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« 2 Big Deals... What Are You Doing? | Main | The End of Old Beer? The End of Beer Distributors? »

Inflation? What it might mean to you.

Stagflation.  A word from 35 years ago.  Are we headed there again or are there other possibilities?  And most importantly for this blog, what does this mean for beer wholesalers?  Specifically those in a buy or sell mode.

First for those youngsters out there, what the heck is stagflation?  It is an economic situation where the overall economic growth is slow (i.e. stagnant) yet there is high inflation.  Generally not a good thing for those who participate in this economy and as is always the case, especially those of lower incomes.  The inflation destroys the value of your earnings/savings while the slow economic growth denies economic opportunities.  We last experienced this situation in the mid- to late-70’s under the stalwart leadership of President Jimmy Carter.  Is it coming again?

Right now inflation is low if you believe the “official” measurements… if you live out in the real world you might have serious disagreements with this.  But one thing is very certain, money is very cheap… especially for banks (can you say crony capitalism?  But that’s a rant for another day).  So if you use interest rates as a surrogate for inflation, inflation remains low. 

Of course the Federal Reserve is printing money like there is no tomorrow - and if it keeps it up there might not be… at least not one most of us would welcome.  What happens when (if?) they stop printing greenbacks? 

As a side note, isn’t it amazing that wealth can supposedly be created simply by printing these things we call dollars… if you use the right paper, ink, and printing presses wealth is magically created.  Looking back at historical precedents, I can’t find a single instance where this worked out well for the general population but what the heck, as long as the dollar remains the world’s reserve currency we can simply export our inflation around the globe.  As Mad magazine’s great American philosopher Alfred E. Neuman notes… “What, Me Worry?”  Actually I think a more appropriate quote from Alfred (the only time it changed) was uttered after the Three Mile Island accident, “Yes, Me Worry!”  And worry we should.

I read in various sources that the federal government borrows somewhere between $3,000,000,000 and $5,000,000,000 EVERY DAY to finance its spending – different sources report different amounts.  Just over $0.40 of every $1.00 the government spends is borrowed money.  Sooner or later those chickens will come home to roost.

One can expect the government to do everything in its power to ensure interest rates remain low.  Why?  For a very simple reason, if interest rates go up the cost of servicing the national debt will increase substantially… thereby increasing the debt even further.  And the present situation is bad enough… under Obama’s rather optimistic budget, in 2018 (that’s only 7 years from now) interest payments on the federal debt will exceed ALL defense spending, including wartime spending.  That’s a chunk of change just for interest payments!

Unfortunately for the federal government (and all us poor saps), they operate in a world financial market so their desires might not rule the day.  And since those purchasers of government debt aren’t stupid, even if the plan is to inflate the debt away, these purchasers will demand higher interest rates to make up for this planned decrease in value.  So for the betting man, it would seem some degree of higher inflation/interest rates is coming.

So what should a beer distributor do regarding the “stay” or “go” decision?  Again, let’s look back at periods of high inflation to give us a guide.  Generally hard assets retain their value during inflationary times.  So first do you consider your distribution rights “hard” assets?... since that’s where the bulk of your value resides.  In a classical sense they are not hard, they are intangible.  But as we all know, although they are classified as intangible, they are much more tangible or hard than “normal” intangible assets.  That’s the primary reason some banks have such a difficult time lending to distributors for acquisitions.  They just don’t get this reality.

So that is your first question to answer… just how “hard” are these distribution rights?  If a Costco-type challenge would win big some day they might become a lot less hard and much more intangible… but if that doesn’t occur... how clear is your crystal ball?

And secondly what erosion (if any) do you foresee in your overall profitability?  What is your power in the supply chain to ensure your margins continue at present levels?... especially during times of relatively high inflation.  Back in the 70’s and early 80’s distributors did pretty well on this front… will the 2010’s be the same?  And on the cost front, can you control costs enough so that your profitability remains at present levels?  And if margins and/or costs negatively impact your profitability, can you find other products to make up for this lost bottom-line income?

Or is taking the money and running today the best financial course?  Values remain strong, the cost of money is low for the borrower thereby making financing easier… so the environment for selling is generally good.  But 20 years from now will this be the best decision?

That of course depends on what you do with the proceeds of the sale.  Obviously to grow your wealth you will have to generate a higher return than the true inflation rate.  In addition, to truly retain your wealth you need to account for a perhaps substantial decline in the value of the dollar.  You might want to think about keeping your funds in a basket of currencies (our friend Mr. Diversification) rather than being solely tied to the dollar.  It is difficult to see a future where this government doesn’t take a course of action that decreases the value of the dollar… like all debtors they want to pay back the debt with less valuable money.  But the choice for what to do with the sale proceeds is certainly not an easy one.

And for those planning to remain in the business, remember that a declining dollar pushes up the value/cost of hard assets… therefore a weakening dollar will cause an increase in oil prices and your fuel costs – but I still believe that over the longer haul, distributors can use higher fuel costs to their advantage... short-term though, they generally will come out of your hide. 

But acquisitions now might make more sense since as noted above, inflation is good for debtors… you pay back your debts with dollars which are worth less than the ones you got up front.  Now might be an ideal time to load up on low-cost, as long-term as you can get, FIXED INTERST debt. 

Regardless of your choice, now is most definitely the time to maximize the profitability of your company… and to not allow your lifestyle to consume all your profits.  Lots of uncertainty out there… a few years from now we will all be able to say what we should have done today… unfortunately that’s not the way it works in the real world.

And on a completely unrelated front, and to dig my hole a little deeper in the political arena, I end this piece with a political quote from the esteemed Alfred E. Neuman,

"How come we choose from just two people for President, and fifty for Miss America?"

The last presidential election certainly validates Mr. Neuman’s observation… as we and the world are sadly learning.

 

 

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