Some of Scotland's best loved small theatre companies face closure following the publication of Scottish Arts Council funding plans that have distributed £7million to 63 arts organisations - but turned down applications for another £7million.

Edinburgh's Theatre Workshop, 7:84 theatre company and Suspect Culture, along with the X-Factor Dance Company, were among 42 unsuccessful groups that sought to win “flexible” funding from the Scottish Arts Council, with bids for as much £375,000 per annum rejected.

Some companies bitterly complained that they had been left without any financial support from the public body whose stated mission is to foster “arts of excellence through funding, development, research and advocacy”.

As performing arts companies struggled to come to terms with the implications of huge budget cuts, Robert Rae, director of Theatre Workshop, attacked the Scottish Arts Council for “gross incompetence”, while Graham Eatough, artistic director of Suspect Culture, said the funding decisions had been made “in a vacuum”.

However, Jim Tough, acting chief executive of the Scottish Arts Council, emphasised that one of the fundamental criteria of his organisation's decision-making process had been “artistic quality”, and accepted that some well-established theatre companies may have “had their day”.

“You could argue that political theatre now is what minority ethnic communities are bringing through, and how that is represented on the stage. This is not about a particular brand of political theatre and we don't have a funding category for political theatre. What we fund is good theatre. That's the dynamic. Some theatre will be politically challenging, but for me that changes over time,” Mr Tough said.

Past productions by Theatre Workshop include Black Sun over Genoa, a response to the G8 summit in 2001, and Babylon Burning, in which a 100-strong cast played out issues raised by the conflict in the Gulf. The 7:84 company, founded by the late John McGrath, has for a generation been a standard bearer for radical theatre.

Mr Tough argued that artistic quality had to be analysed from a variety of perspectives, “It's not to say a company is suddenly very bad - but there might be others who are coming through who have been judged to be more artistically exciting or have better quality work. That's the tough bit of this job,” he said.

Lizzi Niccol, director of the Federation of Scottish Theatre [FST], welcomed the announcement of funds for successful organisations, but said that the broader picture showed that the amount of funding available to flexibly-funded drama and dance groups between 2009 and 2001 represented a drop of 18 per cent per annum, which followed a drop of 4.5 per cent for flexible funding in the same sector between 2007 and 2009.

“FST believes these cuts weaken the infrastructure of the performing arts in Scotland and we would prefer growth in the sector, rather than the replacement of a previously funded company with a new one,” she said.

Ms Niccol added that the five national performing companies - Scottish Opera, Scottish Ballet, the RSNO, the Scottish Chamber Orchestra and the National Theatre of Scotland - had enjoyed an increase of 4.4 per cent in funding from the Scottish Government in 2008/09, but the sums available to SAC “foundation” and flexibly funded organisations had dropped by 2.5 per cent per annum.

“The threat inherent in a two-tier funding system becomes increasingly alarming. While the national companies represent high levels of achievement, the organisations comprising the infrastructure are working ceaselessly to deliver excellence. Their future must be safeguarded,” she said.

Mr Tough, however, denied that there had been a “displacement” of funds. “The National Theatre of Scotland has succeeded in being part of and of reinforcing the country's theatre ecology. There may be nuances or concerns in some areas, but in terms of this process I have no sense of displacement,” he said.

Ms Niccol's criticisms were echoed by Mr Eatough, who said that funding policy appeared to be directed towards the national companies, and big theatres in central Scotland, such as the Citizens in Glasgow and the Royal Lyceum and the Traverse in Edinburgh.

“The problem is that even with a subsidy, it is very hard for Scottish theatre companies to survive. The arts council is every organisation's key funder - and without their subsidy it becomes almost impossible to survive,” Mr Eatough said.

Over 12 years, his company has established an international reputation for new work, and Suspect Culture's latest production, Static, is currently receiving enthusiastic reviews at London's Soho Theatre.

“I am hugely disappointed and confused by the funding announcement,” said Mr Eatough. “We have a successful London show which speaks of a company at the top of its game. This is a decision which feels like it was made in vacuum. It is very upsetting.”

Mr Rae said that the Scottish Arts Council assessment of Theatre Workshop had been fundamentally flawed, and that arts council officers had not correctly identified at least one play which the company had staged. The company has established a name for its community work, and claims it was the first professional producing theatre in Europe to include disabled actors in its main productions.

“As far as I can see we have been cut because we are deemed ‘too polemic'. The production we were judged on was Samuel Beckett's Endgame, which played to full houses. Are they really saying that Beckett is too ‘issue-based'? I don't understand that unless disability is an issue,” said Mr Rae.

Flexible funding was introduced in 2006 after the Scottish Arts Council's strategic review, and is designed “to make room for innovation, growth and development within the sector” according to the body. Yesterday's funding decisions were made by the Joint Board of the Scottish Arts Council and Scottish Screen, the two publicly-funded arts organisations which will shortly be merged into Creative Scotland.

Also unsuccessful in their applications were Pitlochry Festival Theatre, the Dumfries and Galloway region, Scots language organisations and the voluntary sector.

Mr Tough said that the SAC would be working with local bodies to achieve “a sustainable arts provision in those areas” and added that a budget had been set aside.