Job Growth Malarkey: Avoid the Mermaid Strategy

10/22/12

Last week’s presidential debate once again focused on the need to create new jobs in the United States. And yet with barely two weeks to go until the election, neither candidate presented a convincing or nuanced understanding of the dynamics of job creation.

Together the two candidates referred to “small business” 21 times during the debate, repeating the phrase like a mantra. And in one mystifying segment, Governor Romney implied that Bain Capital was a small business, presumably because it started with 10 employees, although it was generously endowed with $37 million in start-up funds and a safety net from its parent consulting company if things went wrong (see Paul Krugman’s post “Small-Time Mitt“).

Together the candidates displayed a surprising lack of clarity on what is and is not a small business and how these businesses fuel job growth. Indeed both seemed to be working off the same incorrect, but widely held, belief that small businesses create most new jobs. We beg to differ. It is new companies that have the potential to create new jobs.

The Kauffman Foundation found that new businesses—those less than five years old—created the lion’s share, two thirds, of all the net new jobs between 1980 and 2005. (See the foundation’s paper, Where Will the Jobs Come From?.) It is entrepreneurship, the creation of new businesses, that will lead to job growth, not small businesses as a general category. Talking about anything else is simply malarkey.

Based on our work at the Martin Trust Center for MIT Entrepreneurship, we see two clear and distinct types of new businesses that are creating new jobs: small and medium enterprises (SMEs) and innovation-driven enterprises (IDEs). The two types are different enough that governments looking to promote job growth will need to fully understand the difference and to put into place different policies and structures that addresses each type, rather than lumping them together under the one banner of entrepreneurship.

Small and medium enterprises offer traditional goods to a local or regional market. Your pizza place, for instance. These companies may employ only the founder and a spouse or a handful of employees. They serve local markets and are mostly service oriented.

Though they are truly important, these companies are not large enough to serve as engines for the entire U.S. economy. They do, however, offer important opportunities for employment and provide valuable services. In fact these companies are the lifeblood of many economies. In some countries and regions, such as Andalucía in Spain, they form the majority of employment.

These jobs are particularly important for individuals with relatively low levels of education and skills. A form of self-employment, small businesses give people the opportunity to work independently and to use their skills, particularly in times when large, established companies are laying off workers.

Contrast these companies with the innovation-driven enterprises we advise and nurture at MIT and in the larger Massachusetts innovation-driven entrepreneurial ecosystem. These companies serve global markets and their goal is rapid expansion. They start small only as a test bed before moving into larger markets. Ford Motor Company started as an innovation-driven enterprise, turning the horseless carriage into a reality for millions of Americans. So did Google, and so did Genzyme.

These companies generally employ individuals with high levels of education and training. New biotechnology companies, for example, are usually founded, led and staffed by individuals with PhDs in molecular biology as well as physicians and MBAs. As these companies grow, they create a wealth of high-quality, auxiliary employment for those with other skills—laboratory technicians, manufacturing staff, clinical trial managers, hospital workers, etc. The Massachusetts governor’s office has calculated that for every high-level biotechnology job created, five other lower-level jobs are also created. The same is true for the emerging clean energy cluster in Colorado, or the digital business cluster in London’s TechCity “Silicon Roundabout” area, or defense startups in Israel.

Of course, there are many challenges involved in creating a global business based on a new technology. These companies are highly risky. Still, they hold out the possibility of becoming the next Akamai or Kiva Systems, creating hundreds of exciting high-skilled jobs, many thousands of jobs requiring less skill, and in many instances, a range of manufacturing jobs as well. Here at MIT, we have seen the impact that innovation-driven enterprises can make. MIT students start companies at an astounding rate. MIT alumni have started over 26,000 companies that together employ over three million people and have aggregate annual revenues of around $2 trillion.

Yet as the recent presidential debate made clear, politicians and policy makers often fail to make a distinction between jobs created by “mom and pop” SME entrepreneurship and by IDE entrepreneurship. It is a critical mistake. Treating the two types in similar ways, with the same policies and the same programs – run by the same people, just won’t work. We call that a “mermaid strategy,” because a mermaid is neither fish nor human and is not effective at being either.

We have seen organizations around the world fail to achieve the results they desire precisely because they try to address both SME and IDE entrepreneurship through a singular organization. They start programs, hire people, and move forward, but often the people lack entrepreneurial experience, and so their programs lump SME and IDE together as simply “entrepreneurship.”

Despite their enthusiasm, these organizations are just not set up with the focus necessary to succeed. It is better for an individual organization to choose one focus and perform well, rather than choose both, leaving the organization unfocused and less successful.

Furthermore, an organization designed to address both types of entrepreneurs tends to focus disproportionately on short-term job creation, which does little to address long-term strategies for economic growth. Investment in supporting small business is attractive because it can be geographically targeted and allows for quick wins, so a politician can more easily and directly support his local constituents.

As a result, organizations that combine both kinds of businesses tend to allocate more resources to small enterprise at the expense of innovation. While innovation entrepreneurship is more challenging, it offers a much greater potential upside in the long term.

Both SMEs and IDEs create jobs, but in different ways, so governments looking to foster job creation through entrepreneurship need to distinguish between them while supporting both. A state such as Michigan not only needs an approach to building small businesses in the short term to get people back to work, but also needs to build innovation-driven companies to really spur growth and revitalization in the long term. Therefore, these two types businesses call for two separate support structures, with different personnel, programs, mindsets and metrics for success.

A “mermaid strategy” for job creation through entrepreneurship using the same policies and programs for two fundamentally different types of businesses, will end up promoting neither with any great success.

Bill Aulet is Managing Director at the Martin Trust Center for MIT Entrepreneurship and Senior Lecturer at the MIT Sloan School of Management. He can be reached at aulet@mit.edu. Fiona Murray is Faculty Director of the Martin Trust Center for MIT Entrepreneurship and David Sarnoff Professor of Management of Technology at the MIT Sloan School of Management. She can be reached at fmurray@mit.edu. Follow @

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  • http://www.facebook.com/lazowska Ed Lazowska

    AMEN!!!!! Rich guys who want to keep it all for themselves use the phrase “small business” to consciously mislead. They want you to think of your neighborhood dry cleaner. Two key points: (1) It’s *new* businesses, not *small* businesses, that drive growth – my neighborhood dry cleaner employs the same number of people that it did 30 years ago; and (2) The “small businesses” that would be affected by higher tax rates are the 5% of “small businesses” that are S-Corps and LLCs clearing millions of dollars per year, who could well afford to pay their fair share.

  • http://twitter.com/LevelUPgrowth Randy Albert

    There is one more distinction I’d like to point out. The lion’s share of innovation-based companies are not venture fundable, will never become global businesses, and aren’t necessarily technology driven. It’s not uncommon for the ones who grow past startup into a sustainable business with 10-100 employees to get stuck even though they have further growth potential. In my opinion, government policy and support for venture funded companies is adequate. It’s the second stage entrepreneurs who need a boost.

    Randy Albert
    levelUPbreakthrough.com

  • maxkava

    But, in the end, what’s the exact definition of IDE? Just ‘targeting a global market’? So, is McDonald’s an IDE?