Stuck between a rock and a hard place: Rising wages and narrowing margins – what’s next for SMEs?

Last week, The Times published an article citing a study of 90,000 UK SMEs, showing an average wage increase of 8.2% in the year to September – far greater than the 2.2% rise in consumer inflation.

What’s driving these ongoing increases? Simply put, it’s market dynamics: higher demand and lower supply. 

No sector has been hit harder than construction for a variety of reasons. According to Barbour ABI, a market leader in providing visibility into the UK construction project landscape, the key factors include:

• Skill shortages – it’s becoming harder to retain good workers as they are increasingly being lured away by higher-paying competitors.
• An ageing workforce – construction is less attractive compared to emerging markets like AI and tech.
• Sustainability –with climate change high on the public agenda, the sector is falling behind on sustainability initiatives.
• Technology and innovation – the industry is adopting new technologies too slowly, resulting in inefficiencies and opening the door to foreign competition.
• The weakened British pound – Sterling has dropped 13% in the last 5 years, making imports more expensive.

Sam Sragenan, co-owner of Pentalec, a Kent based electrical engineering business that has £9.2million in revenue and ranked in The Sunday Times 100 fastest growing businesses last year, said: “the market is buoyant and has been since covid and there is definitely a skills and quality shortage. Good people are getting headhunted and effectively bought [for bigger salaries]”.

He added: “I’ve heard crazy stories about people going in as a surveyor on six figures, earning £120,000 a year. We can’t compete with that”.

One of the main issues is that many construction firms are unable to keep passing rising costs onto consumers, leaving increased sales as the only option. This puts strain on supply chains and cashflow – highlighted recently by construction giant ISG falling into administration. 

These challenges aren’t unique to the construction sector, in April this year, The Times reported a 19% increase in retail insolvencies, citing similar issues: falling consumer demand, rising wage costs, and consistently high interest rates. 

However, its not all doom and gloom, NatWest’s Summer report on the SME market noted that business confidence remains high, and job creation is at its highest in months. Indeed sentiment at our recent Retail Conference was that of cautious optimism for 2025. 

Sebastian Burnside, NatWest Group Chief Economist, said:

“Price rises have eased in recent months, but businesses and their customers are still feeling the squeeze. Higher staff costs, particularly due to the rise in the National Minimum Wage, have meant services firms have had to pass additional costs onto their customers. Manufacturing firms also attributed higher input costs to rising transport bills, especially for container freight from Asia.”

“Despite these concerns, business confidence remains high and job creation is at its highest level for four months. With inflation now back to the Bank of England’s target of 2% many firms are hoping for lower interest rates and an increase in demand from the consumer sector.”

Sustainability remains a top priority for 2025. Businesses that fail to tap into this market are likely to be left behind in the next 3-5 years as public opinion on the issue strengthens.

Sustainability remains a top priority for 2025. Businesses that fail to tap into this market are likely to be left behind in the next 3-5 years as public opinion on the issue strengthens.

So how can businesses pivot, adapt, and survive? According to the Confederation of British Industry (CBI), several key measures will need to be implemented following the autumn budget to provide much-needed support for SMEs:

• Government support in upskilling the workforce
• Building confidence in the transition to net-zero through green tax breaks
• Optimising business taxes to enable growth by proving SMEs with greater access to capital 

From our experience, there are several additional factors that can help:

• Conduct regular audits and reviews of your cost base, including streamlining procurement and supply chain processes.
• Restructure debt as interest rates begin to fall
• Perform proper cashflow reviews and projections, with professional advice to avoid bottlenecks.
• Use technology and onshoring to increase production efficiency and reduce supply chain costs.
• Review energy consumption. 
• Focus on staff wellbeing, culture and communication to boost productivity.

Stay aware of public sentiment, particularly regarding ESG and net-zero initiatives, to stay competitive and attract customers. For now, everyone is waiting with bated breath to see what the budget will hold, and whether it will provide the springboard for growth and success that SMEs desperately need