In telling their stories about how the future is bright for stocks, bulls point to solid earnings to justify the optimism. But cracks are forming in that narrative — in the trajectory of profits, and just as worryingly in the makeup of the profits themselves.
In a potentially ominous development, earnings across U.S. industries have started to expand noticeably faster than cash is coming in the door. Income at S&P 500 companies, adjusted for amortization and depreciation, topped cash flows from operations by 14% in the year through September, according to data compiled by UBS Group AG that excludes the index’s financial and energy firms.
In other words, for every dollar of profits, only 88 cents was matched by cash inflows, the largest discrepancy since at least 1990. One way this happens is when money owed to companies is booked as sales before payment actually arrives, a perfectly acceptable accounting treatment that nevertheless stirs anxiety when it’s trending in this manner. Another way is when the cost of producing goods understates the cash being consumed as inventory builds.
