Inflation is an economic phenomenon that impacts everybody in our economy, from blue-collar workers to CEOs. For small business owners, who may struggle to keep up with national chains and superstores even without high inflation, the impact can be devastating.
At CMP, we understand that small businesses are the backbone of our economy. They account for millions of jobs and billions of dollars of spending power thanks to their entrepreneurship. In a recession, small business owners need to be strategic about every aspect of running their businesses to ensure that their doors remain open and that their employees have jobs.
With that in mind, here are 9 expert-backed strategies you can employ to combat the effects of inflation and help your small business thrive.
Ways to Protect Your Small Business Against Inflation and Possible Recession
It’s easy for small business owners to panic in the face of runaway inflation. The cost of raw materials and finished products is high, meaning that profit margins shrink, and small businesses hit their bottom line.
Let’s look at 9 proven strategies you can use to protect your profits while still keeping your customers happy.
1. Raise Prices Strategically
The first thing that most small business owners do when inflation becomes an issue is to raise their prices. We know that can be a good inflation hedge, but it should be done in a way that won’t drive customers away.
According to an article in Bloomberg, prices rose 9.1% from June 2021 to June 2022, the highest level of inflation in four decades. Consumers are feeling the pinch as prices have increased on everything from groceries to cars. You can and should increase your prices. Here are some tips on how to do it.
- Research what your competitors are doing. Inflation is happening across the board, but not every industry or product is equally affected.
- Don’t raise prices more than the market will bear. Your profits might have shrunk by 15%, but that doesn’t mean you should raise your prices by an equivalent amount. You may need to absorb some of the decreases in the short term to keep your customers.
- Consider raising prices gradually. It may be easier for your customers to cope with an increase if it’s a small one at first. You can always do another incremental increase if needed.
Most importantly, don’t panic if you can’t maintain your margins. There are other ways to cope with inflation and raising your prices too much may send your customers to one of your competitors.
2. Re-Evaluate Your Business Operations
When the economy is strong, business owners may sometimes allow the operations side of their businesses to sprawl, becoming less efficient. One way to cope with inflation is to review your business operations to see where you can trim some fat.
Trimming fat doesn’t necessarily mean downsizing. It might be as simple as recognizing that you’re paying an employee to manage a process that could be automated. By embracing automation, you could free up time for that employee to be on the floor with customers and, as a result, save on paying another employee to come in during that time.
Of course, you may need to lay off one or more employees to make ends meet. We suggest starting with other strategies to see where you can reduce costs and downsize as the last resort.
3. Reduce Expenses Wherever Possible
Raising the prices of your products and services can help you, but doing so may not be enough to maintain your margins. That brings us to another option: reducing expenses wherever you can.
If you manufacture a product or pay someone to do so, one option is to look for bargains on your raw materials. Ideally, you would comparison shop to save money without sacrificing the quality of your products. For example, you might get bids from other suppliers and negotiate the best price possible or obtain financing to buy larger amounts than usual and take advantage of a bulk discount.
Because of the COVID-19 pandemic, many office-based businesses had already discovered they could save money by having employees work from home. If your business lease is expiring, you could downsize to a smaller space or even go fully remote if that’s an option for your industry and customers. If you haven't looked into the employee retention credit, be sure to do so.
The automation options we mentioned above could be a factor in reducing expenses as well. If there are processes that could be automated, it’s worthwhile to crunch the numbers and see what you could save in the short and long term by embracing automation. If you use software such as QuickBooks, you'll be able to easily see where your money is going.
4. Diversify Your Revenue Streams
Inflation can have the biggest negative impact on any business that has a single revenue stream. For example, if your company sells only one product or service, the revenue from that stream has to do all the work.
During periods of inflation is a suitable time to think about what you could do to diversify your revenue as a hedge against inflation. For example, you might introduce a new product—or several—to attract new customers and keep your existing customers coming back. We recommend using this strategy in conjunction with raising prices.
Product bundles can do a lot to add to the perceived value of what you’re selling. The same is true with services. Adding a new service, or augmenting an existing service, can do a lot to increase the service’s value and make customers willing to pay a higher price.
5. Don’t Scale Back on Marketing
When money is tight, it’s common for small business owners to cut back on marketing to save money. It might seem logical, but it’s not a good idea to cut your marketing budget in inflationary environments.
Competition is at its highest when consumers are worried about money and eager to find ways to save. If you stop marketing, you’re going to lose prospective customers to your competitors who are still marketing, and you may even lose existing customers to an effective marketing campaign.
The solution is to continue marketing and use strategies that will help you attract new customers even with higher prices. For example, you might highlight new products, tout the quality of your services, or offer a new customer deal to help grow your business.
6. Explore Your Financing Options to Manage Cash Flow
The right financing options can be a lifeline during inflation. With financing in place, you can afford to pay more for raw materials or products, and you may be able to avoid undesirable outcomes such as laying off employees.
Small business financing options to consider may include the following:
- A bank or credit union loan
- A bank or credit union line of credit
- Private financing or private loans
- Short-term financing (accounts receivable factoring is an example)
With any type of credit, you’ll need to weigh the cost of financing against the benefits. For example, factoring will ensure you get a percentage of every invoice within a few days of sending it, but it comes with a high cost compared to a credit union loan.
7. Create Financial Forecasts for Different Scenarios
Financial forecasting can help you be strategic during an inflationary period because it allows you to think through multiple scenarios before they occur. It might be difficult to engage in strategic thinking if you’re worried about losing your business, so we suggest thinking now.
For example, you might forecast what to do if one of your suppliers raised prices to the point where you couldn’t afford them, how you’d cope with supply chain disruptions, and so on.
This type of forecasting might be difficult for a business owner who doesn’t have financial or accounting experience. Our Utah CPAs can help you with financial forecasting if that’s something you want to do.
8. Postpone Big Ticket Purchases
One of the easiest ways to cope with inflation is to minimize spending. With the prices of every commodity at record highs, if you can avoid spending, you can do a lot to help your business stay afloat.
This strategy is especially important when it comes to big-ticket items such as machinery. If you can get by with the machinery and equipment you already own, you can hold onto the money you would have spent for a new item (or hold onto the credit) for something else.
You could even use the money you’ve saved for a big purchase for other things or invest it in a diversified portfolio to allow it to grow while you wait.
9. Utilize Tax Reduction Through Advanced Tax Strategies
Finally, we strongly recommend taking an opportunity to review your tax strategies and find ways to save money. If you’ve been doing your taxes without the assistance of a tax professional, you may want to consider working with an experienced person to ensure that you’re taking every tax deduction and credit available to you.
For example, you may not be using the best depreciation strategy for your equipment and machinery. A tax professional can help you strategize to save money during inflation. The same goes for reporting business losses.
It’s possible to save thousands of dollars on your taxes by working with an expert. Our tax professionals understand the complexities of small business tax planning and can help you reduce your tax burden to make the pinch of inflation less painful.
Frequently Asked Questions About Inflation
Now, let’s review some of the most frequently asked questions about inflation.
What is Inflation?
Inflation is an economic phenomenon that occurs when there is a rise in prices or, said another way, when the purchasing power of a dollar declines over time. Inflation is expressed as a percentage calculated by the average price increase of selected goods and services over a chosen period.
For example, as we noted above, the inflation percentage between June 2021 and June 2022 was 9.1%, meaning that prices rose by an average of that amount in one year, and the dollar experienced a consequent decrease in purchasing power. The opposite of inflation is deflation, which happens when purchasing power increases as prices decline.
Why is Inflation Skyrocketing Now?
Several factors have contributed to skyrocketing inflation in the US. During the COVID-19 pandemic, Americans spent less money and saved more money. The economy added more jobs than expected in June 2022, and as a result, the demand for consumer goods and services is high while the supply is low due to ongoing supply chain issues and shortages.
The war in Ukraine has been a contributing factor as well, causing disruptions in global food chains and driving the price of oil up. In other words, inflation is a result of demand outstripping supply. Since manufacturers are competing for raw materials at inflated prices, they have also raised their prices.
Is Inflation Bad?
Inflation is not inherently bad. Some inflation can be good for the economy because it drives reasonable increases in price levels. The Federal Reserve targets a 2% inflation rate based on the Consumer Price Index.
High inflation, on the other hand, is considered to be bad because prices increase at a rate that is far higher than most consumers can manage. Few companies give employees raises that can keep up with a 9.1% inflation rate, so people tend to postpone big purchases and cut corners where they can, which can be bad for the economy.
How Does Inflation Affect Small Businesses?
Inflation impacts small businesses in a variety of ways. It drives up the cost of raw materials and products, which can cut into small business profits and require price increases and layoffs. The cost of services also rises in an inflationary period, as do energy costs, shipping costs, and even borrowing costs.
Small business owners may find themselves looking at lower-than-expected profits and higher expenses. They may be forced to make tough decisions to keep their businesses afloat.
Stay Ahead of the Curve with Proper Tax Planning for Inflation
Inflation may be high in the summer of 2022, but small business owners don’t need to despair. The 9 strategies we’ve outlined here can help you keep your business financially healthy and minimize your stress. Do you need help reducing your tax bill to cope with inflation? Our tax experts at CMP are here to assist you!