SME finance: Is it time govt put money where its mouth is?

Jacinda Ardern’s state of the nation address had “growing and sharing" economic prosperity as a top priority but it offered little in the way help for small business, one of the key drivers of the local economy. The sector has been weighed down for decades by low productivity and lack of investment capital.

But Ardern left the door open for SME minister Stuart Nash and his new Small Business Council to come up with ideas. 

In the third of a series on small business*, Nikki Mandow looks at three things the Government could do to help SMEs get more productive.

Tesh Randall and her partner Seb Walter run a small business, Raglan Coconut Yogurt. And they need money to expand. Not huge sums, in the global scheme of things. But single-digit hundreds of thousands of dollars to allow the rapidly-growing dairy-free yogurt company to move into larger premises and to introduce a second production line.

Trouble is, getting that finance isn’t easy - or cheap.

There’s the bank, but that’s expensive, Randall says. New-ish businesses are seen as high risk and can end up paying 8-10 percent interest on a loan - if they can even get one. (See Newsroom’s previous story on how the housing crisis could stymie small business lending.)

There’s crowdfunding (time consuming and success fees to pay), and private or angel investment (you lose a stake in your business). There are non-bank funding providers who provide unsecured loans based on a company’s digital financial information (relatively undeveloped in New Zealand), and there are business competitions, where you tend to win a trophy and precious little else.

Which is why a few months ago Randall started looking at whether there was any help available from government.

Spoiler alert: there wasn’t.

Companies employing less than 20 people make up 97 percent of the country’s businesses, employ 630,000 people, and produce 28 percent of our GDP, according to government statistics.

But New Zealand small businesses (alongside their bigger counterparts) have a pitiful productivity record. GDP per capita (economist-speak for productivity) in New Zealand has fallen from around 125% of the OECD average in the 1950s, to nearer 60% today. In the most recent quarter, to June, GDP grew 0.5 percent, but GDP per capita was "flat". That's economist-speak for no growth at all. Zilch.

For the full year 2017, GDP grew 2.9 percent, but GDP per capita was up only 0.7 percent. As Newsroom has said before, the economy is getting bigger because our population is getting bigger, not because people are being more efficient and becoming richer from their work.

And the news is even worse if you look at another measure of productivity, GDP growth per hour worked. Council of Trade Unions' chief economist Bill Rosenberg calculated GDP growth per hour worked was a miserable 0.2 percent in 2017, down from 2.5 percent a decade before.

Raglan Coconut Yoghurt needs bigger premises and another production line to keep on growing. But that's not cheap. Photo: Supplied

These days Raglan Coconut Yoghurt just sneaks just into the "medium-sized" company description in New Zealand. The business that Randall and Walter founded in their kitchen in January 2015 (read about the trials of an early stage entrepreneur here) has 24 staff, a healthy bottom line and growing exports. Randall says they know what they need to do to get to the next stage. They just need money to get there.

Given government rhetoric about productivity and innovation, Latesha Randall thought surely there must be some financial help available for a small business wanting to pay for the equipment it needs to get more productive?

The answer is no, Randall says. The government has plenty of advice on offer for an SME food company like hers, but no actual dosh.

“I approached NZTE [New Zealand Trade and Enterprise] but they couldn’t offer anything. Only expertise - coaching, support programmes, connection with experts, advice on other markets.”

It’s the same with other government organisations - Callaghan Innovation, MBIE, or the Food Innovation Network. These offer anything from management capability building, to access to local and international business networks, to researchers who can provide technology advice.

“But that’s all quite useless,” Randall says. “When you are a growing business you need capital. And that’s hard to come by.

“All our other foodie business friends have the same problem - the lack of financial support. If you could easily get a low interest loan, for example, through some SME business fund, then that would be hugely helpful.”

Ironically, one of the few programmes with money to spend is Shane Jones’ $3 billion Provincial Growth Fund. Raglan would surely count as the provinces? But that money is not available for SMEs.

Economic Development Minister David Parker told Newsroom the Government has to avoid providing “subsidies” to one SME but not to another.

“You have to be careful with a situation where Business A already has a particular machine and Business B wants to buy the same machine. You want to make sure you aren’t favouring Business B, when Business A has made the investment without a subsidy.”

The capital investment dilemma

The Productivity Commission was set up in 2011 to try to find a solution to our GDP per capita problem. The figures suggest it hasn’t had much success so far, but its findings appear to support Randall’s premise that to get better productivity and export growth, businesses need to be investing in equipment and technology.

The commission’s 2016 report “Achieving New Zealand’s productivity potential” bemoans New Zealand’s low rate of capital investment per hour worked - below the OECD average and 40 percent lower than Australia.

“Low investment in capital [equipment] is likely to slow the diffusion of new technology into New Zealand,” the report says. “Across OECD countries, low capital intensity is associated with weak export growth, and a lack of export diversity.”

The alternative to investing in technology and equipment is often hiring more staff, possibly low-skilled ones, with a resulting loss of productivity, the report says.

“With a high cost of capital, a prevalence of small markets and firms, expensive capital and employment growth, it is not surprising that New Zealand firms opt to invest relatively little in capital and instead opt for labour-intensive production methods,” the commission says.

What is to be done?

All eyes, including those of Prime Minister Jacinda Ardern, are on SME minister Stuart Nash and his new 13-member Small Business Council. The council was announced in August and has a one-year initial mandate.

Ministry of Business, Innovation and Employment enterprise policy manager Karl Woodhead says one of the key roles of the council will be providing advice on small business strategy to the Government. “This will include advice on issues around small business access to finance.”

Bring it on, says Martin Bell, director of entrepreneurship and innovation at AUT University. "We hear a lot of rhetoric about New Zealand as a nation of entrepreneurs... but when it comes to the financing side it’s really tough."

Two things that aren’t needed

1) Better economic policy

Government policy isn’t the problem, according to the Productivity Commission. “OECD research estimates New Zealand’s broad policy settings should have generated GDP per capita 20 percent above the average for advanced OECD countries,” the commission said in a 2014 report. “In fact, New Zealand was 20 percent or so below average.”

2) R&D tax credits

The mainspring of the government’s innovation and productivity-boosting agenda is the introduction of its much-heralded research and development tax credits. In fact it was arguably the only relevant spring in Jacinda Ardern’s long-term plan for  “innovation and productivity” outlined in her “Plan for a modern and prosperous New Zealand”, unveiled over the weekend.

Under the tax credit scheme, which begins in April 2019, companies spending at least $100,000 a year on R&D in New Zealand can get a 12.5 percent non-refundable tax credit.

The trouble for Raglan Coconut Yoghurt and myriad other New Zealand SMEs involved in manufacturing, retail, tourism or services is twofold:

- They are too small to be spending that sort of amount on R&D;

- They don’t do - or need to do - R&D at all.

Food businesses like Randall’s mostly need to buy or import equipment and technology to boost production, or to make a better product, or to automate their line, or to speed it up. They don’t need to invent (or reinvent) their technology - or the wheel.

The government’s own statistics show only 6-7 percent of businesses employing under 20 people do any R&D at all. And (again, according to the Government’s own figures, only about a tenth of our small businesses are involved in “professional, scientific or technical services” - the sort of area where you might expect them to be producing cutting-edge technology.

Three ideas that might just work

1) Government credit guarantees

The University of Auckland’s Dr Benjamin Fath studies growth and innovation in New Zealand, particularly with SMEs. He says it’s time for the government to help small companies needing to buy equipment and technology by guaranteeing their loans.

“You have almost a textbook situation of market failure in New Zealand. You have agents all wanting to transfer the risk onto another party and this is leading to under-investment. The government has to take some of the risk.

Fath says dozens of countries from the Netherlands to Chile, from Korea to the US, have some form of state-backed or state-supported SME loan guarantee scheme. In fact, the idea is so ubiquitous overseas that the OECD has guidelines to encourage countries to set up these sort of schemes. 

“Governments need to construct the conditions to enable the creation of MGSs [independent guarantee schemes, mostly with support from government] and the growth of state-funded credit guarantee schemes,” the OECD discussion paper says. “In particular, they need to minimise obstacles to their creation and growth and promote their use among the financial sector and the general public.”

University of Auckland's Dr Benjamin Fath says the market has failed to improve SME productivity and growth. Photo: Nikki Mandow

Fath says he’s frustrated credit guarantee schemes aren’t even on the government agenda

“We haven’t even discussed it and that’s regrettable. They are widely used across Asia and Europe, when governments want a technology catch-up, or to push SMEs to use cutting-edge technology.  “We should at least be having a discussion about it, but instead we are captured in a paradigm of incentivising R&D spending.”

MBIE’s Karl Woodhead says the government is aware of credit guarantee schemes used in other countries, but “at this stage, we aren’t contemplating this for New Zealand”. Still, the ministry would certainly look at the idea if the Small Business Council was enthusiastic, he says.

BusinessNZ's Catherine Beard is pushing for accelerated depreciation on assets for manufacturers. Photo: Supplied

2) Accelerated depreciation

BusinessNZ has been pushing for accelerated depreciation on assets for manufacturers for some time. Catherine Beard, executive director for ManufacturingNZ & ExportNZ says accelerated depreciation would allow companies with a new piece of equipment or technology to  basically get a tax rebate on those assets.

“This would encourage faster investment in new technology. Also as a lot of plant and equipment is full of computer technology these days, it arguably depreciates faster than it did in the past,” she says. “The system is overdue for adjustment.”

Nathan Stantiall, is acting group manager, programmes, at Callaghan Innovation. He says accelerated depreciation was discussed in meetings with Economic Development Minister David Parker and others earlier in the year, but the government didn’t make a commitment. He doesn’t think it’s likely in this term of government, but will potentially be on the agenda of the Small Business Council at some stage over the next year.

3) Government procurement

One of the big financial problems SMEs have is with cash flow. Xero’s Small Business Insights data suggests only about half of New Zealand small businesses (or the ones using Xero accounting software anyway) have positive cash flow in any given month. And the banks often can’t or won’t help.

MBIE’s Karl Woodhead says this is one area where the government is actively trying to make a difference - by paying its bills on time and encouraging large companies to do the same. This has been a focus for Small Business Minister Stuart Nash since the Labour Government came into office and officials found the standard practice of paying bills on the 20th of the month following was simply a throwback from the time when invoicing was paper-based, Woodhead says.

“We had an epiphany at MBIE. We realised with technology there is no reason not to pay suppliers quicker. Now we have two payment runs a week and an extra one at the end of the month.

“I think we pay 75 percent of invoices within five days and 96 percent within two weeks. And that’s a ministry that used to be terrible.”

Now the Minister has asked officals to help push the prompt payment message across government and with big corporates.

“We are working out how to do it, to pay people as close to real time as possible.”

*Newsroom’s SME series is brought to you in association with Callaghan Innovation. Callaghan is working on a number of solutions to SME productivity and innovation, including Industry 4.0 initiatives, Lean workshops, R&D grants, loaning out collaborative robots to small businesses, and money for masters and PhD students to work in companies. See more about what Callaghan can offer SMEs here

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