There are serious problems in the analysis of the small-firm sector, including the lack of data over a long period of time and the problem of defining exactly what is a small firm. The Bolton Report,4 published in 1971, was the report of a committee set up to look into the role of small firms in the UK economy. It used various definitions for statistical purposes, depending upon the industry being considered, on the grounds that what is small in one industry might be large in another. Table shows the size distribution of firms based on their turnover for a selection of industries for 2004.
It is clear from Table that the definition of ‘big’ will vary with the industry. In the Bolton Report the definition used for small firms in manufacturing was ‘less than 200 employees’, while in construction it was ‘less than 25 employees’. In some industries turnover limits were chosen while in others a mixture of employment and turnover was used. Although this is confusing and makes comparison between industries and countries difficult, it was accepted that there could not be a single definition which would apply to all sectors. The EU in 1994 recommended to its members that they use ‘less than 250 employees’ as the definition of a small to medium-sized enterprise (SME), in order to facilitate the easy comparison of data across member states. A further refinement of the definition used by Euro stat based on numbers employed is shown in Table. Applying this definition to Table, it can be seen that 83 per cent of manufacturing firms in the UK are micro businesses, 15.5 per cent are small, 1.3 per cent are medium sized and 0.4 per cent are large. Although there are some national differences(the southern-most countries have relatively more micro businesses than the northern countries) the pattern of size structure is similar in the EU as a whole 92per cent of all enterprises are micro businesses, 7.4 per cent are small, 0.5 per centare medium sized and 0.1 per cent are large.
It is important to note that the definition of SME used within the EU changed in2005. For grant-aid purposes an SME must have no more than 25 per cent of its capital owned by a larger enterprise and must meet specific criteria with regard to numbers of employees, turnover or balance sheet totals. A ‘micro firm’ is one with0–9 employees, a maximum annual turnover of 2 million euros or a maximum balance sheet total also of 2 million euros. The equivalent figures for a ‘small firm’ are 10–49 employees, 10 million euros turnover or 10 milion euros balance sheet total; for a ‘medium-sized firm’ 50–249 employees, 50 million euros turnover or 43 million euros balance sheet total. Using these definitions it is estimated that 99 per cent of all enterprises in the EU (prior to enlargement) were SMEs and that they provided around 65 million jobs.No matter how small firms are defined, they will suffer from similar problems, which are very different from those faced by larger companies.
Trends in the small-firm sector
Figure shows how the share of small establishments in total manufacturing employment changed between 1930 and 1990. The definition used here is fewer than 200 employees. The establishment is the reporting unit. It can be seen that the small-firm sector was in decline up to the late 1960s and early 1970s, since when its importance has increased.
Table showed that for manufacturing industries small firms are very important in terms of the numbers of companies, accounting for 99 per cent of total firms according to the Bolton Report definition. Even though they were less important in terms of employment they still accounted for 47 per cent of total employment. This tends to under state their importance because it does not include the service sector, many parts of which are heavily dominated by small firms due to the nature of the production process. Although there is a great deal of information available from official sources on the manufacturing sector, the same depth of information is not available for the service sector, so accurate information is difficult to obtain.
Reasons for the growth in the small-firm sector
There has clearly been a resurgence in the importance of the small-firm sector which appears to have been more pronounced in the United Kingdom than in other countries. Why? Some causal factors are as follows:
Bolton Report found that industry in the United Kingdom was biased towards large size in comparison with other countries. So what may have happened as a result of competitive forces is that the balance of industry in the United Kingdom has moved towards the norm of other countries.
The role of the small-firm sector
The growing importance of the small-firm sector implies that small firms do have a valuable role in the economy apart from being a mere provider of employment.
The areas in which the small firm has advantages over large firms are those where there are:
Aid to the small-firm sector
The thinking on small firms has changed over time. Initially they were viewed favourably, but after the Second World War the dominant thinking was that large scale production could take advantage of large economies of scale and that costs would be lower and production more efficient. It was not until more recently that the interest in the small-firm sector has increased again. The main reasons for the renewed interest are seen in the results of empirical studies which have shown that the role of the small firm is greater than previously thought in areas such as innovation, the balance of payments and employment.
The main argument for giving support to the small-firm sector is that it has a valuable role to play in the economy. In the 1980s and 1990s, for example, small firms were seen as a mechanism for reducing the very high levels of unemployment. Between 1983 and 1993 the small-firm sector created 2.5 million jobs. The basic premise for support is that small firms are at a disadvantage with respect to large businesses in areas such as raising capital, research and development and risk bearing. Two particular problems faced by small firms were highlighted in 1996: cash flow problems which stem from the late or non-payment of bills; and dealing with government red tape. These problems have been addressed by a number of recent developments. All public limited companies are now required by law to state in their annual reports the average length of time it takes them to pay their bills. The Federation of Small Businesses published a ‘name and shame’ list for the first time in April 1999 which is expected to apply peer pressure and there by encourage firms to pay bills on time. It also provides information to help small firms decide who to trade with. The Federation of Small Businesses has estimated that 44 per cent of bill sare paid more than 15 days after the normal 30-day credit period. The comparable figure is 35 per cent in the EU. It is also estimated that about £20 million is tied up in late payment, with a half of this owed by large firms to small firms. The government also publishes ‘league tables’ of government departments which are slow in paying their bills, with the pledge that this will be improved. To reduce the amount of red tape faced by firms, the government has, over the years, relaxed many of the rules and regulations involved in running a business. For example, from 1996 there has only been a single form for registration for income tax, national insurance and VAT, from April 1999 small employers have been able to move from monthly to quarterly payment of PAYE and National Insurance contributions.
Within the UK national policy for small firms has increasingly become a vital component of governmental attempts to create a competitive economy capable of achieving sustainable economic growth. To this end policy initiatives in recent years have become more focused and have tended to adopt a multi-agency approach, aimed at improving the environment in which small businesses emerge and grow, and at fostering enterprise and innovation. Key developments over the last decade or so have included:
There have also been a number of legislative and fiscal changes aimed at reducing the burdens on small businesses (e.g. levels of corporation tax). Some of the most recent developments have included the launch of the University for Industry (UfI the Enterprise Fund, the University Challenge Fund, the Small Business Service(SBS) and the EU SME Initiative. The latter introduced in December 1997 was designed to assist SMEs in rural areas or areas of industrial decline to become more competitive in overseas markets. There have also been attempts to reduce the flow and improve the quality of regulation affecting smaller businesses and an action plan to make the UK the number one location for starting and growing a business.
Networking between firms
A more recent trend in industry which is well documented is towards co-operation rather than competition. This co-operation can take many forms: for example, subcontracting, networking (both formal and informal) and joint ventures. Such co-operation can be (and is) used by large as well as small and medium-sized enterprises. For large companies it is a way to grow and diversify without risk. For smaller firms it allows them to stay small but at the same time to benefit from some of the advantages of large-scale production like specialization.
There has been an increase in the amount of subcontracting, where firms do not carry out the whole of the production process themselves but subcontract some of their activities to other firms. This represents a rejection of vertical integration and it is related to the notion of the flexible firm mentioned earlier. Subcontracting goes some way to explaining the phenomenal growth rate in ‘business services’ that occurred in the 1980s. It is increasingly common for businesses to subcontract specialist work in areas such as human resource management to outside consultancies. ‘Partnering’ between companies and consultancies is becoming more common where the consultancy is retained on a semi-permanent basis to give advice on a whole range of human resource matters from recruitment to planning for succession. This will obviously boost the small-firm sector. There has also been an increase in ‘partnership sourcing’ as large firms are developing long-term relationships between themselves and their suppliers. This phenomenon brings benefits to the large firms in the form of reducing stock levels and associated costs and facilitating just-in-time production methods. It also brings benefits to small firms, many of which are the suppliers, in the form of greater security.
Networking refers to the relationships that exist between organisations and the people within those organisations. These relationships can be of different types, both formal and informal, and there is increasing recognition of the importance of these relationships, especially to small firms (e.g. they may be based on the exchange of goods and services, like the relationship between a firm and its supplier or client). Subcontracting is an example of this kind of network but there are other links not based on exchange, like the relationship between a firm and the bank manager or other advisers. There are also informal links between the entrepreneur and family and friends, and between entrepreneurs in different organisations. There might also be co-operative links between firms. This can be seen in the market for executive recruitment where there has been a growth in the links between consultancies, particularly for international work. The creation of the
Single European Market and the increased internationalization of business left the smaller consultancies in a weak position relative to the large international recruitment firms like Korn Ferry International, which have branches in most European countries. The smaller consultancies have reacted by forming networks. There are basically two types of network:
There are ten such groups in Europe.The firm is seen as existing within a spider’s web of relationships, as Figure shows. It is possible for two firms to be linked in a variety of ways; in one market they may be competitors, in the next co-operators, customers in another and suppliers in another.
Networking has taken on greater significance because of changes that are taking place in the economy, which include the reversal of the trend towards higher industrial concentration, the adoption of Japanese methods of production, the decline of ‘mass markets’ and technological change that requires greater specialization than previously. All of these changes favour the formation of networks.The role of strategic alliances between firms has been recognized, especially in the small-firm sector where expansion through other means is often impossible and in the process of internationalization.
The virtual organisation
The virtual organisationis a network-based structure built on partnerships where a small core operating company outsources most of its processes. It is a network of small companies which specialize in various aspects of production. The organisation can be very big in trading terms but very small in the numbers of permanent staff. The process is typically mediated by information technology.
The main benefit of the virtual structure is that it helps organisations to deal with uncertainty. When virtual organisations are managed properly they can simultaneously increase efficiency, flexibility and responsiveness to changes in market conditions. The organisation is reaping the benefits of specialization without having to develop those specialisms itself. Therefore overhead costs are minimized, as too are training costs and support costs. Information technology assumes many of the co-ordinating and managing roles that managers and committees carry out in large organisations. Information technology enables communication and the sharing of information across geographical boundaries. It is often the case, however, that the creation of a virtual organisation is driven solely by cost considerations rather than strategic considerations, in which case the benefits might not be realized. There will be a loss of control over outsourced activities and it may actually cost more to manage such activities. The organisation can become locked into contracts and specific relationships so that flexibility is reduced. There may be a lack of commitment of key resources (i.e. contractors) to the company and the loss of a contractor will be very serious.
There is some evidence that the incidence of virtual organisations is on the increase, facilitated by developments in information technology. It is a matter of ‘wait and see’ if this will become the dominant organisational structure in the future.
As indicated earlier in this chapter, joint ventures are a good way for firms to diversify and enter other countries’ markets. Joint ventures benefit both parties as each can diversify with the benefit of the experience of the other, and the level of risk is minimized. Again, there are examples in the area of executive recruitment. The International Search Group, for instance, was set up as a joint venture between five companies in France, the UK, Austria, Germany and Italy in order to offer a European service to its customers.
In some industries co-operative behaviour has come about for particular reasons. In process plant contracting, for example, the projects are often too large for single firms and so they form consortia in order to bid for the contract. The consortium will include contractors, suppliers and bankers who together will have the expertise and the resources to carry out the project.
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