You almost certainly know that interest rates have been going up.
When interest rates rise, they can have a significant impact on your business. As a business owner, it’s important to understand the implications of rising interest rates so you can take the necessary steps to protect your finances.
Interest rate rises do not have to mean a universally bad outcome for you and your business. However, on balance, the downsides outweigh the positives by quite a margin.
As a business owner, it’s your job to navigate the choppy waters of business trading conditions, regardless of what is thrown at you.
That means having a plan in place to protect yourself against some of the issues that could crop up.
It doesn’t mean you have to become a walking economics expert, just that you’re aware of some of the possible business issues and have planned for them ahead of time.
Here’s what you need to know about interest rate rises and their potential impacts on your business:
Interest Rates Are Likely to Keep Rising
Some estimate that, by the end of 2023, the Bank of England will have to raise its base rate as high as 6% in order to try to manage inflation. This would be the highest it’s been since 2009.
In December 2021, the bank rate was as low as 0.1%. It’s a big change and it looks like we’re not done yet.
With the reopening of businesses after Covid restrictions, demand increased while at the same time, supply was diminished because many parts of the economy had been closed for an extended period.
This situation was exacerbated by recent events such as Russia’s invasion of Ukraine, which caused global prices for energy, food and other necessities to skyrocket; this in turn led to high inflation rates and a subsequent cost-of-living crisis.
Even if you don’t fully follow the logic of why rates have gone up, you could do with knowing what it means for your business.
Businesses Face Higher Borrowing Costs
When interest rates rise it will cost more to borrow money. This can be a significant problem if your business relies on taking out loans or arranging commercial mortgages, as you will now have to pay higher rates of interest.
This can put strain on your cash flow and could mean that you aren’t able to afford the credit you need for expansion or day-to-day operations.
If your business borrows money to finance its operations, you’ll pay interest on the money. When interest rates rise, the cost of borrowing money increases, and this can negatively impact your business’s bottom line.
Higher borrowing costs can lead to lower profits, as businesses must use a larger portion of their revenue to service their debt. Additionally, rising interest rates can make it more difficult for businesses to obtain loans, as lenders may be less willing to lend money when rates are high.
Suppliers May Increase Prices
Small business owners in the UK are all too familiar with the effects of an interest rate rise. When the Bank of England raises interest rates, it directly impacts the amount of money small businesses have to pay back on loans and other debts.
This, in turn, can lead to an increase in the price of goods from your suppliers, as costs are passed on throughout the supply chain, ending with the final consumer.
In order to offset this increased cost, small businesses will often raise prices on their goods and services. This is because they need to generate more revenue to cover debt repayments and supplier costs.
It can have a significant impact on customers, many of whom are already struggling with rising living costs.
Possible Supply Chain Disruption
Rising interest rates can disrupt the supply chain in a number of ways.
Rising interest rates can hurt company profits. This can lead to companies cutting costs by reducing inventory levels, which can lead to shortages of goods and materials further down the supply chain.
Additionally, rising interest rates can lead to currency fluctuations, which can make it more expensive for companies to import goods from other countries.
Interest rates are an important part of the economy and can have a significant impact on businesses. When interest rates go up, it becomes more expensive for businesses to borrow money, and this can lead to increased prices as companies try to make up the extra cost. This can be a particular problem for supply chains, which rely on consistent, affordable prices to keep things running smoothly.
Higher interest rates lead to decreased investment in new products and technologies, as businesses become more reluctant to spend money when it’s becoming more expensive to borrow. This could have a ripple effect throughout the supply chain, causing delays and disruptions as products take longer to come to market.
It’s Harder to Qualify for Loans
Not only are the costs of borrowing going up, but it’s also becoming harder to qualify for loans in general. Banks and other lenders often take into account factors such as inflation levels when assessing how much risk they’re willing to take with a loan applicant.
When interest rates rise, lenders may become more cautious about granting loans due to the higher risk associated with them. This can make it more difficult for businesses to obtain financing for their operations or expansion plans.
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The Value of the Pound Will Increase
When the pound is stronger, it becomes cheaper to import goods and more expensive to export goods.
Higher interest rates make the pound more attractive to investors. When interest rates are high, the pound becomes more attractive to foreign investors looking to earn a return on their investment. This demand for the pound drives up its value against other currencies.
If you are buying things from overseas – importing, or using foreign suppliers, then interest rate rises mean that the pound in your pocket will buy more.
When the pound is stronger, it means that one pound can buy more things. This also means that things that come from other countries and are sold in pounds, like food, are cheaper. Businesses are affected by this because many companies buy things from other countries to use in their products. If the pound is stronger, this means that these imports are cheaper.
This is one benefit of interest rates going up.
However, if you sell more abroad, or export, a strengthening pound is typically not great news for you.
Finance Implications When Interest Rates Rise
When interest rates rise, the cost of borrowing money also increases. This means that businesses that have loans with variable interest rates will see their monthly loan payments go up.
With access to finance restricted, companies may turn to short-term finance, such as invoice factoring that may have even higher interest rates.
This can make things worse, as businesses can get stuck in a cycle of short-term solutions that ultimately place more pressure on the long-term health of a company.
Consumer Income May Decrease
One of the most obvious impacts of a decrease in consumer income is a decrease in sales for businesses. When people have less money to spend, they are less likely to make purchases, and this can lead to a decrease in revenue for businesses. In some cases, businesses may be forced to lay off employees or even close their doors entirely.
Another impact of a decrease in consumer income is a decrease in consumer confidence. When people are worried about their finances, they are less likely to make purchases, even if they can afford them. This can lead to a decrease in demand for goods and services, which can further hurt businesses.
Profits Will Be Impacted
Higher interest rates can lead to decreased profits for businesses, as they will have to pay more in interest on their loans and other debts. Higher interest rates can also lead to increased borrowing costs, which can further eat into profits. Additionally, higher interest rates may lead to a decrease in consumer spending, as people will have less money available to spend on goods and services.
Unemployment Will Likely Rise
If higher interest rates cause demand to slump, companies may need to cut costs and the obvious place to look is by reducing headcount. This can lead to an increase of redundancies in business.
Preparing For Higher Interest Rates
Small businesses can prepare for higher interest rates by ensuring they have a solid financial foundation and having a healthy cash flow.
Businesses can also take steps to protect their profits from rate hikes.
For example, they can renegotiate contracts with suppliers and customers to lock in lower rates, or they can invest in products that have shorter payback periods so that the costs of borrowing are offset by the profits generated from sales.
It’s important to stay proactive and keep an eye on the market conditions so that they can make the most informed decisions possible.
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Review Your Business Loan Terms
If you have a business loan, the first thing you should do is review your loan terms. Many business loans have variable interest rates, which means that as rates rise, so will your payments. You should contact your lender to find out what your options are for dealing with higher payments. You may be able to negotiate a new payment plan or extend the term of your loan.
Review Your Budget
The next thing you should do is review your budget to see how an increase in interest rates will impact your bottom line. You may need to make some cuts in other areas of your budget in order to free up cash to make higher loan payments.
Look For Ways to Increase Revenue
If you’re anticipating higher interest payments, you’ll need to find ways to increase revenue in order to offset the additional costs. One way to do this is to raise prices on goods or services that you sell. Another way to boost revenue is to find new customers or markets for your products or services.
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Cut Costs
You may also need to look for ways to cut costs in order to free up cash flow. One way to do this is by renegotiating contracts with suppliers or vendors. Another way to cut costs is by reducing overhead expenses, such as office space rent or marketing budgets.
Consider Refinancing
If you have a good credit history, you may be able to refinance your business loan at a lower interest rate. This will help reduce your monthly payments and free up cash flow.
Explore Forward Contracts
The decision of whether or not to take a forward contract will depend on a number of factors specific to each business. However, here are some things to consider:
Forward contracts can be used to lock in a certain interest rate for a period of time, which can be helpful if you’re expecting rates to rise in the future. This can provide certainty and stability for your business finances.
However, forward contracts can also be expensive and involve risks that need to be taken into account. It’s important to weigh up the pros and cons before making any decisions.
Another thing to keep in mind is that forward contracts can be difficult to get out of, so if you do decide to take one out make sure you have an exit strategy.
Final Thoughts
Higher interest rates can have a significant impact on small businesses, but there are steps that business owners can take to prepare for them.
Making sure you have a solid financial foundation and cash flow, increasing revenues, cutting costs and reviewing your loan terms are all good ways to protect profits from rate hikes.
If necessary, consider taking out a forward contract or refinancing your loan at a lower rate. By staying proactive and informed about market conditions, small businesses can survive an increase in interest rates.