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May 8, 2013

Under-investment in technology one of five key inhibitors to firm growth in Canada

Small and medium-sized enterprises (SMEs) are commonly portrayed as the backbone of the Canadian economy and heralded for their contributions to growth and prosperity. Such praise is neither surprising nor entirely undeserved. Collectively, one million SMEs account for over 99 percent of all enterprises in Canada and nearly 70 percent of private sector payrolls; yet, a deeper examination of what actually drives growth, innovation and employment in Canada paints a far subtler picture. As in other Western jurisdictions, only a small minority of companies (roughly 4 to 7 percent) experience sufficient growth to make significant contributions to overall job creation and GDP. While the small companies that comprise the majority are an important part of Canada’s economic fabric, their sheer number masks the fact that many smaller enterprises that would like to grow face serious hurdles. Removing these impediments and getting a larger share of the “untapped majority” on a growth trajectory may represent one of the most promising ways to lift employment and ensure a higher standard of living for all Canadians.

In a forthcoming report, Dan Herman and I examine five key challenges that undermine the ability of small businesses to graduate into world-class firms with the capacity to expand their operations and contribute meaningfully to both employment and economic growth. One of the five challenges is under-investment in technology to enhance productivity and growth, which I take a brief look at below in a preview of further work to come.

That technology adoption drives productivity growth and competitiveness is a well-established truth. The fact that most Canadian firms lag so far behind international competitors in adopting productivity enhancing technologies, however, remains a perplexing mystery. Canada’s average technology investment as a share of GDP in the 1970s, 1980s, and 1990s was the second lowest—only France had a poorer investment record. The record improved somewhat during the 2000s. According to the Organization for Economic Co-operation and Development (OECD), Canada ranked eleventh among 21 OECD countries in total economic investment in information and communication technologies (ICT) in 2006, down from tenth in 2005 and ninth in 2004—but these modest improvements reflect lower investment shares in other countries, rather than an increased investment share in Canada. According to the Canadian Manufacturers & Exporters (CME), technology investments by Canadian manufacturers have actually fallen by 37 percent since 2000, despite the Canadian dollar’s growing strength, which has made capital investment more affordable.

The subsequent 33 percent technology investment gap between Canadian and US firms goes a long way toward explaining Canada’s comparatively poor productivity performance and fledgling international competitiveness. The gap is even wider for SMEs (more on this below), which means that small businesses are forgoing opportunities to use technology to increase exports, enable new business models, boost employee productivity and dramatically reduce overhead costs. Shifting retail operations online, for example, can increase cross-border sales and boost profitability. In the UK, the overall sales of high-and-medium Web-based businesses grew by 4.1 percent annually from 2007 to 2010—about seven times faster than the sales of businesses with little or no Web presence. In many countries, including Germany and France, SMEs that have engaged actively with consumers on the Internet have also experienced three-year sales growth rates up to 22 percentage points higher than those companies with little or no Internet presence. In fact, evidence suggests that greater adoption of technology by SMEs not only benefits individual companies, but also the economy at large through increased job creation, productivity improvements and economic growth.

The bottom line for policy-makers is that if Canadian SMEs are to grow, technology investment and innovation must grow, too. Unfortunately, SMEs are less likely to adopt cutting-edge technologies than large firms, and invest far less on technology per worker. According to the Centre for the Study of Living Standards (CSLS), Canadian SMEs spend on 62 percent of what their US counterparts spend on technology (2008). Further research by the Institute for Competitiveness and Prosperity (2008) supports these findings, noting that Canada’s businesses invest about one-third less per dollar of GDP in ICT. Given the aforementioned productivity, growth and revenue enhancements that come from such investments, these gaps function as a primary inhibitor to growth. For example, according to the 2012 CEFRIO survey of Canadian SMEs, while two-thirds of Canadian SMEs have a website, only 8 percent of them have adapted it for use on mobile platforms. Given the explosion of mobile usage and the growing popularity of location-based applications, this stands out as an area of under-utilization. Moreover, given the preponderance of service firms among Canadian SMEs, the fact that only 12 percent of them use supply-management software is equally illustrative of the growth potential that is being left on the table.

While it is perplexing that Canadian SMEs under-invest in technology, they are at a relative disadvantage when it comes to accessing the capital and other resources that would permit them to do so. SMEs tend to be more risk averse than the more profitable, larger firms that can easily afford to experiment with the latest technologies. Another significant disadvantage for small firms in Canada is the lack of competition in the telecom market, which saddles small businesses with some of the highest costs for broadband and wireless coverage in the developed world. A 2007 survey by the Canadian Federation of Independent Business outlined the perceived barriers for SME investment in new technologies, finding that only 15 percent of respondents say they face no important barriers to investing in technology. The primary barriers for the other 85 percent are (in order of prevalence) purchase costs, congruency with business needs and the lack of qualified staff to implement the tools.

National Research Council Canada’s recently announced Digital Technology Adoption Pilot Program (DTAPP), a three-year $80 million pilot program designed to spur adoption of digital technologies by SMEs, is a step in the right direction. To be effective, however, concomitant efforts must be made by both provincial-level governments and industry stakeholders, providing not only financial assistance for potential investments, but also to provide clear and evidence-backed messaging on the value and return that such investments signify. 

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