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economy lab

Jock Finlayson is the executive vice-president, policy, for the Business Council of British Columbia

The third week of October marked "small business week," an occasion when politicians step forward to applaud the millions of small enterprises that operate in Canada. What gets left out of the celebratory media releases issued by government ministries is the even more important economic contributions made by the sub-set of small and medium-sized firms that fall under the heading of "rapidly growing."

Recent American research strongly reinforces this point. A 2010 study from the Kauffman Foundation estimates that, in a typical year, the top-performing 5 per cent of U.S. businesses – measured by rates of employment growth – generate two-thirds of all new jobs. And the top 1 per cent of company's are responsible for fully 40 per cent of net job creation.

The picture that emerges is that over a period of several years, a few thousand U.S. companies grow from scratch to reach substantial size, eventually employing 2,000-10,000 people each. The story is similar in Canada, although I am not aware of studies like the one from the Kauffman Foundation. Where Canada falls short, however, is in failing to produce enough dynamic-growth enterprises.

In truth, the small business world can be divided into two types of firms: a huge number of "main street" businesses that don't really grow but collectively employ lots of people and provide an array of needed goods and services; and a much smaller number of "gazelles" which expand quickly and are vital sources of job creation, increased productivity, and innovation. Main street businesses operate in many sectors of our economy but are ubiquitous in industries like retail, foodservices, dry-cleaning, car repair, construction, and personal/household services. They are a fundamental component of local economies but generally don't generate much in the way of net job creation. That's because there is a high level of "churn," as many existing small firms disappear and new ones are created each year.

Rapid-growth businesses follow a different path. The entrepreneurs who form these companies are highly ambitious, tend to be innovative, and are crucial to the continuing growth and development of their ventures. Importantly, these "gazelles" are found in many industries (not just high-technology, software, etc).

An interesting question is whether rapid growth firms develop on a random basis, depending primarily on the distribution of entrepreneurial talent, or whether they are more likely to emerge in particular regions or at times of disruptive technical change. There are conflicting views on this among scholars.

The good news is that policy-makers can help to establish conditions in which gazelles are more likely to take root and flourish. Making it simple to start a new business is one example – this is an area where Canada scores very well on international benchmarks.

Ensuring that capital is available to fund start-ups as well as to facilitate the further development of growth-oriented businesses is obviously important. This includes not only venture capital but also other sources of financing (mezzanine capital, private/public equity, bank loans, angel networks, etc.).

Finally, adopting a tax structure that rewards success and encourages companies to grow is also critical. Here Canada's record is more mixed, as the tax system as now constituted creates incentives for firms to stay small through favourable (lower) income tax rates, more generous R&D incentives, and – in some provinces – exemptions from general purpose payroll levies up to a threshold level.

The public loves small businesses, and it seems that our governments prefer to keep them small.