A 1 per cent increase in interest rates will lead to 14 per cent decline, on an average, in the profits of small and medium enterprises, according to a CRISIL study.

The study covered 3,234 SMEs, with sales turnover ranging from Rs 1 crore to Rs 500 crore. It included manufacturing, trading and service companies in 30 industries, across 20 States.

The study draws on the rating agency's understanding of the sector and the insights gained while assessing the credit risk profiles of over 17,500 SMEs.

CRISIL said that one-fifth of the enterprises evaluated could face erosion of 25 per cent or more in their pre-tax profit levels.

Ms Roopa Kudva, Managing Director and Chief Executive Officer, CRISIL, said, “This is the first time that deep analytical insights on small companies are being made available in India; CRISIL's effort will promote a better understanding of the SME sector.”

Less vulnerable

In the study sample, 2,200 companies were very small with sales of less than Rs 20 crore, and over half of them had low levels of debt (debt-equity ratio below 1), making them less vulnerable to interest rate hikes than their more leveraged peers.

Similarly, SMEs that are more capital-efficient as measured by Return on Capital Employed (RoCE), are less vulnerable to an interest rate hike. Fifty-two per cent of the companies surveyed had a high RoCE (over 15 per cent), and the impact of interest rate increases on them will be minimal.

On the impact of interest rates on SMEs' profits, Mr Ramraj Pai, Director, SME Ratings, CRISIL, said, “The study reveals that enterprises using capital efficiently and deploying debt sparingly would be the least affected.”

CRISIL said that the study also brought about four unique insights.

Enterprises in the service space are relatively insulated from the effect of interest rates, compared with SMEs in the manufacturing and trading sectors.

Industries such as chemicals, metals, and engineering were better placed while food processing, textiles, paper and agriculture-related industries were more susceptible to interest rates.

Third, the financial performance of SMEs based in Maharashtra, Karnataka, and Madhya Pradesh was less influenced by interest rates, than that of SMEs based in Haryana, Punjab, Andhra Pradesh, and Himachal Pradesh.

The study suggests that larger SMEs are more sensitive to interest rates, with many of them having borrowed aggressively to finance capacity expansion programmes.