Daniel Muzyka is chief executive officer and Glen Hodgson is senior vice-president and chief economist of the Conference Board of Canada.
With the federal election campaign in full swing, the Conference Board of Canada has prepared a series of primers for Globe readers on the top economic and social issues our next federal government must address.
One of the trickiest economic challenges for Canada is to create more large businesses – firms that grow to their full potential, compete internationally on the same scale as global businesses, make profits, pay taxes, create jobs and maintain and increase their presence in Canada.
It is both socially and politically popular to offer tax and other advantages that favour small business. The vast majority of the more than 1.2 million businesses in Canada, according to Startup Canada, are small and medium enterprises. SMEs employ more than 5.1 million people and produce about 30 per cent of our gross domestic product.
Yet, while small business sustains up to a third of overall employment and economic growth in Canada, most small businesses remain small. Furthermore, small businesses launch and fail at a high rate of turnover. The real engine for creating high-wage jobs is sustained high-growth businesses, firms that happened to have been small at one point. The challenge for the next Canadian government is not just how to sustain small enterprises but how to create more high-growth businesses that become large enterprises.
Canada is good at creating startups. Compared with other advanced developed countries, Canada has relatively few regulatory barriers for opening new businesses. When combined with a high level of entrepreneurial ambition that Canadians exhibit, as identified in the Conference Board of Canada's How Canada Performs: Innovation report card, it means an annual "birth rate" for SMEs of about 100,000 businesses.
However, the churn rate for these new businesses is high. Up to half of SMEs go out of business in their first five years of operation. SMEs are often limited in their ability to grow by insufficient access to private investment capital and limited management skills and experience to expand their operations, implement technology and commercialize innovations. Even for the many firms that stay in business, too few ever grow to become large regional, national or global leaders.
Small businesses benefit from significantly lower corporate income tax rates and often enjoy reduced regulatory compliance. There is little evidence, however, that further reducing the tax and regulatory burden on SMEs will help them grow taller and stronger, especially if the full scale of taxation and regulation rises rapidly on those who grow. Preferential tax rates and reduced regulatory barriers can distort market forces, create financial and psychological barriers to growth, and inadvertently encourage businesses to stay small.
The economic evidence shows that SMEs are both a necessity and a challenge for the Canadian economy. Productivity growth is the surest way to create enduring wealth in an economy. On that score, Canadian SMEs are being outperformed by firms that are larger and more committed to growth and innovation. The Bank of Canada and other analysts have demonstrated that firm-size differences between Canada and the United States play a significant role in explaining the productivity gap between the two countries, now approximately $7,000 per capita. Similarly, firms that are committed to growth invest much more of their revenue in research and development than SMEs. This enables them to grow larger, which creates additional employment, as well as higher employee compensation and benefits.
Rather than basing business policy on current size, let's broaden our focus to support for firms based on additional business attributes. These criteria include:
– Sustained high growth rates;
– Investment in innovation;
– Increasing and accelerating employment;
– The willingness and demonstrated expertise to pursue business sales and growth internationally.
In short, Canada is a good place to start a small business. The focus of Canadian policy needs to shift toward helping more small businesses become growth businesses.
It leads to questions for the parties: How will your platform encourage the formation and continued growth of larger new enterprises? How would your policies encourage more successful SMEs to grow to their full potential? How would your government's policies ensure that more Canadian enterprises grow to compete globally?