Weekly Thoughts: Profit Margins, Sleep and Adaptable Perseverance
Here are three things that caught our eye this week:
We have been tracking the persistence of corporate profit margins at or near record highs for some time. As a result we were interested to read a recent post on the Philosophical Economics blog which broke down this issue into its component parts. According to the article, which analyzed margin data for publically traded domestic equities with a market cap greater than two hundred million dollars, the rising profit margin story, particularly since 2009, has really been a story of two sectors, Tech and Finance. From the Article:
“In January of 1964, financial and technology sector earnings contributed 0.49%to the aggregate profit margin, which was 6.60% at the time. Today, they contribute almost seven times that amount, 3.42%, to an aggregate profit margin of 8.09%.”
Each sector has unique reasons for the recent success. In the financial industry, low short term interest rates have produced an attractive funding environment while growing total debt balances globally have provided a larger revenue base over which to spread fixed costs. In tech, the last decade has seen the immergence of highly scalable internet companies that capture a significant portion of the value they deliver to their end users. Moreover, network effects promote a winner take all environment which has protected the economic rents earned by top players.
Market observers will do well to monitor these trends since flatter yield curves and new competitive entrants in the technology space will likely be harbingers of the long awaited mean reversion in aggregate profit margins. In the mean time, businesses in other industries can learn from the successes in tech and finance. We believe that borrowing best practices, whether by seeking out attractive financing options or studying the ways that Apple and Google approach competition, can help improve corporate outcomes across the board.
In a recent TED Talk, Dr. Kirk Parsley asked whether any in the audience would be comfortable having a medical procedure performed by a surgeon who downed a shot of Jack Daniels every two hours while on duty. Unsurprisingly, the answer was not many. Yet, according to Parsley, who has served as Naval Special Warfare’s expert on Sleep Medicine since 2006, the performance degradation associated with this level of alcohol consumption is similar to that experienced by anybody after eighteen consecutive waking hours, a reasonably likely scenario in today’s medical world. From Dr. Parsley’s blog:
“An interesting study that has been reproduced many times, compares performance after sleep deprivation to blood alcohol levels. This has been done with basic coordination tests and with neurocognitive testing. After being awake for approximately 18 consecutive hours, our ability to make decisions, do math problems, our reaction time, and driving safety, correlates to a blood alcohol level of approximately 0.05%–a fairly normal occurrence in America. That is the legal limit in Australia and some of the more conservative countries. Being awake for 24 hours and driving is equivalent to a 0.08% blood alcohol level–not uncommon amongst Police/Fire Fighters, truck drivers and shift workers.“
Dr. Parsley has noted that America has two significant problems when it comes to proper rest. Problem one is that we as a nation chronically under-sleep. Problem two is that we don’t believe we suffer from problem number one, and this tendency only increases as Parsley observes the elite members of his client base (special operations soldiers and C-level executives). While is it difficult to convince a hard-charging CEO that he or she will be more productive by putting down the iPhone and getting some shut-eye, this is exactly the conclusion of Dr. Parsley’s research.
We have discussed our interest in maximally effective performance at other times in this space, and we view sleep optimization as just another tool in our arsenal. In case anyone is wondering, once someone has made up for any accumulated sleep deficit, Dr. Parsley has found most subjects need between seven and a half and eight hours of sleep a night. Sweet Dreams!
We believe that success leaves clues, and we have spent time looking at the patterns underlying personal and professional success stories. Sometimes, however, these stories conflict. For instance, for each businessman or athlete who credits the importance of perseverance in their success, there seem to be an equally large number who promote the importance of adaptability.
One longstanding favorite book is Spencer Johnson’s “Who Moved My Cheese,” a business fable that highlights the importance of not getting “stuck,” and being adaptable to new situations. As Johnson puts it in the book, “The quicker you let go of old cheese, the sooner you find new cheese.” The idea that there is strength in adaptability is not new. In fact, it is shared by many influential historical figures. Charles Darwin said “It is not the strongest, nor the most intelligent who will survive, but those who can best manage change.” And John Maynard Keynes famously proclaimed “When the facts change, I change my mind. What do you do, sir?”
A seemingly opposing trait to adaptability, perseverance, is equally heralded among successful entrepreneurs. Stories abound to support this notion, like Stephen R. Covey, author of “The Seven Habits of Highly Effective People,” whose leadership development company sustained 11 straight years of negative cash flow and a debt to tangible book value of 223:1 before becoming one of the largest, most successful businesses of its kind. More famously, Thomas Edison purportedly tried 10,000 variations of the lightbulb before inventing a working prototype. While perhaps a function of the time in which they served, both Winston Churchill and Franklin D. Roosevelt were known for their perseverance as leaders. The former is attributed for saying simply, “Never, Never, Never, Give up,” and the latter for insisting, “When you come to the end of your rope, tie a knot and hang on.” Calvin Coolidge was the most ardent on this topic asserting, “Nothing in the world can take the place of persistence. Talent will not; nothing is more common than unsuccessful men with talent. Genius will not; unrewarded genius is almost a proverb. Education will not; the world is full of educated derelicts. Persistence and determination are omnipotent. The slogan ‘press on’ has solved and always will solve the problems of the human race.”
So what are we supposed to think? Should we be adaptable, or should we persevere? For us, the key hidden factor is judgment. Judgment enables us to know when to persevere, and when to fail gracefully. We aspire to use our collective judgment to have adaptable perseverance, or as the Kenny Rodgers song goes – “to know when to hold ‘em, know when to fold ‘em.”
Have a great week,
Your Chenmark Capital Team