Inflation – the overall increase in prices of products or services over a period of time – hurts small and medium enterprises (SMEs) more than any other institution. This is because in addition to a reduction of their capital’s purchasing power, their suppliers tend to increase the prices of raw materials and services.
How can businesses cope with inflation?
While you can always expand to new markets and try to increase your clients, you also need an operational strategy that will get you faster results or cut out unnecessary losses in the short term. Thus, to combat inflation, all businesses – and not just SMEs – tend to employ one or many of these five operational strategies:
1. Raise Prices
To compensate for losses, you can increase the price tags of your products or services.
You can have a one-time big price increase when a key component of your products or services has been greatly hit by inflation. For example, bakery owners charge higher when wheat prices rise. However, to make higher prices less noticeable, it’s best to increase prices gradually.
For service-based and B2B businesses, raising prices regularly is good practice, since clients typically expect price increases once in a while. B2Bs tend to increase pricing after a year with their clients. Some even use it to upsell customers into a lock-in period, so they can dodge the price increase for a few more months or retain their initial pricing.
Increasing prices is fine when customers perceive that your products have superior benefits or quality to those of competitors. Done right, a price increase can even reinforce this perception.
If your product or business is not unique, or your customers are particularly sensitive to price increases, prepare for clients to switch to an alternative product or supplier with a lower price. To prevent this, ensure that you are offering something unique to your customers – be it exceptional customer service, expertise, or extra benefits that have a higher perceived value, such as one-time free servicing.
2. Reduce product or service quality
Some SMEs keep their prices stable by downgrading quality – using different raw materials, decreasing sizes, or reducing features. For example, a clothing shop might switch from 100% cashmere to a 50-50 cotton-cashmere blend. A cosmetics store can use ingredients that are waterproof, but without sun protection.
Reducing the quality of your product or service helps you cater to certain customer segments. Some clients are satisfied with simple, functional products. Others are only looking for certain features and don’t want to pay for tricked-out, feature-heavy products. Done right, this strategy can encourage customers to buy your products in greater quantities.
If your brand image and customer priority is product quality, downgrading will create a bad brand image.
3. Reduce profit margins
The goal of businesses is to have revenue exceed the costs of producing goods or services. However, to increase your sales volume, you might have to do the inverse – reducing your expected income. You can lower your prices until they’re too good to be true, or offer big discounts to get customers to switch to your business.
Lower prices can increase the number of customers, or the purchase volume of each customer. However...
...at the end of the day, your total revenue will equal – or worse, lower – than the cost of your operation and production. Customers may also equate your lowered prices to lower quality. Your long-term funds for operations will definitely deplete faster.
Thus, this is a dangerous strategy meant for a very short term, and only for experienced entrepreneurs. A better solution to increasing sales volume is to improve marketing, reaching customers who can absorb higher prices. You can also buy non-perishable supplies in bulk, or reduce unnecessary production costs such as elaborate packaging.
4. Change pricing model
Instead of an outright price increase, you can offer subscription-based pricing. It enables customers to pay for your services weekly, monthly, or piecemeal.
Bundling products is another way of increasing revenue, by selling a collection of complementary products. You can sell products as a set, such as a vacuum with multiple tube attachments. A third model is to selling one item with the option for add-ons, such as additional services and complementary items – reducing their price every time an upgrade is added.
This model can provide a more regular income, since it retains customers by spreading out costs for them. It is more acceptable to clients because you’ll only ask for payment once your product or service is consumed. Customers are also given the illusion of choice, since they can stop or renew subscriptions anytime. Lastly, this model can be cost-efficient in the long term because orders and payments collections are automated.
As for bundling, it helps prevent customers from focusing on individual prices and makes your bundled price seem like a good deal. It can also introduce a low-performing product line in your bundle, which customers might initially ignore but like in the end and repurchase.
You must absorb a big loss upfront to set up your new pricing model and automation process. For subscription and bundling models, it also won’t prevent customers from canceling abruptly or switching, should they find a competitor offering the same product or single products for lower prices.
5. Change product lines
Inflation changes customer preferences, as they also adjust their expenses and needs to maximize their purchasing power. SMEs can tap into this by introducing new products or eliminating slow-moving products to match customer preferences.
This strategy increases revenues by reaching new customer segments, or focusing on increased production of items that are drawing repeat buyers. It also helps you save on production costs and improve your profit margin.
Research and development for new products might require a huge upfront cost on your business if the products are complicated. Thus, it’s important to gather customer feedback and track inventory regularly to ensure your new product lines will be worth the investment.
Can a business loan help your business deal with inflation?
Short answer? Yes. Whatever strategy you choose, you’ll likely need funds – to expand your marketing, develop new product lines, increase production, or simply plug cash flow gaps.
First Circle’s Revolving Credit Line is an SME loan that you can use to fund your plans and cash flow gaps whenever you need it – giving you the focus to grow your business. It is a flexible short-term business loan with the following benefits:
- Apply once and access up to ₱10 million of re-usable credit
- Interest rates can go as low as 1.39% per month
- Processing of applications in 5 business days
- Exclusive account manager
First Circle is a multi-awarded lending company supporting SMEs since 2016. To apply for a Revolving Credit Line, click here.