Challenges of SMEs innovation and entrepreneurial financing
Jarunee Wonglimpiyarat College of Innovation, Thammasat University, Bangkok, Thailand
Abstract Purpose – Today, the financing mechanisms to support small-and medium-sized enterprises (SMEs) development have been a subject of great interest and a challenge to policy makers as SMEs are regarded as an important sector contributing to economic growth and stability. This paper is concerned with the bank financing policies to support SME development in China. The purpose of this paper is to examine the governmental financing policies and the innovation financing system of China. The discussions are focused on the bank financing policies to support SME development in China. Design/methodology/approach – This study is a qualitative research with the use of case study methodology (Eisenhardt, 1989; Yin, 2003). The research is focused on the policy perspectives of bank financing to support SME development in the case of China, the world’s fastest-growing economy. To explore the role of financial institutions and banks in SME financing in China, the research also derives evidence from a collection of documentary investigation. The research fieldwork and interviews were undertaken in Beijing and Shanghai, major financial centers in China, with the use of semi-structured questionnaire. The analyses are undertaken to answer the key questions of: What are the Chinese government’s strategies to support the development of SMEs? To what extent the government policies in bank financing can support SMEs and promote the development of an innovative economy? Findings – The empirical study has shown that despite the introduction of the 12th Five-Year National Economic and Social Development Plan to support SMEs development, China still needs to improve regulatory policies in support of innovative businesses which would help its transition to an innovation-driven economy. The study provides lessons and policy guidelines to improve the competitiveness of SMEs in China. The insights from this study can also be applied to other developing and emerging economies attempting to understand the role of financing mechanisms in building an innovative economy. Originality/value – The study has addressed the policy challenges to support SME development in China, a major Asian emerging country and one of the fastest-growing economies in the world (with averaged growth rate of 10 percent per annum). The empirical study of policy challenges was undertaken in Beijing and Shanghai, major financial centers in China. The study offers insights which can be applied to other developing and emerging economies attempting to understand the role of SME financing policies and mechanisms in building an innovative economy. Keywords Sustainable development, SMEs Paper type Research paper
1. Introduction China is one of the fastest-growing economies in the world (with averaged growth rate of 10 percent per annum). In 2014, China was placed in 23rd position according to the International Institute for Management Development world competitiveness ranking and 28th position by the World Economic Forum. After joining World Trade Organization (WTO), China has adopted trade liberalization policies and various government policies to drive its economy. Small-and medium-sized enterprises (SMEs) play a significant role in the economy of China as they are the thrust sector that account for 60 percent of total
World Journal of Entrepreneurship, Management and Sustainable Development
Vol. 11 No. 4, 2015 pp. 295-311
©Emerald Group Publishing Limited 2042-5961
DOI 10.1108/WJEMSD-04-2015-0019
Received 23 April 2015 Revised 9 June 2015
Accepted 16 June 2015
The current issue and full text archive of this journal is available on Emerald Insight at: www.emeraldinsight.com/2042-5961.htm
The author is thankful to Dr Pravit Khaemasunun, Yanathip Techawiset, Professor Shufen Dai, Kesrin Ariyaponges and China Thai Chamber of Commerce for all research advice and support.
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financing
industrial outputs and 80 percent of jobs created in China. The Chinese government thus realizes the importance of building an innovative economy through enhancing SMEs’ capabilities. In building an innovative economy, the Chinese government has introduced the 12th Five-Year National Economic and Social Development Plan to support SMEs development. This paper attempts to understand the challenge of financing innovative economy through SME development in China.
The paper is organized as follows. Section 2 reviews the theoretical framework on the banks, financial institutions and their role in innovation. It also reviews the literature on venture capital (VC) financing to support SME development. Section 3 describes the research design and methods. Section 4 discusses the analyses of findings with a focus on the bank financing policies to support SME development in China. Section 5 concludes the paper by drawing lessons and insights that can be used as policy guidelines to improve the competitiveness of SMEs.
2. Theoretical framework SMEs are the economic sector making a significant contribution to economic growth and job creation. However, they often face significant difficulties in accessing the kinds of financing they need for growth (Pissarides, 1999; Hyytinen and Toivanen, 2005). Although the studies on traditional sources of finance for start-up are already voluminous (e.g. Moore, 1993; Gompers and Lerner, 1998, 1999, 2001; Mani, 2004), there is a gap of research linking the study of entrepreneurial financing to the aspect of public policies in developing countries. Therefore, this study attempts to fill a gap in existing research by exploring the bank financing and VC financing to support entrepreneurial activities. Table I lists the types of financing and sources of capital to support SMEs.
In filling the research gap, this study will make a contribution to the body of knowledge in SMEs innovation and entrepreneurial financing. Thus, the structure of the theoretical framework section will be divided into two parts:
(1) Banks, financial institutions and their role in innovation.
(2) VC financing to support SME development.
2.1 Banks, financial institutions and their role in innovation Banks and financial institutions play an important role in terms of providing credits to support the economic growth. Bank financing is critical to the functioning of the economy since it is an important source of funding to support SMEs development. Nevertheless, banks and financial institutions are reluctant to provide credit lending to
Investor Goals
Family Success, payback Friends Payback, friendship Credit cards Payment Suppliers Payment relationship Business angels (private investors) Payback, returns, control Venture capital Fast growth, multiple returns, ownership Banks Payback, collateral Source: The author’s design
Table I. Types of financing and sources of capital to support SMEs
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SME sector due to the riskiness of early stage ventures in terms of insufficient assets, having no proven track record and low capitalization (Berger and Udell, 1998, 2006; Black and Gilson, 1998; Wonglimpiyarat, 2007; Menkhoff et al., 2012; Fredriksson and Moro, 2014). As a result, they do not see this sector as a profitable business. In other words, they do not see worthwhile returns on SME investments or whether such investments would provide a potential pay-off.
Figure 1 portrays the valley of death (or the funding gap), the difficulties encountered by all SMEs in accessing the needed capital to grow their businesses. The valley of death refers to the period before a company can generate revenues, making it difficult to get the finance it needs to grow a business in the start-up period (Ehlers, 1998). Table II shows the target returns by investment stages (Bygrave et al., 1999). It can be seen that the high level of risks in early stage investment requires the highest return (internal rate of return over 50 percent) to compensate the risks that are higher than those in other stages.
Looking from an economic development perspective, Schumpeter (1939, 1967) argues that finance and financial institutions are the mainstream of innovation system as well as crucial determinants of the entrepreneurial ability to develop the new economy. The entrepreneurial firms are seen as playing a crucial role to the economy in terms of creating jobs contributing to economic growth and stability. Realizing the high risk nature of SMEs, many governments have tried to bridge the valley of death and improve SME capability. They see the valley of death as a challenging task in terms of introducing policies to manage the financial risks that
Basic Research; Invention
The Valley of Death
Political picture of the “gap”
“Valley of Death”
Applied Research; Innovation
Source: Ehlers (1998)
Figure 1. The valley of death
faced by SMEs
Investee development phase Expected return represented by internal rate of return (IRR) % per annum
Early stage (Seed/Start-up) IRRW50 Expansion and growth 40W IRRW35 Maturity stage (Bridge, Management buyout) IRRW30 Source: Bygrave et al. (1999)
Table II. Target returns by investment stages
