This is an open letter (available in Chinese) from us to the existing and aspiring owners of the vast number of diverse small businesses that serve as the backbone of the Chinese economy. We wish to convey, through this letter in Chinese, our appreciation and admiration for these impressive entrepreneurs and, more importantly, our firm conviction in becoming their long-term financing partner in their journeys ahead.

In the letter, we want to answer the following questions:

 

  1. Why do we want to focus on small businesses?
  2. Why do we firmly believe in the value of small businesses?
  3. How can we support small businesses and the entrepreneurs behind them?

Small businesses form a unique community. Not only are they embedded in every aspect of our everyday lives, they also represent the very spirit of strong work ethics and entrepreneurial aspiration of millions of small business owners across China who try to build a better future for themselves and their families. They are the foundation of China’s economic development. As the driving force behind one of the most dynamic and vibrant segments of the economy, these entrepreneurs deserve our admiration, our support and, most relevantly here, our capital investment.

 

We believe small businesses, if properly constructed as an investment portfolio, represent a great investment opportunity. Recent development in China’s digital economy has substantially increased the interconnectedness and transparency of small businesses, finally opening up the possibility to invest in them at a scale and with a level of diversification that has not been achieved before. It is indeed a blue ocean, or a “new world”, for global institutional investors, and this is the right destination for global capital as investors will be funding, in the most direct manner possible, the very people that drive the growth of China’s real economy while generating sustainable and quality returns.


Our mission, therefore, is to empower numerous small businesses and be their long-term partner along their value creation process, delivering growth capital that is tailored to their development needs. The long-term capital support we provide seeks to share in their growth and risks, reward them for their hard work and enhance their cash flow certainty.

 

To the many existing and aspiring entrepreneurs, the impressive growth in the Chinese economy is a result of their hard work. We wish to connect them with resources, both capital and operating, to unlock their true potential, and we will create a platform for fellow entrepreneurs who share similar visions, face similar struggles, and more than all, possess similar conviction and aspiration for a better tomorrow. Together, a better future will be in their own hands.

 

For more of our genesis, investment plan and strategy, we invite you to read our Open Letter to the Investment Community and a blog post written by Charles.

Founders
Charles Li | Gary Zhang

In this first blog post of “Charles’s Take” (available in Chinese), I essentially outline the key points in the Open Letter to the Investment Community from Gary and myself in lay person terms in Chinese and the blog aims to address the following questions:

 

  1. Why do we want to focus on small businesses?
  2. Why do we believe this is now feasible?
  3. In what ways is this similar to or different from the prevailing fintech or internet financing activities for small businesses?
  4. Why did I not pursue this initiative at HKEX?
  5. How can we support small businesses and the entrepreneurs behind them?

In short, small businesses have been the backbone of the Chinese economy, contributing to the bulk of the nation’s economic growth, fiscal revenue and employment thanks to the hardworking, aspiring, small entrepreneurs across the grassroots.

 

Despite our conviction that small businesses as a whole represent an unprecedented blue ocean for global investors, this “new world” of investing has remained inaccessible to date. Credit financing does not align with small businesses’ unique needs and circumstances and traditional equity financing is extremely difficult to implement due to the lack of scale, transparency and cost effectiveness in the execution process.

 

Thanks to the advanced level of digitalization in the Chinese economy, particularly at the level of small businesses, we are ready to crack open this “mission impossible”. At Micro Connect, we consider it our mission to pioneer a new investment paradigm to connect capital with small businesses to support and participate in their growth.

 

The key components in our investment strategy of making a huge number of small individual investments include: (i) a proper, fit-for-purpose product that is equity in essence but revenue sharing in form; (ii) a partnership network with key industry and technology leading enterprises who serve as our Connect and Collect Partners, (iii) an AI-enabled progressive position allocation strategy; and (iv) an exchange-enabled ecosystem for price discovery and market liquidity.

 

Micro Connect’s investment strategy is different from the prevailing fintech and internet financing models for small businesses in China in the following important ways: (i) our source of investment capital is international institutional investor based rather than the domestic banking or wealth management systems or public markets; (ii) our model is to finance growth and capex through equity-like investments rather than funding working capital in the form of credit; (iii) we do not provide consumer credit; hence (iv) our investment returns come from the growth of small businesses rather than interest spreads.

 

At HKEX, I largely focused on working with my colleagues and the industry to develop mutual market access, modernise Hong Kong’s market structures and reform the listing regimes. Although embracing technology was an important part of the strategy that I had contributed to developing, HKEX is still fundamentally a highly successful central marketplace for listed companies with scale, maturity and track records. It would be difficult, if at all possible, for me to contemplate pursuing an alternative market structure for small businesses. It was therefore the right thing to do, for me to step down and pioneer this new approach on a separate journey.

 

To provide our full support for small businesses and the entrepreneurs behind them, we seek to build a new market infrastructure that is tailored to their development needs. By connecting small businesses, global investors and leading industry partners, we aspire to build a network for entrepreneurs to access funding, operational expertise, strategic partnerships and mutual learning. Following the establishment of its Micro Connect, we are currently building a new digital exchange platform to pioneer a new way of capital formation for small businesses and a 2E (to entrepreneurs) “social media service platform” for small business owners and entrepreneurs.

My blog post in Chinese has expanded on the messages above to convey my motivation for establishing the new venture. For more of our genesis, investment plan and strategy, I invite you to read our Open Letter to the Investment Community and Open Letter to Entrepreneurs.

Founder
Charles Li

Thank you for your interest in Micro Connect. As you read this letter, we hope you not only see a trailblazing investment platform, but more importantly, appreciate our genesis, revolutionary mission, and investment paradigm.

Mission Statement and Investment Strategy

We believe that China’s small businesses represent vast investment opportunities that have not yet been accessible to global investors. Our mission is to pioneer the access to such opportunities by providing small businesses with funding that is tailored to their development needs, in a way replicating the great agricultural success of “drip irrigation”. We believe this will unlock the growth potential that will transform these small businesses and provide investors with the opportunity to participate in the potential upside of such growth and secure sustainable, highly diversified and quality returns.

We have a simple but firm conviction about investing:
  • Small is beautiful
  • Small and in huge numbers is fantastic; and
  • Small, in huge numbers, but digitally executed and intelligently priced is revolutionary.
To achieve our mission, we seek to implement a simple and straightforward investment strategy, with the acronym “SHARPE”, where:
  • “S” stands for small in amount for each individual investment, a new path to access and invest in small businesses;
  • “H” stands for huge in the number of investments to be made, a new approach to fundamentally diversify risks;
  • “A” stands for ARM (Automated Repayment Mechanism), a new way to ‘connect’ and ‘collect’ through digital technology;
  • “R” stands for RDR (Revenue based distribution right), a new, fit-for-purpose investment product targeting small businesses enabled by digitalisation;
  • “P” stands for progressive and intelligent position allocation strategy, a new way to discover price and deploy capital; and
  • “E” stands for exchange-enabled ecosystem, a new central platform for small business investing where our investment paradigm can be implemented at an accelerated pace. We believe that our future success will be enchanced if our RDRs are provided with liquidity in a new vibrant exchange platform.
We adopt “SHARPE” as an acronym for our investment strategy for a clear purpose: we seek to apply the concept of risk-adjusted returns to our investments, building strong portfolios made up of a huge number of small investments with exposure to growth opportunities in a diversified range of small businesses in China.

Conventional wisdom has it that investing in small businesses is unattractive and economically unfeasible because they are too small, too vulnerable, and have higher default risks. However, the following is also true about small businesses, which

  1. On average grow faster and achieve greater rate of returns than larger enterprises;
  2. Are nimbler and more flexible when faced with adverse market conditions; and
  3. Are the most representative of China’s real economic conditions.
As important contributors to China’s economic development, fiscal revenue and employment, quality or promising small businesses (“Micro Growth Units” or “MGUs”) deserve proper funding from the financial industry. Thanks to China’s massive digitalisation at the grassroots level of its economic system, this has finally become practicably and economically feasible. Our mission is to invest in the best of China’s MGUs and provide flexible capital to support their long-term growth.

“Huge in number” is important because we need to continuously diversify our investment portfolio. Given the small size of each individual investment, we aim to deploy a large pool of capital across a huge number of investments with low correlation, which will enable us to achieve risk diversification at the portfolio level.

To execute our strategy, we intend to
  1. Find a new way to “connect” to and “collect” from our investments through digital technology;
  2. Develop a new fit-for-purpose investment product;
  3. Adopt a new way to price and allocate our investments; and
  4. Seek an appropriate exchange platform designed for small business investing.
In order to reach as many MGUs as possible and make a huge number of investments in a cost and time effective manner, we seek to collaborate with a wide network of connect and collect partners (“CC Partners”). CC Partners are industry/sector leading enterprises with strong established business relationships with or technology enterprises which provide technology platforms to the MGUs in their ecosystems. CC Partners can potentially assist us in identifying, “connecting” to and “collecting” from MGUs and we will collaborate with them to screen, select and invest in prospective MGUs. An enterprise with a strong ARM, which refers to the digital ability to control the revenue streams of the MGUs within its ecosystem, is a potential CC Partner, and we can then leverage its ARM to digitally collect revenues from the investee MGUs.

Our collaboration with CC Partners may take different forms depending on the specific circumstances of the CC Partners and the underlying MGUs. Through collaborating with Micro Connect, prospective CC Partners seek to support the MGUs in their ecosystems, therefore expanding their business influence and competitiveness. In particular, CC Partners’ ecosystems are likely to be strengthened with the development of quality MGUs as a result of the funding support facilitated by our investment paradigm. The expansion of the relevant CC Partners’ businesses will in turn increase their ability to attract more aspiring MGUs to their ecosystems. This will, in the long term, generate a self-reinforcing network effect and enhance the vitality of the CC Partners’ ecosystems.
In order to make a “huge number” of small investments efficiently, we have to differentiate our investment products from traditional financial products whose features are not truly fit-for-purpose for MGUs:
  1. Credit products are too inflexible for the diverse universe of MGUs in terms of tenure, terms, and collateral requirements;
  2. Equity investments are unfeasible to investors as the cost to effectively document, monitor, value and exit many small private investments is difficult to justify
  3. Venture capital aims at profiting only from a small number of MGUs with the most spectacular growth potential; and
  4. Supply chain finance helps MGUs to optimise their working capital, but does not address their broader financing needs.
Our investment strategy calls for the adoption of a simpler, more flexible product with its returns digitally collectable, namely the RDR. The RDR is a new investment product that is fit-for-purpose for MGUs. Unlike traditional equity investments under which an investor holds a fixed percentage of the MGU’s permanent ownership, the RDR is based on a commercial contract under which an RDR investor and an MGU owner agree to co-invest in the MGU and each holds respective rights to receive an agreed percentage of the MGU’s future revenue that is collected at pre-determined intervals. The proportion of revenue for collection is based on industry metrics and with safety buffers taking into account the observed level of operating expenses of the relevant MGU and its industry. The RDR therefore functions as permanent capital similar to equity, but with digital and direct collection of economic interests from the MGU’s revenue through the CC Partners, commencing immediately from the time of investment and continuing throughout the life of the RDR. The key benefits of the RDR include:
  1. A complete alignment of interests between MGU owners and RDR investors;
  2. Prompt revenue distribution in an economically viable manner;
  3. Highly transparent and frequent disclosure of the MGUs’ revenue performance hence RDRs’ investment returns; and
  4. The possibility of a secondary market sale or listing of RDRs on a suitable exchange platform, thereby allowing investors to achieve exit that has otherwise been difficult to date.
In light of the “huge in number” of small investments we need to make, our investment and allocation decisions will be made from a top-down basis. This will encompass an effective self-learning process based on accurate, transparent, and frequent digital disclosure.

More specifically, our investments will be made in four different stages:
  1. We will select the sectors or regions in which we would prioritise our allocations from a macro perspective, based on the investment experience of our management team;
  2. We will select the most appropriate CC Partners from the sectors or regions which we have prioritised and work with such CC Partners in formulating the most appropriate investment plan. Such in-depth discussions with the CC Partners will enhance our insights into the sectors or regions we invest in, which will allow us to further optimise our allocation decisions for the first stage;
  3. We will then work with the selected experienced CC Partners to invest in specific MGUs in their respective sectors or regions in small amounts and in multiple batches. For instance, we will make investments within the ecosystem of one CC Partner in different batches and different amounts depending on the size, location and other relevant characteristics of the MGUs in question.
  4. We will then evaluate the return profiles of the investments we have previously made and readjust our portfolio to include the most appropriate MGUs that meet our latest investment criteria.
This layered approach will allow us to start the allocation process with our industry experience leveraging the rich insights of the CC Partners in their respective sectors or regions. With the ever-increasing volume and ever-improving quality of the data that have been generated from our investments, we will deepen our understanding of the various industries, CC Partners and MGUs, and will be able to continually optimise our progressive and intelligent position allocation decisions. This ongoing process of evolution and self-learning will in turn lead to more effective price discovery and better investment performance.

In the initial phase of our development, we will generate investment returns primarily from revenue distribution from our invested RDRs. In addition, we may sell our interests in these RDRs on a bilateral basis, thereby creating liquidity for the RDRs and enabling us to exit our positions at a premium.

In the next phase of our development, we plan to list and trade the RDRs we have invested in on an exchange platform which we are currently developing (“NumaEx”). The benefit of having such an exchange platform, which is designed for institutional and professional investors, is the ability to consolidate and optimise the accumulation of market data in one place. This will in turn enable RDR Holders, including us, to leverage data analytics to conduct investment and trading activities at a rapid pace.

While our investment paradigm is not dependent on having an exchange platform, we believe our future success will be greatly enhanced by such a platform, given that:

We can benefit from deeper liquidity and better price discovery, allowing us to enjoy a sustained and consistent competitive advantage as an early mover.

MGUs may consider the listing of their RDRs as an alternative form of “IPO”, allowing MGU owners to instantly capitalise the MGUs’ revenue streams regardless of their size. They can also buy back or sell more of their RDRs directly on the exchange platform.

In summary, we intend to make small investments in huge number. In order to achieve that, we intend to find a new way to connect and collect through CC Partners with strong ARMs, adopt RDR as a new investment product, develop a progressive and intelligent position allocation strategy, and ultimately list and trade our invested RDRs on a new exchange platform for small business investing. Through our investment strategy, we are heralding a revolutionary and disruptive way of investing to help the “little guys” succeed while delivering to our investors sustainable, highly diversified, and valuable returns.

Founders
Charles Li | Gary Zhang