SMEs and higher interest rates - overcoming the impact
Read time: 4 min Date Added: 19/04/2024
What practical steps can SMEs take to mitigate the knock-on effects of higher interest rates? How can they carry out measures to improve their finances in the short-term while keeping one eye on the future?
The significant rise in UK interest rates from 0.25% to 5.25% has resulted in several issues for SMEs already experiencing challenging times. Even though there’s an ongoing cost of living crisis and a difficult labour market, there may be some relief to come.
Markets have predicted a reduction in the Bank of England’s base rate in Q2 of 2024, although these are notoriously difficult to forecast accurately. However, it appears unlikely that an extended period of sub-1% interest rates will return soon.
Navigating a perfect storm
For SMEs carrying business debt, the most pressing challenge caused by higher interest rates has been the cost of servicing their borrowing. It’s not an isolated issue, though. Small businesses have also been affected by:
- The impact of mortgage rate rises on consumer spending.
- Increased cost of goods and services.
- Higher wages.
Many SMEs are reluctant to invest in large capital projects due to the UK economy’s slow growth forecast. In periods of uncertainty and fragile confidence, detailed business budgeting and planning is more critical than ever.
Cutting costs and improving cash flow
With higher outgoings on wages, debt repayments and materials, SME cash flow has been under increasing strain. There aren’t many businesses immune to the impact of higher interest rates, so it’s essential to prioritise credit control by taking a proactive approach.
“Understanding the broader business landscape is vital. How are higher interest rates impacting your customers, suppliers and staff? We’d encourage small business owners to contact us because there’s so much we can do to support clients who might be finding things tough”, says James Miller, Head of Rates Sales, SME Businesses, Bank of Scotland.
The Bank’s support also covers the possibility of interest rates remaining high over the long term. Many SMEs have ambitious growth plans but need to strike the right balance by implementing efficiencies. Bank of Scotland can help businesses cut costs and embrace sustainability in several ways as the nation strives towards its 2045 Net Zero target, including:
Regarding working capital, SMEs could make changes to their stock management processes and, where possible, renegotiate terms with creditors and debtors.
“Regular and transparent communication between SMEs and all stakeholders, not only their banks, is critical when managing a shock scenario such as high-interest rates.”
James Miller Head of Rates Sales, SME Businesses, Bank of ScotlandAdapting to the unexpected
Another way Bank of Scotland can support SMEs is by making sure debt products are still the most suitable for their needs, such as not paying too much interest. Exploring fixed price deals for debt products and energy costs can also reduce outgoings and make financial forecasting easier.
A less obvious consideration is maximising the return on liquidity within businesses. For example, cash reserves currently held in standard accounts could generate higher returns when moved to one with a better rate or investing excess funds not needed for day-to-day business activities.
As part of helping business owners prepare for the future, James stresses how vital it is to have open dialogue: “Regular and transparent communication between SMEs and all stakeholders, not only their banks, is critical when managing a shock scenario such as high-interest rates.”
A mixed industry impact
Higher interest rates haven’t affected every industry to the same extent. The software tech sector, for example, has coped well with the various pressures. Many SMEs within hospitality have fared better than expected (PDF, 1.52MB) as people with available cash prioritise their spending.
On the other side of the fence, the construction sector has experienced reduced demand as new mortgage rates have risen for many potential homeowners. Other industries with small profit margins have also been disproportionately affected as consumers have felt the financial squeeze. This has included some sub-sectors of agriculture and retail.
Higher interest rates have also proved more of a challenge to many small and newer SMEs through the following:
- A lack of experience in budgeting and planning.
- Not understanding risk management frameworks.
- Being unable to negotiate lower prices with larger companies in their supply chains.
“How are higher interest rates impacting your customers, suppliers and staff? We’d encourage small business owners to contact us because there’s so much we can do to support clients who might be finding things tough.”
James Miller Head of Rates Sales, SME Businesses, Bank of ScotlandHow might 2024 unfold?
According to the Organisation for Economic Co-operation and Development (OECD), UK GDP growth will be 0.7% this year. If this transpires, there will be challenges and opportunities for SMEs.
One potential downside is how hard it is for SMEs to pass price increases to their end customers. For example, as more people remortgage at higher rates, it may not be practical for small businesses to cover any rises in their rental and service costs.
On the positive side, low growth could encourage an interest rate cut to help stimulate the economy. Many small businesses put expansion plans on hold when the economic outlook is downbeat, but this can result in opportunities for those able to invest in new products and services in a bid to outpace their competitors.