[VIP专享]Financing Difficulties of SMEs in China

Financing Difficulties of SMEs in China

Abstract

With the constant progress of the society and the rapid development of global economy, the reform and opening up policy of China has provided a good policy platform for the vigorous development of small and medium-sized enterprises (SMEs). And SMEs have become the important force of sustained, rapid and healthy development of China's economy. Moreover, SMEs have played an irreplaceable role in promoting China's economic development, absorbing labors and promoting market prosperity. But with the global economic integration, the domestic small and medium-sized enterprise’s operating environment is facing tremendous changes and more intense competition. This paper introduces the importance of SMEs for China’s economic development, describes the source of financing SMEs and analysis of the causes of SMEs’ financing difficulties. Finally, the article takes Zhejiang YiErKe Environmental Equipment Co., LTD successful financing as a case, introduces a new tool of financing called"Bridge and Tunnel Mode" and discusses the functions of this new tool.

The importance of SMEs for economic development in China

In China, half of the market economy was dominated by small and medium-sized enterprises.According to the latest statistics, industrial and commercial registration of SMEs in China has breakthrough 1000, 99.8% of the total number of national registered enterprise. Those small and medium-sized enterprises’ industrial output value, sales revenue, pre-tax profits and total exports, respectively, account for 60% ,57%, 40% and 60% of all enterprises. 75% of the urban employment opportunities, 65% of the invention patent and more than 80% of the new product development are provided by those enterprises.They are the main force of pushing forward productivity and technological innovation in the society.

The sources of financing SMEs

For a long time, financing difficulty has been the bottleneck of restricting the development of small and medium-sized enterprises. There are many causes, one of which is the lack

of correct understanding of financing tools. Some of those enterprises hold a relatively narrow view of financing and they prefer to use bank loans and IPO Management, rather than using other tools for financing. If the small and medium-sized enterprises want to develop better and occupy more market share, they must learn to use new financing tools as follows and expand their financing channels effectively.

Financial Leasing

Finance leasing is a transfer of risks and rewards of ownership of the leased asset to the lessee, but not the actual ownership. And financial leasing has special advantages in solving the problem of corporate financing compared with other tools.

Pawn Loans

Compared with bank loans, pawn loans need to pay a higher overall cost included the safekeeping fee, premium and pawn transaction costs. Therefore the cost of pawn loans is high and the scale is relatively small. But its operation process is simple, so that it can quickly and timely solve the funding needs of the enterprises.

Venture Capital

Venture capital is originated from Silicon Valley in 1940s’ United States. The study of Grahame and Mansoor (2006) indicates that the mechanism of venture capital fund to make money is through taking possession of equity from the invested company. Venture capital has experienced a long time to introduce and growth in China, and in terms of policy system and the operation process, it is a relatively mature source for small and medium-sized enterprise financing.

Credit Guarantee Loans

Credit guarantee is a kind of intermediary service between banks and enterprises.Due to the intervention of credit guarantee, the risk of bank loans will be dispersed and resolved. And since the security of bank assets can be guaranteed, the small and medium-sized enterprises will become more available to get access to bank loans successfully.

Natural Person Guaranteed Loans

In August 2002, the ICBC(Industrial and Commercial Bank of China Limited) first introduced the natural person secured loan business. Mortgage properties include individually-owned property, right in land use and transportation tools, etc. This innovation has opened up a convenient green channel for SMEs financing.

Current Financing Situation of China’s SMEs

SMEs Financing Sources Are Limited

At present, the financing channels of small and medium-sized enterprise are narrow. SMEs’ development are mainly relied on their own internal accumulation. This will lead to SMEs’ proportion of internal financing will become too high, external financing proportion

would be relatively inadequate. Bank loan is the most important external channel of financing SMEs. However, banks mainly provide liquidity and supplementary capital of fixed assets, and rarely provide long-term credit

Long-term Liabilities Are Declining and Enterprise's Own Fund Is the Main Finance Source

When compared SMEs in eastern, central and western regions of China, The most obvious differences between those three regions are the proportion of Its own funds and foreign investment. While the financial institutions loans ratio difference is not obvious. In the proportion of its own funds, the eastern region is nearly 15% higher than the central and western regions. This kind of difference shows that the eastern region’s SMEs have relatively high profit level and strong ability of self cumulative.

Disharmony Between Banks and SMEs

Loans from the bank is the main financing channels for SMEs in China. However, the relationship between banks and SMEs has been in a state of disharmony. After the Asian financial crisis, the domestic banks generally began to attach importance to the safety of credit assets and tighten loans for small and medium-sized enterprises. Many enterprises, especially small and medium-sized enterprises, began to complain that the bank's credit condition is too harsh. In 1998, there was a period of negative growth in enterprise credit. The small and medium-sized enterprises’ credit suffered most among all the enterprises.

The Causes of SMEs’ Financing Difficulties

ⅰ.SMEs can not attract credit funds efficiently.

Unsatisfactory performance and low credits are the biggest obstacles for small and medium-sized enterprise to get loans successfully. Besides those obstacles, the majority of SMEs still exist some shortcomings of administration like lack of management experience, weak industrial base, non-standard governance structure, unsound financial regulations and low transparency. These shortcomings make SMEs become less attractive for credit funds like bank loans.

ⅱ. The anti-risk ability of SMEs is weak

Many small and medium-sized enterprises management mode is still family-run management. These enterprises lack of managers and administrators who are proficient in modern enterprise management ideas. This kind of organizational structure causes weak anti-risk ability of SMEs and it mainly can be shown in the following four aspects.

Firstly, the family-run management mode can cause low enterprise management level and

sometimes may make decisions blindly. Such enterprises can not meet the requirements of market economy. Secondly, enterprises’ ability of loan mortgage guarantee is

insufficient. And a large number of enterprises fixed assets is inadequate and asset-liability ratio is too high. Thirdly, most of the SMEs lack of clarity of property rights. And finally, the Industrial and product structure is not reasonable. These defects result in negative influences on credit support from banks.

ⅲ. Negative effects from the system of commercial banks

Due to China's commercial banking system, especially the major big four state-owned commercial banks are experiencing a transition period and far from being truly market-oriented and commercialized. In order to guard against financial risks, state-owned commercial banks actually have transformed their development strategy to large enterprises and cities in recent years. These changes caused SMEs located in the small cities have difficulties in getting access to credit service (David and Li,2012).

ⅳ.The scale of credit guarantee institutions is small.

The current development of credit guarantee industry which specially served for SMEs is difficult to meet the needs of improving the capacity of the credit for SMEs. The credit guarantee institutions built by government usually can only get a one-off financial support at the beginning of the preparation and lack of follow-up compensation mechanism. As for the credit guarantee institutions owned privately, they are limited by the system of ownership and have to bear the risk of loans guaranteed alone. They are unable to form sharing and collaboration mechanism with bank.Paola (2012) demonstrated that raising money form the credit guarantee institutions are the most effective tool of financing SMEs.

ⅴ. Financial system structure is unreasonable and policy support is not enough. The main body China’s existing credit system is the state-owned commercial banks. The number of local small and medium-sized banks which are the main suppliers of small and medium-sized enterprise capital is small. Policy banks specially served for SMEs are insufficient in the market.

Case Study: Zhejiang YiErKe Environmental Equipment Co., LTD financed successfully through "Bridge and Tunnel Mode"

The introduction of "Bridge and Tunnel Mode"

The "Bridge and Tunnel Mode" is the innovative main market of SMEs’ financing sources. It refers to build a bridge between the credit market and the capital market. This new source of financing enables the small and medium-sized enterprises’ loan application can cope with the bank's risk control requirements through credit guarantee from the credit guarantee institutions and promises from venture capital firms. After finance successfully from bank loans, it would meet the capital needs and the further development of SMEs’

model of risk investment purposes .

The analysis of YiErKe company’s finance case

Finance background

Zhejiang YiErKe Environmental Equipment Co., LTD founded in October 2004 and has a staff of 360 people. It belongs to the HVAC (heating, ventilation, and air conditioning) industry. YiErKe adopted differentiation strategy and clarified company’s orientation is the engineering services provider of advanced home environment and smart integrated systems. The company's business is dominated by chain operation. In recent years, the company has entered a rapid development period.Within two years, the market share has increased by 40% and annual sales exceeded 200 million yuan(RMB). And because of most of the company’s customers are high-income groups living in villa residential area, the structures of receivables are good and the potential for development of enterprise is huge.

The process of financing

In 2012, since the company has entered a critical period of rapid expansion, YiErKe requires a lot of money for developing. However, Zhejiang Business Bank refused YiErKe company’s request of 10-million loan due to the absence of fixed assets as collateral.

At this point, a venture capital firm called Sansei Stone got involved and committed to take responsible of 70% repay of the loan when YiErKe experiences a financial crisis in a two-year observation period. Meanwhile, Sansei Stone can gain a 10% right to issue shares options conditions for its benefits. After received such a consensus and had the guarantee of a guarantee companies in zhejiang, YiErKe gained 10 million yuan of liquidity loans with 5% interest from Zhejiang Business Bank.

The roles of "Bridge and Tunnel Mode" in YiErKe’s financing case

The "Bridge and Tunnel Mode" is the result of the inner demand guarantee model. This is an inner demand of the development of the guarantee mode itself. The generation of guarantee companies is because of asymmetry of information from different parties. The further requirements of information symmetry in capital market stimulate the generate of "Bridge and Tunnel Mode". To a certain extent, it can alleviate the dilemma of traditional mode and make the financing of SMEs become much easier.

Conclusion

SMEs have become the important force of sustained, rapid and healthy development of China's economy. There are many kinds of financing sources can be adopted for financing small and medium-sized enterprises .It is important for SMEs to choose correct and appropriate financing sources to solve the company's financial difficulties.Through improvement of the financing sources, SMEs will become increasingly important and irreplaceable in promoting economic development in China.

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