I Hear the Entrepreneurial Sizzle, But Where’s the Steak?

Oct 28, 2016

When I started my first company in 2003, I didn’t consider myself an entrepreneur. Heck, I can still barely spell the word correctly. The Lean Launchpad was a zygote, and the tools and resources available today were nowhere to be found—and I certainly didn’t have a map to follow. Like a mouse lost in a maze, I ventured down one hallway until I ran into a wall and then changed direction until I found a new path. Lather, rinse, repeat. It was, and still is, a game of endurance. And it was lonely. I had yet to learn the value of social capital. Finally, being far from a large metropolitan area, mentors were in short supply to act as a sounding board and sensei for my entrepreneurial journey.When I look around today, I am awestruck by the deluge of resources available to the brave souls willing to risk everything for their idea. The barriers to entry have never been lower: the free tools and mentor networks, the number of incubators and accelerators springing up seemingly everywhere. Wherever you look, everything you read seems to belie this notion of Startup, Inc. sweeping the nation.But my fear is that the hype is more noise than actual sound.I began working at The Garage back in January. The energy in the space was, and still is, palpable. Assiduous young students are pursuing their passions on top of a full course load. At our peak in the spring, we had around 250 budding entrepreneurs calling The Garage home. Out of a student population of about 7,500, that number represents just 0.33% of the total student body. If you add in the other pockets of entrepreneurship from around campus, perhaps you can argue that number is closer to 1% or 2% at the most. It’s the equivalent of dumping a glass of water in Lake Michigan.On top of that, based on observations of the graduating students, those either working on their own startup or working for one of the teams, the majority opt for a traditional wage-paying job with a company that is not a startup. The reasons span many categories from parental pressure, to suffocating levels of student debt, to risk-aversion, to the difficulty of starting up and maintaining an early stage company to the need to be able to pay the rent and avoid moving back home with said parents, to name a few. We will explore some of these in depth below.Earth to Millennial Entrepreneur - Are You Out There?

John Lettieri of the Economic Innovation Group said at a recent testimony to the US Senate that “[m]illennials are on track to be the least entrepreneurial generation in recent history.” According to The Atlantic, the number of people under 30 who own a business has fallen nearly 65% since the 1980’s and now sits at a 25-year low.What’s most surprising, I think, is that 60% of Millennials consider themselves entrepreneurs and 90% recognize entrepreneurship as a mentality—but mentality doesn’t necessarily translate into activity. The current average age for a successful startup founder is 40 years old, according to the Kauffman Foundation. Even more, the only age cohort with rising rates of entrepreneurial activity since the turn of the millennium is 55 to 60 year olds.So what’s going on with millennials? Are Mark Zuckerburg, Bryan Chesky, Travis Kalanick, Evan Spiegel—the successful “spotlight” entrepreneurs—the exception to a declining trend or do they portend something different? Is entrepreneurship just more media hype promoting the select few while ignoring the contravening trends below the surface (and headlines)? Here are three possible answers to why they may currently be more the exception than the rule:Problem #1 – Exploding Student Debt

Many have heard about the escalating costs of higher education, which has grown two and half times the rate of the consumer price index and has done so for decades. More and more people are returning to school a second time to earn a master’s degree. Fortune magazine cites a Department of Education study showing advanced degrees are as common today as bachelor’s degrees in the 1960’s. Today, more than 16 million people, or roughly 8% of the population, now have a master’s degree—an increase of 43% since 2002. While you can argue that the return on investment for an MBA pays off, the cost of acquiring that degree is out of reach for most Americans, and those who graduate do so with staggering levels of debt (sadly, those who do not graduate fall into something akin to the debtor prisons of a previous century, but that is article unto itself - see here).According to Forbes, total student debt now exceeds $1.3 trillion (yes, with a “t”) eclipsing auto loan and credit card debt, combined. Today, more than 80% of those graduating with a bachelor’s degree are in debt—double the number just 20 years ago. Add it up and we have over 40 million Americans saddled with an average of $35,000 in student debt.What does this mean for our economy still grappling with the effects of the most recent Great Recession? Fewer and fewer millennials are buying homes and cars - two major drivers of economic growth. And fewer and fewer are starting businesses and instead opting for the safety and security of a stable job with a large company. The implications of these choices act as a drag on our economy—money that could be going for investment, R&D or wages is instead being used to pay down debt that was supposed to be a means to earning a higher income. Most small businesses are funded with personal debt such as credit cards or small loans from banks and family members. If our future business leaders are paying off student loans, their ability to afford a $10,000 line of credit from a bank or credit card company is slight.Problem #2 – Monopolies and Industry ConcentrationSince 2008, large American firms have gone on a 10 trillion dollar shopping spree, one of the largest in corporate history. Unlike previous bouts of merger-mania that focused on global reach, these acquisitions have been fueled by a different set of strategies. They have been driven first by a need to consolidate the home market. From here, driven by the fallout of the Great Recession, these companies are pursuing a near insatiable desire to increase market share while simultaneously dramatically cutting costs. The primary result of these efforts: propping up their elevated profit margins which continue to reside at historical highs. Sadly, few of these cost-savings have been flowing into the pockets of consumers (or their rank-and-file employees).Here is a short list to illustrate the concentration at the top of corporate America:

  • In 2004, the top eleven airlines controlled 96% of the domestic market and sustained losses of over $5 billion; by 2015, following a wave consolidation, four airlines control a similar amount of the market and earned profits in excess of $20 billion.
  • In addition to the airlines, hotels and online travel services have been on a buying binge with the acquisition of Starwood Hotels by Marriott creating a hotel behemoth with over 1.1 million rooms scattered across 5,500 hotels worldwide.
  • CVS, Walgreens and what’s left of Rite-Aid control 99% of the national market for pharmacies.
  • In 1983, 50 companies controlled 90% of all U.S. media; by 2011, that same percentage was controlled by just six companies.
  • Amazon and Barnes & Noble account for more than 50% of all books sold in the US.
  • Almost every cruise line is owned by one of three companies: Carnival, Royal Caribbean or Norwegian Cruise Lines.
  • At the end of 2015, eight of the top ten downloaded apps were owned by either Facebook or Google.
  • The health insurance industry is dominated by four companies—Anthem, Cigna, Humana, and Aetna—with further consolidation being discussed.

This is hardly an exhaustive list. The chart below illustrates this trend across all industries. Consumers now have fewer choices and face higher prices, while companies enjoy fatter profits and significantly less competition. The net result is deeper and wider moats making it harder and harder for new entrants to compete for any length of time.

Why is this a Problem for Entrepreneurship?According the Kauffman Foundation, “...in any given year, new and young business create nearly all net new jobs in the U.S economy...Older, established companies tend, on balance, to be net destroyers of jobs.” Yet, since 1990, companies more than a decade old account for half of all firms and employ over eighty percent of all American workers—up more than ten percent in the same time period. This concentration of companies and jobs squeezes out smaller businesses who cannot compete at scale or scope, let alone keep up with the ever changing regulatory environment.Lobbying and tax avoidance are two other pernicious outcomes of this Gilded Age level of consolidation. As companies grow, the urge to stay on top inevitably leads to efforts to have the rules defined in their favor. As profits rise, more and more funds are available to pay an army of lobbyists to write these rules. According to The Economist, the last 20 years have seen an enormous increase in lobbying with corporations leading the way at 70% of all dollars spent. Back in 1998, an organization had to pony up $2.4 million to crack the top 100. As of 2012, that number has almost doubled to $4.4 million. Tech companies are not averse to this trend. Following in the footsteps of the financial industry, they have begun recruiting former government officials to join their lobbying efforts - former Obama press secretary Jay Carney works for Amazon while former campaign manager David Plouffe is helping write the rules for Uber.With all of the corporate concentration above, plus their fierce lobbying efforts to define the rules and protect their moats, there are fewer and fewer opportunities for new entrants to thrive, let alone survive. We can continue to hype the few unicorns that are creating tremendous wealth and lots of new jobs, but looking under the hood, the trends are alarming, the competition is lacking, and the obstacles confronting aspiring entrepreneurs are growing. Where are you Teddy Roosevelt?Problem #3 – It’s Too F%&king Hard to Start a Company

Congratulations. You’ve come up with an idea to start a business. Now, the fun part: setting up your company. If you are lucky enough to live in Illinois, forming an LLC will set you back $500. If you want to do it online (gasp), there is another $100 expediting fee. Some people like to file in states like Delaware or Nevada where it is cheaper. However, what they forget is that you still have to register and pay taxes in the state you are doing business in. Plus, you need to hire an Agent of Record and pay the annual filing fees. In Illinois, that is an additional $250 per year (don’t be late or that will turn into an extra $300). Adding it all up, in Illinois, during your first 12 months and a day, you have shelled out $850 just to set up your business. Oomph.Great. You have your LLC. Next, you might want to trademark your company name. Depending on how much you want to do yourself, that will run several hundred dollars. You could pay your lawyer to do it, the same one drafting your Operating Agreement. Legal fees can add up quickly.If you have an employee, you need Workers Comp Insurance. If you have more than one employee, you need to register with the state to collect and pay Unemployment Insurance. You also need to collect and pay payroll taxes since labor regulations make it difficult to hire contractors over employees. By the way, full-time employees cost around 30% more than contractors and that’s before the new overtime rules come into play.Next, let’s talk regulation. The “great recession” of 2007 to 2009 can be largely attributed to the actions of the finance industry (with regulators looking the other way). Following widespread deregulation in the 1990’s, specifically the repeal of Glass Steagall and the passage of the Commodity Futures Modernization Act of 2000, the casino on Wall Street rolled up its sleeves and started betting on everything that they could slice, dice, repackage and sell to the next sucker down the line. Inevitably, the bubble spectacularly burst, taxpayers bailed out the feckless and got stuck with the tab. Nevertheless, a recovery ensued (for some).Cleaning up the mess and trying to prevent recurrence required new regulations and, like the mortgage market since, the pendulum swung too far the other way and the impact borne by small business has been the greatest. During Obama’s first term in office, the cost of federal regulations rose by $70 billion, not counting Obamacare. Nicole and Mark Crain of Lafayette University estimate that the per employee cost of compliance for businesses with fewer than 20 employees is $10,585 versus $7,755 for companies with over 499 employees. Larger companies have the benefit of spreading these costs over a much larger revenue base. Smaller companies do not. Another drag on competitiveness and an entrepreneurial headwind.If regulation wasn't enough of a deterrent, let’s talk taxes. Zachary Slayback writes that “[o]ne of the most nefarious taxation schemes to small business and entrepreneurial growth is the capital gains tax.” When you do the math, once you make a profit, almost half go to pay federal, state, and capital gains taxes. And if you make a mistake, ouch, the penalties hurt. So yeah, in addition to that lawyer, better get an accountant too.No wonder many opt for a traditional salaried job instead. When you add up the risks and the costs, can you blame them? If we want to reverse these trends, we need to radically rethink how we support those brave souls striving to start their own business and simultaneously find ways to level the playing field so they, like a baby turtle, have a chance to make it from the beach to the big, bad ocean.Conclusion and What’s Next...In the next piece in this series, I will look back at some of the historical background that has brought us to this point—namely the effects of globalization and the changing nature of work in the new economy. The final installment will explore how we can right the ship and prepare our children for the world ahead of us, not the one behind. In addition, we will explore a few areas of hope including the explosion in classes on entrepreneurship that may portend a Cambrian explosion of startup activity in the years ahead. Stay tuned!Billy began his career in his family business—a diversified forest products and steel manufacturer. He launched his first startup, M-Tec Corporation, in 2003, and a second one, Reach360, in 2007 after leading the successful sale of his family business. Billy works with Design For America, advises numerous startups, sits on several boards, was an adjunct professor at Northwestern prior to starting at The Garage, and currently owns two other companies. Billy received his BA in history and political science from Northwestern in 1998 and his MBA in finance and strategy from Indiana University in 2003.

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