Goldman Vs. Apple

John Cassidy from the New Yorker writes some very thought provoking articles and in the edition before xmas he asked the question – “What good is Wall Street?” He stated that much of what investment bankers do is socially worthless and for years, the most profitable industry in America has been one that doesn’t design, build, or sell a single tangible thing.

On his blog he compared Apple Computer Company and Goldman Sachs Investment Bank.

On the face of it, the two firms’ profit margins seem pretty similar. For every dollar of revenue it generates, Goldman makes a profit of about twenty-one cents; Apple makes about twenty-three cents. But that is where the comparisons end. From an economic perspective, the real measure of a business is the return it generates on the capital it employs, which could be used in alternative projects. By this metric, Apple leaves Goldman far behind.

The main reason why Apple is so much more profitable than Goldman is a reassuring one. It makes tangible things—iMacs, iPhones, iPads—that millions of people want to buy, and for which they are willing to pay a premium price. (I am writing this post on an iMac.) Despite operating in a highly competitive industry, Steve Jobs’s firm has successfully differentiated its product line to such an extent that it now has considerable monopoly power: it can charge considerably more for its gizmos that they cost to manufacture.

Goldman, for all its reputation and smarts, has no such franchise. It does some things that its clients value and are willing to pay for—making markets, raising capital, providing investment advice, hedging risky positions—but rival banks, such as JPMorgan Chase and Morgan Stanley, provide practically the same suite of services, and pricing power is limited. (Not limited enough in some areas, such as I.P.O.s.) The only way Goldman (or any other investment bank) can increase its profit margins in a big way is to leverage up its balance sheet and live by its wits in the financial markets. But when banks all try this together, the consequences are usually disastrous.

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