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Global Value Chains take many shapes and sizes. Twenty years ago very few of us had ever heard of Hobbits in New Zealand but today the country is known as an international movie and TV series production center. That all started with one small step, a very small Hobbit step, with the first Lord of the Rings movies.

Likewise very few people in New Zealand would have believed that the country would become a space industry participant. A domestically based business, Rocket Lab, is regularly launching satellites and is planning a Venus mission. How has this sleepy remote country at the bottom of the world, previously known for sheep and dairy products, transformed into a tech hub and developed two leading Global Value Chains (GVCs)?

Having just completed the World Bank Trading For Development online course on GVCs it is an appropriate time to consider if these examples are a positive development for New Zealand. GVCs grew dramatically prior to 2008, substantially boosting trade activity, but then stagnated. The World Bank research shows that participation in GVCs boosts growth, creates new jobs and reduces poverty. Following the dramatic economic impact of COVID19 there are increased calls around the world for more self-determination and protectionism, moving away from global trade to reduce dependencies, however at the same time many countries continue to compete vigorously with incentive schemes such as tax breaks and subsidies to attract them. This article considers the merits or otherwise of New Zealand’s domestic policies to promote participation in Global Value Chains.

Technology and personnel expertise had to be imported to develop both of these export products. The Government was also very proactive in steps to encourage the industries. Subsidies for the companies such as production grants, technology funding and differential tax treatments were introduced for the industries.

The New Zealand Government has faced criticism for allowing these favorable sector specific rules. Even recently, under tight Covid 19 immigration rules which closed the borders, an exception was made for 56 staff coming into the country for the new Avatar series.

In an earlier NZ Herald interview Avatar producer  Jon Landau said
“These are the people that will unlock the door to millions of dollars flowing into the economy.”

But he added that their return wasn’t just because of New Zealand’s leadership in tackling Covid-19. He is upfront that the real reason the production is here in the first place is New Zealand’s generous screen production grant, whereby productions are able to claim back large amounts of the money they spend here. The Avatar producers have made four interim applications under the scheme and have been awarded $41 million from the Government so far, with the option of applying for even more. The Hobbit films were given 8 lots of funding.

The space sector progress also faces attacks. The NZ Taxpayers Union rebuked the Rocket Lab CEO who had claimed they operate without support – “The Government has multiple funding and subsidy programs for the space industry. It beggars belief that Mr Beck would have forgotten this, considering his own company received $25 million from Callaghan Innovation in 2013.”

A 2019 Deloitte report indicated the New Zealand space sector was worth $1.69 billion in 2018-19 and supported 12,000 jobs. The report’s key findings are that New Zealand’s space sector:

• Is ‘New Space’-driven, characterized by a mix of start-up and well-established entrepreneur-driven and privately-funded space companies
• Has strong space manufacturing and space applications sub-sectors, and cutting-edge research and development capability within several universities across the country; and
• Draws on local as well as international talent, and has strong connections with the global space economy.

While debated by many as a market distortion the incentives have arguably proved successful in the space sector, based on these results. Also the film sector grants have resulted in more ongoing activity. Now we have the upcoming Lord of the Rings TV series, Avatar and new Disney productions such as the recent Mulan movie produced here.

Historically New Zealand has an active role in international trade development having been closely involved in multiple trade agreements, one of the first countries to have a free trade agreement with China and recently establishing a Trade For All Advisory Group to address mounting protectionism around the World. Other key export sectors such as international education courses and tourism have been severely affected by the Covid crisis and technology sectors are one opportunity for continued growth.

New Zealand has many natural endowments to encourage participation in these GVCs. We have spectacular scenery for the films, remoteness for rocket launches, a highly educated workforce, strong IT and data frameworks, plus international first place rankings for the lowest corruption and the World Bank’s Ease of Doing Business. So with those advantages are the subsidies really needed at all? That debate continues but on balance it appears that the commitments have been worth it and the country has developed two new GVCs that most living here would not have anticipated a few years before. Perhaps we will see our Prime Minister Jacinda Ardern get a starring role as an Avatar? And given that we have these industries here now we should promote them. If Elon Musk can put a car into space why don’t we put a Hobbit in a rocket?

When a small business owner in the UK applies for a  $250,000  business loan under their Government supported SME loan scheme the bank cannot ask for a personal guarantee.  Under the Australian scheme the bank cannot request security.  In New Zealand SME borrowers are asked for both security and personal guarantees. So why the differences? This article looks at the three  SME loan support  models to compare the features and specifically looks at personal guarantee requirements.

Here are the three SME Loan schemes

Some may wonder why the UK government do not ask for personal guarantees at all on small loans and only for a restricted guarantee on larger amounts. The reason is explained in my earlier article – Banks Must Lend Beyond Traditional Collateral, which explains the underlying  heavy bank bias to property based lending.  The UK regulators recognise that the only way to get banks away from relying on peoples’ homes as collateral is to specifically prohibit it. The Government is  guaranteeing 80% of the risk so are instructing banks to assess the business on a stand-alone basis for their 20% risk share.  The UK actively encourage asset based lending products under their scheme and non-bank lenders can also participate.

Even the Australian model, which is described as Unsecured, has a strong  bias towards property because of the personal guarantee.  In  New Zealand the anecdotal evidence already is that the Austraian owned banks will only accept SME loan applications under the scheme  from existing bank customers with personal guarantees backed by property.  Will there be reporting of how many customers actually get access to finance without putting their home at risk? 

The New Zealand SME loan guarantee scheme was developed by the Council of Financial Regulators, comprising the Reserve Bank, Financial Markets Authority, the Ministry of Business and Innovation and Treasury. That is representative of all the stakeholders except one, the customers who need the finance. Where is the input from the Small Business Advisory Council and others? SMEs are the driving force of economic growth and face challenges now that are greater than they have ever seen. New ways must be found to help them go forward. Many will still have sound business models and future orders to process but need liquidity desperately.

In my view the banks here and in Australia are not anti SMEs, they have simply failed to develop new ways of lending to them to keep pace with the needs. The simplistic property based focus will not be enough and their blanket catch-all personal guarantees discourage applications.

An Alternative Personal Guarantee Model for New Zealand

It will be very difficult to switch New Zealand into a no guarantee model and the likely  impact would be even less lending. On the other hand SMEs are discouraged from taking risk and investing in their businesses if their home is at risk. 

An alternative model is to have a limited personal guarantee whereby the SME owners are only liable for the debt if there has been fraud or theft of funds from the business. The SMEs must pledge that the finance will be used exclusively for business purposes and that personal drawings will be no higher than in previous periods or as per a business plan. They must disclose truthful information and cannot use the funds unreasonably, such as  buying a new sports car, or get paid excessively, otherwise their conditional guarantee will be enforced.

The personal guarantee, if it is applied,  should also be capped at 20% of the loss, as the UK model allows. The NZ Government already guarantees 80% of the risk under this scheme, while the bank takes 100% of the profit from the loans and has just 20% risk.  Surely under that environment special conditions should apply.

Simon Thompson is an international specialist in Access to Finance for the SME sector. He is an ex banker and finance company CEO and has worked as a Consultant for the World Bank/IFC and Asian Development Bank in over 25 countries since 2006. He is a Director of Lock Finance, a niche NZ invoice financier, and has provided credit and risk management workshops for banks throughout Asia and the Pacific region.

This is a call to banks to accelerate product development work and move immediately into expanded movables-based finance products.

Much has been made of increasing access to credit for the SME business sector as part of Covid19 relief strategies. Governments are even funding schemes themselves, either directly or through traditional banking channels. It sounds great, a positive “hand up” rather than hand-out for the business sector. But is that the reality? Will small businesses really be able to get new funds? Sadly, in many countries, the answer is no.

The problem lies with the standard banking model. Worldwide most banks still use outdated collateral requirements which rely heavily on traditional real property, i.e. the business owner’s home or office building. In the bank SME financing sector it is rare to find other collateral used in a meaningful way. As a consultant for the World Bank and Asian Development Bank for several years, in multiple markets, I have seen this problem first hand. The World Bank data shows that on average 78% of SME business assets are movable assets such as inventory, machinery and receivables while only 22% is land and buildings. But in developing markets about three quarters of all bank loans are secured by property . Fortunately there has been a huge push in recent years by the development banks and others to change this model and introduce improved legal frameworks for movable asset finance. Never has this new model been more needed than now, in a Covid19 world.

Even in my home country of New Zealand, which has one of the best practice Secured Transactions frameworks in the world, the banks are primarily offering new Covid19 loan schemes as an extension of existing credit limits only, where the SMEs already have property mortgaged, and that is despite an 80% Government Guarantee on the new loans! What about adding genuine new credit based on movable assets? Where is Purchase Order Finance – financing stock orders so that businesses can re-stock, or Contract Financing, Inventory Financing, and Accounts Receivable Finance/Factoring? Have banks forgotten how to do these well proven financing products or have they decided the administration and risk management is too hard?

Any change to the old banking model cannot come without a change to risk assessment. Banks have been operating on a remote control points based credit scoring system that relies on the traditional client assessment criteria – 3 years of historical financial data, good payment and credit history plus a weighted value mortgage collateral over land. It is a numbers game, simplified down so that credit decisions are easy. But of course only a few SMEs qualify. Movables-based finance, on the contrary, looks at the business cycle assessment first. The loan repayment comes directly from the sale of the goods being financed, not from some theoretical long term profit projection. The question being asked is, does the client’s business model work, can the assets we are financing be sold within the reasonable timeframe to repay this finance and can I track and control the funds through that cycle? That is not a difficult process if the bank is open to trialling new products and new risk methodology, the type that IFC and ADB have been demonstrating to financiers and for which the legal systems have been strengthened.

Many banks around the world are already developing new products and lending capacity in the movable finance space but it has still been too slow. The old model is hard to move away from when Credit Committees and Boards are familiar with traditional property lending. But right now is the time! This is a call to all banks to accelerate your product development work and move immediately into expanded movable- based finance products.

Having just completed my first MOOC (Massive Open Online Course) along with 16000 others worldwide I am convinced this format could offer a lot to the SME Banking sector. The course was Financing for Development, run by the World Bank and focused on alternative thinking to finance the 2030 Sustainable Development Goals. This will need increased private sector funding and SME Finance is one key area.