The Meaning of 18%

PROFITS

In an obscure corner of Washington's huge Commerce Department Building, two mild young statisticians completed a routine slide-rule job. Their latest release seemed nothing special to small (5 ft. 4 in.), studious Oregonian Tynan Smith and stocky (5 ft. 10 in., 185-lb.), studious New Yorker Robert Sherman (35), the Department's experts on corporation profits. But it came at an explosive moment in U.S. history: labor is howling harder than ever for higher wages, farmers are insisting on higher prices--and the Commerce Department study alleged that U.S. corporations made 18% more money after taxes in the first quarter of 1943 than in the same period last year.

The unvarnished figure made headlines, but the unnoticed facts behind it were more pertinent to the real status of U.S. corporate profits. The most important fact is that last year's first quarter is not comparable with any quarter since:

> Most corporations conservatively over stated their tax reserves in the early part of last year because the 1942 tax rate was an unknown quantity until July. This year they used the actual 1942 rates.

> In the March quarter of last year many manufacturers were in the midst of converting from peace to war production, so that both their gross sales and their net income were in a bad slump. By far the biggest profit increase among manufacturing companies for this year's first quarter (41%) was turned in by the auto industry, which was the hardest hit by conversion problems last year.

> The Department's other quarterly figures clearly showed how distorted the first quarter comparison is : net after taxes in the March 1943 period was down 3% from the last quarter of 1942, and was up less than 1% over the third quarter when conversion to war work was still going on.

Another factor inflated the Smith-Sherman profit estimates: since the U.S. Treasury does not allow most contingency reserves as a deduction from taxable income, the estimators ignored them in figuring net income after taxes. Yet most large U.S. corporations (and many small ones) have been taking progressively higher reserves for conversion to peace. One index of how such reserves can cut down actual net income (in terms of return to the stockholder): the National City Bank's estimate of first quarter earnings for 260 industrial companies showed a rise of only 7% over the same period last year, despite an increase in sales of some 33%. (According to their figures, the U.S. Government took 70% of net before taxes v. 67% last year.)

With these limiting factors firmly in mind, most U.S. businessmen felt that the truest part of the Commerce Department's study was its estimate for the full year 1942: despite a 35% rise in income before taxes, U.S. corporations squeezed out less than a 1% increase over 1941 after paying their debt to the Federal Government.

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