What would happen if corporations can only make a maximum profit of 10% per product

Question

I have learned in accounting that companies can add any amount of profit on their products as they want. That can be 10 - over 500 %.

I also think that international corporations like Coca Cola, Nestlé definitely make more than 200 % profit for each of their products (does anybody know how much).

I don't know much about what is done with that profit, as every cost the company has is already included in the price. That is not the question here.

My question is: What would happen if by law EVERY company on this planet can only make a maximum profit of 10 % for each product. When answering please ignore potential legal loopholes or anything similar.

Prices would definitely decrease but what about wages for workers. They would stay the same, because the profit doesn't affect them. Only the wage for managers and CEOs would decrease. But what about international economics. Would it remain stable.

And the most important question: Can a law like that (if valid in every country) actually work on long-term? This is a similar question as "Can communism/socialism work?" but It is also a little bit different.

Answer 1

I also think that international corporations like Coca Cola, Nestlé definitely make more than 200 % profit for each of their products (does anybody know how much).

How are you defining profit?

Coca Cola, first quarter 2018
Net income: \$1.37 billion
Revenue: \$7.6 billion
Profit: 18%
Percentage markup: 22%

Nestle was higher in the second half of 2017, around 49.9% profit or 98% markup.

I don't know which, but if you are getting 200+%, I think that you are leaving out a lot of costs. If you enforced that standard, companies would go out of business, because you aren't leaving enough for operating expenses.

If all companies, even the risky ones, could only have 10% profit, their product prices would tend to swing greatly. Because when their costs are high relative to their revenues (e.g. in a recession), their prices would go up. When costs are relatively low, their prices would be restrained. So they would be cutting prices in good markets and increasing them in bad markets.

Companies would also have trouble financing through equity, which is rewarded by profits. They would have to borrow, as that would show up as costs. But it's hard to borrow unless a company is already profitable. So no venture capital startups.

Companies would also tend to become bigger. Because it is easier for a company that does many things to make sure that some are not so profitable. And of course they wouldn't have to worry about startups stealing their business.

Companies would take few risks. Because the maximum return is 10%, they have no incentive to pick the riskier choices. They might just as well pick the safe choice, as it has the same return. Progress would slow.

To engage in things like pharmaceutical development or oil discovery, companies would basically write off the upfront costs (to minimize profit). Then if they actually succeeded, they'd have to engage in a flurry of additional costs so as to get full value for their products. So the companies engaging in such behavior would expand revenues quickly. And only companies that are already profitable could undertake the most profitable activities.

This encourages companies to out and out waste money. Higher costs means a higher base, so the 10% is bigger.

Answer 2

That would be ludicrous because it flies out the window the moment you've someone selling services. Consider the legend out there about an engineer sending the following invoice:

Making chalk mark on generator $1.

Knowing where to make mark $9,999.

Clearly this person knows what he's doing. You can't regulate applying a 10% maximum profit on that. What would it be based on? The engineer's salary? The latter's salary plus some because of cost of sales and administration? The value provided to the client?

Even in a strictly product related environment, it doesn't fly much better. In the industry, doubling the price (or more) of what you purchase is typical except in consumer retail, because you add value to it in one way or another - if only by knowing who to buy it from in the first place.

You can't just enforce a 10% maximum profit margin unless there's full information transparency across the board. For starters it doesn't correspond to reality. And even then you'd likely run into a lot of "what's the point in working?" types of behavior.

Answer 3

What would happen if by law EVERY company on this planet can only make a maximum profit of 10 % for each product. When answering please ignore potential legal loopholes or anything similar.

Prices would definitely decrease but what about wages for workers.

Prices would not necessarily decrease. Wages are what would definitely decrease.

Production depends on two factors: labor and capital. Capping the profits to 10% per product will discourage investment, thereby causing significant withdrawals of capital. The reduction of capital will lead to layoffs, because the situation of "too many cooks in the kitchen" will arise at lower levels of capital. The resulting oversupply of labor will push wages down.

Conclusion: Communism and any its variants are altogether detrimental even to those who were supposedly going to be protected by the policy.

Answer 4

I have learned in accounting that companies can add any amount of profit on their products as they want. That can be 10 - over 500 %.

They are not forbidden to do that. But unless they have a very strong monopolist situation, they will need to try to price their products at lower or similar prices than other companies.

I also think that international corporations like Coca Cola, Nestlé definitely make more than 200 % profit for each of their products (does anybody know how much).

I am not sure. They certainly make a huge amount of profits, but they also have a huge amount of capital.

Accounting is mostly about pretending to be transparent, while being as opaque as one can be. Companies report losses when they are making profits (in order to dodge taxes, for instance), and profits when they are losing money (to avoid bad publicity). So the answer to this is quite certainly "we don't know, unless we are in the board of one such company".

I don't know much about what is done with that profit, as every cost the company has is already included in the price. That is not the question here.

Part of it is distributed among shareholders, and part of it is reinvested.

My question is: What would happen if by law EVERY company on this planet can only make a maximum profit of 10 % for each product. When answering please ignore potential legal loopholes or anything similar.

They would artificially increase their expenses. Government doesn't allow them to have profits? Then they will pay higher salaries to their executives, higher rents to their landlords (and provide that their landlords are their relatives or people otherwise related to them). Are those loopholes? If so, the answer here is, "companies will find loopholes in order to keep their profits"; asking to keep loopholes out of the answer is more or less like asking "what would happen to someone who takes cyanide, but please ignore the toxic properties of cyanide"...

Prices would definitely decrease but what about wages for workers. They would stay the same, because the profit doesn't affect them. Only the wage for managers and CEOs would decrease. But what about international economics. Would it remain stable.

Manager and executive officers salaries would most certainly rise. And there would strong incentives for them to reinvest part of those increased salaries in the companies. International economics would be stable, but politics would not: the incentives for corruption, money laundering, tax evasion, etc., would be enormous, and so would the political pressure to repeal such kind of legislation.

And the most important question: Can a law like that (if valid in every country) actually work on long-term?

No, it cannot. First, Somewheristan will certainly realise that if they have a more generous law, they will attract the headquarters of international corporations, and consequently increase their tax revenues. So, as long as there are different polities with different legal systems, this cannot work. You would need either a world government, or a single national government capable of imposing its own laws upon the other (by violence or credible threat of violence, of course). And it is difficult to see what advantage would such a super-imperialist polity obtain by doing this.

Second, political power is very responsive to economic power. How many politicians would survive free elections if the private companies only donate to their adversaries? How many dictators can hold onto power if the capitalist class of their country opposes them?

Third, as accounting is about secrecy, you would need a government capable of actually controlling the internal workings of all relevant companies.

You would need a very strong worldwide government to do something like this - but a very strong government inclined to do this would be better off if it simply opted to superceed a market economy by something like "communism", a "gift economy", or similar. If you are going to fight against a giant, you should aim at killing it, not at shaving it.

Answer 5

If you ignore loop holes, it is easy to do and would lead to a very stable economy, because companies would stop making "bubble prices", that implode as soon as other companies join the field. Also if would help the customer because you would know that a more expensive product includes more in it's price, be it extra function or quality.

But of course loop holes are the big problem. Just look at the CEOs at companies, they always claim to need 100 million bonus for taking "responsibility", which in itself is nonsense because when actually something goes wrong and they could actually take the responsibility then just run away with another big extra bonus for leaving. And all that can be calculated into the production costs, as well as other random nonsense.

If you want to stop companies to screw people over the best way would be a "public base economy".

In short: On one side are classical companies like we have today but there are also state controlled coulter companies. For example you have private car companies but you have also a state car company, that produces cars, by law on the same level as the private companies but only with so much profit as the state (and in a democracy the people) thinks is reasonable. So private companies get limited over the normal marked. You could also control other aspects that way, as long as the consumer cares about the issue.