Keeping your company prepared for an inflationary environment
By Steve Guglielmo and Mike Vaughan
“The industry may be facing an inflationary environment within the next 3-5 years and members need to understand and be prepared to operate their businesses during these conditions.” – MHEDA 2015 Critical Impact Factor Number 12
The past four years have been a renaissance for MHEDA members with many having experienced record sales and many more expecting to exceed those records in the coming years. It’s a far cry from where the industry was not too long ago, as the entire country was in the throes of the Great Recession. One of the things that has aided these record profits is that we are experiencing the lowest sustained level of inflation in more than 15 years.
“My gut tells me that with economic forecasts that indicate a healthy business environment, there will be some inflationary pressures within the next 3-5 years,” says Liftech Equipment CFO and MHEDA Board Member Mike Vaughan. “I believe it will be later than sooner. Predicting inflation is a complex exercise but most financial professionals believe that interest rates cannot continue at these historically low levels. An increase in interest rates seems to be policy that is aimed at controlling the increase in inflation.”
On August 12, New York Federal Reserve Bank of New York President William C. Dudley delivered a speech in Rochester, NY. In that speech, according to Bloomberg Business, he said, “Hopefully we’re going to make progress in terms of our goals” for maximum sustainable employment and inflation of around 2 percent. “And so hopefully, in the near future, we’ll be able to actually begin to raise interest rates. When that is, precisely, depends on the data.”
Any hike in interest rates would be the first in more than nine years, since December 2008. As of Saturday, August 15, Bloomberg pegged the probability that the Fed would raise interest rates in September at 48 percent. A raise in interest rates would be an attempt to prevent the economy from stagnating while also controlling future inflation.
But inflation doesn’t have to be a calamitous event for MHEDA members.
“Sound fiscal practices such as a continual focus on operational efficiencies and strong balance sheet management will enable material handling companies to weather the adverse effects of inflation,” says Vaughan. “Rising interest rates often bring pressures from lenders to reduce balance sheets and shed companies of slow moving, aged or unproductive assets. Managing aged machine, parts or component inventories results in investment in inventory that turns itself into cash more frequently. Managing aged receivables results in shortening the cycle between paying for goods, inventories and payroll and when we receive payments from customers. You can also manage business being done with potential customers who will struggle to pay on time. Other practices include being cautious about the length of contracts you are negotiating. You need to be mindful during inflationary times with projects that take longer than a year – your cost today will likely cost more in the future so you need to build in inflationary adjustments to cost projections. These projects could include long term warehouse/engineered systems installations or guaranteed maintenance contracts for equipment.”
While being prepared for inflationary times can help insulate members from the negative impacts of inflation, being unprepared can cause serious problems.
“While not as prolonged, inflationary levels were at similar levels in 2002,” Vaughan says. “Inflation rose at a manageable pace and many dealerships enjoyed very profitable years. Then 2008 hit and few expected it. If your company is unprepared for inflationary times, you will be forced to engage in short-term selling practices to dispose of inventory resulting in lower values. Your cash and liquidity will likely be stressed requiring you to pay slower than normal, resulting in your credit rating with lenders and suppliers decreasing. And employees will be less productive, resulting in lost productivity, higher costs and decreasing employee morale. Additionally, inflationary times usually bring increase revenues and per unit sell prices. It also can bring the mindset that wages can increase at faster levels. The problem is that when economies become more difficult, as happened in 2008, members have to resort to that reduced pricing to keep the business going. It’s difficult to reduce employee wages without reducing headcount.”
Since 2008, the industry has recovered to pre-recession highs. If inflation rates begin to rise, the stage could be set for similar problems for companies who aren’t diligent about focusing on operational efficiencies and balance sheet management.
“I believe that many members still remember the pain of 2008/09 very vividly and have worked harder to not lose focus. Many businesses have invested in technology to improve efficiencies and have focused on good balance sheet management to improve liquidity and cash flow,” says Vaughan. “I believe that the impact was so deep that many MHEDA members have vowed to learn from the past to improve the future and for that reason are planning in that direction. Also, many MHEDA members care deeply for their employees and want to continue to build a business environment that enables employees to grow. Businesses that are prepared for inflationary times create a growing culture versus a retrenching culture.”
To keep up to date with forecasting and planning, be sure to research economic indicators such as the PMI Index, the spread between the 10-year Treasury note and the 1-year Treasury note, trend of jobless claims and unemployment rates. Be sure to also utilize MHEDA membership benefits such as MHEDA-NET, the strategic planning process, the DiSC Report and MHEDA University.