Last summer I wrote a post about U.S. manufacturing capabilities, which took a hit as American companies sent their manufacturing jobs to low-cost countries like China. I included thoughts from General Electric CEO Jeffrey Immelt, who spoke in a Harvard Business Review interview about the United States' need to refocus on its manufacturing and research and development capabilities if it hopes to maintain its economic power.
Former Intel CEO Andy Grove last month made a similar point in a BusinessWeek essay in which he calls on government officials to, among other things, impose taxes on the products of offshored labor, with proceeds given to companies that promise to build up their American operations. Whether or not you agree that's a good idea (I don't), Grove makes an interesting point in his essay, saying that America's "misplaced faith in the power of startups to create U.S. jobs" has contributed to the decline of U.S. manufacturing and loss of jobs. He writes:
Startups are a wonderful thing, but they cannot by themselves increase tech employment. Equally important is what comes after that mythical moment of creation in the garage, as technology goes from prototype to mass production. This is the phase where companies scale up. They work out design details, figure out how to make things affordably, build factories, and hire people by the thousands. Scaling is hard work but necessary to make innovation matter. The scaling process is no longer happening in the U.S. And as long as that's the case, plowing capital into young companies that build their factories elsewhere will continue to yield a bad return in terms of American jobs.
Not surprisingly, Grove has taken some heat because of his stance, with many critics focusing on his suggestion to tax products produced in offshore locations. Writing in The Wall Street Journal, James Altucher says protectionist trade policies just don't work. Calling Grove a "genius," Altucher says he's nonetheless "confused" by Grove's recommendations. He asks:
So what if we have outsourced 100,000s of low-level semiconductor manufacturing jobs to China? Silicon Valley has continued to innovate with Google, Facebook, Ebay, Amazon, etc. There are lines around the block still for the latest Apple iPhone and the chipmakers for the iPhone don't seem too worried that they have to outsource to Foxconn in China. If we bring the jobs back here, would the iPhone suddenly become twice as expensive? Would a trade war start that would drive up prices even further? Furthermore, would the resulting spikes in unemployment in the third world countries we outsource to suddenly dip into massive recessions, causing a global spiral down in the economy?
Vivek Wadhwa takes another tack on TechCrunch, arguing that startups rather than big companies have created most new jobs over the past decade. He cites a Kauffman Foundation study that found existing companies lost 1 million net jobs per year from 1977 to 2005, while new businesses in their first year added an average of 3 million jobs annually. Yes, half of startups fail within five years, but overall they still drive job creation, according to the study.
Wadhwa contends that technology giants "constantly acquire startups and take advantage of their own size and distribution channels to scale up the innovations they have purchased. They let the startups take the risk and prove the business models." Instead of focusing efforts on helping large companies, Wadhwa suggests, government officials should develop incentives such as tax breaks or seed financing for startups, beef up investment in the educational system and public infrastructure (as many emerging economies are doing) and gear patent-protection laws and other policies to favor startups. He writes:
Let's not bet on the companies that are too big to fail or too clumsy to innovate.
Wadhwa makes some valid points. But startups' ability to generate jobs may take a hit with the continuing decline in the venture capital industry. According to a recent MercuryNews.com story, the latest report from the National Venture Capital Association showed that 10-year returns on venture capital investments turned negative at the end of 2009 and nose-dived during the first quarter of 2010. Venture capital's decline is largely due to startups' increasing reluctance to take their companies public.
Many startups seemingly now operate with the intention of being acquired by larger companies like Google or Cisco instead of going public. But does that create jobs? I'd argue that many acquisitions involve cutting jobs, not creating them. In at least some cases, big companies don't do much of anything with the startups they purchase. Google in 2005 acquired Dodgeball, a provider of location-based social-networking software for mobile devices. Sounds a lot like Foursquare, right? One of Dodgeball's founders, Dennis Crowley, went on to found Foursquare after a two-year stint working for Google. The search giant folded Dodgeball into its Google Latitude service.
Some people think startups would be better off if they didn't rely so heavily on VC. When I interviewed Sramana Mitra, a technology entrepreneur and strategy consultant in Silicon Valley who has founded three companies and written several books including "Bootstrapping: Weapon of Mass Reconstruction," she told me companies without ready acess to venture capital are forced to develop better business models. She wants the government to create a type of savings account which people could use to set aside tax-free money for entrepreneurship. If they don't start a business within a given amount of time, the money would become taxable. She said:
If we could stimulate bootstrapped entrepreneurship on a big level, that would be much better because venture capital is appropriate for such a small set of companies. It requires that your venture scale up to a very large market opportunity. But a bootstrapped venture can go after any opportunity. A $10 million opportunity is just fine for a bootstrapped venture. And you can employ 1,500 people with a $10 million company. I think that's the kind of company America needs in hundreds of thousands right now. There are a lot of niche opportunities in technology where you can build $2 million, $5 million, $15 million businesses. Venture capitalists would never touch those!
While I think that's a fine idea, I'm not convinced that startups alone can turn the troubled economy around, especially not if they focus on being bought by a giant. As Chris O'Brien points out in the MercuryNews.com story. while Web startups can operate on the cheap, that model doesn't work for biotechnology, medical devices or clean technology, which manufacture physical goods, not just virtual ones.
Earlier this month, President Obama signed into law the U.S. Manufacturing Enhancement Act of 2010, which lowers tariffs on various raw materials imported into the United States for use by manufacturers. While it's a step forward, writes Tom Murphy, executive vice president of manufacturing and wholesale distribution for McGladrey, on IndustryWeek, the government must do more to help manufacturers, including lowering taxes on businesses both big and small.