The accuracy of economic forecasts has been heavily criticised in the wake of the Brexit vote but there is one universal prediction for 2017 that seems likely to come true and that is an increase in inflation. The fall in the value of Sterling since the referendum makes some price rises inevitable.
What does this mean for your business? Should you be following the manufacturers of Marmite and looking for a price increase of 10%?
With pricing and margins it’s really important to understand the science behind the numbers. Do you know what impact a 1% increase in costs, volumes or margins might have? Studies on this were carried out by Mckinsey & co and A T Kearney with the results making interesting reading:
| McKinsey | Kearny | |
| Reduce fixed costs by 1% | +2.7% profit | +1.5% profit |
| Increase volume by 1% | +3.7% profit | +2.5% profit |
| Reduce variable costs by 1% | +7.3% profit | +4.6% profit |
| Increase price by 1% | +11% profit | +7.1% profit |
A 1% increase in price can deliver a profit increase of up to 11%.
What many businesses are doing at the moment is absorbing price rises from suppliers and not increasing the price their customers pay. But how many businesses can afford to do this on a long term basis and do they really understand the impact on their businesses? Absorbing cost increases has the same impact on profit as discounting and the impact on profitability is highlighted in the table below:
If the present margin is…
| 20% | 25% | 30% | 35% |
…sales must increase by the amount shown to keep the same gross profit:
| 2% | 11% | 9% | 7% | 6% |
| 4% | 25% | 19% | 15% | 13% |
| 6% | 43% | 32% | 25% | 21% |
| 8% | 67% | 47% | 36% | 30% |
| 10% | 100% | 67% | 50% | 40% |
An across-the-board increase in costs could have a negative impact on profit of up to 10%.
Making a conscious decision to absorb price rises from suppliers is a perfectly reasonable business decision providing you have analysed the impact on the business in both profit and cash flow terms. It is imperative that you understand, for how long, you can maintain this position before needing to adjust prices.
What this highlights is that with the spectre of inflation casting its shadow, now would be good time to undertake an in depth review of your business to mitigate any negative impact or spot any positive opportunity.
The Informed Alliance process takes a holistic approach to identify these key issues and through very detailed analysis of the whole business, identifies key actions to reduce the impact of inflationary pressures from the supply chain and to maintain profitability
To learn more, please contact a member of the Informed Alliance team on 01392 210700 or by email informed.alliance@stephens-scown.co.uk