FACING RISING INTEREST RATES

How do we structure a business that remains strong in the context of fast-rising international inflation and increasing costs, and how can we prepare for growth when economic conditions improve?

Dolphin Bay gives substantial thought to this issue, as the sustainability of our own business and that of our industry means a great deal to us. In this story, we explain our approach.

For the first time since the crash of 2008/9, many of the world’s leading economies are experiencing serious difficulties due to minimal growth, rising unemployment and a tsunami of inflation. This has occurred in Japan, the United States, China, Britain and much of the European Union, including Germany and France.

Inflation began rising following the Covid-19 lockdowns around the world; at the time, the true extent of the looming damage could only be guessed at. Now we know the situation is truly a bad one: the Eurozone and others are already firmly in a recession and a world recession almost inevitable if not already under way.

The rest of the world is now struggling with the high inflation levels that South Africa has experienced for years.

The problem began after years of money-printing in the US following the 2008/2009 financial crisis, creating a precarious situation. The Covid-19 pandemic then provided the trigger for the current inflation trend, bringing shortages of materials and fast-increasing prices. Russia’s war on the Ukraine worsened the situation, causing spikes of a host of goods including oil and foodstuffs.

“In the face of the pressures, a common instinct is to drive down profit margins to keep volumes high. It is an extremely dangerous approach.”

Both citizens and businesses across the world are now suffering, and economies will probably deteriorate before they improve. A prime example of an inflation-hit economy is the United Kingdom, the sixth largest economy in the world, where 2022 monthly inflation is averaging at about 10.5%. Some experts predict this rate could continue well into next year.

Reserve banks across the world are trying to remedy the situation. The US Federal Reserve recently raised interest rates by another 0.75% − the fourth such outsized increase in a row − and has indicated it will continue increasing rates. While curbing inflation by dampening demand, these interest rate increases are also strengthening the power of the dollar, forcing central banks around the world to raise their own interest rates in turn.

To steady the economy and curb inflation, the South African Reserve Bank, too, has been steadily increasing interest rates. This, after the country has been hard hit by regular loadshedding, rising fuel prices, slow growth, low employment rates and bad fiscal policy decisions. Earlier this month, the Rand’s value was hovering at about R18.36 to the dollar and it is expected to fall further to as low as R19, by the year’s end.

Continuing on this road will soon lead to poorer and less reliable products, and the inevitable demise of the structural and pole timber industries.

In the face of the pressure that businesses are experiencing, a common instinct is to increase volumes at a reduced profit margin, in the hope of gaining new customers. We are seeing this cost-cutting trend in many industries, including the timber treatment industry.

It is an extremely dangerous strategy. If competitors do the same, industries can begin a downward spiral that it is very hard to climb out of. Companies make ever-diminishing profits and even losses. Should this continue, businesses will go bankrupt.

Higher interest rates are instituted to cool down demand in the economy. The consequence for our industry is that fewer building and other projects are taking place, and fewer people are buying products. Chasing volumes in this environment is very unwise.

Higher interest rates also bring higher debt repayments, which in themselves mean lower profits.

The cost-cutting business model also hinders innovation since it requires more resources, which a company will usually get though making a decent profit.

Continuing on this road will soon lead to poorer and less reliable products, and the inevitable demise of the structural and pole timber industries.

Let’s hope it’s not too late.

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Dolphin Bay Brief

Dolphin Bay is a chemical company specialising in the manufacture of wood preservatives. We are a major market player within the African continent, where our products and services are supplied to reputable companies supplying treated timber to the agricultural, building, electrical and communications industries.

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