How To Know You're Being Ripped Off

A litmus test for capitalism

Is that business ripping us off? Is it price-gouging?

Our world is so materialistic and capitalistic that these questions loom large. They’re the grist of popular discontent and the focus of political campaigns.

But they’re also imprecise to the point of meaninglessness. Everyone has opinions, but they’re unhinged from any objective measure. Many people are fine with this because they believe our opaque businesses are unfathomable, like a shell game being played to trick us. So they flail about with opinions, accusing and demanding justice.

I talk about philosophy here, but a huge part of the virtue ethics I espouse requires that we use tools to understand the world so we can see clearly and make ethical decisions. If we’re wrong about predatory business practices, we’re going to make mistakes in what we say, think, and how we vote.

I’d like to suggest a simple litmus test for gauging whether the big, publically traded corporations we interact with all the time are taking advantage of us.

Enter Profit Margins:

To figure out if something sketchy is going on, a simple litmus test can help: How profitable is the company relative to its expenditures?

High profit margins can stem from many things, only some of them shady. And very low profit margins also have many causes — mismanagement is one of the big ones.

But when companies or entire industries persistently earn little profit relative to their expenditure for decades, they’re probably not taking advantage of you. Ripping people off at scale generally generates profit.

Quickly Calculate Net Profit Margins:

Profit margins take abstract-sounding dollar amounts and contextualize them. It’s easy to calculate profit margins for the thousands of large, publically traded companies that publish financial data.

So, if a company received $10 billion in revenue and had $2 billion in profits…

Now you’ve got a figure you can compare to other things to gain context.

Comparing Profit Margins:

It’s helpful to compare the net profit margins of whatever company you’re looking at with other companies and investment types.

• Visa in 2024: 53.92%

• Airbnb in 2024: 48.32%

• Apple in 2024: 23.97%

• Tesla in 2024: 13.6%

• Average annualized return of the S&P 500 index since 1928: 10.06%.

• Amazon in 2023: 5%

• Capital One Saving Account interest rate: 3.80%

• US Airline Industry average in 2024: 3.1%

• Costco in 2024: 2.93%

• US Grocery Store Industry average in 2023: 1.6%

Companies maintaining net profit margins below savings account interest rates are practically charities. Their investors usually underperform the stock market and unintentionally “take one for the team.” The only way these companies can earn more is to scale and provide services or goods to more people at the same low margins, which is often (but not always) a net good for society.

And although the US tax system is an absolute mess that’s easily exploited, these limited profits are taxed, which helps support social welfare programs (along with less savory government spending.)

Let’s explore some examples:

Airlines:

People hate airlines. They think they engage in price gouging, and it’s easy to understand why. Flying became less pleasant over the last thirty years. We’re crammed into small seats with limited legroom and fewer meals. Flight is no longer luxurious.

But that doesn’t mean airlines are ripping us off, but merely desperately trying to stay solvent as competition drives prices ever lower, fuel costs oscillate, and revenue is plowed back into buying jets and paying personnel.

The average inflation-adjusted domestic US airline ticket cost $615.82 in 1979, soon after the industry was deregulated to increase competition. Soon, ticket prices started to tank.

The trend has continued for a quarter century, and airline prices are more affordable than ever because airlines are fighting tooth and nail for passengers.

• Airlines all sell the same product: quick transportation by air.

• Their interchangeability means they have no “moat,” and most passengers happily jump to whatever airline has the cheapest tickets.

• This leads to a race-to-the-bottom effect where airlines cut whatever they can to have lower prices. Whatever won’t drive away passengers is eliminated. Passengers have spent 30 years voting with their wallets, telling airlines they’re just fine being crammed in like sardines and getting fewer perks if it shaves a few bucks off their ticket price. They may complain about less legroom, but they’re unwilling to pay more for it.

The US airline industry had low profit margins of just 3.1% in 2024. If you buy an airline ticket the industry averages just $13 in profit from that sale — absurdly low relative to their capital investment.

These companies are in my “practically a charity” zone, funding transportation for the masses with minimal return.

Grocery Gouging

Eggs. I would like to never talk about them again, but “how about them egg prices,” seems the inescapable refrain of our post-pandemic era, a mindless platitude bubbling up like an outbreak of plague every six months as prices surge again.

I’m unsure if politicians and pundits believe their accusations against grocery stores, but if we look at net 2024 profit margins, we might ask: where are all the grocery gouging profits going?

• Kroger: 1.44%

• Aldi’s 3.1%

• Albertsons 1.0%

These chains are barely eking out a profit. They’re not price gouging.

There are several chains like Whole Foods that have higher net margins, but their margins have always been high. Most grocery stores just pass on inflation and higher prices to consumers, though there are probably a few outliers that take advantage during shorter periods.

Eggflation:

On the egg front, the USDA points to the Avian Flu as the main culprit. It’s killed 148 million egg-laying hens since 2022. Around 85% were crammed into unsanitary factory farms where diseases spread like wildfire and only antibiotics keep the half-dead birds alive. As long as Americans are fine sourcing cheap (usually) eggs from these factory farms, expect periodic outbreaks.

But bird flu epidemic have beneficiaries.

Somewhat like gas and fuel oil, eggs prices are not as “elastic” as airline tickets. If one airline raises prices, people can switch carriers, drive in a car, take a train, or put off a vacation. If beef gets expensive, people might buy chicken or pork instead.

But there’s no mass-market chicken egg alternative. The only options are forking over your money or completely abstaining, and Americans have repeatedly shown that they prefer the former. So even a few million dead hens (less than 10% of US supply) sends prices surging.

Several companies are making out like bandits. The US egg industry is fairly concentrated, with a quarter of the market controlled by a single company — Cal-Maine Foods.

Let’s take a look at their profit margins:

• 2020: 1.18%

• 2021: 0.12%

• 2022: 7.48%

• 2023: 24.09%

• 2024: 11.95%

The profit surge beginning in 2022 is not incidental. Cal-Maine is likely taking advantage of the inelastic nature of their supply-constrained industry and their dominant position in it to slow-walk the bird flu recovery. Several smaller egg producers seem to be taking a similar approach.

Eventually, the bird flu epidemic will recede and prices will return to normal. Until then, expect Cal-Maine to bleed egg buyers dry.

Who’s To Blame For Price Gouging?

Barely profitable industries often bear the ire of politicians and the public when they’re actually quasi-charities.

But if you look toward incredibly profitable companies it’s reasonable to ask — what’s unethical here? Higher profits usually don’t indicate anything nefarious going on. Often, it’s simply a sign that the company provides goods and services no one else can.

Apple is a great example of such a company. There are plenty of cheaper alternatives to their software and hardware, but many people love Apple products enough to pay their premium.

But there’s also an element of rent-seeking going on. Apple gets a huge chunk of its profits by controlling a captive software ecosystem rather than through value creation. They take a 30% chunk of each third-party app sold through their app store and a 30% chunk of whatever those apps sell too. Their rent-seeking collects nearly $30 billion a year. For perspective, 50 countries have GDPs under $30 billion.

The real challenge is to figure out how to design a more virtuous system that balances all the competing interests without killing the goose that lays the golden eggs (like Avian Flu!)

What incentives might we introduce to improve the system? To figure out that we need to utilize the right tools.

We Can’t Understand the World Without These

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