Self-Employed Struggle as U.S. Recovery Offers Few Opportunities

(Bloomberg) -- More than 1 million self-employed Americans are no longer in business almost four years after the last recession began, as the economy constrains entrepreneurial activity and small-business job creation.

The 18-month contraction that started in December 2007 initially resulted in more would-be business owners, as the number of people who work for themselves grew to 16.3 million in July 2008 from 15.7 million at the end of 2007, according to data from the Bureau of Labor Statistics. Since then, the total has fallen about 10 percent to 14.7 million in July, the data show.

Employer businesses -- those that provide work for individuals including the founder -- "have been starting in fewer numbers, with fewer workers and growing at a slower pace than in the past,” according to Robert Litan, a vice president at the Kansas City, Missouri-based Kauffman Foundation, which supports research on start-ups. "Therefore, these entrepreneurs are generating increasingly fewer new jobs for the U.S. labor market.”

The number of new employer businesses dropped 24 percent to 505,473 on an annual basis in 2010 from 667,341 in 2006, according to Litan, who co-wrote a report published in July on small-business job creation.

This has contributed to high unemployment as the economic recovery slows. The rate has remained above 9 percent for 25 of the past 27 months, falling to 9.1 percent in July from 9.2 percent in June, BLS statistics show. August data will be released September 2.

Obama’s Speech

President Barack Obama has said small companies can help spur expansion and will address a joint session of Congress on Sept. 8 to unveil plans to promote job growth. He told participants at a White House ceremony Aug. 29 that his proposals will include making it "easier” for entrepreneurs to hire people.

Small companies employ about half the private-sector labor force, so it’s "very difficult” for the jobless rate to improve when they’re "not doing well, because they are too big a part of the economy,” said Scott Shane, professor of entrepreneurial studies at Case Western Reserve University.

Their weakness is also "a very big problem” for office- supply retailers such as Staples Inc., Office Depot Inc. and OfficeMax Inc., which sell to small businesses, said Brad Thomas, an analyst with KeyBanc Capital Markets Inc. in New York. Same-store comparative sales for this industry have stagnated at an average zero percent in the past two years, while other retailers experienced some rebound following recessionary declines, he said.

Missing Links

"One of the missing links in this recovery has been stronger small-business growth, which is hurting the sales” of these companies, said Thomas, who is relatively cautious about the sector and maintains "hold” ratings on Staples and Office Depot.

During the economic slump, so-called "necessity entrepreneurs” started businesses because they couldn’t find a job and needed to keep food on the table, said Litan. While their work may be "laudable,” these mainly unincorporated sole proprietors are less likely to be major employers than firms that hire other workers in their first year, he said.

The number of unincorporated businesses -- some of them freelancers who require only a computer and Internet connection -- fell about 4 percent to 9.5 million in July from 9.9 million in December 2007, after reaching 10.6 million in July 2008, BLS data show. The number of incorporated self-employed dropped about 11 percent to 5.2 million in July from 5.8 million in December 2007.

Fewer Customers

A lack of customers and fewer opportunities forced many of these entrepreneurs out of business, according to Kristie Arslan, president and chief executive officer of the National Association for the Self-Employed, based in Washington. Small companies "are still in a recession because of a continued slowdown in the economy.”

This has limited their ability to spur an increase in jobs, because employer businesses started in 2009 generated between 700,000 and 1.2 million fewer positions compared with previous peaks in small-business job creation. About 56 percent of entrepreneurs who incorporate their businesses for tax and liability purposes had paid staff in 2005; 44 percent of them had between one and four workers, according to the most recent BLS survey.

Even as the decline in incorporated entrepreneurs appears to have moderated -- the number grew 0.7 percent in July from a year ago -- this group "has done little to return to where it was before the recession,” said Shane, a visiting scholar at the Federal Reserve Bank of Cleveland.

‘Crummy’ Economy

That’s because entrepreneurs aren’t immune to the "crummy” economy of the past four years that also hurt larger companies, according to Susan Woodward, president and founder of Sand Hill Econometrics in Palo Alto, California.

Small businesses grew during the housing boom because entrepreneurs are disproportionately exposed to the construction industry, as much as 10 times more than the U.S. economy overall, said Woodward, who also works with Intuit Inc. on its Small Business Employment Index. When the housing market collapsed, work for many carpenters and electricians vanished.

A higher exposure to retailing also hurt the self-employed, as consumer spending stagnated between July 2008 and November 2009, Shane said. Since peaking at an annual rate of 3.2 percent in November 2010, personal consumption expenditures adjusted for inflation slowed to 2.3 percent in July, according to the Bureau of Economic Analysis.

The extension of unemployment benefits -- to as long as 99 weeks in several states -- has influenced some people’s decisions about starting their own business, according to Kristie Arslan, president and chief executive officer of the National Association for the Self-Employed, based in Washington.

‘Calculated Assessment’

They "are trying to make a calculated assessment,” she said. Is the amount they’ll collect "going to be greater than what they’d make working for themselves?” And if they fail, they may no longer be eligible for these benefits, she added.

While incorporated entrepreneurs might pay into the system on behalf of their employees -- and in some states may be eligible for unemployment insurance themselves -- unincorporated business owners generally don’t participate, Stevenson said.

Seven states -- Delaware, Maine, Maryland, New Jersey, New York, Oregon and Pennsylvania -- also offer a self-employment- assistance program, which provides unemployed people with money and training for as many as 26 weeks to start a businesses.

Even so, such programs can’t overcome the "extraordinarily large” gap between what the U.S. economy should be and is producing, as well as an environment that is "less forgiving” for mistakes, Stevenson said. "People may have a good idea and they’d be quite capable of implementing it, but small mistakes early on can be heavily punished in a bad economy.”

‘Return to Normal’

Woodward says a large portion of start-up failures may be a "return to normal.” Historically, entrepreneurs represented about 10.5 percent of all employment in the U.S. economy, she said. Beginning in 2003, this rose as high as 11.3 percent before falling to the historical average earlier this year. So she’s "less alarmed” about the long-term implications for the vibrancy of small-business activity.

Some entrepreneurs actually are thriving, Arslan said. Those who get approved as state or federal contractors are doing very well, as are business owners who work in healthcare and information technology, she said.

Small companies still face challenges, including access to financing and rising health-insurance costs, along with their exposure to struggling industries, Shane said.

"It’s no wonder entrepreneurs aren’t doing very well,” Shane said. "And no wonder they’re not adding very many jobs to the economy.”

By Anna-Louise Jackson and Anthony Feld | September 01, 2011 12:01AM ET

To contact the reporters on this story: Anna-Louise Jackson in New York at ajackson36@bloombert.net Anthony Feld in New York atafeld2@bloomberg.net

To contact the editor responsible for this story: Christopher Wellisz cwellisz@bloomberg.net

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