These businesses were set up in the mainland decades ago to take advantage of low wages and production costs.

But, in recent years, the mainland's staggering economic prowess and the speed of globalisation have posed challenges for factory owners, putting pressure on their bottom lines and making their business models untenable.

Part of the problem stems from the reluctance of SMEs to respond to change. Thomas Chan Man-hung, head of Hong Kong Polytechnic University's China Business Centre, said: 'SMEs from Hong Kong have been lazy about making improvements to their China operations. They have not upgraded their technology or equipment, or strengthened their management in the past 20 years.

'China and the world have altered dramatically as wages and land costs have risen and the mainland government is implementing stringent environmental regulations on factories.

'All this, in addition to the pace of globalisation, has meant that SMEs are now facing a profit margin squeeze on all fronts.'

Overall production costs have jumped by at least 20 per cent in the Pearl River Delta. 'The only chance for SMEs to survive is for them to change. Those who don't do anything will only be able to hang on for a few more years before they are forced to shut down,' Dr Chan said.

Relocation to cheaper production bases is an option, but Pansy Yau Lai-ping, Hong Kong Trade Development Council deputy chief economist, said this could only be a short-term measure.

'Companies can no longer afford to relocate without upgrading. Even if they relocate to lower-cost areas, such as the inland provinces [of the mainland], the costs ... will eventually catch up.' SMEs now need to increase their competitiveness for the long term by differentiating themselves through their products in quality and design.

'Companies are changing their business models by concentrating more on product innovation. Some are even subcontracting their production to mainland partners so that they can focus wholly on product development,' Ms Yau said. On top of changes to product lines is a change to market focus.

The future, according to Dr Chan, no longer lies overseas. The emergence of the mainland's burgeoning middle class means the domestic market will be the one to target.

'Switching to the [mainland] domestic market is not easy. The style and design of products will have to change, additional networks will have to be built up, and businesses will have to understand new commercial requirements and introduce new production techniques. It will be a totally different business,' Dr Chan said.

'But, given the fast-changing mainland market, there will be a lot of room for niche services and products.'

Recruitment of new talent will be paramount if SMEs are to turn their businesses around successfully. Sales and marketing talent, with a strong knowledge of the mainland market, will be hotly sought after, according to Dr Chan, though China's crippling staff shortage means securing new employees will be a challenge.

Ms Yau said: 'It isn't just lower skilled talent that is highly desirable. All talent from management staff to engineers and marketing professionals are needed in the mainland.'

Leung Kwok-kee, managing director of UPS Hong Kong and Macau, said: 'There are challenges for SMEs Asia-wide, though the higher costs in China have heightened the difficulties facing Hong Kong firms there.

UPS Capital, the financial services arm of the United States-based delivery company, offers SMEs a range of services including loans and assistance with expansion in new markets.

'We have been helping SMEs worldwide for several years and their needs have grown in recent years. Our aim is to tailor solution strategies that fit the requirements of companies so that they can compete,' Mr Leung said.

'For UPS to gain more SME business we need to help SMEs get more business.'

How the situation will unfold is unclear but some form of transformation is expected to take place in the near term.

Dr Chan said: 'The viability of SMEs will be played out in the next five years, though I expect quite a lot of them will shut down. I consider this a process of creative destruction.

'This has to take place to make room for new businesses.'