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June 13, 2018updated 15 Aug 2022 12:15pm

Rising interest rates: the next big SME concern

By Mishelle

After nearly a decade of near zero-interest rates, the Bank of England has signalled that rate rises are on the agenda again. Marc Bajer, CEO of Hadrian’s Wall Capital, warns of the potential consequences of even a small rate rise, and urges businesses to seek stability in an uncertain environment.

A study by Hadrian’s Wall Capital shows that a 0.25% rise in interest rates will cost British SMEs an additional £355m in interest payments in the first year alone. Total annual interest rate payments on floating-rate loans are projected to jump to more than £4bn overnight, highlighting the urgent need for SMEs to switch their borrowing to fixed rates while interest rates are low. Additional interest payments are a massive issue for many SMEs which have debts and loans to pay on a floating rate.

Just 11% of business lending is provided for on a fixed rate, down from 50% five years ago. Banks have taken note of the mood music coming out of Threadneedle Street and taken the opportunity to push back the interest rate risk onto their clients, and in this case, businesses. On top of this, SMEs have become cautious about hedging their interest rate risk because of the swaps mis-selling scandal. Even if they wanted to, it can be difficult to find an institution that will sell a swap to an SME.

REALITY, UNCERTAINTY

The reality is that floating interest rates create a lot of uncertainty for SMEs. Interest rate rises will put pressure onto businesses’ cashflow and make it far more difficult to plan for future investment. There is a real risk that strong businesses with ambitious growth plans will pause their efforts to make sure they can meet their larger debt repayments, which is not good for their business – or the economy as a whole. Moreover, there is real danger that planned and future corporate activity may be abandoned with the lack of certainty over the cost of acquiring new debt, preventing businesses’ innovation. Less-competitive firms will struggle in a higher-rate environment. SMEs should lock themselves into fixedrate debt where possible, before interest rates continue to escalate.

The historically low interest rate is something businesses should be looking to take advantage of now. A rise of one percentage point in interest rates to a still-historically-low 1.5% will cost SMEs an extra £1.4bn in interest payments.

ADDITIONAL INCENTIVE

For corporate finance advisers promoting M&A activity, there is an additional incentive for their clients to obtain fixed-interest-rate loans: to create certainty of financial costs for the targeted acquisition.

However, getting certainty over the interest rate is easier said than done. As already mentioned, banks are reducing their interest rate risk and pushing it onto the borrower. As a result, SMEs are increasingly turning to alternative finance providers to give their business the certainty it needs.

Even in this case, alternative finance providers’ interest rates will still be linked to traditional lenders. An alternative option is to borrow from an investment fund, where capital costs are lower. We at Hadrian’s Wall believe this approach offers value and certainty to both the borrower and the lender. Put simply, SME funding and the impact of spiralling borrowing costs cannot simply be ignored.

It is often said that small businesses are the backbone of the UK economy. SMEs need access to stable, fixed-rate funding, which will insulate them from interest rate rises. It is time for the financing providers to support SMEs, for the benefit of the UK economy.

 

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