Financial statements form one of the most reliable gauges with the help of which you will come to know of your business health. Still, these accounts may not always depict a true and fair view of your venture. Factors that may go against your expectations that appear on paper to tilt reality will include how it impact businesses regarding inflation. With inflation still straining economies around the world, small business owners face tough times trying to stay financially stable with rising costs. However, prudent planning and forward planning can see businesses not only survive but even grow under adverse economic conditions. Below is a guide full of practical tips that can help small business owners navigate their operations and finances through inflationary trends.
How does inflation affect a business, you ask? Bottom line: rising inflation raises costs in every area. In an inflationary environment, the cost of consumer goods rises steadily, from gasoline to food to airfares to real estate and so much more. These increasing costs affect business operations and personal spending, meaning you and your employees are paying the price—at work and home. And yes, this is a costly time to run a small business.
Proper financial planning in dealing with inflation will call for keeping your books updated, cutting on operating expenses, and adjusting your purchase and expenditure plans. Let’s look at these more closely.
What is inflation?
Inflation refers to a situation where prices rise because the purchasing power or value of a unit of currency is reduced. It occurs whenever an amount of money exceeds the world economy at a rate higher than its existing growth, which reduces the value of the currency, making one dollar less valuable today compared to yesterday.
The inflation rate simply means how changes in the prices of things affect the money one has to spend. The best way of checking inflation has been through consumer price inflation, focusing on what it costs one to live on a day-to-day basis. That is because living costs cut across many of the things we spend most of our money on, such as rent, mortgages, electricity bills, and other costs of keeping a roof over our heads. COVID-19 seriously disrupted supply chains, meaning businesses really suffered in being able to rebound quickly. Business.org cites a report stating that 92% of small business owners report experiencing increased costs since the beginning of the pandemic. Consumer Price Index surges on such things as housing and gas upped the ante in living expenses for most, since businesses were willing to increase their prices to continue to command what customers want.
The impact of inflation on small business owners:
Let’s talk about how inflation screws up small business finances. Here are six things you might encounter because of inflation:
Increase in cost of goods and services
When inflation hits, overhead costs such as:
- Raw materials
- Labor
- Utilities and
- Other inputs
… usually goes up.
Such times of increasing costs usually make small business owners concentrate more on higher-margin products and less on the manufacture of low-profit products.
Small businesses can easily get burdened to transfer their high cost to their consumers as they are always pitted against large organizations that enjoy more power in terms of influence.
Reduced sales and consumption among consumers
Inflation can really mess up small businesses as it forces customers to spend less and reduce sales. It can really cause the consumer to spend less money as stuff is going to rise, which is less spendable on non-essentials. This reduces consumer demand.
You see, small businesses typically operate on thin margins. Hence, they would have difficulty being profitable in such a situation. In order to absorb those rising costs, small businesses cannot jack up their prices, which scares more customers away, further resulting in lower sales.
For another, large businesses who, for their own reasons, tend to wield more bargaining power could absorb inflationary shocks even better; hence, competition in their favor would be stiffer still.
Inability to plan and budget for the future
Inflation messes with small businesses when they try to plan and budget for what’s ahead. As the prices rise and everything costs more, it is tough for small business owners to figure out their operating costs and make solid financial predictions.
So, since inflation affects everything from what raw materials cost to how much we pay our employees, it is a bit challenging for small business people to know their costs and then manage their resources accordingly. Thus, it becomes more complicated to be competitive and stay profitable.
The budgets for small businesses are very thin as well; therefore, they may not have any cash to sustain sudden increments in expenses. That gives them an uncertainty loop of owning where the owners cannot truly invest their money in a new venture or expand on their activities.
How Interest Rates and Financing Options are Impacted
So, when the Fed begins to jack up the interest rates to bring inflation within control, it makes borrowing costlier. The higher rates can really prove too much of a challenge to small businesses to obtain essential financing.
This may limit their ability to:
- Invest in new projects
- Expand operations; or Manage surprise bills.
But hey, inflation can actually assist your older debts because small businesses having fixed-rate loans and credit lines keep paying the same old rates, whereas that debt becomes significantly cheaper compared to availing a new source of funding.
How to Deal with Inflation?
Dealing with inflation calls for very careful financial planning, which includes keeping your books up to date, reducing operating costs, and reorienting your purchase and expenditure plans. Let’s look at these in more detail.
Increase your profit margins
With your books now tidy, take a cautious look at your expenses and income in all the facets of your business. The essence here is to increase profits by raising productivity while putting costs under control.
Are any of your products or services returning at an acceptable rate? Do there exist ways to create higher revenue that may balance escalating expenses? Examine those offerings judiciously and assess which can benefit from optimization for cost efficiency.
Update your books regularly.
This is a time when you must be fully in control of your records of finances. A careless attitude toward bookkeeping will not help you save money at the moment of inflation and may even imperil your efforts to cut costs and improve efficiencies.
If you haven’t implemented a robust bookkeeping system yet, this is the time to discover one that suits your taste. That could be DIY accounting software and dedicating time every week to recording the income and expenses, or as full an accounting service like Bench.
If you’ve gotten behind in logging expenses and receipts, or you’re stretched too thin to give the job the focus it needs, outsourcing the job entirely to a bookkeeper or CPA could be a fast way to regain control.
Once you have a functional accounting system, you can track costs and profits very easily as well as note the impact of inflation on your business. You may also look into better tax positions by monitoring changes in deductions, for instance, mileage rates or by finding new deductions that might reduce the total tax burden through a CPA as a financial planner.
Refrain from making significant purchases.
Despite the recent rate hikes and the surge in inflation over the past year, it seems improbable that the current rate of inflation will persist indefinitely.
Eventually, the economy will level out again, and when it does, you’ll be in a better position to make major purchases—things like overhauling your IT infrastructure or updating your machinery. Granted, the depreciation of the major purchase might be helpful come tax season, but future tax deductions can’t offset the sheer volume of spending major purchases require.
Unless you need an immediate purchase for you to be able to run your business effectively, you should refrain from these investments until the economy becomes stable again.
Reduce unnecessary operational costs.
It means don’t buy it if it doesn’t mean anything to you. And every little step will count in cutting costs and therefore making net profitability better, so be steady in your approach to what really matters versus what does not.
One of the most evident means to save money often has to do with reducing your operation costs. These may refer to all kinds of expenditures-legal fees, advertisements, subscriptions, marketing, office supplies, and rents as well as property taxes travel, and vehicle expenses.
Perhaps you can save on the cost of travel to visit customers if you use virtual meeting software.
Alternatively, a reduction in office space with working-from-home arrangements when appropriate would significantly cut your operating costs. In addition to that, changing locations or assessing the amount you spend on marketing might do the trick. A little bit of research on finding the best insurance rate possible doesn’t hurt.
Involve your employees in the discussion of cost-cutting and other financial decisions. Trust them enough to let their ideas be heard in the process of identifying where processes could be streamlined, where costs could be reduced, and finding ways to boost morale and productivity without hurting the bottom line.
Take advantage of your emergency fund
In the event that your business has an emergency or a rainy day situation, this may very well be what you have been saving for. Should you find yourself needing to make an unexpected purchase, or if it becomes increasingly difficult to manage certain business expenses, tapping into your emergency fund may prove to be a wiser choice than resorting to a new loan or relying on a business credit card for that transaction.
You can borrow skillfully from your resources and use your emergency fund to avoid astronomical interest rates commanded by lenders. Just be sure to return those rainy-day funds as soon as the company has stabilized again.
Purchase products in bulk.
You might be able to delay large expenditures into the cost of upgrading against inflation, but you must acquire at the best possible price whatever raw materials or must-haves you require in order to maintain your inventory healthy. Look to buy in bulk or have a good stockpile of those items.
Once you collect your materials, you will find that you are protected from the changing tides of price changes and from persistent supply chain challenges that have faced various industries around the world, causing unexplained shortages over the last year.
Just ensure that you have a good system of inventory management to know what you have. Then, when your stock starts running low, you replenish the supply and continue at a steady rate of production.
Redesign your growth strategy.
During inflationary times, you may need to rechart your course for your business. You might have had to delay significant investments and reduce some expenses. This growth path can be very different from what it was a few months ago. You may want to revisit and even update your business plan.
Take an honest moment to reflect on where you are today and what you want to achieve. This will make it possible for you to approach the changes that need to happen with some realism. Inflation doesn’t have to strangle the growth of your business; however, it might give birth to new ideas in terms of market segments, and efficiencies, or even determine what your company needs to make it.
Relationship building with consumers.
Inflation may encourage you to consider raising some of your prices as a way to keep up with the rising expenses of your supplies and labor. Be selective in choosing the prices you should raise and try not to drive away many of your customers with inflated rates when possible.
It is essential to remember that they are facing a decline in purchasing power universally. If there is an opportunity to reduce prices in certain areas, taking that step can significantly enhance customer trust.
To balance any potential price increases, there is a need to heavily invest in relationships with customers. Focus on providing the best possible customer service, always leaving your customers feeling appreciated and valued. Kindness does not cost anything, and consumers reward companies that really care about them by remaining loyal, so spending to make your customers feel important is definitely worth it.
The positive effects of inflation:
Although inflation may lead certain consumers to reduce their expenses, it can also trigger increased spending and boost demand for products and services. Consider some positive effects that inflation may create when operating a small enterprise.
- Inflation creates an expense and compels consumers to spend rather than to save because the money decreases with time.
- Secondly, for others, inflationary factors affect them the least concerning their consumption behavior. Higher prices translate to higher revenues: When inflation is high, a company can explain the increases in product prices and their earnings will increase because customers know that these small businesses are facing difficult economic conditions.
- In the face of very high inflation, businesses cannot easily adapt to the costs, and that means giving room for new entrants into the market. It would also be easier to access funding since inflation requires a high return both from the banks and the private investors.
- New sales channels open when consumers cut back on their expenditures; agile start-ups seize the moment and reposition their offerings and services to bridge those gaps and capture those consumers. This flexibility became the signature of the pandemic as well as new and established businesses reshaping their operating models to serve digital solutions to effectively run the lockdown and observe social distancing.
In all ways that inflation could affect your business, value will be a focus. When customers feel the pinch, they go to businesses that offer good customer service, friendly employees, and solutions based on value that solves specific problems-thus increased loyalty over time.
Inflation can be quite stressful, especially for entrepreneurs who look to grow their businesses instead of just surviving. While you can’t control the economy, interest rates, or the stock market, you most definitely have a say in how your business reacts to all those changes. To fight inflation, check out what you can tweak to increase your income, try to keep your costs down or steady, build up your relationships, and find a way for your business to come out on top.
