As credit dries up, China's small firms face shrinking profits, bankruptcies

TIANJIN, China (Reuters) - The struggles of China’s small and medium-sized firms have grown so acute that many are expected to become unprofitable or even go belly-up this year, boding ill for an economy running short on strong growth drivers.

A worker uses a chainsaw to cut timber at a woodyard in Tianjin, China June 15, 2017. REUTERS/Thomas Peter

The companies - which account for over 60 percent of China’s $11 trillion gross domestic product - have entered the most challenging funding environment in years as Beijing cracks down on easy credit to contain a dangerous debt build-up.

Many of the firms - mostly in the industrial, transport, wholesale, retail, catering and accommodation sectors - are already grappling with soaring costs, fierce competition and thinning profits.

The strains faced by small and medium-sized enterprises (SMEs) are expected to grow more visible as Beijing deflates a real estate bubble and eases infrastructure spending to dial back its fiscal stimulus.

“Many SMEs probably won’t make it this year,” said Wang Cong, manager of a struggling mid-sized logistics company in the eastern city of Zibo.

“Banks have started pulling the plug, just as competition has become a lot more intense.”

Central bank data shows broad M2 money supply grew 9.6 percent in May from a year earlier, the slowest since at least January 1996, when Reuters data on the series began.

Cumulatively, combined trust loans, entrusted loans and undiscounted banker’s acceptances - sources of funding for shadow banking activities that largely involve SMEs - fell to 28.9 billion yuan ($4.25 billion) in May from 177 billion yuan in April.

The lack of funds is taking a toll. Business activity in the SME sector weakened for the third straight month in June to hit the lowest in 16 months, a Standard Chartered survey tracking more than 600 Chinese SMEs found.

The market pressures have led to an increase in unemployment, and weaker demand is expected to keep weighing on the labor market this year, the survey noted.

“Our profit has thinned to the point where I don’t think any more drop could be sustainable,” said Yu Zhihao, who runs a wood wholesale business in China’s northeastern port city of Tianjin and has seen his gross margins contract by a quarter in the past year.

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For state-owned enterprises, growth in financing costs on average accelerated to 5.5 percent in May from 0.5 percent in February, said Jonas Short, who heads the Beijing office at investment bank Sun Hung Kai Financial (SHKF).

For smaller businesses lacking strong collateral, funding is even more expensive - if they can find it.

“It’s pretty clear, financial expenses have skyrocketed since the decision to increase interbank rates over the New Year,” said Short.

The waning fortunes of China’s SMEs come ahead of a reshuffle in the country’s political leadership team late this year. SMEs employ four-fifths of the workforce and are crucial to the stability craved by Beijing.

Many SMEs appear reluctant to expand production even as the government has introduced various favorable measures such as tax cuts to support their development, said Zhang Shaoping, analyst with the government-affiliated China Association of Small- and Medium-sized Enterprises.

“My feeling is the second quarter would definitely be tougher for SMEs compared to the first quarter,” Zhang said.

Banks’ willingness to lend to SMEs fell below the no-change mark of 50 for the first time on record in June, the Standard Chartered survey found, indicating banks are more hesitant to extend credit to SMEs.

That reflects analysts’ views that even though the central bank will likely provide sufficient credit to avoid a liquidity crunch, banks may still prefer lending to bigger rather than smaller companies.

Hangzhou Zugeng Import & Export Co, a medium-sized fruit import company based in Shanghai, was among those SMEs to fold as banks held back support.

One former employee said she had heard the company’s banks had been unnerved by a rise in corporate loan delinquencies and had stopped providing funds to companies facing tough operating conditions.

A former company representative confirmed the firm had closed when contacted by phone but declined any further comment.

Some 1.21 million privately or individually-owned business went out of business during the first quarter of the year, a jump of almost a third compared to a year earlier, data from the State Administration for Industry & Commerce (SAIC) showed.

“The market is going through a quicker process of survival of the fittest,” Yu Fachang, a SAIC official said.

For those who have not shuttered, some resort to more price cuts to stay competitive.

Zhao Yinyue, manager of Tianjin-based freight forwarder Jinluan Logistics said orders for imported wood have slumped since May as investment in real estate and infrastructure dried up.

“We are biting the bullet and holding on,” said Zhao.

Editing by Lincoln Feast