How Does Inflation Affect Your Ability to Sell Your Business?

It’s hard not to acknowledge the pervasive effect that rising inflation has on many aspects of our lives. We see it reflected in the higher prices we’re spending on everyday items like food, housing, and energy. We also see it in the falling values of our retirement accounts and investment portfolios. 

High inflation also affects our personal financial futures and wealth, as tense and uncertain economic conditions in the present make long-term goals like selling a business trickier to navigate.

This is all significant if you’re a business owner looking to retire, or if you’ve been planning to sell your business and diversify your investments with the resulting proceeds. You may be wondering how current inflation rates will affect your goals. 

Keep reading for an overview of how inflation can affect your ability to sell a business. Then, reach out to DGP Capital for their mergers and acquisitions advisory services to ensure you get the most out of any transaction or sale of your business.

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Inflation Before the COVID-19 Pandemic

From 1970 and 2021, the rate of inflation remained relatively stable, averaging between 3% and 3.5%. However, averaging this data conceals the big picture. Between 1973 and 1982, ballooning oil prices sent inflation soaring into double-digit rates, with the highest being 13.55% in 1980. The lowest rate during this period was still well over 5%.

One of the significant differences between this long-term inflation spike in the 70s and 80s, and what we’re seeing today, is that the mergers and acquisitions market back then was nowhere near as active as it is now. The number of buyers across both strategic partners and investment firms has expanded dramatically in the last two decades.

Causes of Inflation in 2021

To better comprehend the effect that inflation may have on your ability to sell your business, it’s helpful to understand the reasons for the latest spikes we’ve been seeing.

Since the onset of the COVID-19 pandemic, four major factors have driven the increase in inflation rates across the country. Most of these factors are direct consequences of the pandemic and the response to it.

1. Global Supply Chain Issues and Bottlenecks

As various global economies were forced to shut down over the course of 2020, many industries were faced with supply chain issues. This was because raw materials used in manufacturing goods couldn’t make their way to their respective markets. 

When economies recovered in 2021, a sharp increase in demand coupled with consumer tendencies toward hoarding and panic-buying led to several bottlenecks in the supply chain. These factors continue to affect the mobility and availability of important raw materials and freight transport.

2. High Demand for Goods, Low Demand for Services

Another pandemic-triggered factor in rising inflation has been the increase in demand for goods, particularly shipped and home-delivered goods, and the decrease in demand for in-person services. 

Much of the inflation we’re seeing today is tied to durable goods, such as cars and home furnishings. Considering how many people are still avoiding public transportation in major cities like New York and how many people have continued working from home, it’s likely that the demand for cars, computers, and other durable goods will remain high over the next several months.

3. Labor Supply Shortage and Complications

Many workers in a variety of industries left their jobs due to personal dissatisfaction and low wages during the pandemic, and the labor supply shortage has persisted into 2022. The demand for higher salaries plays a role in rising inflation rates, as businesses grapple with maintaining profitability in spite of higher wage costs,  by increasing the prices for their goods and services.

4. Russia’s Invasion of Ukraine

Finally, the most recent spike we’ve seen in global inflation rates has been a direct result of Russia’s invasion of Ukraine in February 2022. The sharp increase in food and oil prices is perhaps the most noticeable, direct inflationary result of this conflict. This is because Russia is a leading exporter of oil, and both countries combined produce around 30% of the global wheat supply. With no diplomatic end currently in sight, this conflict will likely continue its contributions to rising inflation in the near future.

Complications with Trying to Sell a Business During a High Inflation Environment

Many individuals and corporations alike feel less inclined to take risks during periods of high inflation. While businesses have historically had a high return on investment compared to their level of risk, they also require a lot of funds, not just to acquire but also to maintain. 

Here are a few reasons why business owners might see some challenges when selling their companies during this ongoing period of high inflation.

1. Higher Costs of Operation

With global shortages still in place due to supply chain issues caused by the pandemic and Russia’s invasion of Ukraine, businesses have to spend more money to get the goods and materials they need to operate. 

Additionally, many businesses with significant labor requirements, such as services industries and manufacturers, have had to raise their wages to meet employee and market demands. 

These increases in spending may lead to a decrease in a business’s profit margin, making that company look less attractive to potential buyers.

2. Lower Customer Spending

As a result of high inflation, the dollar’s buying power has been reduced, forcing businesses to raise their prices to stay afloat. Unfortunately, rising prices tend to lead to lower spending as customers may not be able to afford the goods and services they typically enjoy. 

So far in 2022, monthly consumer spending has continued to rise as compared to 2021 despite the overall increase in prices; however, this trend may not hold as inflation continues to increase into the summer. A sustained drop in revenue due to diminishing demand may result in few offers or a lower sale price for your company.

3. Increasing Interest Rates

Interest rates were set at an all-time low in 2021 to help combat economic hardship and uncertainty during the COVID-19 pandemic. Lower interest rates help stimulate the economy by making it easier to access loans, thereby increasing the number of potential buyers. They also make loan payments much more manageable, leaving borrowers with more disposable income to funnel back into the economy.

However, increasing interest rates is one of the Federal Reserve’s primary strategies to fight inflation. There are already plans for several interest rate increases over the course of 2022, with more likely to come in the following years. 

These interest rate hikes will likely help stabilize inflation over time. But in the shorter term, they will likely lead to further declines in spending. While higher interest rates could lead to diminished appetite among acquirers of businesses, the large amount of capital sitting on the sidelines could mute the impacts of higher interest rates in mergers and acquisitions activity.

What to Expect When Trying to Sell a Business During High Inflation

If you’re attempting to sell a business during this period of high inflation, being prepared for the realities you’re likely to face will go a long way toward helping you manage your expectations during the process. Negotiating to sell a business looks different when inflation rates are high, in no small part because potential buyers are more risk-averse when the economy is so uncertain. 

Here are two effects to prepare for that high inflation could have on your experience in trying to sell a business.

1. Your Offers May Be Lower Than Desired

If you first started looking into what it takes to sell a business before the pandemic hit, you may not have a realistic idea of the offers you’re likely to receive now that operating costs are up and inflation is on the rise. 

Acquirers need to balance the potential gains from an acquisition against the units of risk inherent in the transaction, and the risk of unregulated inflation is considerable. There’s no way to accurately predict how much further inflation will rise and the dollar will fall. So the purchase price for your business may be below what you first expected, as buyers attempt to guard themselves from risk.

In spite of this potential risk, an experienced M&A advisory firm such as DGP Capital can help you navigate the process, due to their in-depth knowledge of current market valuations in private M&A transactions. This expertise can protect you as a business owner from accepting a sub-par offer for your company.

2. Your Buyer May Try to Stretch Out the Delivery Period

Typically, the sale of a business can take anywhere from six to nine months from the start of negotiations to the final transaction, which is already a considerable amount of time. However, rising inflation may cause your buyer to try to push the delivery period even longer in an attempt to get the best possible value for their dollar. 

Unfortunately for you as the seller, this means that by the time you receive the funds from the sale of your business, the dollar’s value will have dropped below what it was when you finalized the deal, causing you to lose money in the transaction. However, having an experienced M&A advisor on your side can help mitigate some of this risk, by identifying acquirers with a track record closing transactions on time or ahead of schedule.

Where is Inflation Headed in 2022?

After years of relative stability, inflation rose sharply in 2021 and also rose through Q1 and arguably Q2 of 2022. There is some hope that we have hit or are near an inflation peak but this is far from being certain.

According to the Bureau of Labor Statistics, the rate of inflation for all urban customers hit a 2022 peak in March at 6.5% and has slightly declined since then (6.2% in April, 6.0% in May, and 5.9% in June 2022). Compared to prior years, the March 2022 year-over-year CPI was against a low 1.6% in March 2021 and 2.1% in March 2020.

On a similar hopeful note, the Wall Street Journal cited Ed Hyman, chairman of Evercore ISI, pointing to many indicators that June’s distressingly high 9.1% increase in consumer prices might have been the top.

Considering the persistence of global supply issues and labor shortages and Russia’s ongoing invasion of Ukraine, it’s likely that inflation will continue to rise over the next year and will remain higher than the 30-year average for some time. 

However, some experts are hopeful that a targeted response by central banks and the government may work to curb rising inflation in the next year. This will hopefully avoid another decade-long inflation boom like that of the 1970s.

Looking to Sell a Business?

While the current market may look unfriendly or intimidating to sellers wanting to hand off the reins of their businesses, signs suggest that the inflation we’re seeing now isn’t likely to fall dramatically any time soon and will remain unpredictable at least through 2022.

As a result, there’s a good chance it’s better for both you and your business to get moving on exploring the best timeline for a sale as soon as possible. 

Reach out to DGP Capital for their mergers and acquisitions advisory services to ensure your prospective deal is in the best possible hands.

Contributing Advisors