As a small business owner, I’ve been thinking a lot lately about inflation and how it will affect small businesses across the country, and importantly what entrepreneurs can do about it.
It seems to me there are three obvious ways to manage inflation: raise prices, buy in bulk, and moderate your labor costs. But first, let’s take a look at some data to understand why small businesses need to take inflation seriously today.
Inflation by the numbers
Above all, you need to accept that inflation is happening. It’s not just a blip in the data. Historically, rates have been in the target 2-3% range over the past decade. That is until its rapid ascent in 2021.
By their own admission the Federal Reserve, aka ‘the Fed’, which is the quasi-independent government agency charged with controlling inflation, was caught flat-footed. Lulled into wishful thinking by a string of relatively high, but stable rates last summer, the Fed decided not to take action until April of 2022.
Why does all this economic mumpo-jump matter to you as a business owner? It matters because high inflation is here to stay for at least the rest of 2022 and may remain elevated through 2023.
Currently, the 2022 annual inflation rate is forecasted to be 8.6%. Add this with a loosening, but still tight labor market and whipsawing supply chains and it’s likely your business is starting to feel some pain on multiple fronts.
Now that we can clearly see inflation is here to stay for the foreseeable future it’s time to talk about what you can do to address inflation. And it starts with raising prices.
1. Raise prices
Yes. Do it. As small business owners, we often are scared into inaction by fear. What if my customers quit and go to a competitor? They won’t. Or at least if you do it right the vast majority will not if you do it right.
Also, remember that inflation is constant. If you don’t raise prices every three to five years, on average your expenses go up over 10% while your margins take the squeeze. Here’s how to raise prices.
First, never underestimate telling your customers why you are important to them. They need to realize the value you bring. This can easily be done with a monthly newsletter. Second, find small ways to add extra value (or tell them what you’re already doing that your competitors do not). Third, give some advanced notice, 30-60 days is plenty. And finally, don’t be dramatic about it. Be short, factual, and to the point.
How much you should raise prices will depend on your specific situation, but 5-10% should fit the bill for most small businesses. And remember, you can always make one-off exceptions for special circumstances or your largest customers if they push back.
Recently I took this step into the abyss myself. In March this year, I gave my customers a 45-day notice that prices at my company PhotoUp, which is a service for real estate marketing, were going up effectively 10%.
Was it scary? Yes! Did we lose all our customers? Not even close. To be clear we did lose customers, however, they were the right customers to lose. In the end, our churn after two months was less than 5% and our revenue is higher than it was without the change.
Alternatively, if 10% feels too scary you can implement raises over time, say 3-5% every few years. While I strongly believe every small business should consider raising their prices this year, there are a few other options.
2. Buy in bulk
If you are a product-based company, one way to deal with inflation is to ‘buy down’ inflation by purchasing larger quantities of your raw goods to improve your gross margin. This is pretty straightforward but can be challenging for small companies as obviously it drains your cash and can trigger higher taxes if you don’t properly plan.
Many product-based companies are already doing this given ongoing supply chain challenges, but if you aren’t and are in a good cash position, this could be a good option for your business.
3. Moderate your labor
Moderating labor is another way you can navigate inflation, especially if you are a service-based company. With such a tight market, the cost of labor has been jumping quickly. While I generally support higher wages for employees, you do need to be smart, even creative, about your labor costs.
One company I advise for, Metolius Tea a wholesale tea supplier, has recently seen their labor cost nearly double due to inflation. While they have a standing 6-month employee review process for raises, they recently set expectations with employees that raises will be on the lower end of their raise tables until inflation normalizes.
But Metolius did more than just tell employees raises would be smaller, they also shared their profit and loss statements to all employees so they could see just how much wage costs have increased to give them perspective on the situation.
This also opened a healthy conversation about profit-sharing with employees to help retain talent in the long term.
So whether you raise prices, buy in bulk, moderate your labor costs or something else entirely, the important thing is that small business owners take action to manage rapidly increasing costs.
Author: Kristian Pettyjohn, CEO of PhotoUp