ChiNext, China's measures to help SMEs

Nov. 20, 2009 (China Knowledge) - On Oct. 30, after 10 years of preparation, China launched ChiNext, a new secondary board in Shenzhen, one of China's key economic cities and home to China's first economic zone. The Nasdaq-style board aims to nurture small and medium-sized growth companies in the country and provide them new financing channels amid the global economic recession.

ChiNext made a strong debut. Stocks on the ChiNext board rose as much as 210% on the first day of trading. In two weeks of trading, the trading volume of the ChiNext was about 110 million shares, or 1.7% of the volume of the main board of the Shenzhen Stock Exchange, while the trading turnover of the ChiNext was nearly RMB 4.8 billion, or 6.7% of the main board's.

The average PE ratio of ChiNext stocks remains at a high level. Presently, the average PE ratio of ChiNext stocks is over 100, nearly 2.5 times that of stocks on the Shenzhen main board and 3.6 times that of stocks on the Shanghai stock market. The figure is about 3 times the PE ratio of stocks on the Hong Kong GEM, the stock market for growth enterprises in Hong Kong.

The high PE ratios have triggered worries. In 2009, China’s stock market and real estate markets have been rising quickly. The Shanghai Composite Index soared from 1,820 on Jan. 1 to 3,187 on Nov. 13, while the Shenzhen Component Index rose from 6,795 to 13,264. Land prices in 105 cities in mainland China grew 0.36% year on year in the third quarter.

While the opening of ChiNext has had an uncertain effect on the stock market, its effect on the development of China’s small and medium-sized enterprises (SMEs) is clearly positive. In China, SMEs are companies that have annual revenue below RMB 300 million (US$44 million). They are the major driving force for the country's economy.

By the end of 2008, China's 9.7 million SMEs accounted for 99% of the total number of enterprises. Together they generate over 60% of the country’s GDP and provide jobs to over 80% of urban employees.

Although the SMEs contribute more than half of the country's GDP, their operating environment has been tougher than that of larger companies during the global crisis. In 2008, over one million SMEs closed. Lack of financing is the biggest problem SMEs face. Since the stock markets set a high threshold for listing, SMEs' major financing channels are commercial loans and government subsidies. To date, 98% of the SMEs’ funds come from banks.

Nevertheless, although China's premier, Wen Jiabao, has asked banks to support SMEs' many times, most banks, especially the large-scale state-owned banks, hesitate to lend money to SMEs because it is risky to do so. Of the RMB 7.37 trillion in loans granted in the first half of 2009, loans to SMEs accounted for less than 5%. Such a modest amount of lending cannot satisfy the needs of China's SMEs. According to a survey conducted by the Statistics Bureau of Shanghai, 71.1% of SMEs saw no business improvement after being granted a bank loan.

The launch of the ChiNext board will ease such problems in the long run. Although there are only 28 lucky companies in the first group, more are expected to be allowed to list in the future. After financing problems have been solved for more SMEs, economic growth and employment will improve. Improving the economy and creating more jobs are currently two of the primary objectives of the Chinese government.

In addition, the move is also good for China's industrial upgrading and technological innovation, two other areas in which the government would like to see improvement. China has long been called the “World's Factory,” given that over 90% of its SMEs are engaged in labor-intensive industries such as textiles, garments, toys, furniture, and OEM electronic manufacturing.

Most of the listed companies now listed on ChiNext are high-tech SMEs engaged in advanced manufacturing and services rather than in labor-intensive industries. High-tech SMEs drive China's technological innovation. In 2008, they filed 66% of the nation’s total patents. The government has stated explicitly that it will support the development of such companies.

By the end of 2008, China had 160,000 high-tech SMEs. They accounted for about 2% of the total number of SMEs. Another 44,000 SMEs are in the process of being established. If ChiNext succeeds as a fund-raising platform for SMEs, it will be an important step in China's quest to increase its innovation capability and overall strength. The U.S.'s Nasdaq board has helped Silicon Valley to take shape; a similar process may also take place in China.