How to Deal with Inflation as a Small Business

Rising inflation can have a devastating impact on small business owners. Operating expenses, including employees' wages and rent, increase, and supply chain issues crop up as the market becomes more competitive and less reliable. Shipping costs may also increase for you and your customers, and imports become more expensive. Sometimes the only way to deal with these expenses is to raise prices, which can reduce the demand for your goods or services. Fortunately, there are tactics every small business can try to manage the cost of inflation.

Inflation is the sustained rise of the price of goods and services correlated to the decline in purchasing power within the economy over time. The rate at which purchasing power drops is reflected by the average price increase of a basket of selected goods/services over a set period. Inflation is measured and expressed as an annualised percentage change in a general price index, e.g., the Consumer Price Index. Higher inflation usually leads to higher interest rates as lenders attempt to protect their investments from being eroded by inflation, which leads to higher mortgages and debt payments, higher consumer prices and reduced economic activity. 

In September 2022, the UK inflation rate hit 9.9%, well above the target of 2%, primarily due to an increase in energy prices following the war in Ukraine and the continued effects of the global pandemic, which led to supply chain disruption and global shortages.

Many small businesses will feel the impact of inflation as gas, airfare, real estate and business purchases increase. Your customers, who have also been affected by rising prices, will likely tighten their belts and reduce spending wherever possible, compounding the effects of rising inflation on your bottom line as you may lose customers altogether. Fortunately, you can counter inflation through robust financial planning, cutting down on overhead costs and adjusting your pricing and purchasing strategies to move your business forward.

1. Update your Books

When you are hit with high inflation rates, the first thing you should do is get acquainted with your books. If you don't have a robust bookkeeping system at your disposal, make sure that you implement one, either through accounting software or by hiring an accountant to take care of it for you. Make sure you stay ahead of expenses and receipts to have complete control and a clear picture of the company and your spending. This will help identify cost-cutting opportunities and waste within your business and position you to track the effects of inflation on your business so that you can respond to changes quickly. 

2. Re-Strategise

Most businesses see their strategies as set in stone, but you need flexibility to combat inflation. Audit your prices with a new break-even analysis to determine whether price changes could improve your profit margins. (Bear in mind that customers may churn due to the higher costs, so carefully weigh your pricing options before making a decision).

Next, take a closer look at your costs. Raising prices may not be the best solution, especially if you can lower your production costs or overheads. Can you cut any inefficiencies in your manufacturing? Save time or boost productivity through new business processes? Simple changes can have a significant impact on profit margins.

You may even want to create a new cash flow forecast and budget that considers rising costs.

If you need to raise your prices in keeping with the global economy, do it gradually so that you don't alienate your customers with sudden price increases.

3. Cut Unnecessary Operating Expenses

As a business owner, you must take a hard look at your operating expenses. The small cost-cutting measures can improve your profitability, so curb unnecessary spending and waste wherever possible. Legal fees, advertising, subscriptions, office supplies, rent, travel and other operating expenses may feel essential, but having more money in your pocket trumps creature comforts. Swapping client travel for virtual conferences, moving to a less expensive postcode, and shopping for better insurance rates are just a few ways to save money.

4. Delay Major Purchases Until The Economy Stabilises

High inflation rates won't last forever, and while it will pressure your business, all you need to do is weather the storm until things normalise. The Bank of England expects inflation rates to slow and drop below 2% by 2024. Until then, it's best to delay major purchases (such as overhauling your IT infrastructure, purchasing new vehicles or moving to larger premises) until the economy levels out. Stay conservative and frugal in your spending unless you are in an emergency that requires a significant investment to keep your business running.

5. Consider Rebranding/Repositioning

Inflation may be the opportunity you've been looking for to realign your pricing and go after different customer segments. You could raise prices and rebrand as a more premium company to attract more lucrative new customers or lower prices to attract a more significant volume of customers that are price sensitive and looking for a better deal elsewhere. This could also be a great time to consider expanding your product offering, e.g. leasing underutilised equipment or vehicles or introducing new service packages and tiers.

High inflation can be unnerving for many businesses. While you can't control changes in the economy, you are in control of your response. Make sure that you address the impact of inflation head-on by reducing costs, increasing profits and strategising so that you can keep growing your business as planned.