Growth prospects remain intact for European SMEs

Europe’s small and medium-sized companies have been hard hit by the multi-faceted crisis of the last two years, but Erwann Le Ligné and Florian Zimmermann argue that many of them will emerge strengthened by recent ordeals, well positioned to pursue their ambitions of developing into pan-European and even global champions.

SMEs that have prepared well can weather this storm

The successive shocks of the last three years have severely shaken the entire economy. But even as we brace for a likely recession, there is at least some heartening news out there: many of Europe’s small & medium enterprises have taken advantage of the recent spate of disruptions to raise their game. As a result, those SMEs that successfully tightened up their governance, diversified their geographic exposure in sourcing, production and sales, and successfully pursued the digitalisation of their operations, are today relatively well positioned to absorb future shocks.

This is not the first time European SMEs have faced such an existential threat. The financial crisis of 2008 slammed on the brakes for companies across the spectrum. However, the difference between then and now lies in the nature of the threat. The major challenge facing entrepreneurs after the great financial crisis 14 years ago was one of liquidity. Without access to funding, everyone was put on hold, but once the spigots reopened, a lot of companies were able to rebound quite quickly. The Covid shock was different because government moves to lock down the economy revealed new challenges that no one had faced before, notably a global supply chain disruption.

Governance, management and finance will be key

Today, for anyone surveying the SME landscape in a bid to identify likely winners, or even just survivors, the key lies in governance, management and access to capital.

It can be lonely as an entrepreneur in tough times. So managers who have garnered the support of a sound Supervisory Board - including, for example, private equity professionals or others with experience from other markets or companies - will find themselves with a head start. Another clear indicator of future resilience will lie in senior management. The companies that will best weather the coming storms have already set in place a diverse and complementary top team, each with an entrepreneurial mindset, adhering to clear decision processes while also displaying an autonomous sense of initiative.

A third green light will be in the quality of an SME’s financial backing. The support of a solid shareholder, such as a private equity sponsor, is demonstrably essential to getting through a macro-economic crisis, not simply because of the all-important immediate access to money, but also because it ensures a certain stability, and can open the doors to new financing solutions.

These include direct lending vehicles, such as unitranche debt, which provide companies with a flexible solution and financing partners. The attractiveness of unitranche debt in particular can be seen by its growing market share: last year about 60% of the SME transactions supported by private equity were financed via unitranche or similar products.

A wave of market consolidation in view?

Looking ahead, there is understandably some expectation that the impact of today’s tough times will precipitate a wave of consolidation among SMEs across Europe.

Certainly, many entrepreneurs have understood that being too small in the face of such headwinds is a challenge, and even a liability. This isn’t necessarily new. Many reached the same conclusion after the financial crisis of 2008 and haven’t forgotten that lesson. As a result, partnering with peers is high on the agenda of most ambitious SMEs.

For some it’s a question of forging partnerships, but there is also a real impetus for business leaders to think more proactively about mergers & acquisitions. The clear goal for any SME looking to join forces with a similarly sized competitor, is that their newly-merged company should retain the agility and entrepreneurial mindset that each partner previously enjoyed on its own.

A bigger footprint allows entrepreneurs to reach beyond their home market, tackling new territories, winning new clients, and present new business opportunities. Therefore, the combination of two like-minded players can boost resilience and open the path to additional growth through new products and services, including upselling and cross-selling opportunities. The big ambition that should be driving any SME today is the dream of emerging from the current turmoil as a European champion, providing a springboard for the next phase of development in international markets from Asia to America, offering real opportunities to expand.

While no entrepreneur should willingly surrender that long-term goal, the immediate task to hand for businesses and their backers will be to navigate the next year. For that, nothing can replace sound governance, disciplined management, and professional shareholders able to bring their experience, their knowledge, their networks and their resources to the table to ensure long-term success.