Small But Mighty: Businesses say inflation is taking a bite out of profits

Don't be misled by reports that inflation is tame. For small-business owners, it's a threat to profits and expansion plans.

An 8 percent increase in the cost of eggs over the last year is eating away at restaurants and bakeries. Cotton's 14 percent increase is hurting clothing manufacturers and retailers. And any business that sends somebody on a sales trip is bearing the brunt of an 8 percent increase in jet fuel and 7 percent rise in gasoline.

If this were a "normal" economy, companies could pass along the cost of doing business to customers. But these days, customers are demanding to pay less. As a result, small businesses are often left with no options.

"You have to absorb a lot," said Celeste Hilling, who owns a skin-care company where travel costs have risen 30 percent in the last year after rising 20 percent the year before. Rising fares, baggage fees, and hotel bills are to blame.

Many companies have to adjust how they operate. Hilling's company, Skin Authority in Carlsbad, Calif., is doing more training through online seminars rather than in person.

The numbers Hilling deals with might surprise anyone who believes the government's Consumer Price Index tells the story of inflation. In the 12 months that ended in March, the CPI rose 2.7 percent. Subtract food and gas, as some economists do, and what's left is called "core" inflation. It rose 2.3 percent. That's close to the target of 2 percent set by the Federal Reserve, which sets monetary policy so inflation doesn't get out of hand.

But prices businesses pay for energy, raw materials, supplies, and services have gone up much more sharply. And they're expected to keep rising because demand for many goods and services is soaring in China and India. That offsets slower demand in the United States and Europe and sends prices higher worldwide.

Raymond Keating, chief economist with the Small Business & Entrepreneurship Council, an advocacy group, expects inflation to keep rising as the economy improves and as the Fed eventually lets short-term interest rates rise from their current levels near zero. He says of small-business owners, "a lot of people are worried about how high it [inflation] will go."

Martin Regalia, chief economist with the U.S. Chamber of Commerce, said that although overall inflation "is not a real problem," the components of inflation that matter most to small businesses — such as energy — are troubling.

The impact of rising energy prices may not always be obvious. Regalia noted that airline baggage fees, typically $25 per bag per flight, were added because of rising fuel prices. And energy costs factor in to the prices of all goods and services.

Chad Moutray, chief economist with the National Association of Manufacturers, said small businesses are at a disadvantage because they can't buy in bulk, as larger companies can. That means a small cosmetics manufacturer can't negotiate the lower prices a company like Revlon can. And, he said, "they're less likely to pass along their higher prices to customers."

Lorne Campbell, president of Occasionally Cake, two upscale bakeshops outside Washington, has refrained from raising prices since his company was launched in 2009.

"A small business is about personal relationships. It's about trust," he said. "A large faceless corporation doesn't have to look at their customers and say, 'Mrs. Smith, you and your daughter are going to have to pay extra for a cupcake today.'?"

Campbell estimates he's paying 10 percent to 12 percent more for ingredients and other supplies than he did a year ago. His fuel costs have doubled, although some of that increase is due to the fact he's making more deliveries.

Occasionally Cake has kept other costs down by holding back on hiring, and asking staffers to take on more responsibilities and work more hours.

Other businesses can't raise prices because they're under contract to deliver goods or services at a set price. Campus Cooks, which provides dining services for fraternity and sorority houses in the Midwest, Florida, and Texas, signs agreements that cover the entire school year. As wholesale food prices rise sharply when school's in session, it's time to get creative.

"If chicken's higher, you change the menu to more fish, pork, and beef," said Bill Reeder, president of the Glenview, Ill., company. Campus Cooks will also buy in bulk. And if it has to serve, say, more pork, it will vary how the meat is prepared.

Reeder already expects his prices to rise 2 percent to 3 percent for the next academic year. But he's not passing all the costs along.

"We're taking some of a hit on the profit end of it," he said. He hopes to get 10 to 12 more customers signed for the next year; the added sales volume would help his profits.

Clothing stores are also contending with higher prices — and consumers' tendency to be frugal when they're paying more for gas, food, and other items. Jimmy Au's, a Beverly Hills, Calif., men's store, has paid on average 5 percent more for the clothes it stocked during the last year. Alan Au, the store's client relations manager, said prices for cotton, wool, and silk had soared. Top-grade cotton has gone up as much as 10 percent over the last year.

Au said the store laid off a sales person as demand fell, which allowed it to keep most of its prices unchanged. It has raised prices on some high-end suits and on jeans that sell for $200. But for the most part, the store is telling customers, "we'll bite the bullet for you because we appreciate your sticking with us."