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Friday, March 13, 2020

Vital signs of improvement showing for SMEs in wake of COVID-19

By Su Xijia

With people trying to go out as little as possible due to the novel coronavirus outbreak, many businesses have experienced a sharp decline in customers, putting them under a lot of stress.

Compared with the smaller companies, the large companies usually have more resources to leverage and the more access to favourable policies and financial support that ease their cash flow pressure. Thus, it is not difficult for them to survive.

Small and medium-sized enterprises, however, have to contend with a lack of policy assistance. Whenever they are exposed to risks, they often face a struggle to survive.

The government has made significant efforts to support SMEs in overcoming the challenges they face. However, many SMEs that rely heavily on customer footfall-such as those in catering, hotel, and education and training providers-have said that they will be in dire straits in two or three months.

The viability of a business in a crisis depends on one thing only: cash flow. The procurement of supplies has long been locked in, and many fixed expenses cannot be adjusted in the short term, when operating income contracts sharply, enterprises will run out of cash as inventories surge.

To some extent, the survival of SMEs depends on their ability to access loans. But enterprises, especially the asset-light ones, don't seem to be a priority for bank lending. Even if SMEs were willing to pay higher interest rates, they would be at the back of the queue in the banking sector, where risk prevention trumps other business considerations.

To tackle this challenge, the government has repeatedly called on banks to help, but with little success.

Namely, banks have their own concerns and performance expectations, and it is almost inevitable that if banks were pressured to lend to SMEs, rent-seeking and resource misallocation will happen.

Thus, it would be better for the government to help enterprises reduce their burden by cutting social security expenses, by partially paying the wages for those companies that are temporarily closed and by paying subsidies, among other measures. Also, it could introduce an emergency loan guarantee fund to help enterprises that are already on the brink of bankruptcy.

For enterprises, getting out of trouble means finding a way of increasing their income and cutting expenditure. Increasing income can be achieved by stabilizing or even increasing operating income, or disposing of assets. When customer flows shrink, the operating income of a business will decrease if the product being offered remains unchanged.

Therefore, it is necessary to analyse changes in demand. For example, while dining out in a restaurant is dissuaded, catering companies could instead offer takeaways and semi-cooked products to reduce losses.

Moreover, with many corporate canteens have ceased operations, the companies running them could try to find group meal orders instead. However, it is harder for education and training business operators to move online in the short term.

The organizational capabilities and business processes of different businesses vary significantly, and the gross margins when entering new business frontiers may be lower. But it's about survival, and any business that brings in new cash flows will find survival easier. It is possible that when the epidemic is over, new business activities could become a new growth driver.

Asset disposal is a tricky business decision, even in normal times. When it comes to survival, all distractions must be discarded.

When executing asset disposal, assets with no chance of appreciation, or even those that are depreciating, should always go first. Typical examples are fresh produce and customized products. For fixed assets, owners should actively explore the opportunity of sale-and-lease back, through which it would be possible to increase short-term capital inflows. At a time of crisis, it is always necessary to cut whatever expenses that are not related to the short-term survival strategy. Meanwhile, the government's preferential policies should be fully utilized.

Further, the rent on commercial premises is a significant cost for many asset-light businesses. The government has acknowledged this and pushed landlords to lower rents. Unfortunately, many SMEs operate their premises through sub-leases, thus they are unlikely to benefit directly from rent cuts.

Layoffs can also significantly reduce short-term costs with immediate effect. The most common method used by local or foreign companies in a crisis is to lay off workers, but layoffs should be done carefully.

On the one hand, enterprise should have a sense of social responsibility in a crisis, and realize it is not good for their image not to support their staff during the crisis. On the other hand, from the perspective of management, it is costly to rebuild a team and the SMEs risk their competitiveness if they lose experienced staff.

In general, the epidemic has brought lots of challenges to enterprises especially SMEs, so enterprises should explore their own ways out and the government should take actions to support them.

This article originally appeared in China Daily Global here. Su Xijia is a Professor Emeritus at CEIBS. For more on his teaching and research interests, please visit his faculty profile here.