Most people in business are pretty familiar with how much it costs to produce their product. It would be hard to stay in business if you didn’t. Material and labor rates fluctuate from year to year but overall the trend is up other than the rare event like we are seeing in the oil market. So, regardless of any government Producer Price Index (PPI) you could probably create your own PPI. However, the cost of production has so many variables from region to region and from industry to industry and depending on tool and equipment renewal rates and cycle times etc. When it comes to labor rates you might think you know what wages you can pay your labor but if it is not keeping up with the true inflation rate you will have more and more difficulty keeping top talent and you will have an increasingly disgruntled workforce. Being an innovator means being empathic to the needs of society and understanding the actual conditions your workforce is working under. Imagine you live in Russia with an estimated inflation rate of over 8% or Argentina where the rate is over 41 percent and you have seen the value of your savings and your wages drop precipitously. It is very likely that these conditions will have an detrimental affect on worker productivity and therefore the cost of producing your product. It should also influence the amount of profit margin you require in order to stay in business. If your net profit margin is 10 percent and you live in 41percent inflation then your true net profit needs to be higher to help with the rapid loss of value. The problem with inflation is that it’s stealthy and not always easy to measure and that makes it harder to know if your business is truly profitable or just losing money less fast. In Argentina because of the extreme distrust of the official government inflation rates, and the threat of fines preventing private consultants from publishing their own estimates, a group of opposition deputies have released their own statistics based on private estimates every month since June 2011. Russia doesn’t look bad at all when compared to Argentina but compare the Russian inflation to that of the US which is about 1%….officially. However, there are private consultants and economists that suggest that the US rate is much higher, as much as 9 percent, and if so what does it mean to business professionals? Here is the real rub when it comes to inflation and why it is so important.
If your production costs go up 10% from $100 to $110 you might think you can just keep your 10% profit margin and it will all be fine because it is on the increased cost of production. As in, you take home $11 dollars instead of the usual $10 but that is only true if the profit is immediately invested gainfully, if not and it sits in the bank as liquidity, then inflation immediately begins to nibble at the value. Also, if the wages you pay yourself and your workforce do not keep up with inflation then your take home pay is actually less each year and it will be more difficult to keep up with the cost of living. For instance, if the actual cost of living is going up 9 percent each year then you should be getting a 9 percent raise each year! Now, there are not too many businesses giving 9 percent raises or raising the price of their products 9 percent each year. So, the bottom line is that when you are seeking to measure the value you are producing you need to at least be capable of adding the actual cost of living increases to your labor rates and still be profitable or you are actually in a declining market. Eventually you will have big labor and production issues to deal with when people really wake up to inflation!
If your production costs go up 10% from $100 to $110 you might think you can just keep your 10% profit margin and it will all be fine because it is on the increased cost of production. As in, you take home $11 dollars instead of the usual $10 but that is only true if the profit is immediately invested gainfully, if not and it sits in the bank as liquidity, then inflation immediately begins to nibble at the value. Also, if the wages you pay yourself and your workforce do not keep up with inflation then your take home pay is actually less each year and it will be more difficult to keep up with the cost of living. For instance, if the actual cost of living is going up 9 percent each year then you should be getting a 9 percent raise each year! Now, there are not too many businesses giving 9 percent raises or raising the price of their products 9 percent each year. So, the bottom line is that when you are seeking to measure the value you are producing you need to at least be capable of adding the actual cost of living increases to your labor rates and still be profitable or you are actually in a declining market. Eventually you will have big labor and production issues to deal with when people really wake up to inflation!
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