Inflation is soaring. In the UK, the Consumer Prices Index – which measures the average change in the cost of a basket of goods and services over time – hit a 40-year high of 11.1% in October 2022. Experts blame a range of factors, ranging from energy shocks to the War in Ukraine for the sharp upturn. Whatever the cause, rates will likely stay well above the Bank of England’s 2 per cent target for at least a few years.

So how is this affecting small businesses and what can they do?

How inflation affects small businesses

While high inflation affects everyone, small businesses are particularly vulnerable. The first thing you will notice is that your running costs go up. The strain on your purchasing power comes from many directions, including:

Rising costs of inputs

The cost of everything from raw materials and inventory to fuel and therefore delivery costs may go up which leads to higher operating costs.

Higher cost of labour

As the cost of living crisis bites, employees may ask for higher pay to keep up with inflation. This can put a strain on small business owners, who often have very limited resources.

Higher costs of borrowing

To cool inflation, the Bank of England raises interest rates. This makes borrowing more expensive, which can be a major issue for small businesses that rely on loans to keep their business afloat.

Put this together, and you have a difficult situation: do you raise prices and risk losing customers, or absorb the costs and see your profit margins shrinking?

Tips for protecting against inflation

Fortunately, there are ways to protect your business from the effects of inflation that do not always involve price increases. Here are a few ideas to consider:

1. Monitor costs closely

Keep track of what you’re spending and look for ways to cut costs where possible. Your accountant can help you figure out which spending categories are costing you the most and whether you have low-hanging fruit areas where you can trim your expenses. For example, when did you last review your service contracts – phone, internet, equipment leases, IT and anything else you pay for on a contractual or subscription basis? Do the service levels still work for you or are you paying for services you no longer need?

2. Look at all your revenue opportunities before you raise prices

If your costs have gone up by 10 per cent, you may think about increasing your prices by 10 per cent to make up for it. But this could be the worst way to bring in more revenue as it’s likely to drive away customers who are also feeling the crunch. Instead, look for other opportunities to bring in more income. Could you:

• Leverage existing relationships to bring in more business?
• Stop selling products with low margins to save costs?
• Raise the price of your best-selling products or services while keeping entry-level prices low?

If you need to raise prices, it’s worth considering a tiered pricing structure so that customers paying more get something extra in return. This could be a better customer experience, extra features or services or simply more of the same product.

3. Manage cash flow wisely

Cash flow is the lifeblood of any business and managing it will be key to surviving inflation. Review your receipts and expenses regularly and make sure you’re aware of any payments that are due. Ask yourself: Is the cash coming each month high enough above your expenses? Are you invoicing regularly? Are clients paying on time? Do you need to adjust your payment terms to help you manage your income flow better?

The other side of cash flow is debt. This becomes more expensive as interest rates rise, so try to take a bite out of the principal amount when you can. Switching to a fixed rate can help you budget better, as your payments will stay the same no matter what happens to interest rates.

4. Pay attention to productivity

People will only pay what they can afford so, if raising prices is not an option, you’ll need to find ways to do more with less. If you still rely on manual processes for daily tasks like data entry or invoicing, look for ways to automate them. There are lots of free and low-cost apps to help you automate repetitive tasks, from bookkeeping to customer care. Invest in the right tools and training to help your team work more efficiently – saving just 4-5 hours a week could add up to a 10 per cent increase in productivity.

Final thoughts

As tough as inflation may be for small business owners, there are steps you can take to protect your business and make sure it is still profitable despite rising costs. Monitor costs closely, look for other revenue streams beyond price increases, manage cash flow wisely and invest in tools to help your team work more efficiently. Doing this will put you ahead of the game when it comes to keeping your business thriving in a tough economy.