SME business activity slides into contraction, but employment shows resilience

UK small and medium-sized enterprises (SMEs) signalled a decline in business activity and new work during September, according to the latest NatWest survey of businesses employing less than 250 employees. At 47.3 in September, down from 48.1 in August, the NatWest SME PMI^® Business Activity Index registered a modest reduction in SME output volumes, although the rate of decline was the fastest since October 2022. This followed a sustained period of growth throughout the first half of the year.

Despite the slowdown in business activity, marginal employment gains were reported, which contrasted with a renewed decline in workforce numbers at large enterprises. SMEs also remained relatively upbeat about their expectations for business activity in the year ahead, with service providers, manufacturers and constructors all forecasting higher output in 2024. Businesses cited confidence about long-term growth opportunities, new product launches, and hopes of a further slowdown in cost inflation.

Input price inflation was also much softer than seen in the first half of 2023. The latest rise in operating expenses was only slightly faster than the 31-month low seen in August, with improving supply chain capacity and falling materials prices helping to offset strong wage pressures and rising fuel bills. Manufacturing sector SMEs nonetheless reported a much slower decline in their purchasing costs than large enterprises, suggesting that a lack of negotiating power with suppliers had limited cost reductions.

SME service providers saw a shallower downturn in business activity than those operating in the manufacturing and construction sectors. Survey respondents noted that subdued consumer confidence and tighter budget setting among clients had constrained activity. Building firms registered the fastest decline in output, with total construction activity decreasing at the steepest pace since May 2020 amid another sharp reduction in housing work. Manufacturing production volumes fell for the second month running during September and the rate of decline was the greatest since October 2022.

This survey’s special feature on long-term sustainability plans revealed that becoming more energy efficient topped the table of SME intentions for the next five years. Around 62% of survey respondents expect to have improved their energy efficiency by 2028. This was followed by switching to greener travel options (49%) and reporting on carbon emissions and environmental impact (48%). Obtaining ESG credentials was the category that firms were the least likely to cite plans, with just 23% of SMEs expecting to invest in the next five years, followed by offsetting carbon emissions (24%).

Sebastian Burnside, NatWest chief economist, said: “The latest PMI results show a modest reduction in business activity following a sustained period of growth in the first half of the year. Rising costs have been a continual challenge this year, but positively we are starting to see signs that cost inflation is softening, with improving supply chain capacity and falling materials prices helping to offset strong wage pressures and rising fuel bills. It’s also good to see that businesses are forecasting higher output next year, reflecting their confidence in long-term growth opportunities, new product launches and hopes of a further slowdown in cost inflation.

“After a year of volatile energy prices, it’s understandable that most SMEs are putting energy efficiency at the top of their list of priorities for the next five years, which could help to reduce their utility bills and give them a competitive edge.”

James Holian, head of business banking at NatWest Group, said: “Throughout 2023, business owners have had their hands full managing a business and economic environment with a high level of uncertainty.  Yet despite this, businesses continue to show remarkable resilience.  While the environment remains uncertain with inflation and interest rate pressures, there are some positive signs that cost pressures are easing.  It’s encouraging to see many businesses are remaining upbeat about the year ahead, with all sectors forecasting higher output in 2024.

“After a period of rising energy prices, it’s unsurprising that the majority of small businesses plan on improving their energy efficiency. We know it can be hard to know where to start on this, and that’s why we are connecting businesses to resources so they can tackle climate change, reduce costs, and grow their businesses. I’d encourage businesses to explore how NatWest’s Carbon Planner can help them to understand and reduce their carbon footprint, and benefit from potential cost savings.”