As the average price of gasoline at the pump in the United States races past $4.00 and the cost of crude oil sets new highs daily, Americans are demanding answers as to the cause of the rapid increase in gasoline that is sending shockwaves to their pocketbooks. More than answers, Americans are demanding solutions.
Reminiscing on the events of the past two weeks in response to these developments, I am reminded of a passage in a poignant speech given in the movie “The American President” by Michael Douglas’ fictional presidential character:
I've known [Senator] Bob Rumson for years, and I've been operating under the assumption that the reason Bob devotes so much time and energy to shouting at the rain was that he simply didn't get it. Well, I was wrong. Bob's problem isn't that he doesn't get it. Bob's problem is that he can't sell it! We have serious problems to solve, and we need serious people to solve them. And whatever your particular problem is, I promise you, Bob Rumson is not the least bit interested in solving it. He is interested in two things and two things only: making you afraid of it and telling you who's to blame for it. That, ladies and gentlemen, is how you win elections.
Michael Douglas’ character could have very well been describing our own congressional representatives. Our representatives have abundantly demonstrated they have little interest in solving any of our energy problems. However, congressional leaders have demonstrated a strong interest in making the people afraid of the problem and finding a party to blame for our current energy crisis as they summoned oil executives to the Hill yet again this past week.
I would aptly describe the theme of the hearings as: the pots calling the kettles black. Multi-millionaire public officials attacking the annual income of businessmen seemed hypocritical. Assailing oil executives for not investing enough in alternative energy only seemed to underscore the shortfalls in leadership of our own congressional representatives. Committee Chairman Senator Patrick Leahy (D-VT) clearly emphasized the purpose of the inquisition, “The people we represent are hurting, while your companies are profiting. We need to get some balance.” In other words, there will be blood, not solutions.
The words and actions of our leaders and media are disheartening because they detract from finding a solution. The two entities continually repeat that “big oil” is enjoying record-breaking profits because doing so evokes emotion, which sells and wins elections. Our leaders and our media are, in effect, perpetuating a lie because they are not telling the whole story. They are failing to explain the economics of the matter to the American public. We must abandon the false blame being perpetuated by our representatives and the media, and direct our attention towards finding a solution.
The major integrated oil companies are not gouging Americans. Let me repeat, “big oil” is not maliciously harming Americans. While oil companies are not suffering as many American businesses are, financial analysis shows oil companies are not taking advantage of the situation.
For example, let us pretend that I own a fruit market where I sell organic apples. Two years ago, I purchased each organic apple wholesale for 50 cents and spent 25 cents on distribution and marketing. For the sake of simplicity, the 75 cents I spent on acquiring the apples, distribution and marketing is the only expense my business had. I then sell each apple for $1, allowing me to retain a profit of 25 cents per apple sold. I purchased 50,000 apples that year, leaving me with expenses of $37,500. I sold all 50,000 of the apples for net sales revenue of $50,000. My net income ($50,000-$37,500) was $12,500, and my profit margin ($12,500/$50,000) was 25% for the year.
Last year, the wholesale cost of apples went up as a fire struck one of the largest apple farms and affected the supply. The wholesale cost of an apple became 80 cents and I spent 25 cents on distribution and marketing. Again, for the sake of simplicity, the $1.05 I spent on acquiring the apples, distribution and marketing is the only expense my business had. I then decided I wanted to earn even more profit per apple sold than two years ago, so I marked my sale price up to $1.35. Doing so, provided me with a profit of 30 cents per apple sold rather than the 25 cents per apple I earned two years ago. I purchased 50,000 apples that left me with expenses of $52,500. I sold all 50,000 of the apples for net sales revenue of $67,500. My net income ($67,500-$52,500) was $15,000. So, my revenue and profit both went up by $2,500 from the previous year. But, when I calculated my profit margin ($15,000/$67,500), I noticed it fell from 25% to approximately 22.2%! So, although I earned more in revenue and profit than two years ago, my profit margin showed that I actually lost money for each dollar I invested in my company when compared to the previous year, meaning I had not kept my costs under control. In order to retain a profit margin of 25%, I needed to increase the cost of an apple to $1.375.
If you were an investor in my company, what would your reaction be if I told you that I would only earn you 22.2 cents for every $1 you invested in my company as opposed to the 25 cents for every $1 I earned the year before? You would probably take your money somewhere else.
Major integrated oil companies (Conoco Phillips, Exxon Mobil, Chevron, etc.) have profit margins around 10%, which is average for the industry and low when compared to other industries. Microsoft, for example, has a profit margin of closer to 30%. “Big oil” profit margins have remained nearly the same over the last few years, which signifies they are not gouging customers. They are only increasing their profit in order to keep their profit margins the same, which we would hope any company would do, especially a publicly traded company.
Hence, we need to redirect our efforts away from finding a party to blame for our current energy crisis and focus on finding solutions.
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