Financing of Micro and Small Enterprises in China: An Exploratory Study

• Published date: 01 November 2013
• DOI: http://doi.org/10.1002/jsc.1949
• Author: Sow Hup Chan,Jason Jianxiong Lin
• Date: 01 November 2013

Strat. Change 22: 431–446 (2013)

Published online in Wiley Online Library

(wileyonlinelibrary.com) DOI: 10.1002/jsc.1949 RESEARCH ARTICLE

Copyright © 2013 John Wiley & Sons, Ltd.

Strategic Change: Brie ngs in Entrepreneurial Finance

Strategic Change

DOI: 10.1002/jsc.1949

Financing of Micro and Small Enterprises in China:

An Exploratory Study1

Sow Hup Chan

University of Macau, Macau, PR China

Jason Jianxiong Lin

Tongshang Rural Commercial Bank, Anhui, PR China

Introduction

Private enterprises have been of primary interest to policy makers in many coun-

tries around the world, including the developing and newly industrialized coun-

tries. Although the social and economic impact of private small and medium

enterprises (SMEs) is growing, micro and small enterprises (MSEs) — a subset of

the SMEs — has received relatively little attention from policy makers and

researchers alike. MSEs contribute substantially to the overall employment level

(de Wit, 1993) and represent the ‘backbone’ of the local economies in less devel-

oped countries (Heino and Pagan, 2001). Despite the rapid growth of MSEs in

emerging markets, few researchers have studied how the MSEs are  nanced. Little

has been written regarding factors that in uence their demand for seed capital

(Heino and Pagan, 2001). Does the development of MSEs face serious constraints,

including scarcity of long-term  nancial resources like those observed by Wu

et al. (2008) in the SME? To our knowledge, there has not been any study evaluat-

ing MSEs in relation to external  nancing. Are  nancial resources at start-up and

at the growth stage a major concern to the MSE owners?

While SME  nancing remains one of the most under-researched areas in

China (Wu et al., 2008), small business  nancing is also one of the most di cult

 elds in which to conduct empirical research (Berger and Udell, 1998). Previous

research noted that small businesses in China are making an increasingly

Microenterprise owners without

credit history foresee a need for

future borrowing.

Inclusive  nancing for MSEs is

vital to foster the development of

entrepreneurship and the creation

of new businesses.

Given the important role of MSEs

in the Chinese economy,  nancial

and quasi- nancial institutions

should  nd ways to support the

credit needs and development of

MSEs.

The  nancing predicaments of micro and small enterprises (MSEs) — such as MSE

owners requiring lower credit costs, longer loan repayment periods, monthly loan

repayments, and more diverse security methods to reduce access barriers — suggest a

need for  nancial inclusion of the unbanked and a future for the micro nance

industry in China.

1 JEL classi cation codes: D24, G21, G23, G28, L26, L31.

432 Sow Hup Chan and Jason Jianxiong Lin

Copyright © 2013 John Wiley & Sons, Ltd. Strategic Change

DOI: 10.1002/jsc

important contribution to employment and the national

income at a time of relative decline in the contribution of

larger businesses (Anderson et al., 2003). Given the

important role of small businesses in employment cre-

ation, and that a healthy small business sector can lead to

further expansion in SMEs (especially in rural and urban

areas as China is transitioning to a market economy), this

study seeks to contribute to the body of existing knowl-

edge regarding the  nancing of MSEs. Speci cally, this

study provides empirical evidence regarding the extent of

external  nancing sought by MSE owners, and identi es

the characteristics of MSE owners without credit history,

together with their needs and tendencies for micro nance

products.  e  ndings provide insights into the unique

needs of MSEs which could have a major impact on for-

mulating policy, and contribute to solving practical prob-

lems faced by MSE owners. For the purpose of this study,

an MSE is de ned as an enterprise which has total assets

of less than (or equal to) RMB 10 million or annual sales

of less than RMB 30 million, and total credit of less than

(or equal to) RMB 5 million (State Development Plan-

ning Commission, 2003).

Literature review

MSE  nancial capital

Access to credit is vital for the economic development of

MSEs and poverty reduction (World Bank, 1996). MSEs,

an important sector in the economy, are dynamic and

resilient, and may be a seedbed for entrepreneurial skills,

innovation, and new ideas.  e development of MSEs

faces serious di culties, especially in  nancing. A major

reason is that due to the enterprises’ small scale, they have

weak anti-risk ability, no standard business and  nancial

statements, relatively inadequate corporate governance

mechanisms, opaque information, and so on (Kong,

2007). In China,  nancial institutions are reluctant to

provide loans to MSEs due to the high credit cost and

high risk associated with the type of organization (Huang,

2010), although small business developments are condu-

cive to creating a prosperous rural and urban economy,

increasing employment, and improving living conditions

(Sun, 2008; Xu and Wang, 2010). MSEs also have great

strategic signi cance in improving the market economy

system, building a moderately wealthy society, and con-

solidating a sustainable harmonious society (Mao et al.,

2010). Given that  nancial capital is a vital resource to

form and subsequently operate the enterprise, the impli-

cations of a lack of capital include poor performance, risk

of failure, and limited innovation and enterprise develop-

ment.  e lack of capital or di culties in attracting long-

term  nance from banks seems to be a recurring theme

(Stanworth and Gray, 1991; Storey, 1994) that limits the

businesses’ growth. In China, the di culty of SME

 nancing has attracted great interest in both government

and academic circles, because SMEs have a crucial in u-

ence on the national economy. Wu et al. (2008) also noted

that the development of SMEs faces serious constraints

related to long-term  nancial support, especially long-

term loans and venture capital. Attention on MSE  nanc-

ing, however, has been neglected.

While the process involved in seeking external  nanc-

ing includes the need to identify potential  nanciers and

to provide information and guarantees (Jensen and Meck-

ling, 1976), the long lead time to loan disbursement, even

if approved, is a costly process. Such bottlenecks and

obstacles suggest that MSE owners use other  nancial

sources, often secured using informal arrangements. Given

that acquiring capital and dealing with  nancial institu-

tions is particularly di cult for small businesses, especially

those owned by women, and the fact that micro nance is

a supportive tool for female entrepreneurs, would micro-

 nance serve the unmet  nancing needs of MSEs in

China? Furthermore, if banks — considered a driving

force for entrepreneurship — are the most common

source of  nancing for  rms, why are MSE owners facing

external  nancing di culties? Moreover, would businesses

started with self-accumulated funds foresee a need for

future borrowing?