Running a business has become more expensive

Wages, energy, insurance, software, borrowing and supplier costs can all take a bigger share of your income than they did a few years ago.

For a small business, rising costs can quickly reduce profit and put pressure on cash. The answer is not simply to cut every cost you can. You need to understand where your money is going, which work is still profitable and whether your plans still make financial sense.

Interest rates and other costs will continue to change. Rather than trying to predict exactly what will happen next, it is more useful to ask whether your business could still work if costs remained high or increased again.

This is the final article in our SMEs in a Riskier World series. It brings together the themes covered in Business Strategy for SMEs, Cashflow: The Lifeblood of Your Business in an Uncertain World, Stress Testing Your Business, Risk Management Made Simple and How to Build a More Resilient Business: 5 Areas Every Small Business Should Review.

1. Plan for the costs you have now

It is easy to build a business plan around things you hope will improve. Borrowing may become cheaper. Energy prices may fall. Recruitment may get easier. Suppliers may reduce their prices.

Any of those things could happen, but your business plan should not depend on them.

Use the costs you are dealing with now as your starting point. Then ask what would happen if one or two important costs increased again.

For example, could the business still make a reasonable profit if wages increased, a supplier raised its prices or borrowing became more expensive?

This is where the approach in Stress Testing Your Business can help. Testing a few realistic scenarios can show you where the business may come under pressure before it happens.

2. Know what growth will cost before you commit

Winning a large new contract can sound like an obvious success. But how much will you have to spend before you receive the money?

You may need additional staff, materials, equipment, stock or premises. Those costs could need paying weeks or months before your customer pays you.

Before taking on significant new work, ask:

• How much cash will we need to deliver the work?
• When will we need to spend it?
• When can we invoice the customer?
• When are we likely to receive the money?
• What happens if costs are higher than expected?
• What happens if the customer pays late?
• Will we need to borrow, and what will that borrowing cost?

More sales can be good for a business, but only if the work produces enough profit and the business has enough cash to deliver it.

Our earlier article Cashflow: The Lifeblood of Your Business in an Uncertain World explains why profit and cash are not the same thing and why growing businesses can still run short of money.

3. When did you last review your prices?

If wages, materials, insurance, software and other costs have increased but your prices have stayed the same, your profit margin may be quietly shrinking.

A busy business can still become less profitable if prices do not keep up with costs.

Look at your main products and services and ask:

• Which ones make the best profit?
• Which ones take a lot of time for very little return?
• Have the costs of delivering them increased?
• Are some customers more expensive to serve than others?
• When were your prices last reviewed?

Increasing prices is not always easy, and the right decision will depend on your market and your customers. But regularly absorbing higher costs without reviewing your prices can gradually reduce the profit you make from each sale.

It is also worth looking beyond turnover. A customer who pays on time, requires less administration and produces a healthy margin may be more valuable than a larger customer who negotiates discounts, takes a lot of management time and pays late.

As we discussed in Business Strategy for SMEs, knowing which customers, services and activities create real value can help you decide where to focus your time and resources.

4. Review borrowing before you urgently need it

If your business uses an overdraft, loan, credit card, asset finance or another type of borrowing, make sure you understand what it is costing you and when it needs to be repaid or renewed.

Ask:

• Is the interest rate fixed or variable?
• When does the facility need to be renewed?
• How much unused borrowing is still available?
• Could repayments become difficult if sales fell?
• What would happen if the lender reduced the facility?
• Do we have up to date accounts and forecasts if we need to speak to a lender?

It is usually easier to discuss finance when the business is performing well than when cash has already become urgent.

Good records, realistic forecasts and an understanding of your risks also support the points covered in Risk Management Made Simple.

5. Use technology where it genuinely helps

Technology and AI can help small businesses save time, reduce manual work, improve forecasting and support customer service.

Before paying for another piece of software or introducing a new AI tool, ask one simple question:

What problem is this actually going to solve?

Then consider:

• Will it save time?
• Will it reduce mistakes?
• Will it improve customer service?
• Will it help you make better decisions?
• How will confidential information be protected?
• What happens if the system is unavailable?
• Will the people using it actually understand it?

A monthly software subscription may look small on its own, but several unused or overlapping subscriptions can become another cost that quietly grows.

Our Cashflow: The Lifeblood of Your Business in an Uncertain World article also looks at how technology and AI can support cash management.

6. Give the business some breathing room

A business with some spare cash, available borrowing, alternative suppliers and enough management time has more options when something changes.

Without that breathing room, a relatively small problem can quickly become urgent.

Look at how much room you have before you need it. How long could the business manage if sales dropped? What if a major customer paid late? Which costs could you reduce without damaging the business?

This connects directly with How to Build a More Resilient Business: 5 Areas Every Small Business Should Review, where we looked at cash, customers, people, suppliers and systems.

7. ESG can affect smaller businesses too

Environmental, Social and Governance, usually shortened to ESG, is becoming increasingly relevant to established small and medium sized businesses.

You may not have a formal ESG programme, but larger customers, lenders and organisations in your supply chain may start asking more questions about how your business operates.

This could include:

• environmental standards and energy use
• waste and emissions
• working practices
• modern slavery and supply chain checks
• how suppliers are selected and reviewed
• the information and policies you can provide when bidding for work

For an established SME, this can become a commercial issue. If an important customer changes the standards it expects from suppliers, being prepared may help you keep or win contracts.

Start with the requirements that are relevant to your customers and sector. There is little value in creating policies simply for the sake of having them.

8. Revisit the strategy if the numbers have changed

A plan that made sense when costs were lower may need to change.

That could mean:

• focusing on higher margin customers or services
• stopping work that no longer produces a reasonable return
• reviewing prices
• renegotiating supplier contracts
• reducing unnecessary borrowing
• investing selectively in automation
• building more recurring income
• growing more slowly while the business strengthens

Changing direction does not automatically mean something has gone wrong. Sometimes the sensible decision is to simplify the business and concentrate on the work that produces the best return.

That brings us back to the first article in this series, Business Strategy for SMEs. A useful strategy reflects the resources, risks and financial position the business actually has.

Five questions to ask about your business

1. If our main costs increased again, which products or services would still be profitable?
2. When did we last review our prices and profit margins?
3. How much cash would we need to deliver a large new piece of work?
4. How much borrowing do we have and what is it really costing us?
5. Could the business still perform well if today’s higher costs continued?

Final thoughts: bringing the series together

Nobody can predict exactly what the next few years will bring for small businesses.

Costs will change. Interest rates will move. Technology will develop. Customer expectations and regulations will continue to change.

What business owners can do is understand their numbers and make decisions with a clearer view of the risks.

Across this six part series we have looked at:

• Business Strategy for SMEs | setting a clear direction and deciding where to focus
• Cashflow: The Lifeblood of Your Business in an Uncertain World | understanding where cash is coming from and where it is going
• Stress Testing Your Business | checking how your plans might perform if circumstances change
• Risk Management Made Simple | identifying the risks that could have the biggest effect
• How to Build a More Resilient Business: 5 Areas Every Small Business Should Review | making the business better able to cope and adapt

Together, these areas give business owners a more complete view of the business than sales or profit alone.

A well managed business cannot avoid every setback. It can be better prepared, make decisions earlier and put itself in a stronger position to take opportunities when they appear.

Are rising costs putting pressure on your profit or cash flow?

If sales are growing but there never seems to be much more money left at the end of the month, it may be time to look more closely at pricing, margins, costs and cash flow.

At RMC Accountants, we help small and owner managed businesses understand what is happening behind the numbers and identify practical steps to improve financial performance and resilience.

Get in touch with RMC Accountants for an initial conversation.