Funding SMEs

By+Lan+Xinzhen

In December 2013， almost all of the se- curities companies in China received an emergency notification from the National Equities Exchange and Quotations （NEEQ）， which encouraged securities companies to be ready for the listing of qualified companies after the NEEQ was expanded. All qualified joint-stock companies across the country can apply to the NEEQ， the so-called “new third board，” for trading. The document says innovation-based， and growing micro-， small and medium-sized enterprises are particularly encouraged to participate.

The State Council issued a statement on December 14， allowing all domestic micro-， small and medium-sized enterprises to be listed on the NEEQ. Previously， only small and medium-sized enterprises （SMEs） from four hi-tech industrial parks in Beijing， Tianjin， Shanghai and Wuhan could be traded on the board.

In the United States and other developed countries， there are sound over-the-counter（OTC） systems for unlisted joint-stock companies， but in China， the new third board is just starting to take shape.

Seven year wait

According to the State Councils arrangement， qualified domestic enterprises can transfer their shares via the NEEQ and conduct equity financing， debt financing and reorganization. Companies registered in China but listed abroad can issue preferred shares via the NEEQ. Companies listed on the third board can apply for initial public offerings （IPOs） on the Shanghai and Shenzhen stock exchanges if they meet the requirements.

When Chinas securities market was established in 1992， the corporate-owned shares of listed companies were prohibited from trading on the A-share market. The country then set up the Securities Trading Automated Quotations System （STAQ） and the National Exchange and Trading System （NET） for the trading of corporateowned shares. But due to a conflict with the Securities Law of 1999， the two systems had to be closed.

In 2001， the Securities Association of China， in coordination with some securities companies， set up the Agency Share Transfer System， also called the third board， to solve the problem of stock transfer after the STAQ and NET were abolished.

Only a few stocks were traded on the third board market and most of them were of low quality， so it was difficult for them to apply for trading on the main board in Shanghai and Shenzhen. The third board market remained sluggish for years.

To change the situation and offer financing opportunities for more growing hi-tech companies through stock listing， the China Securities Regulatory Commission （CSRC） in 2006 set up a new share transfer system at Beijings Zhongguancun Science Park， which is called the new third board.endprint

Compared with the old third board， the new third board is noticeably different in its trading rules and has made breakthroughs in many aspects.

On August 3， 2012， the CSRC decided to expand the pilot program， adding three science parks in Shanghai， Tianjin and Wuhan to the list.

According to the figures from the NEEQ， at present there are 351 companies traded on the new third board market， less than 2 percent of the total number of enterprises in the four science parks.

The State Council statement expands the new third board to the whole country. Considering that most of the listed companies on the third board market are micro-， small and medium-sized enterprises， the State Council stipulates that institutional investors will be the major investors on the new third board， because they have better capacity for taking risks and are in a better position to meet eligibility standards. Since the issuance and the transfer of stocks usually involve a small amount of capital， risks in this market are much lower than on the main board. According to the State Council statement， companies with no more than 200 shareholders are exempted from approval by the CSRC when applying for third board listings. Moreover， these companies do not need to be approved by the CSRC even if the number of their shareholders exceeds 200 after stock transfer.

A financing platform

A report by Great Wall Securities Co. Ltd. says although the new third board has existed for more than seven years， its development is still slow. Compared with other boards， the new third board is smaller in size. Moreover， 88 percent of Chinas SMEs are not listed on the new third board and most of these enterprises lack financing channels， therefore Chinas new third board has great potential for development.

“SMEs， especially the innovation-based， startup and growing micro- and small enterprises， will directly benefit from the expansion of the new third board，” said Wang Yong， an analyst with CITIC Securities Co. Ltd.

Wang noted that by selling shares on the new third board market， SMEs can effectively solve their financing problems.

Financing difficulties have long constrained the development of Chinas SMEs. To get the money for development， some SMEs even have to turn to loan sharks.

According to figures from the Ministry of Industry and Information Technology， China now has more than 13 million SMEs， accounting for 98 percent of the countrys total number of enterprises. Most of the SMEs are facing financing difficulties. The Chinese Government has tried various means to solve the problem， including requiring commercial banks to grant more loans to SMEs.endprint

Wang thinks the government should， after concluding the pilot program， extend the new third board system to the whole country so that SMEs will have other financial channels than bank loans and private lending.

Compared with the main board， the SME board and the growth enterprise board， the new third board mainly provides a platform for enterprises with simple business models and of small size. Since the new third board has no profit requirements on the listed companies， it offers a legitimate and convenient direct financing channel for the enterprises which failed to reach the listing standards of the main board.

Wang estimated that the new third board will attract at least 1，000-1，500 enterprises in 2014 and there will be around 10，000 enterprises listed on the new third board in the next five years.

A report by Changjiang Securities Co. Ltd. noted that the expansion of the new third board can also improve the governance capability of SMEs.

According to the State Council， companies listed on the new third board are allowed to lose money， but they must fulfill the obligation of information disclosure， and the disclosed information should be authentic， accurate and complete. To meet this requirement， SMEs need to establish sound corporate governance systems. During the listing process， SMEs can， with the guidance of professional agencies， improve their corporate governance and management mechanisms. After being listed， SMEs can improve their governance capability by strictly obeying the information disclosure system.

Main board unaffected

Following the announcement of the new third board expansion， Chinas A-share market slumped briefly. The CSRC tried to assure investors， saying that most of the third board-listed enterprises are small in size and the financing volume is also small， so the expansion of the new third board will not divert capital from the A-share market. However， investors seemed to ignore the message.

The CITIC report says the rapid development of the new third board may divert capital flows to the secondary market in the Shanghai and Shenzhen exchanges. However， the impact of the expansion of the new third board on the liquidity in the stock market will be very limited indeed.

Compared with the main board， the new third board is much smaller， and the successfully traded volume only accounts for 1.5-3 percent of the total market value of listed companies. Even if the transactions become more active after the system is improved in the future， the traded stocks will account for 20-50 percent of the total market value. In the next three to five years， the new third board market will only need 13 billion-67 billion yuan （$2.13 billion-10.97 billion） of funds each year. In contrast， the trade volume of the main board in Shanghai and Shenzhen on December 24， 2013 totaled 85 billion yuan （$14 billion）.

Since the approval procedure for the new third board is simple， and the State Council statement further simplifies it， many SMEs with plans for listing on the main board will move to the new third board， alleviating capital pressure on the main board.

Moreover， the financing function of the new third board is currently not well developed， therefore it will not significantly divert capital flow from the main board.

The CITIC report points out that in the medium term， the new third board will mainly affect the growth enterprise board.

According to the report， the recent decline of Chinas A-share market is more related to the U.S. Federal Reserves taper move， instead of the expansion of Chinas new third board. Coincidently， the Federal Reserve announced to reduce its monthly purchase of treasury after China announced to expand the new third board， creating anxieties among investors over a liquidity squeeze and dragging down the A-share market.endprint