By Shen Hengchao, Research Team on "Strategic Major Research on Building Hefei into an Innovative Trial City", Department of Techno-Economic Research (DRC)

Research Report No 69, 2011

Technology-based small and medium-sized enterprises are the most active innovation-oriented group among all small and medium-sized enterprises. The financing methods suited for them are different from those for ordinary small and medium-sized enterprises, such as risk investment, private shares and corporate bonds, etc. This paper deals with financing for technology-based small and medium-sized enterprises (hereinafter referred to as small and medium-sized enterprises).

In recent years, local governments have made positive explorations to ease the financial straits facing small and medium-sized enterprises. Those local financial innovations are of exemplary significance to the formulation of policies on the national level.

I. Financial Straits Facing Small and Medium-sized Enterprises

It is difficult for small and medium-sized enterprises to gain access to financing and it is more difficult for these enterprises, which have just been established and are seeking their own growth, to gain access to financing. In developed countries, these enterprises usually gain financing by issuing corporate bonds, raising shares privately and attracting risk investment. Their ability to raise funds will be substantially improved when they grow to a certain maturity. Thus, apart form the aforesaid ways for raising funds, they can also get financed with loans from commercial banks, through public listing or financial leasing.

Compared to developed countries, channels for small and medium-sized enterprises to raise funds in China are few and far between: OTC trading market that is suited for private shares and corporate bonds has not yet grown up; the size of the risk investment is small and such investment is bound up in enterprises on large investment scale; private sector borrowing has been long conducted underground; commercial banks are quite prudent with small and medium-sized enterprises short of collaterals; the threshold is high for issuing corporate bonds, public listing and issuing corporate bonds openly; the financial leasing industry is quite underdeveloped.

1. It is hard to raise equity funds

There are two ways to collect equity funds：First is to collect the funds on the stock market; the second is to strive to acquire risk investment.

(1) The multi-leveled stock market suited for small and medium-sized enterprises to obtain finance has not yet grown up

In developed countries, the national public listing markets at the highest level and the regional private stock markets at the lowest level have all grown to maturity. The overwhelming majority of small and medium-sized enterprises cannot live up to the requirements for public listing, but they can collect shares privately.

The level of China's stock market is still unitary. The national public listing market at the highest level is ripe. Although the transactions outside the market have developed, they remain at the preliminary stage and have not functioned effectively.

Issue of shares by listed companies needs to be verified and approved by China Securities Regulatory Commission and the shares should be traded in Shenzhen and Shanghai; shares of non-listing public companies, if withdrawn from the market, should be traded under the agency share transfer system (Old San Ban) at non-listing companies and the newly issued shares should be traded on the OTC trading market in Tianjin, with the latter being under construction; shares issued by non-public companies through private collection are currently being traded under the agency share transfer system (New San Ban) in Zhongguancun and at Tianjin Equity Exchange and China Hi-tech Property Exchange (CHTPE), but on a very small scale.

The Company Law promulgated in 2006 has removed the legal obstacles for private shares, yet private shares have not become an effective means of financing due to the impeded trading channels.

(2) The size of risk investment is small and such investment is bound up in grown-up enterprises

As an important channel of financing for independent innovation, the risk investment is highly valued by governments at all levels. The central government and the local governments have all come up with encouragement-oriented policies. However, due to the impediment of the withdrawal channels, the heavy burden of taxation and the imperfection of the systems relating to privately offered funds, the size of the risk investment tends to be small and is bound up in grown-up enterprises, making it difficult to meet the demand of small and medium-sized enterprises, particularly of those in their early development. The survey data made by China Venture Capital Research Institute indicate that in 2009 556 brisk risk investment institutions completed a total of 689 projects worth of only 31.664 billion yuan.

2. It is hard to collect debt funds

There are two ways for collecting debt funds: The first is to get financed directly on the bond market; the second is to get loans through financial intermediaries.

(1) Issue of enterprise bonds and public issue of corporate bonds have little to do with small and medium-sized enterprises

In developed countries, a registration system is carried out for the issue of corporate bonds which is mainly brought into effect through OTC. The system is a means of financing preferred by small and medium-sized enterprises, with its size of financing being several times that of equity financing.

Historically, there have been enterprise bonds and corporate bonds apart from government bonds on the bond market in China. Issue of enterprise bonds is based on Regulations on Management of Enterprise Bonds promulgated in 1993, being examined and approved by National Development and Reform Commission, and with enforcement through mandatory administrative order, with the bond rates being strictly controlled. The enterprise bonds are basically equal to the government bonds and the issuers are almost all State-owned enterprises.

The Securities Law enacted in 2005 has set the thresholds for companies to issue corporate bonds. The net asset of the joint-stock companies shall not be less than 30 million yuan and that of the limited liability companies shall equal no less than 60 million yuan, being equivalent to a company being listed. The small and medium-sized enterprises see no possibility to scale these thresholds.

The Securities Law has offered no detailed provisions for the issue of private corporate bonds but some principled restrictive clauses. Moreover, the OTC trading market for privately raising corporate bonds has not yet grown up. Without channels for issuing and trading such bonds, small and medium-sized enterprises are unable to do the financing by privately offering corporate bonds.

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