For business leaders, federal rate movements have an outsized impact in influencing decisions on corporate strategy, investment choices and M&A activity. Indeed, with current interest rates near 15-year highs, many of our clients have curtailed their investment and expansion activity. However, it is necessary to acknowledge that federal funds effective rate while high, has been in similar territory before. Indeed, the effective rate, has been ‘high’ for about a third of the past four decades, dipping lower primarily in the wake of the ‘dot-com’ bust (2001), the Great Recession (2008+) and COVID-19 period (2020+).

These high interest rates may be a generational blind spot given recent low rates. Over the past two years, we have repeatedly seen companies slow down or shelve strategic growth initiatives in response to rising interest rates. In our view, this is less an issue with the strategic logic of the initiatives themselves; instead, this is because many business leaders have grown accustomed to an era of unprecedented lower interest rates and have not built the muscle to make decisions where interest rates are a significant variable.

While finance leaders have been quick to incorporate high interest rates in core investment return models, it is also important to realize that the impact of high interest rates extends beyond the finance function alone. In our view, most, if not all corporate functions will be impacted. In this section, we highlight the key trends that business leaders should pay attention to as they steward their companies through this current cycle:

• Consumer purchasing behavior and cycles will shift to longer replenishment cycles or bargain-seeking: As rates rise, consumer buying patterns change predictably. Rising rates inevitably result in prices becoming more expensive, driving longer replenishment cycles for discretionary items and bargain-seeking behavior for necessities. Understanding – and playing into – the behavior shifts can help companies gain an advantage over their peers. As an example, we have seen several of our CPG clients skew their marketing, communications spend closer to wage cycles to drive better mental and physical availability when consumers have cash in their wallets. Companies that do not pay attention to these consumer shifts may well find themselves short at the end of a reporting cycle.

•  Supply cycles will need to be aligned to demand: In view of the shifting patterns, companies will have to be more strategic in prioritizing what supply they stock. While chasing growth regardless of cost may have been acceptable in times of lower interest rates, it can create significant margin drags in times of high interest. As an example, In the low interest rate economy, SKU proliferation was a viable strategy to corner micro-pockets of demand at a major retailer. As interest rates rose and demand has shifted, the retailer is stuck with elevated inventory levels and is looking at inventory write-offs.

• Downstream actions can also impact your performance: Suppliers / manufacturers often plan on the assumption that their sales cycle is well-aligned to the sales cycles of their downstream channel partners (distributors and retailers). However, in the event of an interest rate shift, this alignment can be disturbed. In the case of a large supplier with particularly steep discounting pricing strategies, their downstream partners were comfortable carrying large inventory volumes to take advantage of the deep discounts. With the interest rates rising dramatically in over the past 18 months, this supplier (and its peers) now see their downstream partners ‘de-stock’ as a lever to address consumer demand (which has continued to grow steadily).

• Better working capital management is an opportunity. In a rising interest rate economy, receivable and payment terms elevate themselves from a standard terms and conditions clause to a strategic cash flow driver. Investing in better Accounts Receivable / Payable management capabilities and discipline will likely drive as much value as other cost reduction initiatives such as vendor consolidation or contract rate renegotiations.

• In-flight projects may be ‘under water’: While we are sure that finance leaders will take a hard look at greenlighting new projects in this high interest context to ensure delivery of target returns, we think they would be remiss not to re-evaluate in-flight projects as well to make sure these meet the updated investment return thresholds. As projects transition from the design board to implementation, we find that in the absence of robust tracking systems, project expenses are not accurately captured, resulting in surprises or lower-than-expected returns.

While the above might feel like challenging problems to address, we reiterate that the problems facing today’s businesses are not new. It therefore follows that the solutions we propose to the problems are also not new. While they may appear novel, they are, in our view, a call for CEOs / CFOs to double down on getting the basics right.

We believe there are five imperatives that leaders should focus on to steward their companies
through this era of high interest rates: