What Inflation Means For Small Business
FIRM OF THE FUTURE —To answer this riddle, a report by Oren Cass of the Manhattan Institute proposes an alternative to inflation indices: the Cost-of-Thriving Index (COTI), which measures whether it’s easier or harder to make ends meet today than in the past (spoiler alert: it’s harder today).
ELEMENTS OF THE COTI
To approximate the financial pressures on a household, Cass compared the costs of a “basket” of four items that a middle-class family might purchase to weekly median wages. The items in the basket consisted of:
Annual rent for a three-bedroom house. Cass used HUD’s fair-market rent estimate for the 40th percentile in Raleigh as a representative community. Cost in 1985: $5,560; cost in 2018: $15,924.
Annual family health insurance premium. Here, Cass used data from the Kaiser Family Foundation for the cost of employer-sponsored plans. Although many middle-class families today rely on subsidies from an employer or the government, or simply forgo coverage, Cass wanted the index to reflect a self-sufficient family. Cost in 1985: $2,343; cost in 2018: $19,616.
One semester of college. A family sending two children to four-year colleges might expect to pay for 16 semesters of college. Cass used an estimate from the National Center for Education Statistics for the cost of tuition, fees, room, and board at a state college. Cost in 1985: $1,841; cost in 2018: $10,025.
Annual operation of a vehicle. Cass used estimates of average cost per mile driven from the federal Bureau of Transportation Statistics applied to 15,000 miles per year. Cost in 1985: $3,484; cost in 2018: $8,849.
RESULTS OF THE COTI ANALYSIS
To calculate the Cost-of-Thriving Index, Cass determined the number of weeks that a wage earner would have to work to purchase that basket of goods. In 1985, the total cost for the four goods in the basket was $13,227, which meant that 30 weeks of work would be needed. However, by 2018, that cost ballooned to $54,414, which would require 53 weeks of work to pay for them.
As demonstrated by the COTI analysis, in 1985, a single breadwinner could realistically expect to support a family. But, by 2018, this was no longer the case.
WHAT DOES THIS MEAN FOR ADVISORS?
While this analysis is far from perfect, this new index gives us a tool to quantify how much harder it is to make ends meet today than a generation ago. Cutting expenses isn’t enough when income doesn’t keep up with what families want to buy. Therefore, household income must increase. For advisors, this is a sobering reminder of the importance of helping our clients with financial planning and budgeting.
FORBES — Since the pandemic began, businesses have been struggling to deal with the rising costs of inflation. Covid-19 just fast-tracked the inevitable—ongoing supply chain issues made it harder to access goods, which drove up the prices.
Higher costs: According to a Business.org survey, 92% of small-business owners surveyed have dealt with rising costs since the beginning of the pandemic. The supplies and services you need to run your business are more expensive, and 26% have seen their costs rise by 20%.
Rising prices: Because running a business is more costly, over 80% of small-business owners have increased their prices in an attempt to counter inflation. Of course, this can be a risky move since some of your customers may not accept these higher price points.
Cutting overhead expenses: In addition to raising prices, cutting your overhead costs can be a good way to manage inflation. Many business owners have been forced to reduce their inventory, cut marketing costs and look for other ways to save money.
Tighter profit margins: And finally, rising costs often result in tighter profit margins. This makes it harder for businesses to reach their margins and remain profitable over time.
Inflation will never truly end because the value of what you receive is constantly changing. However, the current inflation we’re dealing with will level off at some point, and some sense of normalcy will return.
But until that happens, small-business owners need to find a way to manage the impact of inflation. And the first choice small-business owners need to make is whether they want to stay small or focus on growth.
Businesses have two options in today’s business environment—stay lean and mean or commit to growth. At this point, it’s hard to manage anything in between these two choices.
If you deliberately decide to stay small, you’ll want to focus on keeping your expenses low. Cut back on all nonessentials and look for ways to reduce your production costs.
Any money you save will improve your cash flow. You can also look for ways to spend more time marketing to your current customers to boost sales.
But saving money isn’t enough on its own—you also need to focus on investing your money. You need a way to multiply your money inside your business and outside of your business, and those investments need to be outpacing or, at the very least, keeping up with inflation.
Another option is to focus on growth so you can generate enough revenue to stay ahead of inflation and your competition. You can increase your marketing, revisit your pricing strategy and invest in your business. For instance, investing in technology can help you improve your productivity and get some of your overhead costs under control.
One way you can continue investing in your business is by taking out a small-business loan or line of credit. The Federal Reserve approved its first interest rate hike in two years in March. However, we’re expected to see six more hikes in 2022. That means you shouldn’t wait to take out a loan until you need one—applying now is your best bet for securing a low rate.
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