The Artbitrary Nature of Profit Accounting

I found myself yesterday spelling this argument out for a worshiper of the "oil profits are too high" temple, and decided to share it here. When quoted the profits of a firm, in whatever industry, it should be recognized that the accounting of profits occurs on a very arbitrary defined dimension...time. The more accurate way to think about the profitability of a firm is by the task they are undertaking, and view it from start to finish.

Typically, publicly traded firms have their profits measured annually (and quarterly), but this is an accident of the number of days it takes for the Earth to circle the Sun, and is arbitrary to the task undertaken. For those that have deemed themselves worthy of judging the proper magnitude of profits, this seems to be quite lost on them.

For an analogy to see why this is the case, suppose we were looking at a baker, and we took a review of their profitability measured in intervals of hours. For simplicity lets say the baker is the owner and only employee, so that we can ignore labor costs. In the early hours of the day, before the store opens to customers, profit judges would declare this to be a most disappointing firm. Here it is with all these costs (ingredients) and no revenue, making profit negative. Yet, over the course of the day they would stop baking and focus on sales. At the end of the day, the baker is selling his morning product but not baking anything new, so that by the hour he is earning revenue but incurring very low costs. The profit judge, based on the most recent hourly reports would probably view this as the baker earning "obscene" profits.

Of course shareholders and entrepreneurs typically do not think with this same short-sightedness that the profit judge holds. This is most fortunate, because it is hard to imagine what the world would be like if they held a near infinite discount rate.