As the US economy continues to rebound from the pandemic, the Federal Reserve has been gradually increasing the country’s benchmark interest rate. This development, however, has yet to be fully felt across the entire business landscape. While higher interest rates can certainly help bolster banks’ revenues, they can be a tremendous burden on companies trying to grow, especially those with high debt burdens and cashflow concerns.
Businesses have been 2020’s surprising success
For all the doom and gloom of the past year, 2020 had a number of business successes that defied all expectations. The stock market hit numerous all-time highs, and despite the extended lockdowns companies such as Amazon had record-setting years.
Meanwhile, companies that had been plodding along for years saw impressive growth spurts. Companies with slashed costs, innovative technologies, and that flourished online seemed to come out of the pandemic stronger than ever.
Advantages of Higher Interest Rates
Anticipation of higher interest rates has brought many advantages to both consumers and business. For instance, banks and other lenders can offer savers better interest rates and generally easier access to credit. Offers for credit cards, student loans, and car loans are likely to become more generous as more money enters the market.
Furthermore, higher interest rates will give a much-needed boost to financial institutions and banks. Higher costs mean increased revenue from loan origination and retention, helping bolster their balance sheets and maintain a healthier financial sector.
Impact on Companies with High Debt Burdens
For companies with tight cash flow and large debt burdens, the challenge isn’t competition – it’s debt service. Higher interest rates will inevitably mean higher costs for these companies. For example, a company with a low-interest loan of 10% would need to find an extra $100,000 annually to make up for a 25 basis point increase. For many struggling businesses that are just hanging on, this can have a devastating effect.
The Federal Reserve’s goal is to maintain a healthy balance between stimulating economic growth while at the same time preventing inflation from running too hot. However, companies with high debt burdens should take note that the current low-interest rate environment won’t remain in place for much longer.
Countermeasures That Companies Can Take to Protect Their Profitability
While higher interest rates can create a financial headwind for many companies, there are a few countermeasures that companies can take to protect their profitability.
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Refinance: Companies that don’t yet have a loan at a low rate should consider taking advantage of the current low-interest rates and leverage the capability of refinancing their existing debt.
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Identify New Sources of Revenue: Companies should be constantly looking for new sources of revenue, such as expanding their customer base, taking on new projects and services, adding new products, or exploring alternative financing options.
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Establish an Emergency Fund: Companies should set up a “rainy day” fund to ensure they have sufficient cash on hand to cover any unexpected expenses or unexpected costs associated with higher interest rates.
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Optimize Your Cash Flow: Companies should strive to reduce their overhead and overhead costs as much as possible to ensure they remain profitable. This includes creating an efficient payment system and working on ways to reduce their operating costs.
Higher interest rates are inevitably coming, and the Federal Reserve has already started the process of gradually raising the benchmark rate. While this can be beneficial for banks and other lenders, for companies with high debt burdens, the impending rate increase can signal a significant financial burden. Companies should take the necessary steps to safeguard their profitability, such as refinancing, seeking new sources of revenue, and optimizing their cash flow. While the prospect of higher interest rates may seem daunting, careful planning can help ensure a company’s future success.
