21 November 2016 – Blog #1

Where are Alberta’s mid-sized companies?

Alberta is home to a thriving start up sector.  According to the Global Entrepreneurship Monitor report, it has more start up activity than almost anywhere else does in the developed world, with around 15% of the adult population involved in entrepreneurial startup activity.

Alberta is also home to a significant number of head offices.  A  2014 study shows that of the 234 corporate headquarters of companies listed on the S&P/TSX Composite Index that are based in Canada, 82 or 35% are located in Ontario, 79 or 33.9% are in Alberta, followed by Quebec and British Columbia.

However, Alberta is underrepresented in medium sized firms, according to a recent Business Development Bank report.  In Canada, medium sized businesses (100-499 employees according to Statistics Canada’s definition) contribute only 12% to Gross Domestic Product.  This compares with over 50% in Germany and about one third in the US. So there is plenty of room to grow the medium sized sector in Alberta.

Why is this?
On the face of it, you would expect that the dynamic startup activity should lead to a large number of medium sized companies.  We don’t really know why this doesn’t happen.  However, there are a number of hypotheses:

  • The preferred exit mode for high growth startups is to be acquired by a large company rather than growing in Alberta.
  • The need for capital leads to public share ownership which makes an Alberta company vulnerable to a hostile takeover, and leaves the entrepreneur having a sense of losing control of his or her business.
  • Lack of courage. Deloitte found in a recent study that most Canadian businesses lack courage. They found that only 11 percent of the companies they surveyed could be considered truly courageous.  [ http://tinyurl.com/jbwgvyd]
  • Many startups don’t want to grow and are happy to remain small.
  • Many small firms lack the managerial and marketing skills and expertise to grow.

Why does this matter?
If you look around the world at other thriving jurisdictions, a large population of mid-sized companies is often a sign of economic stability and an engine of economic growth.  In Germany, for example, the Mittelstand – the thousands of mid-sized, usually family owned manufacturing firms –are universally seen as a major economic benefit.  These companies typically are internationally competitive in niche markets using advanced technology, and have revenue in the $50 million -$100 million and up range. The Economist provides a snapshot of the Mittelstand at http://tinyurl.com/kqu2zoz  In his book “Hidden Champions of the 21st Century” Herman Simon says they “innovate constantly in narrow markets, grow through aggressive pursuit of international sales, work closely with customers, design their own machines and processes, and hoard institutional knowledge by hiring people when they’re wet behind the ears and keeping them until they’re graying at the temples.”

What do we know about mid-sized companies in Canada?
A recent Business Development Bank report provides some insights for Canada (http://tinyurl.com/gmm36ac):

  • Almost no small businesses grow to become medium sized business. Only 0.1% of small firms cross the 100-employee threshold each year.
  • Very few medium sized companies become large companies. Only 2% cross the 500-employee threshold each year.
  • Medium sized firms have 78% of the productivity of large firms, and are ahead of small firms.
  • Quite a few medium sized firms shrink to become small firms. Nearly 13% of medium sized firms drop below the 100-employee threshold each year to become small firms.
  • Medium sized firms represent less than 1% of all firms in Canada, and that percentage has shrunk since 2001.

Can we create a Mittelstand in Alberta?
The Mittelstand evolved based on unique German history of laws, labour relations and many other factors that can’t be replicated anywhere else.  Trying to transplant a successful ecosystem model from one place to another is a recipe for failure, as the many attempts to replicate Silicon Valley have shown.  However, creating more mid-sized companies in Alberta is realistic and achievable.  An Alberta “Mittelstand” would likely look very different from the German Mittelstand, possibly with more service companies, and with a focus on the existing industries in Alberta such as energy, agriculture, forestry, health and IT.

A neglected category?
It appears that medium sized firms are a neglected category.  Almost all reports talk about SMEs, and as small firms are the vast majority (over 99%) of these firms they get virtually all the attention.  A huge amount of effort goes to encouraging startups, and recently attention has moved to how to scale up, but the characteristics of medium sized firms are poorly understood.  We do not know what their major challenges are, or what incentives may encourage them to grow more.  Judging from the German experience, medium sized firms behave very differently to small firms.

What would the benefits of an Alberta Mittelstand?
If we could build a strong cohort of mid-sized companies in Alberta it would bring numerous benefits.  For example:

  • Economic stability, as these firms would be less likely to lay off staff in downturns, as they would be insulated from the quarterly to quarter treadmill of public companies.
  • High paying jobs, as they need highly skilled personnel to target niche markets.
  • Investment opportunities for Albertans. Albertans would have the opportunity to invest in the mid-sized firms and share in their growth.
  • Increased exports, as the mid-sized firms punch above their weight in exporting.
  • Economic diversification, as mid-sized firms would target export markets not served by current companies in Alberta.
  • More R&D spending. Larger companies tend to spend more than very small companies, so growing the number of mid-sized companies would increase business R&D in Alberta.

Alberta has relatively few mid-sized companies.  Having more would create significant benefits.  It is a startling fact that almost no small firms grow to be mid-sized firms, and that the proportion of medium sized firms has declined since 2001.  We currently have very limited knowledge of the particular challenges and opportunities facing medium sized firms, or how they form in the first place. They appear to be a neglected business sector.  Paying more attention to medium sized firms would likely pay large dividends.

Peter Josty