MSEs have big role to play in income growth, creating jobs and poverty reduction

You can spot them all across China in different shapes and sizes, ranging from small restaurants, hair salons and shops to a host of enterprises that make a variety of goods. Though these micro and small enterprises have been largely inconspicuous, they are often the essential springboard for growth, job creation and social progress.

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MSEs in China have not exactly been in the pink of health. Issues such as funding concerns and inadequate government support continue to be a major constraint for many of the MSEs, thereby restricting their room for growth. However, a great deal of progress has been made, so much so that the term SME has increasingly been replaced with MSE by regulators.

According to data provided by the SME division of the Ministry of Industry and Information Technology, there were 13.7 million registered companies and 40.6 million self-employed companies in China last year. More than 99 percent of them were medium and small to micro-sized companies, contributing more than 60 percent of the annual GDP, and more than 80 percent of the jobs in cities.

In government parlance, MSEs are often referred to as the "cells of the economy". That definition is more than justifiable considering that a huge economy often consists of thousands of cells that are small and invisible and often not given too much attention in our daily lives.

Integral element

Jerry Mao, partner of the Shanghai-based Lunar Capital, a China-focused private equity fund that has been investing in small enterprises for some time, feels that MSEs are an integral part of the Chinese economy.

According to Mao, though small enterprises are more vulnerable to the economic environment, "once they are on the right track, they can offer much more impressive growth rates".

"Annual growth rates of more than 10 percent is almost impossible for most multinationals, but it is highly possible for MSEs," he says.

During the last three years, Mao's company has made investments to the tune of more than $100 million (77 million euros) in Chinese MSEs.

The MSEs Mao's company normally selects for investments are mostly niche players. Citing an example, he says his company recently invested in a Guangdong-based maternity dress-maker, which enjoyed a good reputation among moms-to-be. Though the turnover of the company was nowhere near big textile companies, Mao says he was motivated to invest in the firm due to its niche status.

"The good thing about MSEs is that most of them are involved in making products like clothing and food that people need for their daily lives. So there is no big fluctuation like in energy or ore industries."

Gao Xudong, deputy director of the Tsinghua University Research Center for Technological Innovation, says that in recent years the government has been focusing more on MSEs, as was seen during the 18th Party Congress last year.

"Apart from that, we have many industrial and innovation parks in China providing safe harbor for start-ups, as well as incubators with favorable land and tax policies to protect MSEs that are still in their infancy."

MSEs are not only major participants in traditional industries, but also becoming increasingly active in emerging industries and modern service industries, say officials from the SME division of the Ministry of Industry and Information Technology.

Zhao Jiamin is one of the several MSE entrepreneurs in China involved in emerging industries. Though he could have enjoyed a high salary and a good welfare package with tech major Oracle in the United States, he decided to come back to China in 2007 to start his own business - Yeeyan, a website that translates foreign content into Chinese.

As a young entrepreneur who started his business both in the US and in China, Zhao says start-ups actually have a better chance to stand out in China.

"I tried to start a business in the US, but as a foreigner I had to meet many requirements including getting a working visa. I could not afford to lock myself in the garage for many years to come up with a hit product as many American dreams describe."

Zhao says his decision to move back to China was based on his excellent networks in China, lower living costs, and inexpensive, high-quality talent. His company employs more than 30 people, including eight overseas returnees with impressive resumes. Though it is yet to break even, its revenue has grown steadily. Last year, company revenue reached 2 million yuan.

Growing pains

Economists usually describe MSEs as flexible, using a metaphor that says "small boats easily turn direction". But very often the "small boats sink easily when storms hit".

"We are very flexible but extremely vulnerable," says Ge Xuan, a media company manager and the owner of a small liquor trading company. Ge is a typical micro-entrepreneur who not only identifies investment opportunities but also tests the waters. When he found out about the high margins for baijiu (Chinese liquor) and imported red wines two years ago, he quickly started a liquor trading business and made his fortune.

However, this year Ge's liquor business is languishing. With the new government determined to cap luxury goods consumption by officials, especially of high-end spirits, his baijiu business has fallen 70 percent. The Moutai he sold used to have a price tag of 2,300 yuan a bottle earlier, but is now selling for 850 yuan.

While applauding the policy because it beats corruption, Ge says he has to struggle to make ends meet solely with revenue from red wine, which is still popular with the public.

With economic prospects still gloomy, Ge's media company has also felt the chill. The media company he worked in used to enjoy profit margins of 50 to 70 percent by helping automakers place advertisements in newspapers and magazines. This year, the profit margins have fallen to nearly 30 percent.

"Automakers used to have a big budget for advertising when the market was good. But this year they are extremely cautious and are choosing only niche media due to financial constraints," Ge says.

High tax rates are another bugbear for most of the MSEs in China. The current value-added tax rate is 17 percent, making it impossible for many businesses to earn profits. In places like Wenzhou, Zhejiang province, home to many shoemakers, the average profit margin has slumped to below 3 percent.

But the future is not all that bleak for MSEs in China. Gao Xudong from Tsinghua University says most MSEs are involved in consumer products, so can expect a silver lining as the government is encouraging domestic consumption.