By staff reporter Yang Binbin

After hearing that an important community enterprise is in trouble, almost every local government in Zhejiang Province reacts these days by offering assistance. Each fears bankruptcy.

Government help is nothing new. In the 1990s, for example, many local governments stepped into business crises by “tying” banks to struggling state-owned enterprises undergoing restructuring. But this time Zhejiang’s private enterprises – large and small -- need help.

Why are big companies teetering? Theoretically, healthy, large-scale enterprises should be more risk resistant than smaller ones. However, large enterprises that are fattened quickly with government perks may be too dependent on bank loans, and offer too few products to a client group that’s too narrow.

Many attribute the current plight of the Zhejiang manufacturing sector to the appreciation of the yuan, energy shortages and rising labor costs. However, some local scholars claim an increasing level of government intervention in the private sector is also to blame. They note local governments and banks played an active role in establishing the large enterprises that now dominate the region’s private sector, while giving far less attention to small- to medium-sized enterprises (SMEs).

Yao Xianguo, dean of the College of Public Administration at Zhejiang University, said the province’s SMEs have “not an acute disease, but a chronic one.” He blames government policies that “support the big and strong” for the troubles facing SMEs.

Governments typically back certain large, private enterprises with perks such as land, tax breaks, financing and legal protection, which leads to deterioration in the competitive environment. Meanwhile, big private enterprises that increasingly rely on the government become hybrid versions of state-owned enterprises.

Since most financial subsidies have been given to large enterprises, SMEs have faced a tough situation in an increasingly uncompetitive environment, hindering their ability to upgrade and adjust to the market. Currently, only about 500 of the province’s more than 2 million state-owned and private enterprises operate with assets worth more than 5 million yuan.

Financing Issues

What is especially worrying about the private sector in the province is not the ability of companies to help themselves, but the future direction of the private financing. The first generation of entrepreneurs in Zhejiang had entrepreneurial spirit but lacked education and vision, hampering their progress. These were family enterprises that failed to adopt proper management techniques after undergoing expansions.

Financing based on personal credit guarantees and family ties has been the lifeblood for many SMEs in Zhejiang. Traditionally, these enterprises exchange loans and loan guarantees. But ubiquity and a lack of standards have widened credit risks. Almost all enterprises keep two balance sheets for debts – one for private loans and another for bank credit.

In addition, local governments fear that this private financing system is too risky and could lead to a domino effect of company failures. Such a development, they fear, could threaten social stability.

But Feng Xingyuan of the Chinese Academy of Social Sciences sees little threat. He said business failures need not result in social instability, since Zhejiang’s people have never relied on the government for jobs. When jobs are available, migrant workers come, and when factories close, they return to their hometowns. Moreover, although many factories are closing in Zhejiang, many others are hiring.

Nevertheless, Zhou Qiren, an expert at the China Center for Economic Research at Peking University, said the private financing system is a weakness that restricts prospects for industrial restructuring. This is an area in which the government can make improvements, he said.

Zhejiang Model

Zhejiang takes prides in its “big market, small government” business model, which has become a benchmark for private development in China. Yet the combination of ‘strong capital’ and ‘strong political power’ has had “a devastating effect on the Zhejiang model,” Yao said.

The model dates to China’s economic reforms in the 1980s, when a large number of footwear and household supply manufacturers opened in Wenzhou and Taizhou. Soon, more factories appeared in the province’s south and southeast. Some companies followed a family-run, labor-intensive pattern that became known as the “Wenzhou model.” Eventually, the system became known as the Zhejiang model and became popular nationwide.

As the private sector took hold in the province, relations between enterprises and the government underwent subtle changes. A local official familiar with political and economic situations recalls that the Zhejiang model was approved and encouraged by the government in the 1990s, turning a corner for economic development in the province.

Since then, political and economic needs have motivated the government to enhance involvement in private enterprises. The call for “small government” was replaced by a cry for “strong government.” Since the government held critical market resources, from land to financing, it could selectively feed key private enterprises. Thus, what had been a “grassroots” economy gradually became more government-guided.

Today, some Zhejiang entrepreneurs note even officials at large enterprises are sometimes surprised by the extent of preferential policies. In addition to tax incentives, some local governments hand out construction sites, calling them “industrial development zones,” and arrange for banks to provide preferential loans.

But even a company that gets government assistance with state capital may not succeed. So far, the government-led restructuring of Nanwang Group has failed and the restructuring of Feiyue Group has deadlocked.

Many scholars think Zhejiang should return to the “small government” system. They say governments could use the current crisis as an opportunity to let the market improve resource allocation. History has proven that government help is not necessarily a ticket to business success.

Cai Zhangsheng, director of the province’s SMEs Bureau, noted that a lot of enterprises open and close daily. Even during the best economic times in 2005, an average 240 enterprises were formed and 160 closed in Zhejiang every day. And if enterprise closures promote structural reform, then bankruptcies are not always bad.

In fact, most of the leading enterprises now on the brink of bankruptcy are weak. Feiyue Group, Hualian Sunshine and Jianglong Group undertook excessive expansions and borrowing during growth stages, relying on cheap land, capital and labor.

And some enterprises with stable financial conditions and foresight are expected to survive the crisis. For example, a businessman surnamed Zhang who owns an enterprise in the Zhenhai Metals Park in Ningbo began selling factory buildings in May and paid off his loans. Now, he is starting to buy back the factory buildings at one-third the original price. Many local entrepreneurs think that while it is now “difficult to do business, things will get better.”

Still, it remains to be seen whether the current crisis in the Yangtze River Delta will transform the Zhejiang model, encourage private enterprises to change financing patterns, and promote the transition from family to professional management.

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