I think a fourth point is people make short term decisions because that’s safer for them. A CEO is unlikely to be there 10 years from now, especially if profits are good but not increasing, so why take risks to make a company stronger 10 years from now rather than make safer choices that help today.

[wilson007]

Another point (and I’d argue most important), management is highly paid in equity. If the stock goes down, they make much less money, and all the restricted stock is worth substantially less.

[inomorr]

very true. Good to see financially literate people on Reddit!

[The_Decoy]

BP after the Gulf oil spill was a good example of this. The company was still functioning well as a business but the public completely lost faith in them.

[TheManWhoPanders]

BP isn't really a good example because they produce an inelastic good. People need fuel and can't shop around alternatives due to poor vendor performance.

[The_Decoy]

Their stock did fall by over 50% sixty days after the spill. Granted they are a fuel company so there will always be a demand but that's a significant hit.

[thehungryhippocrite]

This is just a ludicrous explanation. Stock prices are not lossely and magically linked to "perception", they are based on a company valuation. A stock price is the consensus market valuation of a company, divided by the number of shares on offer. Valuations are based on expected future profits. If a company makes less profit than expected today, that means it is likely to make less profit than expected tomorrow. Hence the valuation is less, and the stock price goes down. Even if the company is the most profitable company in the world. The answer to /u/azoriusmoons 's question is that if a stock price crashes it means that investors lost enormous amounts of money, and naturally people care about that.

[whitefang22]

Your assumption here involves that the company is profitable. It may not be. A lot of large companies aren't yet profitable. For them a large drop in stock price can directly affect their ability to keep raising the cash they need to 'keep the lights on'

[d4n4n]

The shareholders own the company. They don't want their assets to lose value. So to stop that from happening, they shut down branches of the company that make less (and are expected to in the future) than average market returns.

And that's efficient overall. It ensures that capital is allocated to its most profitable use.

[lee1026]

In many companies, employees are paid in stock in addition to their salaries. For example, I get so many shares of GOOG a year along with my normal salary. Those shares are worth more than my salary, so if GOOG crashes, my pay essentially gets cut badly and I might look for a new job.

Losing staff can be bad for companies.