canadian small business — a growing...

September 2003

Economics & Strategywww.cibcwm.com/research

Jeffrey Rubin Avery Shenfeld Benjamin Tal Peter Buchanan Warren Lovely Leslie Preston

(416) 594-7357 (416) 594-7356 (416) 956-3698 (416) 594-7354 (416) 594-7359 (416) 956-3219

Contents

EXECUTIVE SUMMARY ...................... 2

SMALL BUSINESS AND THE ECONOMIC CYCLE ....................... 4

Consumers—Key to Small Business Resiliency ......................... 5Recent External Shocks Bruised Small Business.................................. 8Dollar Appreciation ....................... 8Impact of SARS, Mad Cow Disease, Softwood Lumber Dispute and Forest Fires..................................... 11Regional Performance .................. 12

THE NEXT TWELVE MONTHS ............ 15

THE BIGGER PICTURE ........................ 18

The Quest for Small Business Heaven ............................ 19The Services Industry—The Main Engine of Small Business .............. 22

TEN THINGS YOU MIGHT NOT KNOW ABOUT CANADIAN SMALL BUSINESS .............................. 24

SMALL BUSINESS STATISTICS .......... 25

CANADIAN SMALL BUSINESS — A GROWING FORCEBenjamin Tal

The likelihood is that by the end of the decade

one in five Canadians will be his/her own boss.

Irreversible forces such as the structural shift

to a strong culture of individualism and self-

betterment, the role of technology in driving

the transition from boardrooms to basements,

and the growing sophistication and rapid

change in consumer tastes, all suggest that

we are in the midst of a structural increase in

the role played by small businesses in Canada’s

social and economic landscape.

This report explores the roles played by

consumers and low interest rates in supporting

small business activity and identifies the

regions and sectors poised for growth in this

dynamic segment of the Canadian economy.

The impacts of a higher Canadian dollar and

the other shocks which hit small business are

also examined.

2 Canadian Small Business — A Growing Force 3Canadian Small Business — A Growing Force

EXECUTIVE SUMMARY

■ Over the past few years the small business sector has shown an

unprecedented resiliency in the face of difficult conditions. During the

economic slowdown of 2001 small business activity outpaced the rest

of the economy, and in 2002 small firms were first to capitalize on the

improvement in economic conditions.

■ The secret behind the relative strength of small businesses during the cycle

was their growing reliance on the health of the consumer. Currently, a

1% increase in consumer spending leads to an estimated 0.7% increase

in small business activity. This is the largest contribution on record.

■ Small enterprises were better able to take advantage of low interest

rates when compared to large firms. This is reflected in the fact that small

business credit continued to rise over the past three years, while credit

obtained by large firms has dropped drastically.

■ Canadian entrepreneurs have been taking advantage of personal credit

vehicles such as credit cards and personal lines of credit in order to

finance business operations. We estimate that 15% of all personal credit

outstanding is being used for pure business purposes.

■ The stronger dollar is negatively impacting close to 30% of small businesses

in Canada while benefiting 20% of them. Small firms in Ontario are the

most vulnerable to the dollar’s appreciation, followed by British Columbia.

Atlantic Canada is the least sensitive to the potential damage of a strong

dollar.

■ The impact of Severe Acute Respiratory Syndrome (SARS), mad cow disease

and forest fires on the small business sector has been narrow but deep. A

recent CFIB survey indicates that 8% of small businesses in Ontario were

significantly damaged by SARS and 19% of small firms in Alberta were

dramatically affected by the finding of a single case of mad cow disease

in the province. Consequently, overall small business economic activity

has softened notably in the first half of 2003.


EXECUTIVE SUMMARY, CONTINUED

■ As overall economic activity is expected to recover in 2004, with real GDP

projected to expand by close to 3%, the Canadian small business sector

appears to be well positioned to be the first out of the gate. The key here

is the assumption that short-term interest rates will remain low for most

of 2004 and that manufacturing activity will start a process of sustained

recovery. Overall, we expect small business economic activity to grow by

3.5% in 2004 following a difficult 2003.

■ Beyond the cyclical swings in small business activity, there are many

reasons to believe that the Canadian small business sector is on a solid

path of expansion. These factors include: the structural shift to a strong

culture of individualism and self-betterment; the role of technology in

driving the transition from boardrooms to basements; the more global

and inter-connected markets that require greater specialization, flexibility

and speed; as well as small business friendly demographic forces.

■ As a result of these forces, we project that by the end of the decade, one

in five Canadians will be his/her own boss.

■ Given this prognosis, we identify Ontario and Alberta to be the small

business powerhouses in the coming five years.

■ The service industry will become even more important in determining

the relative prospects of small businesses in Canada. In addition to the

reliance of small firms on the business services industry, personal services

will become a major source of growth for small enterprises. Reflecting

the impact of the aging population, functions such as home care, funeral

services and full service restaurants are likely to provide small businesses

with growth opportunities.


CHART 1Small Business Economic Activity Has Shown Remarkable Strength During the Recent Economic Cycle

SMALL BUSINESS AND THE ECONOMIC CYCLE

There is little doubt that the Canadian small business sector has been one of

the champions of the current economic cycle. For the first time in more than

20 years, small business economic activity outpaced the rest of the economy

during a period of economic slowdown. This is significant given that historically,

small businesses led the overall economy into periods of slowdowns and, in the

process, suffered disproportionate hardship compared to larger firms. What is

more, small businesses were quick to capitalize on the acceleration in economic

activity in 2002, outpacing the overall economy by a full percentage point (Chart

1). The economic shocks of 2003 did not spare Canadian entrepreneurs, with

the damage in some regions and sectors extremely severe. However, by next

year, as the economy begins to recover, small businesses in aggregate, appear

to be well positioned to resume their traditional role as the pioneers of the

economic cycle.

-3

-2

-1

0

1

2

3

4

5

6

89 90 91 92 93 94 95 96 97 98 99 00 01 02

Overall GDPCIBCWM Small Business Economic Activity Index

% growth


CONSUMERS – KEY TO SMALL BUSINESS RESILIENCY

The secret behind the unprecedented ability of small businesses to overcome

the economic storm of the past three years is their increased reliance on the

health of the Canadian consumer. It is well documented that consumers, by

keeping their wallets open, were able to sustain the economy, single-handedly

keeping it above water.

In all likelihood the most important factor behind the remarkable strength of

the consumer, and thus the small business sector, was the dramatic drop in both

short-term and long-term interest rates (Chart 2). Taking advantage of cheap

credit, Canadians went on a shopping spree with real consumer spending rising

by an annual average of 3.3% since 2000. But even beyond the positive impact

on consumer spending, low interest rates have benefited small firms directly and

profoundly with small business credit rising by more than 2% since 20011. This

is dramatically different from the picture observed among large firms, where

overall credit outstanding fell by 3% during the same time period (Chart 3).

Canadian entrepreneurs are also being more creative in the way they utilize

credit by financing their funding needs via personal credit vehicles such as credit

cards and personal lines of credit. We estimate that 15% of total personal credit

outstanding in the Canadian economy is being used by small business owners

for pure business purposes (Chart 4).

CHART 2Low Interest Rates Were Key In Sustaining Consumer Spending and Small Business Activity

0

1

2

3

4

5

6

7

97 98 99 00 01 02 03

3-month T-Bill 5-yr Gov't Bond Rate

%


CHART 3Growth in Business Credit: Spot The Difference

CHART 4Personal Credit Outstanding

-3

-2

-1

0

1

2

3

Small Business Large Firms

2001Q1-2003Q1%

15%

85%

Used to Finance Business Activity Used for Personal Purposes


The strong housing market, another beneficiary of the low interest rate

environment, also played a significant role behind the supremacy of consumers

and small businesses. Not only has the real estate boom of the past four years

seen housing starts and resale activity rising to levels not witnessed in twelve

years, but it has also given birth to an estimated 310,000 new jobs, accounting

for one-third of the labour market strength since 2000. With small businesses

employing close to 70% of workers in the construction and real estate sectors,

the benefit to the small business sector is obvious. Furthermore, with each

housing sale generating an estimated $20,000 in additional consumer spending,

the real estate boom contributed close to 30% of the increase in non-auto

consumer spending during the past three years, providing small businesses

with an additional boost (Chart 5).

CHART 5Positive Spin-Offs From Housing Market Boom (2000-2002)

That consumer strength was the key factor that allowed small businesses to

outperform during the current cycle. Given that more than half of small firms in

Canada are directly tailored to the consumer, it is easy to see the link between

a strong consumer and vital small business activity. In fact, the reliance of small

businesses on the mood and health of consumers is gradually increasing (Chart

6). We estimate that currently a 1% increase in consumer spending triggers

0.7% increase in small business economic activity. This is almost 20% higher

than 15 years ago.

Source: Clayton Research, CIBCWM

33.1%

28.8%

Contribution to EmploymentGrowth

Contribution to Growth in Ex-Auto Con.Spending


RECENT EXTERNAL SHOCKS BRUISED SMALL BUSINESS

The economic difficulties of the past six months did not spare the small business

sector. A higher dollar, rising insurance costs, SARS, Mad Cow disease, the

softwood lumber dispute with the US, forest fires and the Ontario blackout

have all damaged small business activity to varying degrees. While recent data

suggest that in aggregate the overall damage was not as significant as originally

feared, in some regions and sectors the damage has been very severe.

Dollar Appreciation: Near-Term Negative For Small Business

The sharp appreciation of the Canadian dollar over the past year has raised

concerns about its potential negative impact on the Canadian economy in general,

and the manufacturing sector in particular. These concerns are justifiable given

the speed and the magnitude of the dollar’s appreciation. A strong dollar is

particularly harmful to the 20% of small businesses that export their products

to the US market and to those firms that have direct links to larger exporting

firms. Vulnerability to increased import penetration and reduced tourism are

also important negatives. At the same time, the increase in the value of the

dollar means cheaper imports — a clear positive for small firms that import

raw materials and finished goods.

CHART 6Strong Consumers Benefit Small Business

Based on 48 month moving window correlation between non-auto retail sales and small business economic activity index.

Retail Sales as a Share of Disposable Income

34

36

38

40

42

44

46

48

89 91 93 95 97 99 01 03

%

Correlation between Small Business

Activity and Retail Spending

0.3

0.4

0.5

0.6

0.7

0.8

1985 1995 2002


TABLE 1Exchange Rate Vulnerability Index

TABLE 2Distribution of Small Business Based On Vulnerability to Higher C$

INDUSTRY ExportVulnerability

(% of Shpts. Exported less Imported Inputs)

ImportVulnerability

(% of Shpts. to Can. Mkt) x(Import Penetration of Can. Mkts.)

CombinedExport-Import Vulnerability

Ranked ByTotal

Vulnerability

H Furniture 46.2 35.8 82.0 1

I Machinery 60.4 12.2 72.6 2

G Wood Products 62.1 5.9 68.0 3

H Electrical Equipment 32.3 35.7 68.0 4

Paper Manufacturing 57.9 5.7 63.6 5

M Computer & Electronics 45.5 11.1 56.6 6

E Primary Metals 35.1 10.6 45.7 7

D Transportation Equipment 36.6 6.5 43.1 8

I Fabricated Metals 13.7 27.9 41.6 9

U Printing & Allied -0.9 34.1 33.2 10

M Clothing 13.5 18.6 32.1 11

Chemical Manufacturing 25.4 6.3 31.7 12

L Food Manufacturing 11.8 15.3 27.1 13

O Textiles 2.9 21.9 24.8 14

W Beverages/Tobacco 4.0 11.9 15.9 15

Petroleum Refining & Coal Prod. -12.1 5.3 -6.8 16

1) Vulnerability Due To Both High Share of Exports and High Rate of Import Penetration 1.7% of All Small Business26 - Furniture and Fixture Industries

33 - Electrical and Electronic Products Industries

2) Vulnerability Due To High Share of Exports04 - Logging Industry

11.3% of All Small Business

05 - Forestry Services Industry06 - Mining Industries25 - Wood Industries27 - Paper and Allied Products Industries29 - Primary Metal Industries31 - Machinery Industries (Except Electrical Machinery)32 - Transportation Equipment Industries37 - Chemical and Chemical Products Industries39 - Other Manufacturing Industries45 - Transportation Industries55 - Motor Vehicle, Parts and Accessories Industries, Wholesale56 - Metals, Hardware, Plumbing, Heating and Building Materials Industries, Wholesale57 - Machinery, Equipment and Supplies Industries, Wholesale

3) Vulnerability Due To Increased Import Penetration

2.6% of All Small Business

10 - Food Industries11 - Beverage Industries12 - Tobacco Products Industries18 - Primary Textile Industries24 - Clothing Industries28 - Printing, Publishing and Allied Industries30 - Fabricated Metal Products Industries (Except Machinery and Transp. Equip. Industries)

4) Vulnerability Due To Reduced Tourism

9.0% of All Small Business91 - Accommodation Service Industries92 - Food and Beverage Service Industries96 - Amusement and Recreational Service Industries

5) Limited Vulnerability 75.4% of All Small Business


As illustrated in Table 2, approximately one in four small firms in Canada are

in sectors that are directly impacted by a stronger dollar. But one should not

lose sight of the indirect impact of a stronger currency (for example, a lawyer

whose main client is an exporting firm). All of this is consistent with the result

of a recent CFIB survey2, which suggests that 29% of small businesses face

reduced profit due to the strong dollar, while 21% are net beneficiaries. An

indirect benefit of a stronger dollar, which probably cannot be captured in any

survey, is that a higher dollar reduces the need to increase interest rates, and,

in fact, might lead to lower interest rates. This positive effect is much more

broadly-based, as it impacts the entire small business sector and not only those

firms that are affected by the value of the dollar.

Overall, we expect the Canadian dollar to trade at the $0.70-$0.75 (US) level in the

foreseeable future. While at this level many small firms will hardly be impacted,

one should not ignore the significant damage of the dollar appreciation on

sectors and regions that rely heavily on the manufacturing sectors and on exports

to the US. Heavy machinery, the auto sector and primary industries are some

examples. The tourism industry is another casualty of a strong dollar. Reduced

tourism via its negative impact on transportation, accommodation, food and

beverage services and other related services might cost the economy close to

$5 billion over the next twelve months. With small businesses accounting for

two-thirds of this industry, the fallout will be significant.

By region, small businesses in Ontario are the most vulnerable to the impact

of a stronger dollar — largely due to the province’s large exposure to the US

and its reliance on the auto industry. In addition, a disproportionately high

number of small businesses in Ontario are indirectly linked to large exporting

corporations. British Columbia is also highly sensitive to a rise in the dollar,

largely due to its reliance on the forestry industry. The surprisingly high rate of

dollar sensitivity of small businesses in the province of Quebec is in part due to

the importance of the forestry industry. Small firms in Alberta, Saskatchewan

and Newfoundland are less sensitive to the potential damage of a stronger

dollar, in part due to their reliance on the oil & gas sector (Table 3)3.


TABLE 3Vulnerability of Small Business to Higher Dollar - By Province

The Impact of SARS, Mad Cow Disease, Softwood Lumber Dispute and Forest Fires — Narrow but Deep

According to a recent CFIB survey4, 8% of small businesses in Ontario were

significantly hurt by SARS, while 19% of small businesses in Alberta were

drastically damaged by the finding of a single case of mad cow disease in the

province. While these two shocks are (hopefully) a thing of the past, the same

cannot be said about the softwood lumber dispute with the US — a dispute

that is significantly hurting one-third of small businesses in British Columbia.

But an even greater challenge facing Canadian small businesses is the recent

hike in insurance prices, which according to the CFIB survey is considerably

hurting more than one-third of all small firms in the country.

These difficulties have been captured by recent economic statistics. We monitor

three different measures of small business economic activity: The CIBC World

Market Small Business Economic Activity Index; The Canadian Federation of

Independent Business (CFIB) Quarterly Business Barometer; and Industry Canada’s

Small Business Condition Survey. All measures showed a notable decline in

activity/sentiment in the second quarter. While this by itself, is hardly a surprise,

the more encouraging finding is that despite the major economic shocks to

small businesses over the past six months, all indexes remain at a relatively high

level — indicating resiliency in the face of difficult conditions (Chart 7).

Province Ranking by Higher Vulnerability

Ontario 1

British Columbia 2

Quebec 3

New Brunswick 4

Manitoba 5

Prince Edward Island 5

Nova Scotia 6

Alberta 7

Saskatchewan 8

Newfoundland & Labrador 8


CHART 7Economic Shocks Have Damaged Small Business Activity

Calculated from Industry Canada's survey of business conditions for firms with less than $10 million in sales. Based on average Balance of Opinion.

Note that these statistics do not capture the impact of the recent blackout

in Ontario, which according to a recent CFIB survey has negatively impacted

more than 80% of small business in the province5. The survey indicates that

micro enterprises were hit about twice as hard as mid-size and larger firms.

While some of this damage will be recouped, there is little doubt that the

one-off damage to the small business sector in Ontario was significant.

REGIONAL PERFORMANCE

The most significant improvement in small business activity was in Ontario,

with the numbers of establishments with less than 50 employees rising by more

than 2% in 2002. In many respects this reflects the expanding service sector and

strong retail performance in the province. Currently, 36% of all small businesses

establishments are located in Ontario. Alberta, the host of 13% of Canadian

small businesses, also showed strong growth in business formation, reflecting the

positive spin-offs from the energy sector as well as robust consumer spending.

Despite a relatively strong economy, small business formation in Quebec, where

one in five Canadian small businesses are located, was weak with the number

of firms with less than 50 employees falling by 0.7% in 2002. This might reflect

the reliance of small firms in the province on the manufacturing sector, which

has yet to recover notably. The weakness in British Columbia (which is the base

0

1

2

3

4

5

2001 2002 2003

85

90

95

100

105

110

115

120

CIBCWM Small Business Economic Activity Index (L)

CFIB Quarterly Business Barometer (R)

y/y % chg Index 1988=100

-20

-15

-10

-5

0

5

2001 2002 2003

Small BusinessCondition Index

(Manufacturing Sector)


of 14% of all small businesses) is a clear reflection of the overall soft economic

conditions in the province (Chart 8).

All the growth in small business formation during 2002 was in large urban

centres with the number of firms in rural areas falling by 0.5% during the year.

This trend is not new and has been observed over the past five years. Currently,

62% of Canadian small businesses are located in large urban centres with the

largest proportion (75%) being in Ontario. The fastest rate of growth in small

business formation in 2002 was in Oshawa, followed by Toronto (Chart 9).

CHART 8Business Formation By Province

Rate of GrowthDecember 2001 - December 2002

Distribution December 2002

0-49 Employees

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

Atl. Que. Ont. Man/SAS Alb. B.C.

Canada

%

0-49 Employees

Atl.6%

Que.23%

Man/Sask8%

Alb.13%

B.C.14%

Ont.36%

TABLE 4Growth in Business FormationBy Category and ProvinceDecember 2001 - December 2002

TABLE 5Share in Business FormationBy Category and ProvinceDecember 2002

0-49 Employees

Large UrbanCentres

Small Cities &Rural Area

CANADA 1.3% -0.5%

ATLANTIC -0.3% -2.4%

QUEBEC -0.4% -1.2%

ONTARIO 2.6% 0.4%

MANITOBA -0.2% -0.6%

SASKATCHEWAN 0.0% -1.0%

ALBERTA 2.3% 1.4%

BRITISH COLUMBIA 0.2% -0.8%

0-49 Employees

Large UrbanCentres

Small Cities &Rural Area

CANADA 62.0% 38.0%

ATLANTIC 27.4% 72.6%

QUEBEC 62.5% 37.5%

ONTARIO 74.9% 25.1%

MANITOBA 50.2% 49.8%

SASKATCHEWAN 29.3% 70.7%

ALBERTA 58.7% 41.3%

BRITISH COLUMBIA 60.4% 39.6%


CHART 9Growth in Business Formation By Major CitiesDecember 2001 - December 2002

Firms with 0-49 Employees

-4 -3 -2 -1 0 1 2 3 4 5

Oshawa

Toronto

Calgary

Kitchener

Hamilton

Edmonton

Ottawa - Hull

Windsor

London

Victoria

St. Catharines - Niagara

Sherbrooke

Vancouver

Saskatoon

Halifax

Regina

Montréal

Winnipeg

St. John's

Sudbury

Thunder Bay

Trois-Rivières

Saint John

Québec

Chicoutimi - Jonquière%


THE NEXT TWELVE MONTHS

With the economic shocks of 2003 resulting in sub-par growth during the year,

2004 is poised to be a recovery year. And, in fact, the ingredients for a firming in

economic activity by mid-2004 are already in place. Monetary policy is expected

to remain accommodative, with the Bank of Canada unlikely to raise rates until

late-2004. As well, the US manufacturing sector, an important engine of growth

for Canada, is in early stages of recovery. Having said that, the likelihood is that

overall growth in 2004 will remain below the economy’s potential growth rate

of 3%, reflecting the impact of the stronger dollar, weakening labour market

activity, and only a limited lift-off from the US economy. Accordingly, we expect

real GDP to expand by 2.8% in 2004 following a 1.9% growth in 2003 (Chart

10). Given that small firms tend to outpace the economy during recovery years,

small business economic activity is projected to rise by 3.5% next year. Note,

however, that the projected pace of growth is notably below the average rate

seen over the past five years.

CHART 10Economic Activity To Rebound In 2004

Quarterly Pattern

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0

1

2

3

4

5

6

7

01:4 02:3 03:2 04:1 04:4

y/y q/q (AR)

% chg

Forecast


■ The retail sector, while not as strong as in 2002, continues to surprise

on the upside. Continued relatively strong demand for furniture and

appliances, along with solid spending on retail services, will more than

offset the projected softening in auto sales during 2004.

■ As mentioned earlier, the construction sector has been an important

engine behind recent small business economic activity. While this sector

is now at its peak, the overall level of activity will probably remain strong

for the next year or two. Housing starts in 2004 will remain at the 180,000

level, still a full 15% higher than their long-term average.

■ Assuming no other major economic shocks, the accommodation and

food services sector, a major small business force, should recover from a

disastrous 2003. But unlike the impact of the Iraq war and SARS, which

largely dissipated, the sector will continue to feel the negative effects of

the strong Canadian dollar.

■ While the forestry industry, where small businesses account for more than

two-thirds of total employment, is likely to struggle in the near-term,

there are many reasons to believe that by the end of the year, Canada

and the US will make progress in resolving the softwood lumber dispute.

This should ensure a recovery in 2004.

■ The concentration of small firms in the manufacturing sector is relatively

minor, but the indirect impact of this sector on the overall health of small

businesses via outsourcing and contracting should not be underestimated.

That is reflected in the fact that over time, trends in small and large firms

in the manufacturing sector are highly correlated (Chart 11). Without a

general recovery in that sector, small firms will not be able to grow and

expand to their fullest potential. In this regard, there are some reasons to

be cautiously optimistic. The US economy is in the early stages of recovery,

and while the magnitude of this upswing is still a matter of debate, the

likelihood is that 2004 will see the American economy expanding by

3%. That will be an important shot in the arm to a bruised Canadian

manufacturing sector, with growth in the industry during 2004 projected

at over 2.5%, following a very weak 2003.


CHART 11Small and Large Firms in the Manufacturing Sector are Highly Inter-Related

Source: Industry Canada, CIBCWM

CHART 12Sectoral Outlook — 2004

-40

-30

-20

-10

0

10

20

30

1991 1993 1995 1997 1999 2001 2003

Small Firm's Avg Bal. Of Opinion

Large Firm's Avg Bal. Of Opinion

0 1 2 3 4 5 6

Professional ServicesWholesale Trade

ConstructionFinance & Insurance

Management of CompaniesReal Estate

Retail TradeMiningUtilitiesForestry

Admin. & Waste MgmtHealth

ManufacturingArts & Entertainment

Transp. & WarehousingInformation & Cultural

Other ServicesAccomm. & Food %

51.643.868.218.444.954.840.620.4 3.951.034.946.121.639.420.715.865.553.9

Share of Small Businessin Sector (%)

Rate of Growth


Beyond the cyclical upswing of the next year or two, small businesses will continue

to play an increasingly important role in the Canadian economy. In our previous

review of trends in small business, “Small Business: Today and Tomorrow”, we

identified key trends that will work to enhance the importance of the small

business sector and result in a situation in which, by the end of the decade,

one in five Canadians workers will be his/her own boss. The structural shift to

a strong culture of individualism and self-betterment; the role of technology in

driving the transition from boardrooms to basements; the more global and inter-

connected markets that require greater specialization, flexibility and speed; as

well as small business friendly demographic forces are among these forces (see

http://research.cibcwm.com/res/Eco/EcoResearch.html for a full discussion).

While many view small firms and large organizations as separate and, at times,

competing entities, this could not be further from the truth. Canadian small

businesses are in a co-evolutionary relationship with corporate business in the

economic landscape. Small businesses are needed by large corporations to create

the necessary reach and depth in local markets as distributors and agents for

products and services. Small businesses are important customers of the corporate

providers of basic technology and infrastructure and they create a diversity of

uses and the rapid exploitation of technologies and niche markets. Similarly,

small businesses provide many of the inputs to production, management and

distribution systems of corporate business.

Small business and large business not only work together, but are also dependent

upon each other. Small businesses exist to simultaneously service large business

and to fulfill the gaps left by large corporations. In fact, outsourcing activity

is playing a significant role behind small business success with one in two

Canadian businesses beginning operation after receiving their first outsourcing

contracts. Furthermore, two-thirds of Canadian entrepreneurs could not have

begun operations or survived without outsourcing (Table 6).

THE BIGGER PICTURE


TABLE 6Outsourcing — An Important Source of Small Business Formation

Source: A Study of the Outsourcing Activities of Canadian Businesses : A Comparison of the Country's Four Major Regions, August 25, 2000, by Alain Halley, Ecole des Hautes Etudes Commerciales de Montreal (HEC)

Small businesses are also needed by society for employment and as an alternative

career. They are needed by consumers who increasingly demand customer service

and choice that requires niche-oriented suppliers. In short, the present-day

landscape favours not only the continuation of the role played by entrepreneurs,

but increasingly will turn them into a super-nova of power and influence.

THE QUEST FOR SMALL BUSINESS HEAVEN

Given this prognosis, we have decided to dig deeper and point to the regions

that are best positioned to take advantage of the projected structural increase

in small business activity. We identified eight macro factors that in aggregate

can help in determining which environment will be more beneficial for small

businesses in the coming five years:

■ Momentum Indicator — Growth in self-employment over the past five

years;

■ Economic Growth — The extent to which the macro environment supports

small business activity;

■ Industry Mix — The extent to which the fastest growing sectors in the

economy are also small business friendly;

■ Urban/Rural Mix — The concentration of small businesses in large urban

centres. In recent years, growth in small business formation in large urban

centres has outpaced growth in rural areas;

■ Small Business Survival Rate — the likelihood that a small business survives

beyond three years of existence6;

■ Net Migration — The contribution of new immigrants to growth in the

Quebec OntarioAtlantic Canada

Western Canada

TOTAL

Company created after receiving its first contract from a work provider

57.6% 45.1% 37.8% 43.7% 49.8%

Company created in another context 42.4% 54.9% 62.2% 56.3% 50.2%


labour force. New immigrants have a higher tendency to become self-

employed;

■ Outsourcing Activity — The propensity by large corporations to outsource

core activity; and

■ Age Structure — Growth in the age group 35-55. This age group has a

higher propensity to become self-employed.

Table 7 provides a summary of the results. For each province, we aggregated

the findings and calculated a score which provides the relative prospects for

small businesses in the coming five years7.

Ontario has emerged as the most promising province for small business growth

in the coming five years, closely followed by Alberta. Small businesses in Ontario

will benefit from above-average economic growth, a favourable industry mix, a

strong wave of new immigrants, and relatively high levels of outsourcing activity.

While overall economic growth in Alberta will slow somewhat in the coming

few years, the level of activity will remain strong. The positive spin-offs from

the energy sector will continue to support small business and the favourable

industry mix in the province is a clear reflection of the increased diversification

of the Albertan economy. Projected above-average growth among workers in

the age-group 35-55 years is also a positive for overall small business activity

in Alberta. Quebec will remain a strong base for small business in the coming

five years, largely due to its expanding service industry, growing reliance on

manufacturing activity, and high level of co-operation between large and

small businesses. British Columbia, the province with the largest economic

contribution of small businesses, will remain an attractive spot for entrepreneurs

due to economic growth that is likely to match the national average, a high

small business survival rate, and a projected strong inflow of new immigrants.

While the Manitoba economy will be able to provide small businesses with a

gradually improving environment, the still large focus on rural areas and no

significant inflow of new immigrants will limit its potential. Saskatchewan’s

ranking reflects below national average projected growth, a less favourable

industry mix and high concentration of small businesses in rural areas. Low

economic growth, an unenviable sectoral mix and weak demographic factors

will be the main factors limiting small business growth in Atlantic Canada in

the coming five years.


TABLE 7Ranking Small Business Potential By Province

Momentum Indicator

Economic Growth Industry Mix Rural/Urban Mix

Outsourcing

Growth in self-employment over the past five years

Projected average annual GDP Growth

for 2004-2008

Share of self-employed in

industries with above-average

projected growth. Base: Total self-

employed

Share of small business in large urban

centres

Share of small firms that are

subcontractors for other companies

BC 3.5% 3.0% 44.8% 57.9% 61.3%

Alberta 0.0% 3.0% 46.0% 60.5% 61.3%

Saskatchewan -13.3% 2.5% 27.6% 36.3% 61.3%

Manitoba -5.6% 2.7% 37.0% 54.9% 61.3%

Ontario 6.2% 3.5% 51.4% 73.0% 66.0%

Quebec -0.3% 3.1% 47.2% 59.4% 64.2%

New Brunswick -8.4% 2.7% 41.0% 24.6% 62.7%

Nova Scotia -4.5% 2.5% 40.4% 24.6% 62.7%

PEI 7.8% 2.8% 28.8% 24.6% 62.7%

Newfoundland & Labrador 9.0% 1.8% 32.7% 24.6% 62.7%

Survival Rate Immigration Age

Probability of staying in business

for more than 3 years -- Micro

Business (0-5 employees)

Probability of staying in business

for more than 3 years -- Small Business (6-50

employees)

Share of foreign-born population Projected growth in the age group 35-55

(2004-2008)

1991 2001

BC 48% 68% 22.3% 26.1% 4.4%

Alberta 46% 65% 15.1% 14.9% 2.8%

Saskatchewan 46% 65% 5.9% 5.0% -1.1%

Manitoba 46% 65% 12.8% 12.1% -0.9%

Ontario 50% 69% 23.7% 26.8% 4.3%

Quebec 47% 68% 8.7% 9.9% -3.7%

New Brunswick 37% 65% 3.3% 3.1% -2.0%

Nova Scotia 37% 65% 4.4% 4.6% -1.3%

PEI 37% 65% 3.2% 3.1% -0.5%

Newfoundland & Labrador 37% 65% 1.5% 1.6% -3.7%

SCORE

Ontario 10.0

Alberta 9.8

BC 9.5

Quebec 9.5

Manitoba 9.2

Saskatchewan 9.0

Nova Scotia 8.8

PEI 8.8

New Brunswick 8.7

Newfoundland & Labrador 8.5


THE SERVICES INDUSTRY — THE MAIN ENGINE OF SMALL BUSINESS

Regardless of geographic location, developments in the service industry will

have, by far, the most significant impact on the small business sector in the

coming five years. The service industry accounts for more than 50% of all self-

employed individuals, and it employs more than 10 million Canadians, of whom

40% work in small businesses.

Personal and household services are gradually becoming an important source

of growth for small firms, largely reflecting the changing age profile of the

population, which means growing sophistication and rapid pace of change in

consumer tastes. By their nature, small-scale operations are flexible enough

to support the increased demand for personalized services given their ability

to focus on niche markets.

By far, the strongest growth in small business formation in this industry is in

Home Health Care Services, which saw a dazzling 25% growth in small business

formation since 2000. Another promising sub-sector for small business growth is

Funeral Services. That industry segment, which is dominated by family-owned

and operated businesses, has grown by no less than 26% since 1995. And the

future of the sector is promising. Over the next decade the number of very old

senior (over 85 years) will climb by over 50%, while the aging baby-boomers

will increasingly pre-plan their own funeral arrangements to ease the financial

burden on their children, and to do it “their way”. The growing emphasis

on the environment has been hurting Dry Cleaners and Laundries. Their

number has fallen by more than 6% since 2000. This negative trend is likely to

continue as many firms, which cannot or are unwilling to upgrade to the more

environmentally-safe machinery, will likely leave this segment of the industry,

given the stiffer environmental legislation expected in the near future.

The number of Full Service Restaurants has risen by 3% since 2000. That trend

will accelerate in the coming five years as aging baby boomers, empty nesters

and seniors have more time and money to spend on dining in better quality

restaurants. At the other scale of the food business, we continue to see strong

growth in Quick-Service/Take-Out Establishments that account for over 60%

of all meal occasions. This trend clearly reflects the increasing tendency to eat


more meals away from home and the lack of time or interest in cooking.

With two out of three firms in the business service industry employing fewer

than five employees, business services remains important to the future of small

businesses in Canada. Despite the burst of the Internet bubble, the number

of firms in the Computer & Related Services continues to grow (albeit more

moderately), rising by 9% since 2000. With large corporations remaining focused

on their core business functions, the demand for highly specialized technical

services will intensify, and these can be delivered much more efficiently and

economically by small outsourced business firms, often on a project-by-project

basis. This is clearly reflected in the strong growth in the Management, Scientific

and Technical Consulting Services sub-industry, which has risen by 14% since

2000 — by far the strongest gain in the business service industry. This trend is

expected to continue in the coming five years, and to gradually include more

personnel suppliers, which can handle numerous human resource functions

for companies (Chart 13).

CHART 13Business Formation in the Business Services Sector

Dec 2002 vs. Dec 2000 (1-9 Employees)

-4 -2 0 2 4 6 8 10 12 14 16

Management and Consulting

Computer Systems Design

Specialized Design

Employment Services

Accounting

Advertising

Dentists

Business Support

Lawyers

Physicians

Architectural and Engineering %


1. Starting a new business is easier in Canada than anywhere else in the world. A recent survey

of 75 countries looked at the number of procedures that have to be conducted in order

to start a new business, the relative cost involved and the time in days it took to obtain

government approval. Canada was ranked first followed by the US8.

2. Small business output accounts for roughly one quarter of Canada’s GDP. The largest

contribution of small business to GDP is in British Columbia (28%) while the lowest is in

Newfoundland (18%)9.

3. The fastest pace of growth in small business formation is in Oshawa, followed by Toronto,

Calgary and Kitchener.

4. As a percentage of revenues, small businesses spend much more than large firms on research

and development (R&D). As of 2000, the ratio of R&D spending to revenues stood at 6.7%

among small businesses, while among large corporations this ratio was only 3.6%10.

5. More than 20% of self-employed individuals are immigrants, almost double the rate

observed in the 1980s. One in three of the new self-employed immigrants (those arriving

in the 1990s) have a university degree.

6. Individuals with a self-employed parent(s) are much more likely to be self-employed (32%

probability) than individuals with a parent(s) who are paid-employees (12% probability).

7. Only 16% of micro businesses depend heavily on markets outside their local market.

8. The average age of a micro business owner is 46. Only 17% of owners are below the age

of 40.

9. Close to 30% of micro-businesses do not have a fax machine or a personal computer. About

40% do not use a telephone messaging service11.

10. Having a university degree is not necessarily the secret to success for small business owners.

In fact, a recent study found that although completion of high-school education is highly

correlated with business growth, graduate or post-graduate education does not affect the

growth prospects of a small business12.

TEN THINGS YOU MIGHT NOT KNOW ABOUT CANADIAN SMALL BUSINESS


SMALL BUSINESS STATISTICS SELF-EMPLOYMENT

‘000 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 (avg.

Jan-Jul)Total Employment 12807.8 12735.7 12888.3 13259.8 13371 13463.3 13903.3 14278.1 14667.5 15006.8 15073.6 15429.3 15700.9

Self-Employment 1899.5 1915 2038.5 2028.8 2124.3 2201.8 2377.5 2462.3 2454.4 2350.4 2287.5 2345.6 2398.7

SELF-EMPLOYMENT BY AGE

‘000 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 (avg.

Jan-Jul)Self-Employment

15+ 1887.4 1919.3 2027.1 2036.3 2097.8 2169.4 2353.7 2425.2 2462.9 2421.4 2309.2 2346.0 2393.6

15-24 124.7 133.9 154.1 149.3 140.9 144.1 151.9 147.4 142.4 116.5 91.9 102.4 106.7

25-34 395.5 386.9 408.4 392.2 396.8 410.4 425.7 417.2 402.9 394.3 363.4 356.5 365.2

35-44 560.6 570.4 593.1 597.4 629.7 654.9 720.3 740.9 742.5 728.8 701.6 694.6 678.8

45-54 433.2 454.6 495.4 502.9 524.1 553.5 612.5 652.4 671.6 683.9 667.1 662.3 673.7

55-64 274.1 271.6 278.1 277.4 293.5 292.9 322.6 333.4 372.5 370.2 367.2 392.6 420.5

65+ 99.3 101.9 98.0 117.1 112.7 113.7 120.6 133.9 131.0 127.8 117.9 137.6 148.8

SELF-EMPLOYMENT BY INDUSTRIES

‘000 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 (avg.

Jan-Jul)Self-Employment

All Industries 1887.4 1919.3 2027.1 2036.3 2097.8 2169.4 2353.7 2425.2 2462.9 2421.4 2309.2 2346.0 2393.6

Agriculture 349.0 342.5 345.9 340.5 326.4 325.0 334.1 333.7 320.2 287.2 243.0 245.9 247.5

Mining & Oil and Gas 9.7 11.3 9.9 8.9 10.6 10.6 16.8 13.1 10.1 10.4 13.6 10.5 15.0

Utilities 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Construction 224.3 226.8 226.7 224.0 232.9 232.4 246.7 251.2 271.4 277.3 272.0 277.3 280.4

Food Product 21.4 21.9 24.3 23.7 26.8 30.7 25.4 26.6 19.9 20.8 23.5 16.4 17.4

Wood Product 24.5 24.3 26.9 23.3 26.6 29.5 32.1 32.2 30.5 29.7 27.5 29.0 25.4

Primary Metal 46.9 46.3 47.1 49.2 45.7 49.0 48.7 54.5 46.9 42.2 49.7 49.4 45.4

Wholesale Trade 65.8 69.3 68.1 70.7 75.7 82.0 83.2 80.3 85.0 87.7 81.9 82.4 87.8

Retail Trade 145.2 144.2 145.5 138.0 149.0 140.9 149.6 145.8 136.0 136.4 134.0 132.7 126.1

Sporting Goods 91.3 96.7 106.6 107.4 103.7 103.8 103.6 99.8 107.4 93.3 87.9 85.2 85.0

Transportation 77.9 69.7 68.2 72.9 81.0 78.3 100.3 103.5 109.4 116.6 111.6 107.8 112.7

Postal Service 11.0 12.1 11.7 15.0 14.8 13.4 19.6 22.5 23.5 25.1 23.9 20.5 24.8

Information 18.0 18.2 20.9 20.8 21.6 25.3 30.6 28.8 24.3 26.0 24.5 18.6 26.6

Finance & Insurance 33.1 36.2 37.1 38.7 43.1 50.7 56.6 47.4 55.1 53.6 51.9 58.8 62.9

Real Estate 57.1 59.0 63.9 59.5 68.4 75.4 80.6 80.8 73.8 77.3 73.9 73.2 79.6

Professional 187.0 187.2 198.7 218.7 221.5 251.0 290.9 323.3 332.6 326.7 323.7 328.1 345.6

Management 0.0 2.3 2.4 1.6 1.8 0.0 2.1 0.0 0.0 0.0 0.0 1.6 0.0

Admin. & Support 64.3 73.3 78.0 86.1 101.2 97.5 109.4 125.3 138.2 159.2 138.7 151.8 149.7

Educational 21.8 20.9 28.3 30.0 33.9 36.8 38.0 42.9 49.8 45.4 46.0 47.5 50.4

Health Care 139.9 157.2 175.1 180.9 184.9 184.5 205.1 212.6 195.9 199.6 182.8 194.8 198.7

Arts, Entertainment 43.6 43.0 59.0 56.0 55.2 60.9 65.3 64.3 67.8 70.0 74.1 84.4 81.6

Accomm. & Food 77.3 76.2 82.9 78.6 80.4 91.0 91.4 102.7 98.8 98.0 98.5 96.5 101.8

Other Services 176.0 179.0 198.1 190.2 190.2 196.5 221.0 229.9 264.7 237.6 225.3 233.2 228.2

Public Administration 0.0 1.7 1.7 0.0 2.2 2.4 2.1 2.3 0.0 0.0 0.0 0.0 0.0


Business Formation By Size Of FirmDecember 2002

BY PROVINCE

Number of Employees

1-4 5-9 10-19 20-49 50-99 100-199 200-499 500+

Newfoundland and Labrador 10,338 3,182 1,769 1,217 399 197 96 59

Prince Edward Island 3,966 1,275 852 546 164 66 35 9

Nova Scotia 17,086 5,636 3,974 2,769 917 470 171 86

New Brunswick 15,732 4,845 3,258 2,222 709 305 152 59

Quebec 151,435 38,696 23,753 16,574 6,138 2,824 1,382 646

Ontario 185,069 60,778 44,283 33,685 12,751 6,181 2,866 1,106

Manitoba 19,266 6,301 4,874 3,569 1,254 501 281 116

Saskatchewan 23,903 7,245 4,730 2,928 921 351 229 63

Alberta 79,841 23,298 16,391 11,502 4,142 1,870 764 280

British Columbia 91,818 27,355 18,511 12,604 4,304 1,900 830 330

Yukon Territory 896 326 231 153 48 22 15 2

Northwest Territories 751 362 328 240 70 39 16 2

Nunavut 202 142 114 120 40 16 5 1

Canada 600,303 179,441 123,068 88,129 31,857 14,742 6,842 2,759

Business Formation : Urban vs. RuralDecember 2002

Source: Statistics Canada

BY PROVINCE & CATEGORY

Number of Employees 1-4 5-9 10-19 20-49 CANADA 600,303 179,441 123,068 88,129Large Cities 342,464 110,019 79,253 59,938Small Cities 257,839 69,422 43,815 28,191

ATLANTIC 47,122 14,938 9,853 6,754Large Cities 10,043 4,102 2,907 2,338Small Cities 37,079 10,836 6,946 4,416

QUEBEC 151,435 38,696 23,753 16,574Large Cities 85,569 24,097 15,697 11,551Small Cities 65,866 14,599 8,056 5,023

ONTARIO 185,069 60,778 44,283 33,685Large Cities 131,621 44,705 33,614 26,424Small Cities 53,448 16,073 10,669 7,261

MANITOBA 19,266 6,301 4,874 3,569Large Cities 9,614 3,690 3,059 2,324Small Cities 9,652 2,611 1,815 1,245

SASKATCHEWAN 23,903 7,245 4,730 2,928Large Cities 7,447 2,963 2,145 1,538Small Cities 16,456 4,282 2,585 1,390

ALBERTA 79,841 23,298 16,391 11,502Large Cities 46,223 14,500 10,698 7,841Small Cities 33,618 8,798 5,693 3,661

BRITISH COLUMBIA 91,818 27,355 18,511 12,604Large Cities 51,947 15,962 11,133 7,922Small Cities 39,871 11,393 7,378 4,682



BY MAJOR CITIES

Number of Employees

1-4 5-9 10-19 20-49 50-99 100-199 200-499 500+

Calgary 24,283 7,442 5,533 4,121 1,566 765 314 109Chicoutimi - Jonquière 2,649 791 436 328 118 49 26 17Edmonton 21,940 7,058 5,165 3,720 1,347 636 255 92Halifax 5,173 2,145 1,580 1,345 448 244 87 55Hamilton 9,145 3,240 2,305 1,741 644 294 141 50Kitchener 6,098 2,300 1,556 1,327 502 234 119 45London 6,354 2,216 1,508 1,197 434 175 79 36Montréal 65,043 18,197 12,074 8,816 3,490 1,613 776 345Oshawa 2,983 1,009 716 463 198 99 31 24Ottawa - Hull 16,093 5,215 3,800 2,832 1,044 511 221 137Québec 12,106 3,595 2,288 1,719 597 264 132 91Regina 3,111 1,299 940 715 227 100 63 38Saint John 1,778 737 526 381 131 55 33 16Saskatoon 4,336 1,664 1,205 823 271 92 58 14Sherbrooke 3,100 811 485 369 113 44 33 10St. Catharines - Niagara 5,749 1,972 1,331 1,009 366 170 85 30St. John’s 3,092 1,220 801 612 210 116 48 36Sudbury 2,299 759 522 427 134 41 26 16Thunder Bay 1,995 747 522 330 116 56 25 15Toronto 76,691 25,848 20,240 16,179 6,529 3,245 1,483 557Trois-Rivières 2,671 703 414 319 94 47 14 16Vancouver 45,414 13,832 9,653 6,972 2,569 1,157 497 196Victoria 6,533 2,130 1,480 950 344 153 81 37Windsor 4,214 1,399 1,114 919 362 178 75 31Winnipeg 9,614 3,690 3,059 2,324 923 381 208 89

Business Formation By Size Of FirmDecember 2002

Business Formation By RevenueDecember 2002


BY PROVINCE

Revenue Ranges

Total 0-99k 100k-499k 500k-1.9m 2m-9.9m 10m-49.9m > 50m

Newfoundland and Labrador 25,172 14,235 6,607 2,887 1,114 266 63Prince Edward Island 10,136 5,587 2,722 1,280 435 90 22Nova Scotia 49,069 26,155 13,853 5,852 2,447 645 117New Brunswick 43,005 23,245 12,112 5,093 2,000 455 100Quebec 477,770 279,735 124,692 47,125 19,731 5,413 1,074Ontario 701,915 364,433 204,114 84,218 35,750 10,997 2,403Manitoba 72,045 38,380 21,452 8,036 3,135 848 194Saskatchewan 91,597 50,752 28,383 8,560 3,131 624 147Alberta 258,077 137,773 77,930 27,909 10,809 2,979 677British Columbia 289,832 157,832 83,148 32,647 12,286 3,238 681Yukon Territory 2,695 1,272 815 423 141 38 6Northwest Territories 2,516 938 731 528 250 52 17Nunavut 678 195 187 152 118 24 2Canada 2,024,507 1,100,532 576,746 224,710 91,347 25,669 5,503


28 Canadian Small Business — A Growing Force

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This report does not take into account the investment objectives, financial situation or specific needs of any particular client of CIBC World Markets Inc. Before making an investment decision on the basis of any information contained in this report, the recipient should consider whether such information is appropriate given the recipient’s particular investment needs, objectives and financial circumstances. CIBC World Markets Inc. suggests that, prior to acting on any information contained herein, you contact one of our client advisers in your jurisdiction to discuss your particular circumstances. Since the levels and bases of taxation can change, any reference in this report to the impact of taxation should not be construed as offering tax advice; as with any transaction having potential tax implications, clients should consult with their own tax advisors. Past performance is not a guarantee of future results.

The information and any statistical data contained herein were obtained from sources that we believe to be reliable, but we do not represent that they are accurate or complete, and they should not be relied upon as such. All estimates and opinions expressed herein constitute judgements as of the date of this report and are subject to change without notice.

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© 2003 CIBC World Markets Inc. All rights reserved. Unauthorized use, distribution, duplication or disclosure without the prior written permission of CIBC World Markets Inc. is prohibited by law and may result in prosecution.

Unless indicated otherwise, data sources used in this study are Statistics Canada, Industry Canada and CIBC World Markets. As well, unless indicated otherwise, small businesses in this study are defined as firms with less than 50 employees.

Notes:

1. Canadian Bankers’ Association.

2. Canadian Federation of Independent Business (CFIB) “Quarterly Business Barometer” June 2003.

3. The ranking is based on the net trade position of a given province with the US.

4. Canadian Federation of Independent Business (CFIB) “Quarterly Business Barometer” June 2003.

5. Canadian Federation of Independent Business (CFIB) "Power Struggle: Survey Results on Impacts of the August 14 Power Failure in Ontario" September 2003.

6. John Baldwin et al., “Failure Rates for New Canadian Firms: New Perspective on Entry and Exit”, Statistics Canada, 2000.

7. The weights of the different variables are based on logistic regressions against overall small business activity in each province.

8. “The Regulation of Entry” Djankov et al., August 2000.

9. BC Stats.

10. Statistics Canada, Industrial Research and Development – 2002 Intentions, Cat. No. 88-202-XIB.

11. Statistics Canada, Micro-Enterprises Survey, 2000.

12. Industry Canada: Growth Determinants of Micro-Businesses in Canada, July 2002.

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