Do you remember how much you used to pay for a decent cup of coffee at a local cafe a few years ago? For me, it was something like $2. But these days, I find myself paying $4 or even $5 for that same cup. Now, it's easy to just asssume that the cafe owner must be making more money by charging higher prices in "dealing with inflation". However, that's not necessarily always the case.
Just imagine that you are the one running that cafe now. Higher energy prices mean that you have to pay more to keep the lights on and the coffee machines running. Meanwhile, you also got your suppliers charging more to deliver coffee beans and milk as a result. And then, you have your employees also asking for higher wages to cope with the rising cost of living.
All of a sudden, that $2 cup of coffee isn't quite as profitable as it used to be. And so, the obvious solution would be to raise prices, right? Well, not so fast there.
You could charge $5 for a cup instead, but what if your regular customers start making their own coffee back at home? Or worse still, what if the cafe across from you decides to keep its prices at $4?
That is precisely the uncomfortable position that many businesses are finding themselves in when inflation starts biting. They can either choose to absorb the higher costs themselves and accept smaller profits, or raise prices and risk losing customers. That is a very tough balancing act to manage.
And the latest Kansas City Fed survey draws evidence on the fact that businesses just don't have that much room to manoeuvre. The survey found that that many firms were passing on only a small portion of their rising costs to customers, with 53% of services firms passing on less than 20% of their cost increases in February last year. In other words, many businesses were left footing most of the bill themselves.
In bringing this same problem to the stock market, you might find that even if a company reported higher revenue from increasing its selling prices, that does not automatically translate to stronger earnings. If operational and production costs are rising faster than sales, then profit margins can still shrink. And if consumers start buying less as prices climb, businesses face another headache altogether.
Rising revenue might look impressive, but it doesn't tell us how much money a company actually gets to keep. As such, it is well worth to be watching out for profit margins and sales volumes during earnings season.
To put things more simply, inflation doesn't just mean that customers are paying more for everything. At times, it means that businesses are also earning much less.
This article was written by Justin Low at investinglive.com.from Investinglive RSS Breaking education Feed https://ift.tt/cKTIR43
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