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Banking & Finance
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Opening the vault for the private sector
Update: 11-1-2005
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Private enterprises are a major reason for Vietnam's economic success. Despite this, banks still view the private sector with mistrust, often making it difficult for small businesses to secure loans. As Trong Hieu discovers, the problem is a combination of state-sector favouritism, obsolete regulations and private firms’ haplessness.
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Vietnam’s lending rules make it difficult for private companies to secure loans |
Vo Van Luan, director of the newly established Hung Vuong company, sounded tired when recalling his firm’s 10-month quest to obtain a loan from local commercial banks.
“We are a start-up business and, as such, we were unable to show a long-term track record, traditionally one of the main criteria for banks in considering eligibility for loans. It is for this reason that we were not welcomed by most banks,” Luan said.
The company, a seafood processor and exporter, was established in 2003 when the market for seafood exports, especially catfish, was booming. High growth in catfish exports at the end of 2003 encouraged Hung Vuong to invest in an additional production line for 600 workers, for which a considerable amount of money was needed.
Lack of investment capital forced the company to knock on the doors of banks in Ho Chi Minh City, and after nearly a year it finally received the funds it needed.
Luan was astounded at the difficulty of the process.
“After we found a bank that was willing, then came the borrowing procedure. Even to the best of my knowledge, I did not think it could be so complicated and corrupt,” he said. “We had to show too many papers and go through a three-month procedure in order to borrow.”
Looking back, Luan said he felt lucky that his company was lent any money at all, because many other firms in the same industrial park are still looking for credit.
Plenty of money
According to private firms, a shortage of lending capital is only acceptable explanation for banks’ unwillingness to provide loans to the private sector.
Unfortunately, that’s just not the case in Vietnam’s banking sector, where funds are abundant and huge loans are readily handed out to state-owned firms.
A quick look at the vast amount of preferential loans that international credit institutions like the World Bank, the Asian Development Bank (ADB) or the Japan Bank for International Cooperation (JBIC) have earmarked for Vietnam during the last several years shows that there is plenty of money available.
Every year, financial organisation entrust millions of dollars to various local banks – both joint-stock and state-owned – to finance the country’s private sector. All of these financing programmes are explicitly targeted at SMEs.
For example, in July 2002 the Japanese Government loaned $33 million to Vietnam to finance SMEs with less than VND10 billion ($636,000) in legal capital and workforces of no more than 300 people.
The Japanese Government entrusted the package to two state-owned banks, the Vietnam Bank for Investment and Development of Vietnam (BIDV) and the Industrial and Commercial Bank of Vietnam (Incombank), and two joint-stock firms, the Asia Commercial Bank (ACB) and the Eastern Asia Bank (EAB).
According to most reports, this is not an isolated case. It is widely believed that many big commercial banks in the country are holding on to a great deal of their capital, preventing the loan-starved private sector from accessing it.
Fixing a broken mechanism
Blame for the problem is difficult to assign, with both sides quick to point the finger at one another.
Private enterprises complain that the lending criteria set by commercial banks are often too difficult to satisfy, especially in terms of collateral. In principle, banks only extend credit to firms with adequate collateral coverage, which in most cases means firms have to hand over their land use rights.
“This prevents private firms from accessing bank loans because almost no private firms in Vietnam have certificates of land-use right in their own names, except maybe for some company owners who are willing to offer up their personal property as collateral,” said Huynh Thanh Son, director of Electronic Cable Tan Thai Son-Thuan Phat Ltd.
“To make matters worse, banks often assess the value of collateral at a much lower level than its real value, and for the vast majority of private firms, banks require collateral valued at more than the total value of the loan, which imposes a heavy burden on capital-starved firms,” Son said.
Son’s company recently applied for a loan at a joint-stock bank in Ho Chi Minh City, but he hasn’t found any takers because his firm doesn’t have the necessary collateral. All of the company’s property holdings – one plant in the city and one plant in Binh Duong province – were priced by the bank at 50 per cent lower than the going market price.
Bankers, on the other hand, argue that most small- and medium-sized firms, which were only recently made legal when the Enterprise Law went into effect in 2000, don’t have long-term performance track records, making it tough for banks to assess their potential for success.
Bank officials also complain that private firms lack sound investment plans.
In the words of Nguyen Duc Hung, head of the customer service department of the joint-stock Vietnam Bank for non-state enterprises (VPBank), a number of private firms fail to meet major lending criteria, including feasible business plans and clear and transparent financial records.
Hung also said it takes private firms, including even those that were among the first wave established in the country in 2000, too long to complete and submit common and simple documents like periodical accounting reports.
“This is not only a waste of time, but the unprofessional working attitude of these firms raises doubts about their ability to carry out their business plans,” said Hung.
Hoang Khanh Sinh, general director of Saigon Thuong Tin commercial bank (Sacombank), said it was unacceptable that some applicants did not even know how to fill out an application for a loan, even when provided with clear instructions.
International financial experts often step in when they discover that the large amount of money they give to support private sector development is sitting idle in the country’s banks.
A thorough survey conducted in the middle of last year by the World Bank concluded that neither banks nor firms were to blame for the problem. The real problem, found the survey, goes to the heart of how the banking system works in Vietnam, where lending regulations favour state-owned clients at the expense of the private sector.
“Banks will not accept a signed contract or project as collateral from private firms, whereas this is acceptable from state-owned ones,” states the report. “Given that many private firms in Vietnam lack a certificate for land-use rights, if banks would accept this as collateral, private firms’ access to commercial credit would be greatly improved.”
Similarly, even when the law does not require them to do so, Vietnamese banks are typically unwilling to accept manufacturing equipment as collateral to underwrite working capital loans for private firms, although this is standard practice in most countries, according to the World Bank.
Banks say they remain inflexible on collateral because there is no incentive to do otherwise.
On one hand, banks contend there is no pricing differentiation in loans to compensate for the additional transaction cost of using this type of collateral and, on the other hand, if the loans default and the bank needs to draw on this collateral, there is no easy way for them to do so.
In particular, the lack of private liquidators on the market to collect and sell manufacturing equipment makes banks wary, although the recent establishment of the Secured Transaction Centre, which is designed to do just that, was supposed to address the problem.
Credit difficulties for private firms are further compounded by the dearth of equity financing vehicles such as equity funds and venture capital companies.
Dominican Scriven, director of the UK-backed Dragon Capital Fund, one of a few venture capital companies in Vietnam, said equity financing was particularly valuable for newly established firms because of the stability it imparts and also because it allows new firms to finance investments and pursue activities that involve risk up front and don’t generate rapid cash flow early on.
Unfortunately, such funds are scarce in Vietnam due to the lack of an appropriate legislative and institutional framework.
The way forward
State Bank Governor Le Duc Thuy admitted in a recent speech that despite a number of changes in the law in the last two decades, the country’s credit regulations continue to favour the state-owned sector, a lingering consequence of the country’s past as a centrally planned economy.
Furthermore, the capital market in the country is still fragile and under-developed, preventing the private sector from accessing formal equity finance institutions like banks or equity funds.
“Addressing these problems means creating a level playing field between the private and the state-owned sectors, and further developing the credit market through regulatory instruments. These are critical steps towards improving private access to commercial credit,” Thuy said, although he gave no concrete suggestions as to how this would be accomplished.
Experts advise that, as the country gradually develops its private credit and capital market, both banks and private firms should work on improving their performance and adapting to market changes.
Banks should strengthen their credit appraisal skills and move toward a cash-flow based analysis of credit worthiness rather than a collateral-based view. For their part, private firms should increase the quality and transparency of their financial records, say experts.
In the immediate future, changes like these will be necessary.
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