Watch Out – Inflation is Coming.

What your business must do in the next 6 months.

Inflation for many businesses is not something you have had to worry about before.  And this is not surprising.  Since 2000, New Zealand CPI (Consumers Price Index) inflation has averaged around 2.15 percent – manageable.  This compares with an average of 2.4 percent in the 1990s – also manageable. 

So, there are generations of business owners who have never experienced significant inflation.  But if you travel back in time to the 1970s and 80s CPI averaged over 11 percent!  And those who were around in the 70s and 80s remember the quarters where it was close to 20 percent.   We, or our parents/grandparents carry the emotional scars of that high inflation / high interest rate period.

Today the media is full of stories about inflation, but what do you do about this as a business owner?

While these stories tell us a lot about what is driving prices up – the continued fall out of Covid-19 affecting global manufacturing, distribution channels and supply chains and the economy being awash with cash, there are two things they don’t tell us:

 

  1. When will it happen?
  2. How does my business respond?

When Will It Happen?

The answer is that it is already happening.  I suspect your business, like mine and my clients has already started to get letters from suppliers about price rises.  Most are modest, but they are starting to add up.

What we don’t know is how bad will it get?  It is hard to see a return to 15-20% inflation, but even 5% CPI across several quarters could seriously erode your business margins.  And inflation isn’t always evenly distributed, one sector could suffer an inflation shock.  Similarly, the costs of staff and labour are growing in some sectors driven by labour shortages.

 

So, how does my business respond?

What You Must Do In The Next Six Months

# 1. Have Good Forecasting Processes

A good forecast, with a range of scenarios, will allow you to plan for eventualities.  It will allow you to bring the 6 points below into a comprehensive plan that you can make decisions around.  Even if reality is different to your plan, you will have a strong basis to adapt to the evolving situation. 

# 2. Manage Inventory

This might seem a strange action, but in an environment where supply chains are disrupted having a warehouse of goods compared with having to urgently source product might have a big impact on the price you pay for inventory.   Previous booms and busts have shown good inventory management processes and systems are the key to survival.  Have a plan around how you are managing inventory and know which stock items are critical and likely to be in short supply.    

# 3. Manage Cashflow and Interest Rates

In today’s uncertain economic environment you need good cashflow management and forecasting.  Your business should have a good 12 – 18 week cashflow forecast and a longer term cashflow plan.  Ensure cashflow is reviewed and updated weekly or bi-weekly.

Now is the time to focus on those lingering outstanding debts and get them collected. 

The Reserve Bank is required to operate within an inflationary range of 1 – 3% over the medium term.  It has several ways of managing inflation to achieve this target.  One common way is to raise interest rates.  If your business relies on debt funding now is a good time to think about locking in interest rates. 

# 4. Understand the Impact on Demand and Competitive Responses

I remember David Lange (former NZ Prime Minister) in a 1980s election campaign saying his aim was for every household in New Zealand to be able to afford steak once a week.  It might seem odd now, but the reality was when serious inflation hit, Kiwi households traded steak for sausages – people purchase down when prices rise.   So, understand whether you have a premium or discount product in consumers eyes.   Plan for how consumer demand will change if prices rise.

Look at your local and overseas competitors – how well are they placed to respond to rising prices.  How will you respond if they respond – now is the time to have a competitor response plan.

A good place to start would be a SWOT (Strengths, Weaknesses, Opportunities and Threats) analysis.  This article gives you more guidance on how to undertake a SWOT:

# 5. Review Pricing

The principle is simple – fix supplier prices for as long as you can and avoid having to commit to long term pricing with customers.  However, the reality is a lot more nuanced.   You don’t want to lock in a quality supplier for a long term and then find their pricing to you drives them out of business.   So you need to think carefully about which supplier and customer pricing should be short term and which should be long term.  You might also want to consider back to backing arrangements for key suppliers and customers.  So you can pass on a supplier price increase directly to your customers.   A lot will depend on the industry you are in, your size and relative negotiating power. 

And remember customer service is key during any period of economic uncertainty.

This article will give you more guidance about putting up your prices. 

Grow Profits

# 6. Look at Cost Savings, Productivity and Technology

If Covid taught us anything, it was what costs and activities are critical to running our business.  Now is a good time to refocus on cost savings as these are a good buffer between rising input prices and unmovable selling prices. 

With interest rates being at record lows now is also a good time to think about investing in productivity and technology.  Over a 12 – 18 month period this can be an excellent way to take cost out of your business. 

# 7. Understand Wage Inflation

Wages can drive inflation, and inflation can drive up wages.  Wage push inflation is an overall rise in the cost of goods that results from a rise in wages.  While some sectors are facing the prospect of 2-3 years of no wage increases and others like tourism are awash with availability, we all know of sectors where there are staff shortages.  The most noticeable is in the IT sector.  The rules of supply and demand mean that wages in these sectors will rise as employers with deeper pockets pay more to secure staff.

You need to understand the wage pressures (or not) in your sector.  If you are in a sector with supply shortages look at how you retain staff including non-financial benefits like flexible working, training and development etc.  If you have vacancies encourage employees to recommend friends and / or consider using recruitment agencies.  Most likely if you are in one of these sectors demand for your services will also be high, allowing you some price flexibility with customers.

If your sector isn’t facing shortages then make sure you focus on retaining key talent.  Consider merit increases rather than across the board increases for staff.  Look at your mix of fixed vs contingent or contracting resource – you may want to have a more flexible workforce so you can respond to changes in demand.

How Bad Will It Be?

Being an economist is a bit like forecasting the weather…you can never get it exactly right.  The conditions are right for inflation to rise, but that doesn’t guarantee that there is a storm coming.  The best thing businesses can do is prepare over the next six months, so they have the best chance of weathering any storm which might arrive. 

For more suggestions about managing inflation – or for help with other business challenges – contact Fiona Harnett at MacGregor Jamee to arrange a needs assessment.

MacGregor Jamee helps SME owners increase revenue, reduce costs, and improve operational efficiency.

We do this by providing them with the sort of high calibre chief financial officer, business mentoring, leadership coaching and business consultancy services often only available to large corporates. 

To arrange your free assessment contact Fiona Harnett on 021 477 671 or contact@macgregorjamee.co.nz.

Or visit https://macgregorjamee.co.nz/

 

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