Summary

• Identify companies with pricing power to navigate rising inflation and protect investment returns.
• Firms with inelastic demand can pass increased costs to consumers, maintaining their profit margins.
• Look for businesses with strong market positions, like membership models or critical infrastructure suppliers.
• Building a portfolio with these inflation-resistant stocks can offer a defensive investment strategy.

When Inflation Bites, Find the Companies That Bite Back

Well, colour me surprised. The economists, bless their cotton socks, were caught completely off guard by the latest wholesale price figures. A jump of 0.9% when they were expecting a gentle 0.2% rise. It seems the inflation beast we all thought was slumbering might just have one eye open, and it’s looking rather peckish.

For most businesses, this is dreadful news. It means the cost of everything from paper clips to paint is going up, squeezing their profits until the pips squeak. But for a shrewd investor, this is where things get interesting. This is the moment that separates the truly robust companies from the ones that were just getting by on cheap credit and a fair wind.

The Secret Sauce of Pricing Power

What is this magical quality that allows some firms to sail through an inflationary storm? It’s called pricing power. In simple terms, it’s the ability to raise your prices without your customers running for the hills. Think of your favourite coffee shop. If they put the price of a flat white up by 20p, would you stop going? Probably not. That’s pricing power in action.

Most companies don’t have this luxury. They operate in crowded markets where the slightest price hike sends customers scurrying to a competitor. When their own costs rise, they have to absorb the hit, watching their margins evaporate. To me, investing in a company without pricing power during a period of inflation is like betting on a horse with only three legs. It might be cheap, but it’s unlikely to win you the race.

A Few Case Studies in Resilience

Let’s look at a few examples. Take a company like Pricesmart, which runs membership warehouse clubs. Their customers pay a fee to get access to bulk goods. When Pricesmart’s costs go up, they can pass a chunk of that on. The members, already invested and with few comparable alternatives, tend to stick around. It’s a beautifully simple model that provides a natural defence against inflation.

Then you have the less glamorous but equally potent players like Powell Industries. They make specialised electrical equipment for critical infrastructure. Now, if you’re running a power station and a vital piece of kit breaks, you don’t spend three weeks shopping around for the cheapest quote. You pay what’s asked because the cost of not doing so is catastrophic. That gives Powell enormous leverage. It’s a business built on necessity, not fleeting consumer desire.

Even in the digital world, you can find this trait. Cimpress, the company behind Vistaprint, has built a platform for customised printing that is incredibly convenient for small businesses. Could a small business owner find a cheaper local printer? Perhaps. But the time and hassle involved mean they’ll often just pay the slightly higher price for the ease of use. That convenience is the source of their pricing power.

How to Position Your Portfolio

The lesson here isn’t to rush out and buy these specific stocks. Rather, it’s to start thinking like a business owner. Ask yourself, if this company’s costs went up by 10%, could it confidently raise its prices by 10% without losing its shirt? If the answer is yes, you might be onto something. This is the core idea behind a collection of companies I was looking at recently, aptly named Navigating Inflation: Companies With Pricing Power.

Of course, no investment is without risk. A severe economic downturn could make even the most loyal customers think twice. And there’s always the chance that central banks will overreact, hiking interest rates so aggressively that they crash the whole party. But as a long term strategy, I think backing businesses that control their own destiny, rather than being at the mercy of their suppliers, is one of the most sensible things an investor can do. In a world of rising prices, you want to own the price makers, not the price takers.

Deep Dive

Market & Opportunity

• The Producer Price Index, a measure of wholesale prices, increased by 0.9% in July, significantly higher than the 0.2% rise that was expected.
• This was the most substantial monthly increase in producer costs since early 2022.
• Companies with pricing power can pass rising input costs on to consumers, which allows them to protect or expand their profit margins during inflationary periods.
• Historically, companies with genuine pricing power have tended to outperform the market during extended periods of inflation.

Key Companies

• Pricesmart Inc (PSMT): Operates membership warehouse clubs in Latin America and the Caribbean. Its pricing power comes from its membership model, bulk purchasing scale, and limited competition in its markets.
• Powell Industries Inc (POWL): A manufacturer of custom electrical equipment for critical infrastructure sectors. Its pricing power is derived from inelastic demand, as customers like power companies cannot easily delay or substitute essential purchases.
• Cimpress N.V. (CMPR): Provides a mass customisation platform for printed and marketing products. Its pricing power stems from its unique technology platform, which creates convenience and high switching costs for its small business and consumer customers.

Primary Risk Factors

• A significant economic downturn could increase price sensitivity among customers, challenging even companies with strong market positions.
• Companies that raise prices during inflationary periods may face increased regulatory scrutiny.
• Aggressive interest rate hikes by central banks to combat inflation could trigger broader market volatility, affecting all stocks.

Growth Catalysts

• A persistent inflationary environment allows companies with pricing power to demonstrate their ability to protect profitability.
• Unexpected surges in inflation can create opportunities for investors to identify resilient companies before the broader market does.
• The ability to pass on cost increases can enable these companies to expand their profit margins while competitors face margin compression.