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Any economist worth his salt can readily tell you how much private-sector enterprises have contributed to the economic progress of China as a whole and the Yangtze River Delta region in particular. But these enterprises, mostly small to medium-sized, have been largely left to fend for themselves, until now that is.
The fact that they have done well in the past was because, as original equipment manufacturers (OEMs), their need for capital and other supporting services was rudimentary. Success in contract manufacturing doesn't require much more than bulk overseas orders and unlimited supply of low-cost labor.
But that was before. As the US economy teeters on the verge of a recession, importers - including some of the retail behemoths - are reported to be placing smaller orders while demanding tighter delivery schedules. Domestic manufacturers' profit margins are additionally squeezed by the depreciation of the US dollar and rising labor costs.
These developments have prompted the better-managed private enterprises to move up the value chain by extending to the front end, research and design, and the back end, packaging and marketing. A few of these enterprises have gone a step further by developing their own brand names in domestic and foreign markets.
Their efforts have not gone unnoticed by financiers and economic planners. The proposed new market for enterprises with proven growth potential rather than long track record reflects recognition by bankers and investors of the importance and value of what is widely seen as one of the most energetic and prosperous sectors of the economy.
The launch of the proposed growth enterprise board market in Shenzhen is expected not only to provide a new channel for private-sector enterprises to raise new capital, but also to create opportunities for investors to buy into the nation's rising private sector.
Many overseas banks have long identified the increasing capital needs of the nation's private-sector companies as their major source of business. HSBC China in February introduced a series of new services to small and medium sized enterprises (SMEs) to help them with their business expansion. Other overseas banks, including Standard Chartered Bank and Citibank, have been offering financial services tailor-made for SMEs since early 2005.
"SMEs are an important driving force of the Chinese economy," says Ben Shenglin, head of commercial banking at HSBC China. "Our SME services are based on in-depth market research and are designed to address their unique financial needs."
Boom for auditors
Local enterprises' rapid development has not only been recognized by foreign banks but also by other institutions, including international and local accounting firms. Auditing experts say there are quite a number of enterprises whose financial status and results qualify them to make initial public offerings on the proposed growth enterprise board.
"I found a more transparent auditing environment in local enterprises compared with three years ago, when I started working as an auditor," says an assistant accountant at a local accounting firm in Shanghai.
Many accounting firms have seen among their clients an increasing number of SMEs whose corporate governance ability has improved in past years.
"Among the clients under my charge in the past three years, there are an increasing number of enterprises seeking IPOs," adds the assistant accountant. "A gradual transparent internal management mechanism has taken these enterprises closer to international auditing standards and helps them qualify for IPOs."
Terence Ho, assurance and advisory business services partner and China IPO leader of Ernst & Young, tells China Business Weekly: "The proposed growth enterprise market in Shenzhen should position itself as a capital market for local Chinese companies with exceptional high-growth potential rather than just another growth enterprise board for SMEs. There are many companies on the mainland that have exceptional growth potential."
Ho also suggests that the bar for admission to the upcoming growth enterprise market needs to be set higher as a new capital market because a number of high-quality issuers are conducive to attracting more liquidity.
The draft regulation issued by the securities regulator last month requires companies to post an annual revenue growth rate of no less than 30 percent for two consecutive years and an annual net profit of 5 million yuan.
"The 30 percent revenue growth rate requirement keeps a number of small and medium-sized enterprises out of the growth enterprise market in Shenzhen," says Ho.
Experts and analysts say most SMEs in traditional industries can only achieve at most an annual revenue growth rate of 20 percent.
"The second boards in some overseas capital markets including Hong Kong and Singapore are not successful and their market liquidity has dropped substantially," says Ho. "These second boards now serve simply as a springboard for companies whose ultimate goal is to have a listing on the main board. As a result, they cannot retain good-quality companies."
The winners
According to Ho, growth enterprises in TMT (technology, media and telecom), healthcare and new energies sectors are expected to grow the fastest in the near future, and these companies will benefit the most from the new capital market.
Targeting local enterprises with the highest growth momentum, the proposed growth enterprise board market is likely to attract many investors in anticipation of much higher returns in the new market than on the main board.
"Investors who are in pursuit of higher returns would do well to factor in the higher risks involved in investing in start-ups compared with most listed companies of traditional industries on the main board," says Mao Nan, an analyst at Orient Securities in Shanghai.
Traders and analysts say the opening of a market to list SMEs helps increase the financing channels for local enterprises, which are playing an increasingly important role in national economic growth and job creation.
"The opening of the growth enterprise board would help better allocate investment capital and optimize the structure of domestic capital markets in the long term," says Zhang Xiaojun, an analyst at CITIC's China Securities.
Analysts say the new market will also benefit venture capital funds as they will get another exit channel and reap returns through IPOs in the growth enterprise market.
At present, venture capital funds are invested mainly in privately held companies that have credible performance records, which makes it easier for them to qualify for listings on the main board or overseas stock markets.
"The introduction of the growth enterprise board makes it viable for venture capitals to invest in promising start-ups," says Zhang.
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