The mess in Europe will eventually come to an inflection point. Maybe late March 2012, when Greek bond auctions and EU/IMF bailout payments coincide, will determine whether a sovereign nation in a currency union can execute a controlled crash. Global policymakers should concern themselves with the most likely policy responses, namely a repeat of the Fed's ginormous dollar swap lines and uncontrolled quantitative easing. Investors should concern themselves with the most likely economic consequences, namely a hyperinflationary depression.
Owning a fully-paid business can be a boon during inflation because the proprietor can raise prices to keep up with the devaluation of a domestic currency. Some business types may prove more useful to own than others.
So what are some of the most useful types, IMHO? I'll suggest a sample list for starters.
Hard asset producers. Owning a gold mine could literally be . . . well, a gold mine. So could oil and gas wells, wind turbines (the large rural kind, not the useless "small urban" kind), solar arrays, potash deposits, and other stuff that produces a "flow" from some physical source. The flow of hard assets will always have some value regardless of its currency of denomination.
Urban necessities. I seriously think an urban laundromat would be a decent inflation-resistant thing for me personally to own. This is anecdotal, but a Bay Area businessperson I've known for years has grown rich partly from the cash flow of laundromats he's owned for years. The big risk here is the method of payment. Coin-operated machines would quickly become useless if physical currency loses value by the day. There is no point in pumping quarters into a washing machine if one cycle costs a million inflated dollars. Hyperinflation demands machines whose prices can be updated daily. I have yet to find washing machines and dryers configured to take credit cards with LED displays that carry seven-digit price readouts. It would be a hoot to watch the price change during the spin cycle.
What would be the least useful types of businesses to own during hyperinflation? I for one would not want to own these in hyperinflation.
Residential real estate. Rent control laws become very popular with politicians when renters start seeing their disposable income seriously pinched by inflation. Commercial real estate would not be subject to this problem.
Import/export businesses. Hyperinflation invites capital controls that restrict the ability to move currency out of the country or exchange it at a rate other than one set by the government. The government-controlled rate will probably not be a market rate, so anyone in the import/export sector will have problems. Importers will find it difficult to buy goods from non-U.S. customers if those customers are reluctant to be paid in rapidly depreciating U.S. dollars. Exporters may find it easier to make a sale to a strong-currency customer, but they will lose money on many transactions if they have to convert foreign currency to dollars at an artificially unattractive rate. Terms of trade financing and payment will make all the difference.
I should caveat this post's title in a couple of ways. I think a wholly-owned business is inflation-resistant rather than inflation-proof. No business will be completely unaffected by hyperinflation. Even enterprises that produce and distribute hard assets - mining, pipelines, railroads, etc. - incur energy and transaction costs that can be unpredictable during hyperinflation. I also think earnings are more vulnerable to inflation than cash flow. This subtle difference is key. Collecting cash payments from customers immediately is imperative to keeping a business afloat during hyperinflation, as is delaying cash payments to vendors for as long as sales terms will allow. Booked earnings that look attractive at the time of sale look less desirable a month later when the cash flow is collected in a devalued currency. The delay between recorded accounting earnings and collected cash can wreck a balance sheet for a business subject to covenants from lenders. Then again, recording a liability and then paying it a month later with devalued cash may offset this effect.
I periodically check listings of businesses for sale (using resources like BizBuySell) for examples of potential winners. I am reluctant to take on debt but the effects hyperinflation can have on reducing a debt load are tempting. Going into debt to buy a business in this type of environment is a high-risk, high-reward strategy where timing is everything. Taking on debt to soon before the onset of hyperinflation risks an indefinite wait before the devaluing power of inflation reduces a mountain of debt to a molehill. Waiting too long risks seeing credit providers close off loans to anyone unwilling to pay usurious rates.
Do not take any of this discussion as some kind of recommendation to rush out and buy a business. I have no idea whether anyone who reads my blog is capable of handling the risks of running a business. That is why I don't tell people what to do with their money. None of the speculation I have discussed above constitutes advice of any kind. It merely outlines possibilities I am considering for my own personal portfolio. The months ahead will test entrepreneurs' mettle. Thinking out loud is how I prepare for trying times.
Owning a fully-paid business can be a boon during inflation because the proprietor can raise prices to keep up with the devaluation of a domestic currency. Some business types may prove more useful to own than others.
So what are some of the most useful types, IMHO? I'll suggest a sample list for starters.
Hard asset producers. Owning a gold mine could literally be . . . well, a gold mine. So could oil and gas wells, wind turbines (the large rural kind, not the useless "small urban" kind), solar arrays, potash deposits, and other stuff that produces a "flow" from some physical source. The flow of hard assets will always have some value regardless of its currency of denomination.
Urban necessities. I seriously think an urban laundromat would be a decent inflation-resistant thing for me personally to own. This is anecdotal, but a Bay Area businessperson I've known for years has grown rich partly from the cash flow of laundromats he's owned for years. The big risk here is the method of payment. Coin-operated machines would quickly become useless if physical currency loses value by the day. There is no point in pumping quarters into a washing machine if one cycle costs a million inflated dollars. Hyperinflation demands machines whose prices can be updated daily. I have yet to find washing machines and dryers configured to take credit cards with LED displays that carry seven-digit price readouts. It would be a hoot to watch the price change during the spin cycle.
What would be the least useful types of businesses to own during hyperinflation? I for one would not want to own these in hyperinflation.
Residential real estate. Rent control laws become very popular with politicians when renters start seeing their disposable income seriously pinched by inflation. Commercial real estate would not be subject to this problem.
Import/export businesses. Hyperinflation invites capital controls that restrict the ability to move currency out of the country or exchange it at a rate other than one set by the government. The government-controlled rate will probably not be a market rate, so anyone in the import/export sector will have problems. Importers will find it difficult to buy goods from non-U.S. customers if those customers are reluctant to be paid in rapidly depreciating U.S. dollars. Exporters may find it easier to make a sale to a strong-currency customer, but they will lose money on many transactions if they have to convert foreign currency to dollars at an artificially unattractive rate. Terms of trade financing and payment will make all the difference.
I should caveat this post's title in a couple of ways. I think a wholly-owned business is inflation-resistant rather than inflation-proof. No business will be completely unaffected by hyperinflation. Even enterprises that produce and distribute hard assets - mining, pipelines, railroads, etc. - incur energy and transaction costs that can be unpredictable during hyperinflation. I also think earnings are more vulnerable to inflation than cash flow. This subtle difference is key. Collecting cash payments from customers immediately is imperative to keeping a business afloat during hyperinflation, as is delaying cash payments to vendors for as long as sales terms will allow. Booked earnings that look attractive at the time of sale look less desirable a month later when the cash flow is collected in a devalued currency. The delay between recorded accounting earnings and collected cash can wreck a balance sheet for a business subject to covenants from lenders. Then again, recording a liability and then paying it a month later with devalued cash may offset this effect.
I periodically check listings of businesses for sale (using resources like BizBuySell) for examples of potential winners. I am reluctant to take on debt but the effects hyperinflation can have on reducing a debt load are tempting. Going into debt to buy a business in this type of environment is a high-risk, high-reward strategy where timing is everything. Taking on debt to soon before the onset of hyperinflation risks an indefinite wait before the devaluing power of inflation reduces a mountain of debt to a molehill. Waiting too long risks seeing credit providers close off loans to anyone unwilling to pay usurious rates.
Do not take any of this discussion as some kind of recommendation to rush out and buy a business. I have no idea whether anyone who reads my blog is capable of handling the risks of running a business. That is why I don't tell people what to do with their money. None of the speculation I have discussed above constitutes advice of any kind. It merely outlines possibilities I am considering for my own personal portfolio. The months ahead will test entrepreneurs' mettle. Thinking out loud is how I prepare for trying times.
