With the supply chain and labor shortages caused by the pandemic, the blockage of the Suez Canal (remember that?), and the ongoing war between Russia and Ukraine, prices have gone through the roof. And while the Fed may claim some of it is transitory, many of us know exactly what it is: Inflation!
But what exactly is inflation, what does it mean for a business, and what can a business owner do about it?
In this article, we’ll define inflation and discuss some strategies for dealing with its ramifications.
What is inflation?
Inflation is an increase in prices not tied to an increase in quality. Inflation is when food prices go up for no reason at all; if package quantity went up to the same degree as food prices, then the price increases would not be an example of inflation
But when we get away from simple things like food, it gets a bit murkier. If a car price goes up because the car is rare, is that inflation? How about putting out better but more expensive models…is that inflation? If cars are hard to come by because of a chip shortage, is that inflation? How about when the price of a commodity goes up because the price of fuel went up? Is that truly inflation? Or is it what the Fed would describe as transitory – something that will reverse itself when the price of oil comes back down? (Incidentally, the question of when the price of oil will come down is up for debate.)
Our firm recently held a webinar with an energy analyst who opined that energy prices might stay high for some time (fact check and include link))
But, beyond defining inflation, the real question is – what does this mean for my business? How do I react and keep my business, reputation, and pricing power?
Tips for Dealing with Inflation
I recently had a conversation with a food service provider. He was facing a dilemma; commodity prices like flower, oil, and onions were up 80-150%. Labor was up significantly too. How can he keep selling food at a price people can handle while continuing to make a profit?
Here is some of what I shared (and other things I did not share that may be interesting to a broader audience).
- Not all products are created equal. The cost for components of one product went up modestly while the cost of ingredients of the other went up much more significantly. Understand your margin by product and you can know where you need to raise and where you can absorb slightly tighter margins.
- Create efficiencies. If labor costs are up, what can you do to reduce the amount of labor inputs? Maybe hire robots for a piece of the process. Maybe buy certain items ready made from a larger vendor who can get economies of scale. If certain onions are up more than mushrooms, start offering mushroom salad as a standard and charge an extra fee for onion salad.
- Be thoughtful about inventory. Having extra inventory will cost you more money and you ultimately have to chare the customer more to cover your carrying costs. On the other hand, with prices increasing weekly, you may save significant money by buying things today rather than next month.
- Loss leaders are an option. Certain products might be unprofitable when viewed individually; however, if they enable you to sell other more profitable products, you might profit on a customer interaction even if you do not profit on each individual component.
- Consider buying in bulk. If you get a slight discount today and lock in your prices for the next few months, you are probably ahead of the game. Unless of course prices start rapidly falling, in which case you have price stability but are behind the 8-ball.
- Keep a long-term view while making sure you stay liquid and solvent. If you believe that commodity prices will come down (I do, but unfortunately, I do not know when), realize that there could be an opportunity to build or solidify those long-term relationships today and make the profit tomorrow.
- Keep an eye on the competition but know your numbers. Know where your business’s “line in the sand” is located. If you go past there, you will end up regretting it. Don’t let your competition entice you to chase unprofitable volume. You may not “make it up in volume…”
- Compete on things other than price. Provide a better dining experience, off hours delivery, customization, or something else your customers value that doesn’t cost you too much to provide. You will raise prices, but they’ll keep coming back for other reasons.
- Don’t just focus on margins. If you used to produce product for $5 and sell it for $10 but now it costs you $10 to produce, you can sell it for $15 and while you’ll have a much tighter percent margin (33% vs 50%), you’ll still be making the same number of dollars in profit ($5). Your competition may continue to mark it up 100% (so if the cost is $10, they’ll charge $20).
- Consider a loyalty program. If you do have to raise prices, consider instituting a loyalty program to “give something back.” While “points” are often left unused, you still build loyalty and if customers do come back for the freebies, you are giving my favorite type of discount – the one you only give when they come back.
- Monitor closely. If you do choose to operate on tighter margins, be very careful of waste and spillage. With tighter margins, every lost “unit” eats up a bigger piece of your profits.
It’s been an interesting decade so far, these 2020s. When we are all grandparents, the kids are not going to believe this, but until then, keep paying attention to what is going on and make sure you are thoughtful about the scenarios in which you find yourself. Be intentional about your business (and life too!) and make sure to have good facts so you can make the right strategic decisions to help you weather this storm.
Gershon Morgulis is the founder and managing partner of Imperial Advisory CFOs. Imperial’s 8-CFO team provides owners and other executives of growing businesses with part-time CFOs and other consulting services which enables businesses to make better and more confident business decisions.