The Mythical SME
July 19, 2023
A mythical creature is one that exists in our imagination but not in real life. Examples are mermaids, dragons, unicorns and fairies. Myths are widely used to tell stories about complicated or taboo situations. However myths can also be dangerous if they lead people to take wrongheaded action. Remember ”weapons of mass destruction” in Iraq or “vaccines cause autism”?
So what about SMEs — small and medium sized enterprises? Most governments in Canada have policies to target SMEs, in order to assist them in growing. They are an essential part of the economy and employ millions of people. According to Statistics Canada, a small business has 1-99 paid employees, while medium-sized business has 100-499 paid employees.
More specifically, then, how do small businesses differ from medium sized businesses?
Their numbers According to ISED, there are 1,187,658 small businesses and 22,700 medium-sized businesses in Canada. So small businesses outnumber medium-sized businesses by a factor of about 52. In other words, small businesses represent 98 percent of SMEs.
Access to finance Obtaining financing is one of the major problems for small businesses and startups. However, medium-sized businesses generally have no problem getting financing, as we heard when we interviewed the CEOs of more than 20 such companies. They have a track record of financial performance, repeat customers, good credit ratings, and a proven business model — all of which make them ideal customers for the banks.
Contribution to GDP (Gross Domestic Product) Small businesses contribute 38 percent of GDP, and medium-sized businesses contribute 14.3 percent, so altogether SMEs contribute 52.3 percent of Canada’s GDP. The 2 percent of SMEs who are medium-sized contribute more than 27 percent of the GDP attributed to SMEs.
Employment Small businesses employ 8,204,700 people — 67.7 percent of the total private labour force — and medium-sized businesses employ 2,476,600 people, or 20.4 percent of the private labour force. The 2 percent of SMEs who are medium-sized employ 23 percent of all SME employees.
Looking at the information about numbers, access to finance, contribution to GDP, and employment it is obvious that there really is not that much in common between small and medium-sized businesses. Nor is there a “typical” SME — it is either a small company or a medium-sized company. That is why the SME is a myth. It exists only in our imagination.
Why is this a problem?
It is clear from the list of differences above that small and medium-sized businesses have completely different needs. For example, providing financial assistance is key for small businesses but much less important for medium-sized businesses, which can usually raise bank financing without too much trouble. However, the needs of medium-sized business often get neglected, because they are so outnumbered by small businesses. “SME” makes for a convenient category, but one size does not fit all.
This is important because medium-sized businesses are often the backbone of the economy, providing stability during the business cycle. When we interviewed the CEOs of medium-sized companies in Alberta, for example, we were impressed by how similar they were to the German Mittelstand companies, who are often held up as an example of Germany’s economic success.
Beyond the myth
According to a 2017 study, high-growth firms contributed to 41 percent of the total net employment change in Canada between 2009 and 2012. High-growth firms are a small proportion of all firms. Based on revenue growth, they are 6.2 percent of all firms; based on employment growth, they are 3.4 percent. According to the Organisation for Economic Co-operation and Development, high-growth firms are firms with 10 or more employees, experiencing average annual growth — in terms of employment or revenue — greater than 20 percent over three consecutive years.
Rather than combining these firms into a single category of SMEs, therefore, it would make a lot more sense to separate them into three groups: small businesses, medium-sized businesses, and high growth businesses. Because their needs are so different, support can be identified and tailored according to their respective needs.
Spotting high growth firms
There is no sure fire way of identifying high growth firms in advance, but there are a number of approaches to narrow the field:
Ask the CEO or owner. When we interviewed the CEOs of medium sized firms we found most of them did not want to grow. They had an established business they were happy with, and growth represented risk — new markets, new customers, and new competitors. If the CEO does not want growth, the business is very unlikely to become a high growth firm
Look at the business sector. Many small businesses are in sectors that do not grow much — for example, flower shops, hairdressers, snow cleaning services, or restaurants. Although there are a few exceptions, such as now-ubiquitous Starbucks outlets, these are very unlikely to become high-growth firms. Other sectors are much more likely to produce high growth firms, including mining, quarrying, or oil and gas extraction.
Look at their competitive advantages. A firm with a strong patent position, a plan to export, and a CEO with ambition to grow, is much more likely to become a high-growth firm than another firm with a me-too business plan.
The SME remains a mythical creature. It exists in our imagination but not in real life. A better way to support small businesses would be to segment them into three categories and provide specialized support appropriate to each category. The categories are:
Small businesses About 95 percent of all firms.
Medium sized businesses About 2 percent of all firms.
High growth businesses About 3 percent of all firms.
Peter Josty is Executive Director of The Centre for Innovation Studies (THECIS), a Calgary-based not-for-profit research company specializing in innovation and entrepreneurship. In addition to working in private research and business development, he holds a PhD in chemistry from the University of London and an MBA from the International Institute for Management Development in Geneva.