For consumers, inflation can lead to higher grocery bills and pain at the gas pump. But for business owners, rising inflation can mean reduced cash flow and smaller profit margins.
Understanding inflation and how to minimize its impact on your business is essential. This guide will help you learn how to combat inflation with better cash flow management and understand how to mitigate its effects so you can stay resilient.
What is inflation?
Inflation refers to the rate at which prices rise over time. Some inflation is a natural part of the economic growth cycle. But when inflation rates rise too rapidly, it can weaken the spending power of the US consumer and business owner. Why? Because as the costs of food, gas, and utilities increase, consumers will have to spend more money to purchase the same items.
The two most common measures of inflation come from the Consumer Price Index (CPI) and the Wholesale Price Index (WPI).
What do businesses do when they expect inflation?
With inflation on the horizon, business owners generally have two choices:
- Raise prices to keep up with increased costs
- Attempt to absorb higher overhead costs
While businesses may be able to absorb higher costs over the short term, it gets trickier as time goes on. Below, you'll find tips on how to fight inflation in your business—but first, you'll need to understand how inflation affects the world of small business.
How does inflation affect small businesses?
Global inflation can have a disruptive effect on the financial stability of your business. Learning how to counter inflation can be vital for many businesses.
How does inflation affect revenue?
During inflationary periods, businesses struggle to meet supplier and overhead costs while offering competitive prices. That leaves you with two options: absorb the extra costs or raise prices to compensate.
Choosing a solution to inflation can be challenging, and the factors that affect the decision are industry-specific. American consumers tend to rethink their spending decisions due to rising costs. So while some businesses can increase prices to cover inflationary pressures, others may need help keeping their sales volume at pre-inflation levels.
However, if your competitors raise prices, you may be able to do the same without losing customers. If so, you may succeed at raising revenue during inflation, though your profit margins will likely remain the same.
How does inflation affect cash flow?
Cash flow is the lifeline of your business. You need steady access to cash to cover your business expenses and reinvest to meet your goals.
Naturally, a drop in customer or sales volume can lead to a drop in the amount of cash flowing into your business. But inflation can impact cash flow in another way. Even if you have the same number of dollars flowing into your business, you can experience a drop in your overall cash flow.
Why? Because the money you bring in has less spending power than it did in the past. It takes more money to cover your overhead expenses, such as supplies, equipment, and utilities.
How does inflation affect business growth?
Many business owners find that they need more resources to invest in their company, for example, pursuing expansion projects or purchasing new equipment. Inflation can make this extra challenging.
Additionally, inflation has come when the business community faces other challenges, including labor shortages and problems with the global supply chain. These supply constraints make it harder for companies to increase production or maintain inventory.
Moreover, loans can be harder to get due to inflation. The government often raises interest rates to rebalance consumer supply and demand to control inflation.
A potential benefit of inflation is that servicing one's debt could become less expensive as the existing debt's value declines. This can help free up cash; however, whether this is beneficial depends on if the cost of borrowing increases––and if inflation expectations remain well-anchored.
7 strategies your business can use to fight inflation
Can your business ease inflationary pressures and learn how to deal with inflation, even in an unstable economy? Yes, it can.
You can't control some things, like the higher interest rates attached to business loans. But you can still change your financial operations to handle the demand brought on by higher inflation.
Here are seven tips to help you learn how to mitigate the impact of inflation on your business.
1. Increase prices
Charging more for your goods or services may sound like a last resort, but chances are your customers already expect to pay higher prices. Price increases can ensure you have enough money to meet your basic expenses while still generating a profit.
Tread lightly, however. You might start with a small price increase, then make adjustments as your costs increase. This is also where competitive analysis comes in handy. Look to your competitors and align your prices accordingly.
2. Update cash flow projections
Entrepreneurs might update their financial projections to reflect future inflation assumptions and make more informed decisions based on this data.
Your leadership team might run various what-if scenarios to plan for your company's future. For example, you might consider the answers to these questions:
- How will you pay for future loans if the Federal Reserve raises interest rates?
- How might you respond to a spike in employee wages?
- What happens to your prices if the cost of materials or inventory increases?
- How much emergency savings will you have if inflation continues?
You can respond to these questions by examining your cash flow and financial projections. The answers will provide a thorough understanding of what to expect under current economic conditions.
3. Automate your core processes
Many companies are turning to automated tools to manage their most important processes. These tools offer many benefits and allow you to do more with less.
Automated software can manage repetitive tasks and administrative processes. As a result, you'll spend less time on your back-office responsibilities and more time focusing on growing your core business.
For example, you can use accounts payable (AP) automation to manage vendor payments, which can help you keep tabs on the flow of cash out of your business. AP automation also offers two- and three-way matching, comparing invoices to bills of goods and purchase orders and automating the process to protect you from fraud.
Still, other tools can send invoices electronically, allowing you to get paid more rapidly and accelerating the rate at which money flows into your business.
Also, these tools provide total visibility, letting you keep track of every dollar flowing in and out of your company through a secure, user-friendly dashboard. This information can fuel your strategic decisions and help you stay agile in a volatile economy.
4. Reduce costs
Mitigating inflation may require you to do some monetary tightening—cutting back on expenses that are eating into your budget.
Here are a few ideas to get you started:
- Order less inventory to free up money otherwise tied up in unsold products
- Negotiate with suppliers for a lower price
- Automate core processes to save time
- Pay down business debt to avoid high interest rates
- Keep records of deductible expenses to reduce your tax liability
These steps won't necessarily help reduce inflation, but they can at least reduce squeezes caused by cost increases and free up money you can use elsewhere in your company.
Overall, your goal should be to scrutinize every expense, which will help you reduce the impact of inflation and maximize margins.
5. Create an emergency fund
Every company should set up an emergency fund. An emergency fund will ensure you maintain sufficient cash reserves even if your customer volume or revenue drops. It can also allow you to meet the demand of higher operating costs and ensure that you and your employees receive a paycheck regardless of how well your business is performing.
Generally, aim to set aside three to six months of operating costs. Granted, the economy may not improve in this time frame, but it will give you time to adapt and recover from inflation-related challenges. And in the long run, an emergency fund can protect you from resorting to a credit card to cover immediate costs.
6. Consider strategic financing
Not sure how to mitigate inflation? Many companies pursue financing to maintain operations as prices rise. The hope, of course, is that these loans will sustain operations so that the business can repay the debt once the economy stabilizes.
Common types of loans include:
- Working capital loans to increase cash flow
- Equipment loans to purchase new tools or equipment
- Business lines of credit for revolving needs
These loan options can provide the resources you need to cover your business expenses and prevent you from having to institute higher prices or curb your spending during challenging economic times.
Unfortunately, you could face higher interest rates as the Federal Reserve continues to make adjustments to tame inflation. You'll need to ensure you can afford the loan at the current interest rate.
7. Diversify supply chains
Supply chain issues make it harder to keep your shelves stocked and your customers happy. Counter this challenge by diversifying your network of suppliers, allowing you to remain agile and make quick decisions when facing supply chain disruptions.
Likewise, e-commerce merchants might choose warehousing and distribution venues scattered across the US, which ensures that products can reach customers more quickly.
Don't just survive––thrive
You've worked hard to build your business. Inflationary pressures don't have to set you back. With the right tools and support, you can learn to thrive—and not just survive—in the current economic environment.
BILL can help you with strategies to help mitigate the impact of inflation. Our powerful tools deliver state-of-the-art business performance and automated features to help you achieve your entrepreneurial dreams. With our automated tools, you can send invoices, manage your accounts payables, and oversee your company processes through a centralized interface.
Want to dig deeper into cash flow strategies? Check out the guide we created in partnership with the Institute of Financial Management (IOFM) on how to mitigate inflation through better cash flow management.