Is small business really a net job creator?

Here’s something that I’ve heard a lot over the years: “Most jobs are created by small businesses.” As a founder of a small business, who now represents them in my law practice, I’d like to believe that this is true. When I hear the same thing over and over again, though, I wonder. And then I research.

It was not hard to find an article taking the contrarian view of small business job creation. A recent Business Week piece questions the quality of the jobs created by small businesses. It notes, for example, that larger companies have more stable, better-paying jobs with benefits. The article points out that many small businesses are neighborhood stores and professional services companies – the kinds that are not trying to grow.

For the small business perspective, I visited the Small Business Administration website.
On the SBA website, we learn that small businesses (the SBA defines a small business as one having fewer than 500 employees), though representing 99.7 percent of all employers, employ about half of all private sector employees. That’s not exactly a compelling stat for the dominance of small business in our economy.

Put the static numbers aside and ask, where does job growth come from? The SBA headline is that small businesses “generated 65 percent of net new jobs over the past 17 years.” A recent research study, cited in a Wall Street Journal article, supports the claim that small businesses create more net new jobs, per employee, than do larger businesses. However, the study concludes that the effect vanishes if you control for the age of the enterprise. It is young businesses, not small ones, that drive job creation. In other words: entrepreneurship.

The SBA data seems roughly consistent with this finding. The SBA overview concludes that much of the job growth is from “fast-growing high-impact firms, which represent about 5-6 percent of all firms.” So, who are these companies?

You might think that they would be Internet-age, entrepreneurial companies – Google, Facebook and the like. While these kinds of companies are certainly represented in this cohort, the SBA tells us that the fast-growing companies are older on average somewhat older than startups – 25 years old, in fact. Though definitely on the front side of the curve, they are not brand new.

Digging further, into a research paper called “High-Impact Firms: Gazelles Revisited,” I learned that of “high-impact firms” – those whose sales doubled over a four-year period and have high “employment growth quantifiers” – 94% of them were companies with fewer than 20 employees (based on 1994 – 2006 data). Score one for small business? Not so fast. Here again, as with the static employment numbers, small high-impact firms – though by far the most numerous – account for about half of net job creation, with large high-impact businesses accounting for the other half.

The Gazelles paper is interesting reading. What stands out is how hard it is to identify any distinguishing features of fast-growing businesses. The proportion of high-impact firms does not vary much by region, industry or city/rural density. (One metric that grabbed me, though, was the high proportion of high-impact firms located within 20 miles of a central business district: 44 percent. The peak seems to be within the 6 to 10 mile band, and it declines moving out from there.) Moreover, there seem to be no reliable signals of companies that are about to become Gazelles.

As a non-expert trying to make sense of this information, my conclusion is that small businesses are quite important – not necessarily to the extent that their boosters claim, but much more than their detractors admit. I get that new businesses – regardless of size – account for most job creation, but didn’t nearly every new business start out as a small one?

What this means to me is that entrepreneurship is critical. The drive to innovate and grow that I observe among the cross-section entrepreneurs that I represent tells me, in my gut, that these are the Gazelles of the future.

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