GROW

The Silver Lining for Small Business in a Recession

Kauffman Foundation president Carl Schramm talks about why great companies tend to get launched during recessions
DARK STARS Previous downturns spawned UPS, Whole Foods, and Electronic Arts.
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They are out there somewhere, tens of thousands of them -- growth companies, companies that will one day replace the millions of jobs down, or circling, the drain. In a new research report, the Kauffman Foundation concludes that nearly half of the 2008 Inc. 500 and more than half of the 2008 Fortune 500 were born during recessions or bear markets. Editor-at-large Leigh Buchanan asked Kauffman president Carl Schramm about reasons to be cheerful.

With large corporations retrenching, is this a good time to start a car company or introduce some cool new manufacturing technology?

The most important message of our research is: Don't despair. Good things grow even in the darkest times. And not all recessions are the same. Some are the aftermath of euphoria-driven speculation, like the 2001 downturn. Others -- like this one -- are debt- and finance-led. Some recessions mark breaks in economic development. The early 1980s, for example, marked the decisive transition from the industrial to the knowledge economy. But most of this becomes apparent in hindsight, and no entrepreneur is going to wait for the dust to settle. The energy crunch has given the nudge to car companies like Tesla. And nascent entrepreneurs may be waiting to pick up business left behind by GM and Chrysler.

Recessions create pent-up demand that feeds businesses as the economy revives. How has that prospect influenced start-up rates during down times?

The pattern of start-ups emerging stronger from a downturn seems to hold. In the mid-1970s, early 1980s, and early 1990s, start-ups rebounded strongly after recessions. And recent Department of Labor data suggest that monthly firm-formation data may be a leading indicator. Start-ups began to decline in the months before the 2001 recession and to increase before it was over, possibly indicating this ebb and flow of demand not fully captured in other statistics.

How much of the current start-up activity is likely to be in health care and energy?

There's never a bad time to start a health care company, and billions of VC dollars were already flowing into clean-tech before this recession. But if we look at the fastest-growing firms in recent years as ranked by Inc., we see all sorts: pet food, alternative energy, online gaming, cybersecurity. Many were founded during the 2001 recession or the bear market that continued into 2002. Looking at past recessions, we see that start-up activity is often shaped by whatever is the main technology focus. Today, that is still IT.

Are the start-ups born in these dark periods different? Are they more cautious, more frugal, able to survive on fewer calories?

That's one thesis about recession start-ups, and examples are easy to find: UPS, Allstate, Amgen, Electronic Arts, Whole Foods. But looking at survival rates of new companies back to 1977, we didn't really see any difference between recessionary and expansionary years.

What needs to happen in the public and private sectors to make sure as many healthy saplings as possible get planted?

The biggest thing is to refrain from anything that may stunt start-up growth. Overly restrictive immigration policies spring to mind, as do actions like the auto bailouts and Buy American campaigns that seek to preserve a nostalgic past.

From the long-term perspective, the most important areas of reform are education and health care. Our educational system grew up at the dawn of the industrial economy and needs serious innovation to evolve further. We can't afford to educate our children in artifacts. As for health care, there's evidence that the employer-based system and the absence of stripped-down "entrepreneurs' plans" deter people from striking out on their own. Health care also must evolve in the direction of a flexible and mobile labor force.

For more on growth companies and economic downturns, visit the Kauffman Foundation report at kauffman.org.

Last updated: Jun 1, 2009




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