Major challenges facing small and medium-sized enterprises in Asia and solutions for mitigating them

Yoshino, Naoyuki; Taghizadeh-Hesary, Farhad Working Paper Major challenges facing small and medium-sized enterprises in Asia and solutions for mitigating them ADBI Working Paper, No. 564 Provided in Cooperation with: Asian Development Bank Institute (ADBI), Tokyo Suggested Citation: Yoshino, Naoyuki; Taghizadeh-Hesary, Farhad (2016) : Major challenges facing small and medium-sized enterprises in Asia and solutions for mitigating them, ADBI Working Paper, No. 564, Asian Development Bank Institute (ADBI), Tokyo This Version is available at: https://hdl.handle.net/10419/161440 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen. Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in EconStor may be saved and copied for your personal and scholarly purposes. You are not to copy documents for public or commercial purposes, to exhibit the documents publicly, to make them publicly available on the internet, or to distribute or otherwise use the documents in public. If the documents have been made available under an Open Content Licence (especially Creative Commons Licences), you may exercise further usage rights as specified in the indicated licence. https://creativecommons.org/licenses/by-nc-nd/3.0/igo/ ADBI Working Paper Series Major Challenges Facing Small and Medium-sized Enterprises in Asia and Solutions for Mitigating Them Naoyuki Yoshino and Farhad Taghizadeh-Hesary No. 564 April 2016 Asian Development Bank Institute The Working Paper series is a continuation of the formerly named Discussion Paper series; the numbering of the papers continued without interruption or change. ADBI’s working papers reflect initial ideas on a topic and are posted online for discussion. ADBI encourages readers to post their comments on the main page for each working paper (given in the citation below). Some working papers may develop into other forms of publication. Suggested citation: Yoshino, N. and F. Taghizadeh-Hesary. 2016. Major Challenges Facing Small and Mediumsized Enterprises in Asia and Solutions for Mitigating Them. ADBI Working Paper 564. Tokyo: Asian Development Bank Institute. Available: http://www.adb.org/publications/majorchallenges-facing-small-and-medium-sized-enterprises-asia-and-solutions/ Please contact the authors for information about this paper. Email: [email protected]; [email protected] Naoyuki Yoshino is Dean and CEO of the Asian Development Bank Institute. Farhad Taghizadeh-Hesary is Assistant Professor of Economics, Keio University, Tokyo, and Visiting Professor, Graduate School of Economics, University of Tokyo. The views expressed in this paper are the views of the author and do not necessarily reflect the views or policies of ADBI, ADB, its Board of Directors, or the governments they represent. ADBI does not guarantee the accuracy of the data included in this paper and accepts no responsibility for any consequences of their use. Terminology used may not necessarily be consistent with ADB official terms. Working papers are subject to formal revision and correction before they are finalized and considered published. Asian Development Bank Institute Kasumigaseki Building 8F 3-2-5 Kasumigaseki, Chiyoda-ku Tokyo 100-6008, Japan Tel: +81-3-3593-5500 Fax: +81-3-3593-5571 URL: www.adbi.org E-mail: [email protected] © 2016 Asian Development Bank Institute ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary Abstract Small and medium-sized enterprises (SMEs) are the backbone of the Asian economy. They make up more than 98% of all Asian businesses that provide two out of three private sector jobs in the region. Therefore, it is vitally important for Asia’s economic success to have fully functioning support measures for SMEs. However, SMEs face challenges from limited access to finance, lack of databases, low R&D expenditures, undeveloped sales channels, and low levels of financial inclusion, which are some of the reasons behind the slow growth of SMEs. This paper focuses on four major reasons that slowed the SME growth in Asia including i) lack of finance, ii) lack of comprehensive databases, iii) low level of R&D expenditures, and iv) insufficient use of information technology and provides remedies for mitigating them. JEL Classification: G21, G24, G32 ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary Contents 1. Introduction .................................................................................................................... 3 2. Importance of SMEs in Asia ........................................................................................... 4 3. Challenges SMEs Face .................................................................................................. 5 3.1 SMEs’ Difficulties in Accessing Finance ............................................................ 6 3.2 Lack of Information Infrastructure for SMEs ...................................................... 6 3.3 Low Level of Business R&D in SME Sector ...................................................... 7 3.4 Insufficient Use of Information Technology in SMEs ......................................... 7 4. Remedies for Tackling SME Development Challenges ................................................... 8 4.1 Diversifying Channels of Financing ................................................................... 8 4.2 Development of SME Database and Credit Risk Analysis of SMEs................ 12 4.3 R&D Tax Incentives ........................................................................................ 15 4.4 Utilizing Information for SMEs ......................................................................... 17 5. Conclusions ................................................................................................................. 17 References ......................................................................................................................... 19 ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 3 1. INTRODUCTION Asia has been continuously growing during the recent decades, and this growth has alleviated poverty and increased the number of middle-income countries in the region. However, the recent regional and global economic slowdown requires a new growth model for Asia, with strengthened dynamics for small and medium-sized enterprises (SMEs) to boost national productivity. SMEs are the backbone of the economies of Asia, accounting for 98% of all enterprises and 66% of the national labor force on average during 2007–2012. SMEs contributed 38% of the gross domestic product or manufacturing value-added in Asia on average in 2007–2012, suggesting their contribution to the region’s economies can be expanded further. SMEs influence trade. SMEs brought about 30% of the total export value in Asia on average in 2007–2012. In the People’s Republic of China (PRC), SMEs accounted for 41.5% of total export value in 2012, up 6.8% year-on-year, while in Thailand they made up 28.8% of total export value with 3.7% year-on-year growth. SMEs that are part of the global supply chain have the potential to promote international trade and mobilize domestic demand (ADB 2014). Definitions of SMEs are different country by country. In some countries the criteria for the categorization is capital, in some countries it is based on the number of employees, and other countries use a mixed criteria like Japan, and it varies in each business. Table 1 shows the definitions of SMEs in Japan. Table 1: Definitions of SMEs in Japan SMEs = small and medium-sized enterprises. Source: METI (2014). Limited access to finance, lack of a database, low research and development (R&D) expenditures, undeveloped sales channels, and a low level of financial inclusion are some of the reasons behind the slow growth of SMEs. In this paper, we will focus on four major reasons that have slowed SME development in Asia including: i) lack of finance, ii) lack of comprehensive databases, iii) low level of R&D expenditures, and iv) insufficient use of information technology in SMEs. We will then provide remedies for mitigating them. Definitions under the Small and Medium-sized Enterprise Basic Act Definitions under the Corporation Tax Act SMEs Small enterprises Business type Stated capital or number of employees Number of employees Stated capital Manufacturing industry and others ¥300 million or less 300 or fewer 20 or fewer ¥100 million or less Wholesale trade industry ¥100 million or less 100 or fewer 5 or fewer Services industry ¥50 million or less 100 or fewer 5 or fewer Retail trade industry ¥50 million or less 50 or fewer 5 or fewer ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 4 Section 2 of the paper explains the importance of SMEs in Asia, Section 3 describes the challenges SMEs face in Asia, Section 4 provides the solutions, and Section 5 contains concluding remarks. 2. IMPORTANCE OF SMES IN ASIA As for the importance of SMEs in Asia, according to a survey conducted by the Asian Development Bank (ADB) on 14 economies from the five ADB regions: (a) Kazakhstan (Central Asia); (b) the People’s Republic of China and the Republic of Korea (East Asia); (c) Bangladesh, India, and Sri Lanka (South Asia); (d) Cambodia, Indonesia, Malaysia, the Philippines, Thailand, and Viet Nam (Southeast Asia); and (v) Papua New Guinea and the Solomon Islands (the Pacific), SMEs, together with microenterprises, account for more than 90% of total enterprises in each country (ADB 2014). SMEs, including microenterprises, contributed 59.1% of nominal gross domestic product (GDP) in Indonesia in 2012, a figure that is gradually increasing (Figure 1). SMEs and microenterprises in Thailand contributed 37.0% of nominal GDP in 2012, and in Malaysia, 32.7% of real GDP in the same year. Thailand targeted an increase of SME contribution to GDP of 40% or more in its country strategy 2012. In Kazakhstan, the nominal GDP of SMEs tended to increase but their contribution to GDP decreased over 2010–2012, and was 17.3% in 2012. Figure 1: Small and Medium-sized Enterprises Contribution to Gross Domestic Product Note: Republic of Korea SME contribution to gross value-added in manufacturing. Source: ADB (2014). The extent of employment by SMEs varies by country (Figure 2). The share of SME employees to total employment ranged between 28.0% (Kazakhstan) and 97.2% (Indonesia) in 2012. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 5 Figure 2: Employment by Small and Medium-sized Enterprises CAM = Cambodia; PRC = People’s Republic of China; INO = Indonesia; KAZ = Kazakhstan; KOR = Republic of Korea; MAL = Malaysia; PHI = the Philippines; THA = Thailand; VIE = Viet Nam; SME = small and medium-sized enterprise. Notes: Data as of 2012 in the PRC, Indonesia, Kazakhstan, Malaysia, Thailand, and Viet Nam. Data as of 2011 in Cambodia, Republic of Korea, and the Philippines. Source: ADB (2014). 3. CHALLENGES SMES FACE SMEs face challenges from increased competition, the ability to adapt to rapidly changing market demand, technological change, and capacity constraints relating to knowledge, innovation, and creativity. For many SMEs, however, their potential is often not fully realized due to factors related to their small scale: i. lack of resources (finance, technology, skilled labor, market access, and market information); ii. lack of economies of scale and scope; iii. higher transaction costs relative to large enterprises; iv. lack of networks that can contribute to a lack of information, know-how, and experience of domestic and international markets; v. increased market competition and concentration from large multinational enterprises caused by globalization and economic integration; vi. inability to compete against larger firms in terms of R&D expenditure and innovation (product, process, and organization); vii. subject to “churning” and instability; and viii. lack of entrepreneurial zeal, capacity, and know-how. In addition, many small businesses find that their geographical isolation puts them at a competitive disadvantage. Despite these substantial obstacles many economies remain heavily dependent on SMEs, particularly for employment generation. Despite their perceived weaknesses SMEs have not been swept away with the process of globalization and regional integration, but, rather, their role and contribution have changed and evolved which have enabled many to remain internationally competitive and collectively be an important source of employment generation (Harvie and Charoenrat 2015). ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 6 In this section we will focus on explaining four major challenges faced by SMEs: i) difficulties in accessing finance, ii) lack of information infrastructure for SMEs, iii) low level of business R&D in the SME business sector, and iv) insufficient use of information technology. 3.1 SMEs’ Difficulties in Accessing Finance Figure 3 shows the level of difficulty in raising money depending on firm size: the thick line shows the difficulties faced by SMEs, and the thin line shows the relative ease for large enterprises. Data points below zero indicate that companies are finding it difficult to raise money from either banks or the capital market. SMEs appear to face a more difficult situation in raising money when compared with large firms. Figure 3: Access to Finance—Small and Medium-sized Enterprises and Large Firms in Japan CY = commercial year; DI = diffusion index. Note: The diffusion index is a method of summarizing the common tendency of a group of statistical series. Source: Bank of Japan (2014). Many banks prefer to allocate their resources to large enterprises rather than to SMEs. The reason is that large enterprises have a lower risk of default and their financial statements are clear. However SMEs are riskier mainly from the point of view of lenders and they do not have clear accounting information. 3.2 Lack of Information Infrastructure for SMEs The financial industry deals with information intrinsically. However, there is an asymmetric information problem between suppliers and demanders of funds in general. Information infrastructure is necessary to remedy this problem. Many big enterprises list their shares on stock markets and issue securities in bond markets. Therefore, ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 13 budgets for fiscal years 1999 and 2000 to finance the setting up of the CRD’s computer system and other operational costs. The association provides sample data and statistical information, and scoring services. Figure 6: Credit Risk Database of Small and Medium-Sized Enterprises CRD = Credit Risk Database; SME = small and medium-sized enterprise. Source: Authors and CRD website. www.crd-office.net Member financial institutions use scoring models to evaluate creditworthiness, check the validity of internal rating systems, and align loan pricing with credit risk. In addition, the CRD Association provides consulting services to support the management of SMEs on the assumption that if SMEs are better managed, this will reduce the credit risk for member financial institutions and strengthen SME business operations. Consulting services have also been offered to member financial institutions to help them promote implementation of Basel II. If such systems could be established in other parts of Asia to accumulate and analyze credit risk data, and to measure each SME credit risk accurately, SMEs would not only be able to raise funds from the banking sector, they could also gain access to the debt market by securitizing their claims. SME credit ratings Credit ratings are opinions expressed in terms of ordinal measures, reflecting the current financial creditworthiness of issuers such as governments, firms, and financial institutions. These ratings are conferred by rating agencies—such as Fitch Ratings, Moody’s, and Standard and Poor’s—and may be regarded as a comprehensive evaluation of an issuer’s ability to meet their financial obligations in full and on time. Hence, they play a crucial role by providing participants in financial markets with information for financial planning. To conduct rating assessments of large corporations, agencies resort to a broad range of financial and nonfinancial pieces of information, including experts’ expectations. Rating agencies usually provide general guidelines on their ratings decision-making process, but detailed descriptions of the rating criteria and the determinants of banks’ ratings are generally not provided (Orsenigo and Vercellis 2013). In search of more objective assessments of the creditworthiness of large corporations and financial institutions, there has been a growing body of research into the development of reliable quantitative methods for automatic classification according to their financial strength. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 14 Extensive empirical research devoted to analyzing the stability and soundness of large corporations dates back to the 1960s. Ravi Kumar and Ravi (2007) provided a comprehensive survey of the application of statistical and intelligent techniques to predicting the likelihood of default among banks and firms. Despite its relevance, however, the development of reliable quantitative methods for the prediction of large corporations’ credit ratings has only recently begun to attract strong interest. These studies are conducted mainly within two broad research strands focusing on statistical and machine learning techniques, and may address both feature selection and classification. Poon, Firth, and Fung (1999) developed logistic regression models for predicting financial strength ratings assigned by Moody’s, using bank-specific accounting variables and financial data. Factor analysis was applied to reduce the number of independent variables and retain the most relevant explanatory factors. The authors showed that loan provision information, and risk and profitability indicators added the greatest predictive value in explaining Moody’s ratings. Huang et al (2004) compared support vector machines and back-propagation neural networks to forecast the rating of financial institutions operating in the United States and Taipei,China. In each case, five rating categories were considered based on information released by the respective rating agencies. The analysis of variance was used to discard non-informative features. In this study, support vector machines and neural networks achieved comparable classification results. However, the authors found that the relative importance of the financial variables used as inputs by the optimal models were quite different between the two markets. Figure 7: Classification of Small and Medium-sized Enterprises SME = small and medium-sized enterprise. Note: Group 1 = financially healthy SMEs; Group 2 = medium-risk SMEs; Group 3 = financially risky SMEs. Source: Yoshino and Taghizadeh-Hesary (2015b). As mentioned earlier, the main purpose of developing a CRD is to create the infrastructure for improved credit ratings of SMEs. There are various methods for performing credit rating analysis using data on SMEs. A comprehensive credit rating method developed by Yoshino and Taghizadeh-Hesary (2014; 2015b) employed statistical analysis techniques on various financial variables of a group of SME customers of an Iranian bank. As Figure 7 shows, the analysis classified SMEs into ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 15 several groups: financially healthy SMEs, medium-risk SMEs, and financially risky SMEs. A detailed analytical framework is explained in Yoshino and Taghizadeh-Hesary (2014; 2015b). For SMEs in the financially healthy group, banks can lend them more money by charging low rates of interest with no required collateral. On the other hand, for SMEs in the high-risk group, banks can charge higher rates of interest with greater collateral requirements. If an SME’s performance improves and it moves into a lower risk group, banks can change their interest rates from high to low, accordingly. Similar SME data analysis is underway in Thailand. We hope the data analysis explained in this paper can be expanded to many other Asian economies so that more reliable credit rating of SMEs will become possible. When data are not well established, banks lend money to SMEs based on their intuition rather than examining solid data. The establishment of SME databases will reduce information asymmetry between SMEs and lenders. 4.3 R&D Tax Incentives In addition to providing grants, contracts, and loans, Asian governments should contribute to business R&D through tax incentives. This is what is occurring in many Asian economies. For instance, the Government of the Republic of Korea provided one of the most combined support incentives for business R&D as a percentage of GDP. Effective tax subsidy rates should be influenced by business characteristics, and should vary based on the type of the business and maturity of the company. Among Asian economies Japan and the Republic of Korea give more generous treatment to SMEs relative to large firms. Some countries allow firms to benefit from tax incentives when they are not profitable enough to use them in the current period, but few do so to a significant extent. Australia provides a tax credit equal to 40% or 45% of eligible R&D expenditure, with any excess refundable to SMEs (Deloitte 2014). Refunds by authorities effectively allow SMEs to benefit from incentives as if they were profitable. Refunds and carry-forward provisions are sometimes used to promote R&D in firms that could not otherwise use their credits or allowances. Such provisions should be more generous for SMEs and younger firms. In this subsection, we provide an example of Japanese new R&D tax policies toward large enterprises and SMEs, which is applicable for the rest of Asia: Japanese R&D taxed incentives are volume-based credits for a) SMEs and b) large enterprises. a) SMEs3 − A credit of 12% of total R&D expenditures. − The tax credit is limited to 20% of the company’s national corporate income tax liability before the credit is applied. The 20% limitation applies for fiscal periods beginning on or after 1 April 2012. Previously the limitation was 30% for the fiscal years beginning on or after 1 April 2009, up to 31 March 2012. b) Large companies − A credit of 8% to 10% of total R&D expenditures. − The tax credit limitation is the same as for SMEs as outlined above. 3 SMEs in this policy are companies whose capital does not exceed ¥100 million, excluding an SME held by a large company and/or companies, whose capital exceeds ¥100 million. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 16 Additional incremental credits (for both SME & large companies). Either, where the current period R&D expenditure exceeds: (i) the annual average of the R&D expenditure for the 3 preceding fiscal years; and (ii) the highest annual R&D expenditure for the previous 2 fiscal years, then the company may claim 5% of the incremental R&D expenditures (that is, the current year expenditure less the amount in (i)); or where the current period R&D expenditure exceeds 10% of the average annual sales for the 4 most recent preceding fiscal years Japan offers separate credits for small-and-medium sized enterprises and large companies, as well as an additional credit for entities of all sizes. (Including the current year), the company is eligible for a credit calculated using the following formula: (R&D expenditure less [average annual sales x 10%]) multiplied by the R&D ratio (reduced by 10%), multiplied by 20%. The R&D ratio is the amount of current year R&D expenses divided by average annual sales for the 4 most recent preceding fiscal years (including the current tax year). The tax credit is limited to 10% of the company’s national corporate income tax liability before the credit is applied. The additional tax credit is available for fiscal years commencing on or after 1 April 2008 through 31 March 2014. The R&D tax credit is available to blue form tax return filers.4 A blue form tax return status is obtained by submitting an application form to the appropriate tax office. Furthermore, there are record keeping substantiation requirements applicable under the corporate tax law. Another R&D credit system is applicable for a company conducting R&D jointly with a qualified R&D institution (for example, designated universities). Generally, unused R&D tax credits may be carried forward 1 year. The unused R&D tax credits for the fiscal years beginning on or after 1 April 2009 to 31 March 2010 may be carried forward up to 3 years. Research credits for fiscal years beginning on or after 1 April 2010 to 31 March 2011 may be carried forward 2 years. 4.3.1 Collaboration on innovation Collaboration is a key vector of innovation-related knowledge flows both for firms that use R&D (either internally developed or externally acquired) and for those that are not R&D active. In all economies for which data are available, R&D active firms tend to collaborate more frequently on innovation than non-R&D active firms, although in the Republic of Korea (manufacturing only) and Australia, both types of firms have similar rates of collaboration. Patterns of collaboration differ in terms of partners’ characteristics. Collaboration with higher education or public research institutions is an important source of knowledge transfer for large firms. In most economies, these firms are usually two to three times more likely than SMEs to engage in this type of collaboration. More than half of all innovating large firms in Finland, Slovenia, Austria, and Hungary collaborate with these institutions but less than one in ten in Mexico and Australia. Collaboration is more frequent with other market actors, in particular suppliers and clients. Among large firms, suppliers play a key role as value chains become increasingly integrated, while in Finland, the United Kingdom, the Republic of Korea, South Africa, and Iceland, collaboration with clients is equally or more importantly, a potential indication of the growing importance of user-driven innovation. 4 A Japanese taxpayer becomes a “blue form” tax filer by submitting an election to the authorities and then maintaining their accounting records to an acceptable standard. In theory, the blue form tax return system is intended to encourage better record keeping and reporting by individual and corporate taxpayers by conferring certain benefits on the “blue form” tax filers. In practice many of the benefits from blue form filing status (such as the carry forward of tax losses) are fundamental to the Japanese tax system. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 17 4.4 Utilizing Information for SMEs In order to teach the new methods of sales using the Internet, it is possible that national governments through the municipalities which are nationwide, or through societies of commerce and industry and chambers of commerce and industry provide close mentoring style support to SMEs and small enterprises, in each region acting as “primary care doctors”. In Japan, the government planned that Small and Medium Enterprises Comprehensive Support Centers be established in 47 prefectures nationwide from April 2013 onward with the aim of further strengthening the support system for SMEs and small enterprises. These centers have the following three functions: (i) provide comprehensive and advanced business advice that cannot be fully dealt with by existing support organizations, (ii) offer support through organizing expert teams optimized for particular problems of respective enterprises, and (iii) introduce appropriate support organizations (one-stop services). The non-use of information technology has not only damaged SME sales, but also made many SMEs unfamiliar with the ongoing support available. For example in a survey done in Japan, approximately 50% to 60% of SMEs and small enterprises responded that they are not sure about where they can obtain information on SME support measures. Approximately 50% do not obtain any such information. Only 10% have utilized SME support measures but some 70% of those evaluate the measures positively (METI 2014). The SMEs’ responses in this questionnaire highlighted the following concerns: − A high percentage of enterprises hope to obtain information concerning the government’s SME support measures from SME support organizations and municipalities. Therefore, the government should actively hold face-to-face briefing sessions not only for prefectures but also for municipalities and SME support organizations at an early stage. − Approximately 50% responded that the amount of information concerning the government’s SME support measures is inadequate. Those who responded that the timing of obtaining information is not timely, accounted for approximately 50% and those who responded that information is hard to understand also accounted for approximately 50%. − In light of these survey results, the government decided to endeavor to improve the “direct consulting briefing services” and the content of email publications, and also prepare a video in which officials explain the content of the support measures, including their background and intended purposes, in an easy-to-understand manner and place it on the SME Agency’s portal website. 5. CONCLUSIONS SMEs face challenges from increased competition, the ability to adapt to rapidly changing market demand, technological change, and capacity constraints relating to knowledge, innovation, and creativity. For many SMEs, however, their potential is often not fully realized due to factors related to their small scale: lack of resources (finance, technology, skilled labor, market access, and market information); lack of economies of scale and scope; higher transaction costs relative to large enterprises; lack of networks ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 18 that can contribute to a lack of information, know-how, and experience of domestic and international markets; increased market competition and concentration from large multinational enterprises caused by globalization and economic integration; an inability to compete against larger firms in terms of R&D expenditure and innovation (product, process, and organization); being subject to “churning” and instability; and a lack of entrepreneurial zeal, capacity, and know-how. This paper provided solutions for mitigating four major challenges faced by SMEs: i) Three different methods for easing SME financing are by developing (i) credit guarantee schemes by governments, (ii) private SME lenders, and (iii) hometown investment trust funds for financing risky SMEs and start-up businesses. ii) The lack of SME databases is another challenge for SMEs. Their financial and nonfinancial accounts are often difficult to assess. As a possible solution for other Asian economies, we provided the example of the Credit Risk Database (CRD) in Japan that shows how SMEs can be rated based on financial and nonfinancial data. The CRD includes a large amount of data that can be used to rate SMEs through statistical analysis. iii) The third major challenge of SME development is the lack of R&D expenditure. To mitigate this problem we provided a variety of solutions. In addition to providing grants, contracts, and loans, Asian governments should contribute to business R&D through tax incentives. This is already occurring in many Asian economies. Collaboration is a key vector of innovation-related knowledge flows both for firms that use R&D (either internally developed or externally acquired) and for those that are not R&D active. iv) The last major challenge for SME development is the insufficient use of information technology for sales. It is possible that national governments through the municipalities that are nationwide, or through societies of commerce and industry and chambers of commerce and industry provide close mentoring-style support to SMEs and small enterprises for teaching them how to use information technology in their business. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 19 REFERENCES Arráiz, I., M. Meléndez, and R. Stucchi. 2014. Partial Credit Guarantees and Firm Performance: Evidence from Colombia. Small Business Economics. 43 (3). 711–724. Asian Development Bank (ADB). 2014. Asia SME Finance Monitor 2013. Manila: Asian Development Bank. Asian Development Bank (ADB). 2015. Asia SME Finance Monitor 2014. Manila: Asian Development Bank. Bank of Japan. 2014. Financial System Report October 2014. Tokyo: Bank of Japan. Deloitte. 2014. 2014 Global Survey of R&D Tax Incentives. London: Deloitte Touche Tohmatsu Limited. Harvie, C. and T. Charoenrat. 2015. SMEs and the Rise of Global Value Chains. In Integrating SMEs into Global Value Chains: Challenges and Policy Actions in Asia. 1–26. Manila and Tokyo: Asian Development Bank and Asian Development Bank Institute. Huang, Z., H. Chen, C. J. Hsu, W. H. Chen, and S. Wu. 2004. Credit Rating Analysis with Support Vector Machines and Neural Networks: A Market Comparative Study. Decision Support Systems. 37 (4). 543–558. Hosono, K., K. Sakai, and K. Tsuru. 2006. Consolidation of Cooperative Banks (Shinkin) in Japan: Motives and Consequences. RIETI Discussion Paper Series 06-E-034. Tokyo: Research Institute of Economy, Trade and Industry. Japan Federation of Credit Guarantee Corporations. 2014. Credit Guarantee System in Japan. Tokyo: Japan Federation of Credit Guarantee Corporations. Kuwahara, S., N. Yoshino, M. Sagara, and F. Taghizadeh-Hesary. 2015. Role of the Credit Risk Database in Developing SMEs in Japan: Lessons for the Rest of Asia. ADBI Working Paper 547. Tokyo: Asian Development Bank Institute. Organisation for Economic Co-operation and Development (OECD). 2013, OECD Science, Technology and Industry Scoreboard 2013. Paris: OECD Publishing. Orsenigo, C. and C. Vercellis. 2013. Linear versus Nonlinear Dimensionality Reduction for Banks’ Credit Rating Prediction. Knowledge-Based Systems. 47. 14–22. Ministry of Economy, Trade and Industry (METI). 2014. White Paper on Small and Medium Enterprises in Japan. Tokyo: Ministry of Economy, Trade and Industry. Poon, W. P. H., M. Firth, and H. G. Fung. 1999. A Multivariate Analysis of the Determinants of Moody’s Bank Financial Strength Ratings. Journal of International Financial Markets, Institutions and Money. 9. 267–283. Ravi Kumar, P. and V. Ravi. 2007. Bankruptcy Prediction in Banks and Firms via Statistical and Intelligent Techniques–A Review. European Journal of Operational Research. 180 (1). 1–28. Riding, A.L. and G. Haines, Jr. 2001. Loan Guarantees: Costs of Default and Benefits to Small Firms. Journal of Business Venturing. 16 (6). 595–612. Shinkin Central Bank. 2015. Shinkin Central Bank Annual Report, 2014. Tokyo: Shinkin Central Bank. ADBI Working Paper 564 Yoshino and Taghizadeh-Hesary 20 Uesugi, I., K. Sakai, and G. M. Yamashiro. 2006. Effectiveness of Credit Guarantees in the Japanese Loan Market. RIETI Discussion Paper Series 06-E-004. Tokyo: Research Institute of Economy, Trade and Industry. Yoshino, N. 2013. The Background of Hometown Investment Trust Funds. In N. Yoshino and S. Kaji, eds. Hometown Investment Trust Funds: A Stable Way to Supply Risk Capital. Tokyo: Springer. Yoshino, N. and F. Taghizadeh-Hesary. 2014. Analytical Framework on Credit Risks for Financing SMEs in Asia. Asia-Pacific Development Journal. 21 (2). 1–21. Yoshino, N. and F. Taghizadeh-Hesary, F. 2015a. An Analysis of Challenges faced by Japan’s Economy and Abenomics. Japanese Political Economy Journal. 40. 1–26. DOI: 10.1080/2329194X.2014.998591. Yoshino, N., Taghizadeh-Hesary, F. 2015b. Analysis of Credit Ratings for Small and Medium-sized Enterprises: Evidence from Asia. Asian Development Review. 32 (2). 18–37 World Bank. 2016. World Development Indicators 2016. Washington, DC: World Bank. Zander, R., C. Miller, and N. Mhlanga. 2013. Credit Guarantee Systems for Agriculture and Rural Enterprise Development. Rome: Food and Agriculture Organization.