We should all applaud the company’s return to earnings

Trying to forecast inflation is a risky business when there is so much volatility in markets, supply chains and energy prices. But we can get an idea of ​​the likely direction of inflation by tracking the profit margins of companies that make goods and services that fall into the consumer price basket. In February, when I first mentioned this idea, profit margins were tightening as companies absorbed cost increases, as prices for raw materials, labor and freight rose more quickly that they could not be passed on to customers.

Conditions changed during the year. As General Mills showed in last week’s quarterly earnings report, companies hardest hit by rising costs have made progress in stabilizing profit margins, creating a path to more normalized inflation in places such as groceries over the next few months.

The way to think about this is to think of companies that make products like cereal, ketchup, and bleach as intermediaries between suppliers of raw materials, labor, and transportation services. one side of a transaction, and consumers on the other. Normally, when things are stable, if their costs go up a little, they go up in price a little and they make their profit — school capitalism stuff.

This is not what happened last year. Supply chains have come to a standstill. Commodity prices have soared. Transport prices have skyrocketed. Labor was scarce as the economy accelerated after being crippled by the pandemic. But because it was unclear how long this would last, or how much the cost increases might reverse over time, the price increases consumers paid for lagged behind the higher costs. absorbed by companies, and profit margins fell in late 2021 and early 2022. That was the impetus for my February column, with Clorox saying at the time that to restore its profit margins overnight, it would have to increase price of 15% all at once, a move she intended to spread out over several years.

So 2022, especially in the last 6 months, can either be seen as the time when inflation really picked up, or as the time when the economy started to come back into balance, depending on your perspective. . The story of the acceleration is easy to show in something like food as measured in the Consumer Price Index – in August it accelerated year-on-year to 13.5 %, its fastest growth rate since the 1970s.

This is where it pays to dig into earnings data and company commentary to see what’s going on. In its quarter ending in February, cereal maker General Mills’ gross profit margin was 31.4%, its lowest level in more than a decade and nearly 3% below what it was. was at the same point in 2019. Prices were going to have to rise to get back to those pre-pandemic profit margin levels. And we know that prices have gone up over the past few months. But in the quarter ending in August, gross margins had rebounded to 34.8%, just slightly below the 35.2% level reached at the same time in 2019.

Responding to an analyst on how the business felt at this point in pricing and profit margins, Chief Financial Officer Kofi Bruce said: “We have taken additional steps to address the cost of goods…I think that we are in a place where we feel comfortable, we have this kind of limit.

And while there remains a lot of uncertainty about the supply chain situation, most companies now say conditions have improved at least modestly. Transportation costs, whether by sea or by truck, continue to drop. Commodity prices also fell, perhaps the area where the Federal Reserve’s aggressive interest rate hikes had the biggest impact.

Third quarter results will begin to be released over the next few weeks, and what I expect to hear from the companies most affected by supply chain inflationary pressures is that profit margins are up thanks to a combination of price increases on their end and improvement in the supply chain. In a way, FedEx’s negative outlook a few weeks ago is good news in that it means supply chains are healing and there is less need for expensive rush shipments.

If freight and raw material costs rise again in the coming months, or if wage pressures remain strong enough to put downward pressure on profit margins, then all bets are off. If not, these signs that profit margins are returning to normalized levels mean that we are finally at a point where inflation should start to slow.

More other writers at Bloomberg Opinion:

The moral case for higher interest rates: Ramesh Ponnuru

So you say you’re bearish, but are you really? :Jonathan Levin

Ugly politics creates a poverty-inflation trade-off: Eduardo Porter

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Conor Sen is a Bloomberg Opinion columnist. He is the founder of Peachtree Creek Investments and may have an interest in the areas he writes about.

More stories like this are available at bloomberg.com/opinion

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