Sectoral disparities and the nonlinear role of intellectual capital in Indian SMEs

Abstract This study investigates the impact of intellectual capital (IC) on the financial performance of Indian SME (small- and medium-sized enterprises), with a particular focus on sectoral and nonlinear effects. Using panel data from 65 manufacturing and 35 service sector SMEs listed on the BSE SME (2013 to 2023), this study employs multiple and quadratic regression models to regress SME financial performance (profitability, productivity, and firm growth) on MVAIC framework of IC measurement. The results reveal that the effects of IC on SME performance vary across sectors, with structural capital consistently emerging as the key driver before the IC threshold point. Beyond this threshold point, SME performance declines according to sector, likely reflecting the obsolescence of structural capital and the utilization intensity of physical capital across the sectors. In contrast, relational capital in the service sector consistently contributes to financial performance, without any decline in its positive effect. Furthermore, combining human capital efficiency and capital employed efficiency is consistently associated with a detrimental impact on overall financial performance across sectors, underscoring a critical strategic trade-off. The benefits of human capital can be maximized when combined with structural and relational capital. Overall, the IC–performance relationship follows a predominantly an inverted U-shape, though Indian SMEs appear to operate below the optimal threshold. This study maps SME performance along the IC “life cycle,” identifying crucial IC components, points of performance decline, post-threshold fragility, the sustained resilience of relational capital in service SMEs, and value-detrimental IC interactions. These insights emphasize the importance of strategic alignment in IC investment. Finally, the study offers a practical relevance for SME managers to determine optimal level of IC investment and prioritize high-impact IC components while avoiding value-detrimental ones for enhancing overall financial performance.