10 ways to mitigate the business impact of inflation
Businesses across Canada that navigated the pandemic storm and thought they were in the clear soon faced another major challenge: widespread inflation. Rising prices have impacted the cost of everything from labour and materials to machinery and services across sectors.
The latest Statistics Canada data puts the official inflation rate at 5.7 per cent year over year, but estimates are far higher for some inputs and fuels—think lumber and diesel, as just two increasingly costly examples. The war in Ukraine, uncertainty over the future course of COVID-19 and ongoing supply chain issues are just a few of the factors that have pushed prices to 40-year highs. As a result, many entrepreneurs—especially younger owner-operators—are waging a war against inflationary pressures for the first time, or at least the first time in a generation.
Then there are the workforce changes likely to become entrenched in the wake of the pandemic. With unemployment at post-crisis lows, it’s a seller’s labour market and many workers are aiming to cash in. The Great Resignation may not be playing out exactly as projected in Canada, but anecdotal reports from our clients underscore a new level of mobility and confidence among skilled professionals. Their services are in demand and they’re not afraid to job-hunt to maximize their market value. This only adds to the wage pressures bearing down on organizations, some of which are still trying to find their footing amid the recent lifting of social distancing and other operational restrictions.
To put it mildly, inflation is creating strong headwinds for mid-sized organizations across Canada—but they can take active steps to mitigate its effects. Here are 10 ways to deal with rapidly-inflating prices:
Evaluate your revenue streams—If you sell discretionary goods or services, it’s unlikely that you can compete by adjusting prices to fight inflation. Instead, consider reconfiguring your revenue forecasts to accommodate inflationary pressures and set realistic revenue targets based on prevailing marketing conditions.
Review labour costs—As noted above, wages are slowly creeping up, especially in knowledge-based sectors, but also in industries where skilled trades are in demand. These increases could have a significant negative effect on profit margins, so be prepared to factor this into revised forecasts. With price inelasticity—if your organization sells a must-have component or service, for example— a company can raise prices to protect margins as demand drops. In all other cases, it becomes necessary to find ways to reduce costs to retain customers. Finding ways to keep labour costs under control can be a vital way to preserve already-squeezed margins.
Find other cost savings—As prices increase, you may need to find ways to reduce costs beyond labour, perhaps in virtually every area of your business. This could include layoffs or finding new production efficiencies, for example. The goal will be to trim expenditures and improve return on operating investments, but without compromising product or service quality. Another strategy: working to secure long-term contracts with suppliers and trying to fix costs at current prices before they rise further.
Consider borrowing now—Interest rates are poised to rise sharply in the months ahead as the Bank of Canada works to put the brakes on inflation. It makes sense to secure your operating line of credit at current rates, while borrowing now for capital acquisitions and securing fixed long-term rates where possible.
Take steps to retain your customers—It’s almost certain that you will need to increase prices for your goods or services in the near- to medium-term. Despite inflationary realities, some customers may balk at price hikes, so be proactive. Taking steps such as implementing loyalty programs and offering other incentives can help mitigate the risk of them seeking out alternate vendors as prices rise.
Consider automating—As labour costs increase, you may need to look at increased automation in order to bring operating expenditures down and to maintain profit margins as you work to achieve key strategic and financial goals. For example, this could involve everything from making capital purchases of automated machinery (for manufacturers) or using automated tools such as website chat bots (for online service providers) to reduce direct staff involvement in your company’s digital sales efforts.
Have cash on hand—Remaining (at least somewhat) liquid is a good hedge in times of financial crisis. When inflation is raging, the purchasing power of cash is diminished, but it may be feasible to use surplus cash funds to purchase equipment to further strengthen your operations and find new bottom line-boosting efficiencies. Careful cash flow management will also be critical in the months ahead. Your Chartered Professional Accountant can be an indispensable resource when analyzing relevant balance sheet metrics and making necessary organizational adjustments to improve your financial standing.
Look for opportunities to diversify—In markets outside of Canada, inflation may not be having quite the same impact as it is here at home. That could offer opportunities to begin (or to do more) exporting, namely by leveraging the benefits of a weaker Canadian dollar that make our goods and services less expensive to foreign customers (the U.S. is many Canadian companies’ natural first export target). Use your website and social media channels as a tool to market to foreign customers. A client of ours did exactly that in 2021 and saw their revenue and bottom line double within a year.
Analyze your financial ratios—Pay close attention to your company’s financial ratios on any outstanding banking covenants and be prepared to pay down debt or renegotiate rates before the bank comes calling. Why? As interest costs increase, this could decrease ratios such as debt to tangible net worth, debt service coverage, etc. Higher labour and other input costs (without a corresponding increase in sales revenue) will decrease operating profit and EBITDA (earnings before interest, tax, depreciation and amortization), which is often a main component that’s analyzed in key banking ratios. Thinking proactively and taking action before the bank begins scrutinizing your books—and potentially calling in loans—will help to reduce the likelihood that you’ll be forced to make inopportune strategic decisions as financial pressure mounts.
Hartley Cohen, Partner
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