Inflation can put a lot of strain on a small business. Here are five business strategies to survive high inflation
Supply shortages, stock market volatility, and price hikes are everywhere you look. Inflation is also present every time you purchase inventory, go to the grocery, and pretty much any time you open your wallet. While there is a lot of news coverage the stock market and increasing prices, there is not much information out there on how to manage through inflation. In this blog post, we will look at the causes of inflation, how it affects small businesses, and what you can do as a business owner to turn financial stress into a growth opportunity. Here are some strategies to survive high inflation.
What is the source of inflation?
Assets held by the Federal Reserve highlight possible inflation risks for small enterprises. Since 2019, the Federal Reserve has more than doubled the money supply, causing inflationary pressures.
Inflation is a decrease in the purchasing power of money, reflected in a general increase in the prices of goods and services in an economy. In the near-term, the US economy will face inflationary pressures because of:
- Federal Reserve asset purchases that have more than doubled the money supply
- Supply chain shortages
- Increases in producer prices
- Excessive Government spending
There is more money in circulation within the economy and not many good and services to buy. As a result, a bidding war ensues, with prices steadily rising.
Basic commodity prices such as oil and steel rise, trickling down to things like cars, labor, everything in between.
How does inflation affect small business?
While you may be suffering the effects of inflation today, it’s possible that your small business has yet to be affected. Inflation affects the economy in a variety of ways and at different times, affecting each business differently.
Inflation’s immediate effects are supply shortages, which prevent finished goods from being completed. Consider how automotive assembly lines had to be shut for a period because of a lack of essential computer chips. Manufacturers of all sizes can end up with millions of dollars in inventory-in-process while waiting for critical supplies to arrive. Those that adopted the industry standard of Just-In-Time Manufacturing (JIT) are particularly sensitive to shortages today.
Immediate shortages are usually resolved by bidding prices higher, expediting shipments, smaller packaging, and recruiting additional personnel or paying overtime. All of this puts a strain on a small business’s costs, and many of them are unable to pass these additional costs on to their customers owing to contracts or competition. As a result, the additional expenditures are deducted from the bottom line, often exacerbating previous losses from Covid-19.
Even if your company is not experiencing a shortage of raw materials, you may soon hear your employees asking for a raise. That’s because the company down the street is giving ever-increasing wages to clear up their backlog and keep up with demand. If you have lower-wage employees, they may be priced out of your area when housing costs rise.
How do you manage inflation in a small business?
Strategies to survive high inflation
Here are the actions to consider preventing inflation from becoming a problem:
Increase your pricing power.
Every company affected by inflation will soon be required to pass the cost increases on to their customers. Even if inflation does not affect you in the long run, improving your pricing power increases your competitive market position. Here’s how we suggest you boost your pricing power:
- Determine what sets you apart from the competitors and focus on that product, service, or marketing message.
- Enhance your offering’s individuality by improvements, bundling, de-bundling, or branding
- Target your products and services to clients who are less price sensitive.
- Reduce contract lengths or include variable pricing mechanisms, such as commodities fees, in your contracts.
- Invest in your customer experience by hiring more people, improving your training, or improving your sales processes.
- Integrate your services vertically to create a one-stop store.
- Offer complimentary services, subscriptions, or warranties.
Determine how vulnerable you are to the labor market.
The impact of inflation on labor markets can be unpredictable. While we can’t predict which professions and skill sets would be affected, we can expect the following labor markets to be affected by inflation:
- High demand jobs such as software developers and digital marketers.
- Minimum-wage and low-wage jobs
- 1099 contract laborers
Develop a human resources strategy to retain and attract talent if your company is heavily reliant on any of the above professions. You should consider market-rate pay increases as well as other perks such as better employee benefits or continuing education reimbursement.
Assess the risk in your supply chain.
Managing your supply chain is very complicated. There is a huge volume of information dedicated to managing supply chain risk. Some key vulnerabilities to be aware during inflation include:
- Dependencies on a single supplier
- One commodity accounting for more than 10% of your costed COGS
- Suppliers with a long lead time (e.g. overseas suppliers)
- Materials that are bulky, heavy, perishable, or dangerous that are difficult or expensive to store.
- Materials run through a JIT supply chain.
To reduce the danger of high-risk supply, consider the following measures:
- Create alternative supply chains (not just alternate suppliers)
- Establish a rapid supply strategy, such as using a domestic supplier instead of a foreign one.
- Consider accumulating essential supplies at a cheap cost of storage.
- At all levels of JIT supply chains, check safety stock levels.
- When necessary, engage in commodities hedging.
Use scenario analysis to predict the impact of inflation on your business.
We recently wrote about using scenario analysis to predict the impact of different events on your cash flows. The same can be applied to predict the impact of inflation. What will happen to your business if:
- Wages were to rise 25 to 50 percent
- Supply chain disruptions producing 25% or more revenue delays and inventory build-ups
When conducting a scenario analysis, you must answer the following questions:
- Will I be able to cover all my expenses?
- How will I respond in each scenario?
- What actions can I take now as preventative measures?
- What metrics can I use as a leading indicator?
Take out a loan.
With low interest rates in an inflationary environment means that you will repay your loan using money with less purchasing power than what you borrowed. Make sure that you put your loan proceeds to good use. Good options in inflationary times include:
- Property and equipment
- Inventory that is bulk-discounted or rare
It’s a fantastic moment to take out a loan! With low interest rates and a high likelihood of inflation, you will most likely repay the loan with less money than you borrowed. Just be sure you have somewhere to put your loan proceeds – good options during inflationary times include:
- Marketing that bolsters and distinguishes your brand (to build pricing power)
- Property and machinery
- Inventory that is either rare or bulk-discounted
Preparing your small business to survive high inflation
Whatever industry you’re in, meet with your finance staff on a regular basis to discuss your financial strategy.
Hopefully, this post has been helpful in helping your small business survive high inflation.