Analysis of CTF's The Rise of Corporate Profits in the Time of Covid
An article was published in the Toronto Star today titled Profiting from inflation: Two new reports show companies are making billions by pushing prices higher.
This was posted on reddit, which is how I came across it. The premise that companies are just making money by pushing prices higher is ridiculous to me, which is why I took a deeper dive into it. If companies could make more money by just raising prices, why didn’t they do this years/decades ago? Why now? If companies are all making tons more money by charging more, why are expenses not up for some companies, since they all buy products from each other?
I was so intrigued at how they were arguing that this is true, since it seems counterintuitive, so I went to look for the reports that back it up. I figured I’d review the source data and see where these conclusions come from. One report referenced is from the Canadian Centre for Policy Alternatives (CCPA) and the other is from Canadians for Tax Fairness (CTF). I’ll start with the CTF report since I’ve read that one thoroughly and just got access to the CCPA report.
The second, from Canadians for Tax Fairness, is online which is better.
As an accountant with a background in history, the first thing I did was skip to the appendices with the data. Unfortunately, there is no data backing up any of their assertions. I’ve sent them an email asking for it.
The first error I noted was that they state that the corporate tax rate in Canada is 15%. The federal corporate tax rate is 15%, but each province also taxes corporations on their income from that province. For companies in Ontario, they would be paying 15% federally and 11.5% provincially for a total tax rate of 26.5%. (Source: CRA). At best, the report is misleading on this since its implying that they only pay 15%. With the hidden data, and this error, I wonder what else they got wrong.
The crux of the report is that Canadian profit margins are way up. It argues that this is not due to commodity prices, because overall profit margins are up regardless after adjusting out commodity companies.
The conclusion is that
the combination of rising inflation and high corporate profit margins suggests that corporations have taken advantage of global economic turmoil to boost prices, and that government spending has played a less significant role than pro-austerity advocates have asserted.
If they really wanted to prove this point though, they would be comparing gross margins, not profit margins. Gross margin is revenue less cost of good sold, so the money that is left over after paying for the products they are selling. Profit margin, as the report suggests, revenue less “sum of costs-of-goods-sold, general & selling expenses, interest, plus depreciation & amortization”. That’s a whole whack of stuff. Their argument is that expenses have not grown as fast as revenue, but they’re including things like:
Depreciation/Amortization are deductions to represent the cost of owning assets. You buy an asset in year one, which is capitalized as an asset on your balance sheet, and then record an expense each year until you stop using it. This represents the “cost” of that asset for each year its being used. The actual mechanics of it are that depreciation is not cash flow, since you bought the asset in year one. It can be very different for accounting purposes (which appears to be the data they are using) and for tax purposes (which is what they want, corporations to be paying more tax). It’s just an odd item to be including in a calculation on corporations charging too much money.
General and selling costs is a grab bag of a bunch of unrelated stuff as well. It’d include things like staff wages, insurance, advertising costs, etc. Maybe these corporations stopped things like office relocations, office parties, bonuses, advertising on Google/Facebook (very expensive!). 2021 was a weird year for expenses and a lot of in person stuff stopped, and this could be positively impacting the profit margins, but have nothing to do with the core argument of the report.
Interest: corporations pay interest on debt. Do corporations have less debt after covid. Maybe, maybe not (no data is available in the report!), but whether or not they do has nothing to do with the premise of the report.
So their argument is that profit margins have increased too much so corporations are charging too much for their products. But profit margins include a bunch of other volatile and unrelated items Should corporations be paying higher wages and bonuses? Probably, but is this a sign that corporations have jacked prices up unreasonably? Probably not.
Analysis of Recommendations
Excess Profits tax.
Close corporate tax loopholes.
I hate to be that guy, but
The tax system is complex, which makes it difficult for average Canadians to navigate. However, that complexity also makes it possible for corporations to use sophisticated accounting in order to exploit loopholes and avoid taxes. Despite that complexity, there are several especially egregious loopholes that ought to be closed promptly
What is “sophisticated accounting”? The three things they mention next are interest deductibility, executive salaries and tax treatment of capital gains. None of those are particularly complex. The only one that is anything like a loophole is the preferential treatment of capital gains, but its not so much a loophole as a key component of the tax system.
You buy something at $1000 and sell it at $2000. If it is a regular business activity for you, you pay tax on 100% of it. If it is an unusual item (if its a capital asset for example, like a car or shares in another business), you pay tax on 50% of it. It’s not really a loophole since the tax code is set up that way. It’s also not sophisticated accounting since that’s just how it works. That being said, there’s no reason it has to be that way, but corporations are just following the law.
The other two, interest deductibility and executive salaries, are pretty regular business activities. I can’t find the OECD report that it’s mentioning, but interest is paid for a number of valid business reasons. If a business takes a loan out to fund expansion, why should that not be deducted from tax? The money paid is gone, and removing deductibility would mean that that interest is taxed twice - once in the corporation who took out the loan, and once by the lender (yes, it’s income for them). This incentivizes businesses to not take out debt which seems foolish since many use it to expand.
Their argument against executive salaries is that it fuels inequality, so it should be capped and not fully deductible. This seems irrelevant to the report since the report is on proving that corporations are hiking prices too high, but whatever. It argues that Canadians are subsidizing executive salaries by allowing them to deduct it, which isn’t really how it works. Shareholders are the ones paying for salaries (money paid to the CEO comes out of their dividend cheques). Canadians also charge personal tax to executives at a much higher rate than corporations pay! A sky-high executive salary will probably be paying personal tax at over 50%, while corporate tax is much lower, so this from a tax perspective is like cutting your nose off to spite your face. This has nothing to do with creative accounting either, so I don’t understand why it’s listed here.
Raise corporate income tax rate
As discussed, the rates listed here are not right. Not against raising it in principal, but corporate taxes aren’t a very efficient way of raising taxes.
Require public country-by-country corporate financial reporting
This is a good idea. Canadian corporations publish their financial statements by law (usually on their website, but also on SEDAR), as do most/all other multinationals, but unfortunately Canada is such a small market that Canadian specific revenue/expense figures are generally not material and rolled up into "other" sections. The government has most of this data anyways since its on their tax returns.
The article is heavy on rhetoric and light on data. I’m not the intended audience of this, since it probably is intended to rile up the base, but I wanted to take it seriously. The fact that it’s talking about profit margins (with everything else the business pays for, unrelated to its pricing) while talking about prices being too high, is a sign that this is not a serious work. I’ve asked for their data, so we’ll see where that gets us. Some of their recommendations are good regardless.