The importance of small business
Small businesses have always had an outsize economic impact, at both national and local levels. Globally, they account for an average of 60% to 70% of total employment, and half of gross domestic product (GDP).
“It’s no exaggeration to say that SMEs are the main engine of economic development of any country. They are the primary source of employment creation, meaning that economic growth, in developing as well as industrialized countries, depends in great part on the activity and success of SMEs,” says Jaime de la Mora, head of SME (small and medium-size enterprise) banking for Banco Santander Group.
The new digital economy “presents many challenges, but also many opportunities for SMEs. They have to continuously reinvent themselves to adapt to the demands of the market and consumers,” Mr. de la Mora says. “Understanding this change is key to surviving and progressing. Thanks to their flexibility and ability to adapt, many of them are able to grow and thrive in an environment of constant change. When they understand and learn to manage that opportunity, they can overcome any limitations faced due to their size.”
In some countries, SMEs’ ranks are growing further. The changing nature of work is encouraging—or sometimes forcing—individuals to try entrepreneurship. In the U.K., self-employment rose 19% between 2008 and 2015, with self-employment accounting for 15% of workers.
“In a lot of developed countries, small businesses are becoming a way of self-employment, but through precarious positions,” says Virginia Simón-Moya, professor of strategy at Spain’s EAE Business School. Her research found that during crisis periods, small businesses have greater survival rates, although closer examination revealed that business owners were losing money but hanging on anyway because they had no other job prospects.
In emerging markets, as well, “there are a lot of entrepreneurs by necessity rather than by business acumen or interest,” says Simon Bell, global lead for SME finance at the World Bank’s finance and markets global practice.
Most small businesses, Prof. Simón-Moya says, are in services, because they are labor intensive rather than capital intensive. However, because survival depends on their output, such entrepreneurs “are creating ways of work that make productivity grow.”
“There are a lot of entrepreneurs by necessity rather than by business acumen or interest”
A “New Artisan Economy” is adding to the artisan sector that already is the second-largest employer in the developing world, after agriculture. The new artisans focus on unique, handmade goods or bespoke services for niche customers.
Such businesses tend to be very small, sometimes just one person. Indeed, the European Union’s latest annual report on SMEs finds that almost 93% of all non-financial sector enterprises are micro firms with fewer than 10 employees.
The number of small and micro enterprises is likely to grow, as well as the number of large corporations, while mid-size businesses drop out, unable to compete with bigger companies, says Ricard Puigferrat, founder of Back to Basics Management and a co-author with Eric Weber and Carm Coll of the IESE business school’s Back to Basics Business Barometer analysis of 1.2 million Spanish companies from 2007 to 2014. “It seems to be in parallel with the middle class disappearing,” he says.
The EU report says that SMEs in the 28 member states “finally appear to have escaped from the fallout of the economic and financial crisis of late 2008 and 2009,” with two straight years of value-added growth and employment, and a similar report by the Organization for Economic Co-operation and Development (OECD) finds that enterprise creation rates are pointing higher in most developed economies.
While small businesses in the U.S. are expressing the highest optimism in nine years, “hiring long-term employees versus short-term or seasonal is still not there. They are moving into an Uber-type employment,” says Ayman El Tarabishy, professor at the department of management at George Washington University and executive director of the International Council for Small Business. In the Middle East and Gulf regions, it’s “business as usual,” while parts of Asia are stabilizing or improving. “It’s better than yesterday and a week ago and a year ago,” he says.
Many emerging economies were not as directly affected by the global financial crisis, but aren’t, nor ever were, very strong in terms of creating and supporting small and medium-scale enterprises, Mr. Bell of the World Bank says. “We are seeing some nascent, but still insufficient, progress.”
The idea that all SMEs generate jobs is a myth. “Studies in the U.S. and in some emerging countries point to the fact that most net new jobs are created by firms that are less than five years old, i.e., young firms,” Mr. Bell says. However, “only 3% to 6% of SMEs actually take off and create a significant number of jobs. Such firms are called ‘gazelles’ because of their rapid growth. And firms that grow even faster are called unicorns—but these are mostly, though not exclusively, confined to the developed world.”
“Only 3% to 6% of SMEs actually take off and create a significant number of jobs. Such firms are called gazelles. And firms that grow even faster are called unicorns.”
Financing is a key challenge for small businesses, especially for the young ones that lack a track record. “You’re talking about a clientele which is different, which doesn’t have the collateral, the credit history, the audited books of accounts,” Mr. Bell says. “The failure rate is high. Banks are wary of such firms, and for good reason.”
Microenterprises, which far outnumber formal SMEs in emerging markets, rarely become gazelles. They may be family businesses or one-person enterprises just interested in survival, rather than growth or job creation. Microfinance programs have helped many tiny firms get started, and the variety of microfinance has expanded to better serve the small firms’ diverse needs. But somewhat bigger companies, that have the potential to grow from 50 to 100 to 200 workers in a couple of years, have different needs, and policymakers are looking at a variety of models to support them.
“We’re moving from microfinance to something that can build economic growth and most importantly jobs,” Mr. Bell says.
By Catherine Bolgar, freelance business writer