Sme Financing International Best Practices

SME Financing International SME Financing International Best PracticesBest Practices

2 SME Financing International Best Practices

Fundamental Considerations Fundamental Considerations

• Appreciation of the Importance of SMEs– Technology – Based– Traditional

• Cultural and Economic Factors of Society• Supportive Legal/Regulatory Framework• Access to borrowings• Equity:

– Government– Non-government foreign and domestic


Importance of SMEsImportance of SMEs

• To the Economy– Job creation– Innovation

• To Society– Management– Ownership

• To Individuals – Wealth Creation– Accomplishment


Cultural and Economics FactorsCultural and Economics Factors

• Entrepreneurship

• Support of family and friends

• Competitive advantages

• Education

• Government programs of support

• Relationship to large companies


Legal and Regulatory Environment Legal and Regulatory Environment

• Law allows formation of a new company

• Number of regulatory approvals

• Time & difficulty of required approvals

• Honesty & transparency of regulation

• Sickness & closure of companies


Legal and Regulatory – Best Practices Legal and Regulatory – Best Practices

• Basic Principles:1. Simply the formation of company and investment funds by

eliminating barriers & regulations2. Require disclosure to parties3. Protect the interest of stakeholders with general laws

• Laws to Protect Stakeholders

For Example: 1. Workers protected by general labor laws.2. Investors protected by laws establishing rights and enforcement3. Customers and suppliers protected by contract laws4. Environment protected by law



• Access to Financing • Borrowing• Equity Financing • Venture Capital

• Current Sources of Borrowings • Banks• Informal Lenders



• Best Practices Government Support • To encourage bank lending to technology-based SMEs, form credit guarantee

companies• Loan guarantees to be made available to businesses that are not high tech• Each credit guaranty company operates independently

• Best Practices for Credit Support International best practice suggests desirability of

• Uniform and consistent practices• Common credit standards and regulations• Central re-guaranty program as incentive• Marketing and promotion• Need for training of guaranty personnel• Risk management and central data base • Lenders who are not banks

• Loan Related Facilities • To support a lending program, a Credit Rating System should be developed• A secondary market for the guaranteed portion of loans would be helpful• A micro credit program could serve small startup companies with very small loans



Increasing Availability of Equity• Equity currently available from:

• Friends and family• Foreign investors• Government-funded venture capital funds (primarily for high tech

companies)• Almost no domestic private equity invested

Reasons for Equity Shortage

• Equity investors seek highest return consistent with the risk of the investment• SME investments are difficult to evaluate • SME investments take time to mature• They are often difficult to liquidate• In China, major institutional investors (pension funds and insurance

companies) are not allowed to invest in private SMEs


Equity International Best Practice Equity International Best Practice

• To encourage investment in SMEs, most countries have programs that either:

• Increase potential returns to investors or • Reduce risk of loss

• A pilot program could test the potential for attracting equity



Importance of Training • In both credit guarantee companies and equity investment funds,

management training is needed, and is not available.• New materials and courses must be developed and offered to fulfill this

need. Recommendations (1)

• Current programs should be available to high-growth traditional businesses as well as technology-based companies

• Credit can be increased by a combination of training, consistency of operation through an association of guaranty companies, and establishment of a national credit re guaranty Company by the central government.

Recommendations (2)• Non-government sources of equity financing can be attracted by a pilot

program in which government would improve the profit opportunity or reduce risk of loss to private investors.



Recommendations (3)• Laws and regulations should be modified to encourage financing:• The Company Law still inhibits financings • The Investment Funds Law is required if domestic funds are to be a attractive

as foreign funds• Laws and financial institutions should be changed to make it easier for an

investor to sell its investment as the company develops.Recommendations (4)Training programs are required in all aspects of SME Finance:

• Training of loan officers• Training of loan guarantee officials• Training of investment fund managers• Training of entrepreneurs

Recommendations (5)• Our recommendations will be described in more detail later in the Forum


Government Support for SME Equity Government Support for SME Equity Financing- International Best PracticeFinancing- International Best Practice

Objectives• To increase availability of equity for SMEs by attracting non-

governmental sources• To target investments in high-growth, high potential businesses• To create investment funds that will be profitable and self-sustaining,• To provide experience to investors and fund managers

Why is Government Support Needed ?• Investing is a truly global business, so an investment in China must

compete with all other investment possibilities• Investors seek the highest risk-adjusted rate of profit on their investment• SME investments are risky and take along time to mature• These investments are unmarketable



Why is Government Support Needed ? • Investing is a truly global business, so an investment in China must compete with

all other investment possibilities• Investors seek the highest risk-adjusted rate of profit on their investment• SME investments are risky and take along time to mature• These investments are unmarketable

Aims of Government Support • Government programs change the risk-adjusted potential profit by:

• Increasing the profit to the investors, or• Reducing their risk of loss

What Can Government Do? • To provide additional venture capital Government can either:• Invest its own money in venture capital investments (directly or through funds) or • Support public-private partnership to encourage private investment



Tools of Government Support • Government increases return or reduces risk• Direct participation in investment funds• Tax credits• Loans or loan guarantees to investment funds• Leveraged equity participation• Guarantees against loss


Public-Private Partnerships • The oldest, largest, and most successful support programs,

including U.S., Israel and Australia, are partnerships between:• Government• Private Investors• Private Funds Manager

Role of Each Partner • Government targets size or sector of investment, and agrees to

take low rate of return on its participation• Private investors invest with potential for increased rate of return

or reduced risk• Private managers invest professionally, with motivation of carried

interest in fund profits



Structure of the SME Equity Program Structure of the SME Equity Program

State Guarantee of Loan

Investors Equity & Loan

SME EquityFund

Fund Manager

S SSSS


• Israel Yozma Funds:• Government put up 40%• Private investors put up 60%• Private Fund Managers• During first 5 years, Private Investors could purchase Govt. investment at

cost plus government – rate interest

• Australian Innovation Investment Funds:• Government invests 2/3 of Funds Capital• Private Investors invest 1/3• Private Fund Managers• Cash distributions to Govt. and private investors in proportion to

investment until all investment repaid with govt-rate interest• Therefore, govt takes only 10% of profit distributions

Some ExamplesSome Examples


• SBIC Program active since 1959• Government provides 2/3 of capital, private investors 1/3• Government seeks only a low return• Privately managed• Two programs:

• Debenture Financing• Equity (“Participating Security”)

• Over $5 billion invested by SBICs in 2000• Nearly half of all investments by organized venture capital

organizations in the U.S.

U.S. SBIC ProgramU.S. SBIC Program


• To test whether a government support program would attract non-government sources of equity, we recommend:

• Government to offer discount loans to five new investment funds:• Loans two times non-government investment • One times government investment

• Regulations based on the Australian and American programs• Investments must be direct into SMEs, either high-tech or traditional• Program administered by SETC• Government loans from the Development Funds proposed in new

legislation• Government to loan or guarantee loans

Recommended Pilot Program Recommended Pilot Program


Structure of the SME Equity Program Structure of the SME Equity Program

State DiscountLoan Investors

SME EquityFund

Fund Manager

S SSSS


SME Equity Program for Reduced Risk SME Equity Program for Reduced Risk

State Guarantee of

Loan

Investors Equity & Loan

SME EquityFund

Fund Manager

S SSSS


• Municipal and Provincial Governments• Large companies• Pension funds• Banks and insurance companies• Foreign investors• Wealthy individuals

Potential InvestorsPotential Investors

Sme Financing International Best Practices

Economy & Finance

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