Sen. Bernie Sanders recently confused revenue with profit when calling for the unionization of the gaming industry. This isn’t the first time he’s mixed up this simple concept, and it leads one to believe he really doesn’t understand even the basics of business and accounting.
Revenue is the amount of total sales a business collects. Profit is what is left over from revenue after paying for everything — like the cost of the product, employee wages, rent, advertising, etc. And, in most profitable businesses, profit is a very small percentage of revenue after all the dust settles.
Take Walmart as an example. Its after tax profit last year was about $7 billion dollars. Yes, that’s a lot, but its revenue was over $500 billion. That means its profit was only about 1.5 percent of revenue, and that’s pretty common among large corporations. But shouting about revenue makes headlines, and maybe that’s why the Social Democrat crowd does it — or else they don’t really understand accounting.
The confusion on the left doesn’t end with revenue and profit, it continues with profit and cash. Just like revenue isn’t profit, profit isn’t cash. When calculating profit, a lot of items that don’t require writing a check are considered expenses. A big one, depreciation for example, is the expense of writing off a building or a machine.
Say a company pays cash for a new machine. Rather than write off the entire expenditure immediately, since the machine will last for several years, the company only expenses a portion of its cost each year as a percentage of its remaining useful life. The effect of this standard accepted accounting practice (actually, a required practice by the IRS), ends up listing an expense in future years when no cash was spent in that year.
Big deal, so what you, ask? It turns out this simple concept totally confuses folks like Bernie Sanders and Elizabeth Warren. They consistently call for corporations to not be allowed to repurchase their own stock until they pay their all of their employees a pre-defined basic wage — like $15 per hour. On the surface that may sound good, but let’s return to the Walmart example and really see what would happen.
During the past accounting year, Walmart generated about $20 billion in cash and had a profit about $7 billion. Walmart also came under attack for saying it would spend about $20 billion the next two years repurchasing some of its own stock. Proponents on the left point out that if Walmart instead used that $20 billion for employee pay increases, everyone would get about another $5 per hour. That sounds great!
But, now let’s trace that through the ledgers. First, the $20 billion stock buyback is over two years, not one. That means the pay raise really would only be about $2.50 per hour and cost $10 billion each year. But more importantly, if Walmart increased wages by $10 billion in a year, and we know it only made $7 billion in profit, it would actually end up losing about $3 billion. Yes, there’s some tax effects that figure in here, but roughly this is how it would work out.
Regardless of its cash position, a business can’t continue operating without a profit. Walmart would soon disappear, and so would its 1.5 million U.S. jobs, its over $1 billion in annual charitable donations, and its $500 billion dollar bump to the U.S. economy. But what about those share buybacks? Don’t they just help make the fat cats richer?
Make no mistake, yes, shareholders profit in share buybacks. But over 30 percent of Walmart stock — almost $100 billion dollars — is owned by institutional investors. That’s a code word for mutual funds and banks like Vanguard Group, and Bank of America. Sound familiar? Sound like your 401k or IRA investments? That’s right, stock buybacks benefit every shareholder, even the millions of folks that unknowingly own a small piece of Walmart in their retirement plan. Like maybe Bernie or Liz.
• Kevin Cochrane teaches business and economics at Colorado Mesa University, and is a visiting professor of economics at The University of International Relations in Beijing.
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