3 small business financial trends for 2023

From rising labor and energy costs to softening demand, small and medium-sized business (SMB) owners are dealing with unique challenges on a number of fronts. Although these financial trends are adversely impacting many small businesses, there is hope. Understanding the sources of the following issues, as well as potential solutions, can help you address challenges in ways that best leverage your company’s resources.

1. Softening demand

Consumer spending, which represents the majority of U.S. economic activity, is starting to slow. According to the U.S. Bureau of Economic Analysis, consumer spending increased by 1.1% in the first three months of 2023, down from 2.6% in October through December 2022. People spent less on eateries and hotels while increasing their spending on essentials such as healthcare, housing, and utilities. In addition, some banks are now tightening their lending criteria to reduce their risk exposure. Since this could make it harder to access the credit many use to make purchases, this tightening could further lessen demand.

Consider exploiting the following options to successfully address softening demand:

• Expand your market footprint. If you currently serve one city or town, consider expanding to neighboring locales. If your business solely serves consumers, consider providing an offering for small businesses or small offices with a similar profile to your existing customers.
• Rev up your marketing game. If your customers love you, capture their feedback in writing, audio, or video, and add these glowing customer testimonials to your online or social media campaigns. Lean into authenticity and burnish your business persona to the extent you and your employees feel comfortable.
• Use PR. If your business has a great story to tell or is doing things that are timely, you can capture the attention of business and other publications. If you — or someone on your team — exude charisma, leverage that in radio or TV interviews, podcasts and more.

While the above focus on going on the offensive to reach more customers, implementing the following suggestions can also help your business in a softening market:

• To retain existing customers and enhance loyalty, provide the perception of a deal. Package products and services in one or more combinations that customers typically buy, and then offer this bundle at a discount to singular pricing. Sell services over a time frame at a discounted price. Limit that time frame to encourage use, such as three haircuts within 90 days.
• Maintain pricing on higher-cost items but offset with smaller quantities. According to Fortune, many restaurants are now using this “shrinkflation” technique to offset costs and keep customers. Some food product companies are doing the same with smaller server packages at the same price point.
• To further support your bottom line, re-examine your product or service line. What sells the most? If you have products or services that are losing money, determine how to make them profitable. If you cannot, consider discontinuing them.

2. Rising inflation and interest rates

Rising inflation, interest rates and other macroeconomic factors were triggered by pandemic shutdowns, supply chain issues, increasing demand and the war in Ukraine. According to the Minneapolis Fed, before the pandemic recovery, the U.S. had been in a low inflation environment (below 3%) since 2012 but is on trend to be the highest since 1990. Although older businesses experienced such an environment in the 1990s or even 1980s, newer firms have not. While the news you see in the financial press may feel doom and gloom, by focusing on SMB best practices, you can prepare for and overcome these changes.

Consider these actions to counteract rising inflation and interest rates:

• If you’re thinking of getting a business loan, get one now to lock in rates at their current level. According to Freddie Mac, the average residential mortgage rate increased by nearly 2 percentage points between early January 2022 and late May 2022, from 3.22% to 5.1%. As of May 2023, the rate is 6.39%.
• Whenever reasonable, raise prices to pass price increases from your suppliers onto your customers. Absorbing rising costs will squeeze your margins and potentially lead to financial problems.
• Consider folding a working capital loan into an equipment or other term loan in order to lock in rates and avoid the variation you typically see in lines of credit.
• Pursue extended terms with suppliers, such as net 30, 45, or 60 days. These carry zero interest charges for timely payments.

3. Pricing adjustments

Business owners often focus solely on sales volume dollars as the determinant of business success. Although this is a natural reaction as sales drive business growth, only paying attention to sales can lead to margin deterioration, cash flow issues and losses.

In a competitive or inflationary market, business owners often feel pressured to reduce prices to maintain sales volume. In such cases, many owners want to provide discounts or cut prices. However, even on a temporary basis, this is rarely the answer. Few companies can generate extremely high (Walmart-like) volumes to justify low pricing.

Pricing is critically important. You need to price your product and services high enough to maintain the operating and net profit margins your firm needs to achieve strategic goals. In addition, the higher your profit margin, the more revenue flows through to your bottom line. Conversely, the lower your profit margin, the more revenue you need to generate to experience the same impact on the bottom line as certain cost reductions. For example, if you have a 10% profit level, a $10,000 increase in sales will produce the same impact as a $1,000 cost reduction on the bottom line. However, if your profit margin drops to 4%, you now need to generate $25,000 in revenue to match a $1,000 cost reduction.

To weather a changing market and strengthen your operations, try two things:

1. Strip out or reduce costs wherever you can. Reduce what you pay for goods and services by buying in bulk, negotiating lower prices or switching suppliers. Automate operational steps where possible.
2. Add “value” to your product or service by offering warranties or guarantees, high-level customer service, and customer checkups and follow-ups. Ensure you clearly communicate that value to customers so they fully understand your firm provides this as part of the price paid.

These three issues can place strains on your business profitability and cash flow, but the key is to think creatively about solutions and remain positive. All challenges can be dealt with and even lead to a stronger, more sustainable firm.

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