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Inflation impact on SMEs

Inflation in the UK is now at its highest for 40 years.

While a lot of media commentary has been on the cost-of-living increase for UK consumers – the Consumer Prices Index (CPI) rising by 9.4% in the 12 months to June 2022 – there has also been a major inflationary impact on UK businesses.

Indeed, it could easily be argued that the inflation pressure on UK business is greater than that on UK consumers – the Production Prices Index has risen by 24% in the 12 months to June 2022.

Consequently, any business that uses large quantities of energy (electricity, gas, or oil) in its production process and/or petrol or diesel for transportation of goods will have been especially affected by the recent inflationary pressures. In practice this effect applies to all goods and services consumed by all businesses.

The Impact of Inflation on SMEs

Inflationary pressures will affect a SME in a number of ways.


Inflation results in suppliers and services providers increasing their prices. As a result, the SME’s input costs would rise.

Cost of living increases are likely to give rise to employees’ demands for higher wages – another key input costs for many SME.

Operating Margins

With increased input costs, due to supplies being more expensive and higher staff costs, the SME would suffer a fall in its operating margin and, consequently, its profitability.

Selling Prices

To maintain its operating margins, the SME could increase its selling prices – offsetting the input cost rises.

However, the SME’s customers may be resistant to price hikes and therefore delay purchasing or switch to other suppliers, who have not raised their selling prices. Both scenarios would compound the trading difficulties for the SME.

Worst case, if customers are not willing to pay more then the business could very well fail.

Investment Plans

Inflation may cause the SME to delay or, indeed, bring forward its investment plans.

Due to inflation and interest rate rises on any associated borrowing, the cost of investment in production capacity or technological improvement may make the case for that investment unviable.

Also, the market may not now be there (due to reduced demand) to enable the SME to take advantage of any increased production capacity brought about by the investment.

On the flip side, bringing forward plans for further automation of, say, a production process may make more sense if the cost of automating now outweighed the rising employee costs.

Any efficiency through investment should help the SME to repair its operating margins and profitability.

Dealing With Inflation through Cash Preservation

The SME could seek to reduce controllable expenditure such as its indirect costs (e.g. marketing or advertising budget). Indirect cost reduction would provide short term relief, but the SME would need to watch the longer term harm, especially a reduction in marketing.

Cash is the lifeblood of any business so managing cash flow is vital, particularly in times of stress. The SME could seek ways to improve cash retention. Reducing inventory (to release cash tied up in stock) or shortening the working capital cycle would help the SME to continue trading through inflationary difficulties.

Reducing the time given to buyers to pay would allow cash to be collected more quickly and before inflation erodes its value. Lengthening the time taken to pay suppliers would preserve cash for longer and the SME would also benefit from the erosion of value, due to inflation.

Requesting a moratorium on or a rescheduling of debt repayments would reduce debt servicing costs in the short term and preserve cash for trading through any inflationary difficulties. A reduction in cash outflows for debt repayment would also help mitigate the negative cash flow impact of rising interest rates.

Key Defensive Measure

Despite the doom and gloom of high inflation now is the time for every business to go back to basics, look at what it does and why. Seek out and redefine product or service Unique Selling Points, then focus on taking this message to market and create motivation for customers to buy higher value products and services. Sell on the value you are creating not price; this is a tough fight but one that is very much worthwhile taking on to secure long term business sustainability.

Written by Alan Wilson

Euro at Parity with US Dollar – why should we in the UK care?

An ever-strengthening U.S. dollar has achieved parity with the Euro. This is the first time the US dollar has reached parity since the Euro was in its infancy over 20 years ago.

Why should we in the UK care about a strengthening US dollar or a depreciating Euro?


The invasion of Ukraine sent shock waves through both the global food and energy markets – resulting in significant price hikes.

Food and energy are two significant basic needs for consumers. As a consequence of the requirement for many economies to import food and/or energy, those commodity price rises have fanned domestic inflation.

Also, with many global commodity prices set in US dollars, the strengthening US dollar has added to those importation costs and that inflationary pressure.

The USA is both a producer of grain and fossil fuels so, arguably, better able to ride out any turmoil in commodity markets. Having said that, inflation is currently a major issue in the USA – they way it is in many economies across the globe.

US Dollar Strength

Since World War Two, the US dollar has been considered a safe haven in times of global crises and, generally, there is a flight of capital to safe havens when global economic shocks occur.

Any flight of capital (from the Euro, Sterling etc.) will strengthen the US dollar and weaken the other currencies.

Also, the U.S. Federal Reserve has been relatively more aggressive in raising interest rates, thereby increasing yields on US Treasury Bonds, and making the US dollar even more attractive to investors.

All of that has resulted in a significant strengthening of the US dollar, particularly in the past few months.

It is not just the Euro that is under pressure

The Euro has been depreciating against the US dollar for over a year now. It is 15% down in the past 12 months – but 11% of that loss has occurred since the Russian invasion of Ukraine.

The Euro is not alone. Sterling is also down against the US dollar by 15% in the past year and 11% since the invasion of Ukraine.

Against the Japanese Yen, the US dollar has appreciated 26% in the past year with 21% of that gain since the invasion of Ukraine.

Even against that other traditionally safe haven currency, the Swiss Franc, the US dollar has appreciated over 6% in the past 12 months – almost all of that gain since the invasion of Ukraine.

Despite the recent media headlines, the Euro is not alone in being under pressure – albeit parity with the US dollar is an added psychological factor for the Euro.

Interestingly, the exchange rate for Sterling v Euro has not moved much in the past 12 months – it was 1.17 a year ago and is just above 1.18 now (down slightly from 1.19 at the time of the invasion of Ukraine). As such, the UK cannot ignore what is happening to the Euro.

What does this mean for businesses and consumers?

Movements in global currencies can have a major impact on businesses that sell their products abroad or depend on imported raw materials for inputs into their own finished goods.

Higher importation costs (plus a strong US dollar) put pressure on business operating margins that can only be repaired by raising selling prices. Factory prices rises, of course, lead to inflationary pressures. Factory price rises can also dampen consumer demand which in turn affects businesses cash generation and profitability.

Domestically, inflationary pressure is often tackled by raising interest rates but that also hits consumers through higher mortgage servicing costs.

Those significant cost of living increases lead to wage demands – we are seeing those and a greater incidence of strikes in support of higher wages.

As employee costs are another significant input for businesses, especially in the UK where our level of automation is below that of other major competitor economies, any wage increases will add to inflationary pressure.

In turn, that inflationary pressure would result in further factory price rises, put additional stress on consumer demand and, ultimately, lead to an increase in unemployment. That is a vicious cycle that can easily result in recession and, even, stagnation.

To answer the question raised at the start of this article – yes, we should care about the weakening Euro and the strengthening US dollar.

Written by Alan Wilson

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