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Operating Margins

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Re: Operating Margins

#81

Post by projektfu »

zeckalpha wrote: post #37
therealdeal2020 wrote: post #32

hmm yes but also most great startups have a negative operating margin on paper since they re-invest almost all their earnings into development, marketing, etc... just dividing earnings by revenue won't give meaningful insight in most companies that intend to grow or expand.

Reinvestments in the business factor into a different ratio. This only factors operating expenses.

I suppose it depends where things end up in the system you use. Usually, R&D ends up as an expense in GAAP (in the US) but you could produce a supplemental statement showing that as capitalized investment. Even so, early-stage industries often have negative operating profit.

Imagine you are working on a drug you will take to testing next year. You could be 5 years from actually marketing it. Even if you capitalize all the expense of research and development, to get it off the income statement, you still have to pay for the rest of the business.

Re: Operating Margins

#82

Post by PopAlongKid »

jimnotgym wrote: post #66
PopAlongKid wrote: post #43

Earlier quoted context omitted.

The comment you are responding to was "profitable but no cash flow" (due to non-cash deductions). I'm not clear what you mean by "the other way".

If you were "profitable but no cash flow" then you must have non-cash additions to your profit, not deductions. A classic example of 'profit but no cashflow' might be where you made a profit but spent a lot of money on stock that you haven't sold yet. Or you made a lot of sales that you are yet to be paid for. In the PE world it is just as likely that you made a profit before interest and tax, but you paid it all in…

You're right about non-cash additions. I was confusing this with an enterprise showing a loss (especially for tax purposes) despite a positive cash flow. The classic example would be residential real estate, where depreciation can cause a net loss despite the landlord receiving enough rent to pay mortgage/property tax/maintenance. This is why in the U.S. there are rules that limit current deductions on the tax return for passive losses.

So I would think the "other way" from profitable/no cash flow is loss/with cash flow.

Re: Operating Margins

#83

Post by jldugger »

zackmorris wrote: post #73

This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.…

> the bottom 7 lowest-margin industries ... (CRISPR, gene therapy, hydrogen fuel cell, genomics and mRNA therapeutics) arguably have some of the greatest potential to improve quality of life and help the planet.

Critically, all the revenue for things you mention have yet to materialize, so they will show up in this naive analysis as losers. What they really represent is _opportunity_. Some may materialize but others have been around for decades and it turns out the "application for profit" step is much harder than anticipated.

> margin (profit) is inversely correlated with value to humanity.

You say this like it's a bad thing, but arguably the most valuable things to humanity are food, water, and shelter. These are simultaneously so important and so cheap that they embody the term "commodity," and that's a good thing! A _ton_ of human ingenuity from every society and culture has been applied to making these things better and cheaper and more plentiful. The same thing is happening to solar power (mostly for geopolitical reasons), which is conspicuously not on either of your lists.

Shelter is the one bit in the hierarchy of needs that got weird. Since it's not a consumable, there's incentive to treat it as an investment. In theory there's nothing wrong with that, but the incentives combined with local politics can become toxic. So many voters in the US own real estate (with leverage!) that everyone agrees by default that prices must never go down. That leads to a trap where politics revolve around housing prices never falling.

Re: Operating Margins

#84

Post by toomuchtodo »

candiddevmike wrote: post #79
zackmorris wrote: post #73

This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.…

All of the money is mostly tied up in safe bets for boomers. You don't see capital chasing big bets because folks would rather get their 4-7%+ "guaranteed" than risk it on a startup. There's probably some meta commentary on the global risk climate in general since COVID here.

Longer life expectancy has led to stagnation due to those older in power and owning wealth to have reduced risk appetite for investment and innovation, leading to maintaining the status quo and their quality of life for the balance of life remaining. They are stealing from the future through the demand for profits today.

Peter G. Peterson wrote about this in Gray Dawn 25 years ago, Scott Galloway talks about it today.

https://openlibrary.org/books/OL385129M/Gray_dawn

https://www.ted.com/talks/scott_galloway_how_the_us_is_destr...

Re: Operating Margins

#85

Post by mbesto »

JCM9 wrote: post #24

Good article although especially in tech it’s not so simple. Thanks to games with depreciation and other financial engineering a company may look “profitable” but still be quite unhealthy or at risk. One generally needs to look at “profit” in the context of cash flow. I.e. a company could be “profitable” but also basically broke at the same time with no cash to pay people or suppliers.

Also, "tech" and "AI" are not markets. A software provider that provides let's say CRM software may have very different operating margins than Tesla (automobiles), a hardware manufacturer (TSMC), a chip designer (NVIDIA), or a media company (Facebook). Yet these are all "tech" and "ai".

Re: Operating Margins

#86

Post by scott_w »

Sevii wrote: post #64
scott_w wrote: post #59

Earlier quoted context omitted.

In theory but not in practice. Apple has massive margins but they're not being disrupted by a slightly cheaper iPhone. In fact, plenty of big tech companies sit in this bucket (thus the reason they've sat on massive cash piles for so long!)

A slightly cheaper iPhone is already in the market (android). In theory Apple shouldn't be able to maintain these high margins.

Well yes, that was my point ;-)

Re: Operating Margins

#87

Post by tshaddox »

zackmorris wrote: post #73

This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.…

> This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity.

Of course, this pretty closely matches the basic Econ 101 explanations of competition and free markets. The entire goal of competition is to reduce prices, specifically to get the market price of a good to trend down towards the marginal cost. The thing that's supposed to be good for society isn't that some people get very rich by selling things at high profit margins, but rather that the stuff we want is available at the lowest feasible price.

Re: Operating Margins

#88

Post by nostrademons »

So this article is conflating the 3 different types of margins [1], and that's at least partially responsible for the results it gets. It talks about operating margins, but the definition that it gives is actually the definition for net margins, net income / revenue. Operating margins uses operating income, which excludes interest, taxes, and capital expenses. There's also gross margins, which are basically the value you add over cost of inputs divided by your revenue, not counting salaries, marketing, customer acquisition, or any of the other stuff you have to do to get from raw materials to products in customers' hands.

The article found that the highest margins are in ports, financial services, toll roads, etc. with certain key (but not all) software, AI, and semiconductors having good margins. But this is a logical consequence of the definition of margin they chose. These are all very capital-intensive businesses: it takes a huge amount of money to build a port, or a fab, or a search engine, or a road, or to start up a bank or insurance company. The financing cost of building these capital improvements, as well as the depreciation on them, is explicitly excluded from the definition of "margin" that the article chose.

Note also that this explains why certain semiconductor and tech companies have high margins but many are very low-margin. If you are TSMC or Intel, you own your own fabs. You spend tens of billions of dollars to construct them, and the financing cost of those investments is explicitly excluded from the definition of "margin" chosen by the article. But if you are a random ASIC manufacturer, you pay TSMC to fabricate your chips, and those payments are included in Cost of Goods Sold and excluded from your gross margin, let alone your operating margin. Likewise, if you are Google, Amazon, or Microsoft, you're making huge capital investments in datacenters. But if you're a random SaaS, your cloud computing costs are included in COGS, they become revenue for the cloud provider, and so your operating margins look much worse.

I'd be much more interested in seeing the analysis re-run with net margins.

[1] https://www.investopedia.com/ask/answers/102714/whats-differ...

Re: Operating Margins

#89

Post by hiAndrewQuinn »

tshaddox wrote: post #87
zackmorris wrote: post #73

This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.…

> This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Of course, this pretty closely matches the basic Econ 101 explanations of competition and free markets. The entire goal of competition is to reduce prices, specifically to get the market price of a good to trend down towards the marginal cost. The thing that's supposed to be good fo…

I was about to say "Wait, you want to live in the world where gene therapy is as heavily marked up as toll roads?" in the same spirit as this. Low profit margin is the good outcome, not the bad outcome.

Re: Operating Margins

#90

Post by takinola »

zackmorris wrote: post #73

This is maybe the first dataset I've seen that clearly illustrates how margin (profit) is inversely correlated with value to humanity. Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.…

> Other than Ports, the top 7 highest-margin industries (stock/crypto exchanges, stock exchanges, banks, toll road operators, financial services and asset management) are in financialization and rent-seeking, basically acting as middlemen that use other people's money to extract wealth.

OK, I'll bite. This is a very ungenerous take. Entities that aggregate and provide capital create enormous real human value. In fact, I would argue that most of the improvement in modern life that we all take for granted is because capital markets are available and accessible at scale. Where does the biotech company working on the new gene therapy get the billions it takes to develop and bring that drug to market? Where does the aircraft leasing company get the money to pony up for aircraft at hundreds of millions a pop?

I think it is fair to argue about whether the financial services use their position fairly/wisely/etc but it is unfair to dismiss the industry as "middlement using other people's money to extract wealth".

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