Are you ready for the storm?
You want advisors who are positive and proactive. Unfortunately, sometimes, there is no magic wand and our role is simply to point out the bad news that is coming so that businesses can do their best to be prepared. Maybe the forecasters are over reacting, but experience suggests otherwise. You will find some positive suggestions below, but they may be like putting up an umbrella in a hurricane!
There are three issues of concern to flag up…
Interest rates
Energy costs
Wage costs
Let’s look at these in turn, and also consider what inflation and rising costs do for the Economy:
INTEREST RATES
There are two parts to borrowing rates. Firstly the underlying base rate set by the Bank of England (BOE), and then the ‘margin’ applied by the lender you are borrowing from.
The highest base rate in the UK was 17.00% in November 1979, and the lowest rate 0.10% in March 2020. Consider that for a moment. The BOE base rate at its peak was 170 times the level at its lowest.
Anyone under 50 may not remember double digit interest rates. Expectations are that the base rate could be 4% or 5% by early 2023 and as high as 7% by the middle of that year. Lenders are also likely to increase their margin, so we could well see rates above 10% once more.
Watch our video of Director Peter Hill discussing further details on the topic of Interest Rates.
So what does that mean?
Higher borrowing costs means spending decisions change. Buying a property to rent out would have been worthwhile if rent was £800 a month and the mortgage say £500. If the mortgage interest is above £800 pcm, then it isn’t worthwhile any more. Decisions on capital investment, business acquisitions or anything that requires borrowing money, may look completely different in a higher interest rate environment.
But what if you are already invested?
Many borrowers may see their current fixed rate deals come to an end, and move the cost of debt from say 2.5% pa interest rates to 5% pa rates or higher. How would your business cope if your borrowing costs doubled or tripled? As a landlord, will your rent still cover the mortgage payments and tax?
Client A has an Invoice discounting facility to fund its debts. Customers take 60 days to pay, and the company borrows against these debts to fund day to day cash flow. Monthly interest costs have gone from under £100 pm to more than £1,000 pm within a 6 month period. Suddenly the extra credit given to slow payers may be more than the profit margin they are making on some sales.
Look at your debts (mortgages, loans, invoice discounting, etc) and considered the impact of increased interest rates as they are eased up, or your current fixed rate periods expire?
What can you do now?
Reduce debt wherever possible. Tighten up credit terms with customers so your money is in your account quicker, and you can reduce your overdraft or invoice discounting facility as a result (this will also reduce future bad debts!). Sell off any redundant assets (old stock, under used machinery etc) and use that cash to reduce debt. Every £100k of debt reduction could see savings of perhaps £7k to £10k pa in future.
Look at your borrowing terms. If you are on a variable rate or are about to leave a fixed rate term, find out what deals are available. Is a slightly higher rate now for certainty during a period of volatility worthwhile?
Client B has £1m loan on a fixed rate of 1.5% which expires soon. They can take the current variable rate of around 2.8%, and see interest costs immediately go up by £13k a year, but with the risk that rates will go much higher. They could fix for 5 years at 4% (a £25k pa increase) or 10 years at 3.7% (a £22,000 pa increase). What would you do?
The attraction to the lowest rate might seem great now, but what if rates do move to say 10%? Then the increase is a whopping £85k pa, which may not be affordable.
None of us has a crystal ball to know how far rates might go up and how fast, and how quickly they may come down, or how far. Historically rates rise quickly and fall slowly.
Crunch your numbers and understand your exposure to higher interest rates. In most cases the certainty of a future rate you can afford is better than a cheaper rate for now.
Watch video of Peter Hill discuss your options of ‘What you can do now’ and start implementing these changes today.
Energy costs and what you can do now!
ENERGY COSTS
Energy costs are increasing at an alarming rate. For domestic users there is some protection with the price cap, but many will still see the cost of their home energy bills at 5 or 6 times what they are used to. If monthly costs reach £500pm or £600 pm, many will simply have to turn off heating and sit in the dark.
For business users there is no protection of a cap. Client C is coming to the end of a 3 year fix and will see annual costs jump from around £250k pa to over £1m. This is simply not sustainable. There has been considerable press about hospitality venues that may be unable to open in the winter as the costs of running the venues is now greater than the income generated.
We hope the Government will see this as a crisis in the same way as Covid, and come up with the equivalent of furlough support, ‘Eat Out To Help Out’, and Bounce Back Loans and CBILS’s loans. I.e. creative support options that will prevent businesses failing because the cost of energy makes them unviable. We are not certain that this will happen given the political chaos we are currently in.
What can you do now?
It will be hard to cut the cost of energy without Government intervention. Whether forcing the energy providers to reduce profit margins, or windfall taxes on the obscene profits they make. The cost of energy will be set by global agendas and in particular the Ukraine War and the idiosyncrasies of President Putin. What you can do is look at alternative energy sources and reduce your consumption.
The investment payback period for insulation, solar panels, air source heat pumps and other energy generation options, has changed dramatically as the cost of energy has increased. A payback period of 12 years was only really of interest to those with a green agenda. If the payback reduces to less than 5 years, then it also becomes a good financial decision.
Smart lighting that reduces brightness on sunnier days or shuts off the lights when no one is in the room, all reduce consumption. Variable Speed Drives (VSD`s) connected to motors can dramatically reduce energy consumption. (Ask an engineer, we don’t understand how!), and modern LED lights are far less energy hungry than fluorescent or filament lamps. Find an expert to look at where you consume energy to see if there are changes that can be made, and whether the investment in making them is now worthwhile.
We all need to consider the costs of energy in ways we haven’t been used to for decades. When our parents moaned about leaving lights on, TV’s playing in empty rooms and having the heating on instead of a jumper, it seemed a bit excessive. How many devices in your home are connected 24/7? TV’s on standby, Alexa devices (always listening!), Sky boxes, security cameras, hot tubs!!. Things we are not using or using infrequently, are burning energy which is now much more expensive!.
Get smarter on energy. Understand what is consuming it and find ways to reduce the amount you use or generate your own if the payback period makes sense.
Continue finding out about Energy costs and what you can do now by watching our short video below.
Wage costs and what you can do now!
WAGE COSTS
More and more Employees/Unions are taking advantage of the shortage of workers, to squeeze employers on inflation plus pay rises. When employers struggle to find people, the cost goes up. If competitors are offering pay rates to attract people, there may be pressure on your wage bill to keep the ones you have. Basic supply and demand economics. However, if we do fall into a recession then there is a good chance that unemployment will rise and the power will shift again. Unions may find that their members are more concerned with having a job than they are with getting a bigger pay rise or nicer working conditions. The employment market hasn’t seen this level of volatility for a very long time.
For good employers the concern is about how they can support employees who will be struggling with the impact of energy costs and the rising cost of living. Even if you pay well, employees may still find that the impact of interest rate rises on their mortgage payments, or the cost of heating their homes and feeding their families, becomes a very serious concern. This might mean they are attracted to a job paying a tiny bit more even if they love working for you. It may certainly mean that their performance and productivity are affected by this constant stress.
What can you do now?
Make sure that you have the people you need. This sounds obvious, but we often see businesses that employ more people than their business really needs. This was partially addressed during Covid, when businesses put people on Furlough to find out that they weren’t missed!
We also advocate an ‘Oh S**t list’. Rank your team in order of your reaction if they said they were leaving. At the top are ones where your reaction is “Oh S**t!”, as their loss would be a serious problem. Bottom of the list are the ones where you breathe a sigh of relief.
You should be actively dealing with those on the bottom of the list, and stepping closer to the ones at the top. With a few less people you might be able to offer overtime when the remainder need more income, and your costs reduce in the volatile period that is coming.
We also work with a business that provides a range of employee benefits, including access to retail discounts that save the average employee £900 a year on their normal household spending. They also provide free access to mental health support, GP appointments and many other things that will help struggling employees.
The answer to supporting employees may not be a simple pay rise, particularly if the business may struggle to afford it, but making sure employees know you are looking out for them will be crucial.
The rising inflation and pressure on costs usually leads to a vicious cycle namely
- costs rise ( both on domestic and business fronts)
- there is less spending as budgets are squeezed
- sales fall as expenses rise so businesses have to lose money or people
- viability falters so there are more price sensitive customers, bad debts increase, banks become more cautious and business failures rocket
Again, what can you do now?
Be strong and adaptable as quickly as you can. The time to fix the roof is when the sun is shining! Act now to have options in place. Be willing to say No! to unreasonable demands. In short, be alert to the dangers and be ahead of the wave not drowned underneath it!
A FINAL WORD
No one sets up a business expecting it to fail. When things get tough, many adopt the “keep calm and carry on” mantra. Unfortunately the success or failure of a business is sometimes out of your hands, as factors like all those above can swamp even the best run venture.
So you should also look at the structure of the business to protect value in it, whether with a holding company, or multiple subsidiaries to ring fence the good bits from the financial risks. Consider extracting wealth from the company, so that all the years of hard work are not lost to a financial catastrophe.
We are experts in building business structures and wealth management, balancing risk, tax and commercial practicalities. Contact us if you would like to have a risk review or discuss any other the issues above.
Listen to a final word from Peter Hill on the topic as a whole:
USEFUL CONTACTS
Dave Ottley – Balance for Business. An expert in funding with up to date knowledge of what rates and terms different lenders will do. 01752 227966 Dave@balanceforbusiness.co.uk
Stuart Morrison – SuccessCXP. Experts in employee engagement and retention and benefits, who provide the discount spending option and mental health support services. 07970 880015 Stuart.morrison@successcxp.com
Andy Botterill – Drew & Co. Specialists in all aspects of energy management, and electrical installations to help generate or reduce consumption. 01752 2204415 abotterill@drewandco.co.uk