Wage laws, immigration raids among top hospitality labor issues
Wage laws, immigration raids among top hospitality labor issues
Legal experts urge hoteliers to know employee rights, caution on compliance
Among the main U.S. wage and hour law problems hospitality employers run into are how they handle employee tip credits and tip pools. (Getty Images)
https://www.costar.com/article/1075465699/wage-laws-immigration-raids-among-top-hospitality-labor-issues?
By Bryan Wroten
HOUSTON — U.S. hospitality employers face an ever-evolving labor law and general operations landscape, requiring them to stay constantly aware of the newest conditions.
At the Hospitality Law Conference, hospitality-focused attorneys spoke about the most frequent questions they face and the most common mistakes they see employers make.
Accommodating employees and clients
There’s a mix of new and old legislation that requires businesses to provide certain accommodations to their employees and to consumers, said Andria Ryan, labor attorney and partner at Fisher Phillips. The Civil Rights Act of 1964 outlines requirements regarding employees’ religion, the Americans with Disabilities Act of 1990 for common employee disabilities, and the Pregnant Workers Fairness Act of 2023 for limitations related to pregnancy.
Businesses have the responsibility to accommodate their employees and customers as outlined in these laws unless they can prove they are unreasonable and an undue hardship, she said.
Even sophisticated employers have trouble seeing the need for accommodations and recognizing that’s what’s being asked of them, she said.
“Because when they’re being asked for an accommodation, they’re being asked to treat someone at one particular point differently than they’re treating everyone else, and that goes against common sense,” she said. “The way to avoid claims is to treat employees exactly the same — except when they ask for these kinds of changes.”
Most workplace religious accommodations are scheduling issues, Ryan said. Typically, it’s an employee who can’t work certain days, such as sundown Friday to sundown on Saturday. In hospitality, employers often say that’s not possible because everyone works weekends.
The solution is creative scheduling, especially knowing that this employee would be able to work Sundays, which is not a day most people want to work, she said. It’s difficult to prove an undue hardship in this circumstance.
The ADA is clear that employers are obligated to engage in an interactive process with employees who have a medical condition, be it physical or mental, that interferes with a basic life activity, Ryan said. This can include having cancer, being hearing and/or sight impaired, having anxiety or ADHD, among other conditions.
Employers have to determine whether they can accommodate the disability by altering the job so the employee can do the job, she said.
The accommodations for limitations related to pregnancy are different, Ryan said. The ADA doesn’t require employers to change the job itself for accommodations, but the PWFA does because it’s a limited amount of time.
“You have to make changes to the job, lower production standards, light-duty type work,” she said. “It needs to be considered for pregnant employees.”
Wage and hour compliance
The top five mistakes employers make deal with tip credits/tip pooling, child labor laws, meal and rest periods, working off the clock, and overtime exemptions, Ryan said.
The federal tip credit allows employers to pay tipped employees below the $7.25 minimum wage, but some state laws don’t allow tip credits, and some have higher minimum wages, she said. Employers must also provide notice of using the tip credit in writing.
Tip pooling is when a workplace collects all the tips employees earn into one pot and then distributes them among the workers, she said. The biggest mistake employers typically make here is including non-eligible employees in the pool, namely, managers and supervisors.
“It’s akin to the company taking a portion of the tip pool, which you cannot do,” she said. “That’ll completely invalidate the tip pool.”
When hotel companies employ workers younger than 18, they need to be mindful of the restrictions placed on these employees both in the work they can do and the hours they can work, she said. They can’t work in hazardous occupations, which would include things like not using trash compactors or certain kitchen equipment.
Minors also have restrictions on the hours they can work during the school year and outside of the school year, she said. The U.S. Department of Labor takes a close look at violations of this, and it can even just be a matter of working minutes past the required time to clock out.
“If they're working past the clock out at 7:06 and they're supposed to clock out at 7 o'clock, that's a violation,” she said.
Federal law does not require meal breaks or rest breaks except for lactation purposes, Ryan said. Many state laws, however, require it, and California and Colorado have strict laws for meal and rest periods.
Even though federal law doesn’t require it, employers should develop a policy and stick with it, she said. They should also be mindful of time-keeping systems that auto-deduct breaks from an employee’s hours, because if the employee works through lunch partially or fully, that could put them into overtime territory. In these situations, employers can turn off the auto-deduct or have employees inform payroll about the missed break.
Technology has made it easier for managers to reach out to their employees, but Ryan said she always tells them not to call their non-exempt/hourly employees about work when they’re off duty. If they do, they need to have the employee clock in or record the time because they have to capture that work.
“We're talking about when they're at home,” she said. “We're talking about pre-shift, post-shift time that needs to be compensated.”
When it comes to overtime, the default position is that every employee is eligible unless they fit one of the limited exemptions that make them a manager, an executive, an administrative employee, or a sales employee, among others, she said. Misclassification is a common problem, and it comes with a potential three-year back wage period as well as liquidated damages and attorneys’ fees.
Immigration raids
The country saw U.S. immigration and Customs Enforcement agents in the streets of major cities such as Minneapolis, pulling over people seemingly at random, said Justin Bragiel, general counsel and legislative director for the Texas Hotels & Lodging Association. While ICE agents aren’t taking this approach as much anymore, that doesn’t mean that targeted action against employers has calmed down.
“There’s still quite a bit of that,” he said. “It’s just how this is being interpreted, and the approach has shifted. So, as employers, we still need to pay very, very close attention and be aware that this is occurring.”
One way the U.S. federal government will engage with employers about the immigration status of workers is through I-9 audits, which start with a notice of inspection, Ryan said. This approach is nothing new, and has slowed down in many cases because the E-Verify platform is a fairly fail-safe method to make sure employers are in compliance. A notice of inspection should prompt employers to leap into action to produce the documents requested.
I-9 audits are not the same thing as a raid or having a warrant served, she said. The first involves investigators, while the latter involves agents with badges and guns.
“A raid is going to require a judicial warrant, and how many of us have seen a judicial warrant?” she asked. “Probably just a handful, but as we’ve told operators, a warrant means someone has probable cause to come to your workplace and ask for paperwork, for people.”
Those being served a warrant have the right to ask for a copy of the warrant, she said. It will say warrant on it, and it will be signed by a judge. It can be a scary situation for a front-desk agent facing this situation, so with every operation, a high-level manager, along with a backup high-level manager, should be designated the point person to meet with any government investigators, particularly those serving a warrant.
Agents can’t go into private or non-public areas without a warrant, but they can be in public areas like the lobby, restaurant, or possibly guest floors if they’re not key-protected, Ryan said. Private areas would be places such as back-of-house spaces, kitchens, and loading docks. Operators should walk their properties and add signage that says employees, staff, or even guests only.
Operators should limit access to agents with a warrant only to the places specified in the warrant, she said. Even though operators should cooperate, operators and their employees have rights. They all have the right to remain silent, and there’s no harm in informing employees about this.
ICE agents frequently use hotels as staging points for actions, Bragiel said. Houston has been a hot spot for this type of activity, and it’s not uncommon to see outside of the downtown area, a hotel with an open parking lot, have ICE agents gather there.
“So, hotel [general managers] ask, what do I do? I see a bunch of ICE agents gathering in my hotel parking lot. What do we do? And the answer almost always is, nothing yet,” he said.
General managers in this situation should wait to see what’s next, he said. If the ICE agents are about to come in and serve a warrant, that’s an issue, but the general manager shouldn’t go out there and interfere with their operation.
“We don’t want to make ourselves a target, but it’s occurring,” he said. “We have this delicate balance we have to walk, and we need to be very careful when we see this occurring and think through the bigger picture.”
Hilton President and CEO Chris Nassetta on culture, strategy, and reinvention
https://www.mckinsey.com/capabilities/strategy-and-corporate-finance/our-insights/hilton-president-and-ceo-chris-nassetta-on-culture-strategy-and-reinvention?
Chris Nassetta is president and CEO of Hilton. Eric Kutcher is a senior partner in McKinsey’s Bay Area office and serves as McKinsey’s chair of North America.
What he’s learned about leading with a steady hand and staying adaptable for the next “unique moment.”
In this episode of the Inside the Strategy Room podcast, Chris Nassetta speaks to McKinsey Senior Partner and North America Chair Eric Kutcher on his leadership approach to steering Hilton through some extraordinary challenges toward success. Since arriving in 2007 at the then capital-intensive legacy company that had lost its way, Chris’s focus on a sustainable growth model and a brand-led, network-driven strategy has seen Hilton cultivate 25 brands and counting, today employing 500,000 globally, and serving 250 million travelers every year. Proud of Hilton’s recognition as a “best place to work,” he’s now excited by the emergent experience economy and the opportunities AI and data offer for Hilton to deliver on its aim of being the best place to stay.
The following transcript has been edited for clarity and length. For more discussions on the strategy issues that matter, follow the series on your preferred podcast platform.
Eric Kutcher: You took the wheel at Hilton in 2007, and in many ways, what you’ve accomplished has been industry-defining. Can you talk through the journey you’ve taken this organization on?
Chris Nassetta: Hilton’s been around now 106 years, and yes, in many ways invented the hotel business as we know it; a lot of what we take for granted in the hotel business today—loyalty programs, reservation systems, full-service hotels. In 2007, Blackstone took Hilton private, and I came in shortly after that. At the time, we had lost a step, and the culture of the company was drifting. We had just eight brands, we had a whole bunch of segments that were uncovered, and while we’d been around a long time, we didn’t really have a full network. In terms of growth, we were mediocre in most parts of the world, which, for the company that invented the business to a degree, didn’t seem right. And the performance of those brands vis-à-vis driving rate occupancy was middle of the road. What Blackstone saw, and I saw with them, is that if we really focus on these key areas, we can inject a lot of life into this.
We’ve had significant hurdles along the way. One year in, we hit the Great Recession. And we were an LBO [leveraged buyout]; we had a huge amount of debt. We went from the largest private equity investment ever made to reading headlines about the largest private equity loss in history; Blackstone wrote 70 percent of it off. We had to manage our way through all of that, and then we had another crisis with COVID.
So, we’ve had a number of defining chapters, but we’ve tried to use those to create an intensity of focus on making the business better, stronger, faster—which I’m proud to say we’ve done. In terms of culture, we’re the number one greatest place to work in the world, and number one in the United States and in some 12 other countries. We’ve gone from eight to 25 brands, with probably five or six more in gestation. Our brands perform at the very peak of the industry and outperform all the competition on average and by segment. We’ve gone from 20 million Honors members to 240 million Honors members. We are now number one in terms of growth in the world, opening nearly two hotels a day. And importantly, that’s been reflected in the best performance from a stock point of view in our public days. We went public in 2013, and I think we’ve been in the 75th to 80th percentile in the S&P 500.
And if you look at where we are today versus our high-water mark on margins of the core business pre-COVID, our margins are a thousand basis points higher post-COVID. Our profitability is the highest we’ve ever seen. All our metrics are the best we’ve ever seen, even though during that two- or three-year period, it was hard. By having a great strategy, great culture, a lot of focus, and a super resilient balance sheet—because we had been very smart about that—we ended up emerging even stronger.
Eric Kutcher: It’s a remarkable journey. Conrad Hilton invented the idea of the modern hotel chain in many ways. It’s a very capital-light model. Can you talk about that?
Chris Nassetta: When Conrad Hilton founded the business, it was actually a pretty capital-heavy business, and still was when I got here. We had the core consumer-branded business that we now have, and we had a huge real estate business because the origins of our space was you would build, own, and operate a lot of your core assets. So, you had all of the capital intensity of owning a lot of real estate. We also had a very big timeshare business, which was very profitable but consumed a lot of capital. We were probably spending a billion dollars a year in capex [capital expenditures].
And after we went public, we spun those two businesses: our real estate company, which is a separate, independent New York Stock Exchange company called Park Hotels and Resorts; and Hilton Grand Vacations, our timeshare company, which is also an independent NYSE public company. We have a very connected contractual relationship, but we got out of those businesses, other than the branding and operating side.
What was left behind was this extraordinary consumer-branded business, which is almost completely organic and free of any use of our balance sheet, so what that means is we’re able to grow. In our case, the algorithm is the same store growth, so if making the assumption that in a normal environment, that’s two-and-a-half or three-unit growth. In our case, we are leading the industry at six or seven, delivering 8 to 10 percent EBITDA growth that translates into low-teens free cash flow growth. Since we need no capital to grow, we end up using all of that to return it to shareholders, with a small dividend for those that need it, but almost all of it is returned in the form of share buyback. It’s a magical model. Of course, we’ve got to run it well and keep driving the performance of the hotels, which then attracts capital with new owners wanting to build hotels. As I said, we’re opening almost two hotels a day around the world right now, and we’re doing it all with third-party capital, producing more free cash.
Eric Kutcher: A lot of CEOs say, “I focus on the things I can control,” but in this moment, there’s a lot happening that we can’t control. What are the key things you see when you travel around the world that are external to your specific business—the trends or forces that you’ve got to think your way through as a leadership team?
Chris Nassetta: Many people would say it’s a very unique moment in time, and I agree—the geopolitical tensions and AI/technological innovation that’s going on make it unique. These are the moments where I think leadership really matters. But I think you have to take all this stuff in context. One mistake leaders can make is chasing too many shiny objects and, as a result, forgetting the real business they’re in—the core of what they’re supposed to be delivering for their customers.
One mistake leaders can make is chasing too many shiny objects and, as a result, forgetting the real business they’re in—the core of what they’re supposed to be delivering for their customers.
So, when I look at this moment, I’m trying to say, “Be super balanced. These things are going to change, but make sure everything we’re doing is real.” We can’t do much about the geopolitical, other than make sure we have built a resilient business. On the technological side, we have to make sure we focus on it through a lens of, “All right, how does that enable what we do? What do our customers want? How do they want us to deliver it? And how do we use whatever the new tools are, just as we have used the internet in very innovative ways over the last 20 or 25 years?” We need to do the same thing with AI.
Keep a steady hand on the wheel—don’t jerk the wheel around. I’ve got 500,000 hearts and souls in the back of the truck and 250 million customers a year.
I also have lived my life with a philosophical view of keeping a steady hand on the wheel—don’t jerk the wheel around. I’ve got 500,000 hearts and souls in the back of the truck and 250 million customers a year. Have a strategic, focused approach. Make sure, as a company, you have an extraordinary culture, because that’s how you fill the tank up to be able to take the blows that will inevitably come your way. Make sure you have an extraordinary balance sheet so you are ready for whatever happens. We got through COVID financially because we had built-in resiliency. But most importantly, make sure that you have built agility and adaptability into your culture.
The minute I can’t reinvent myself, or I’m unwilling to reinvent my team, I should retire.
What does it require of leaders? I’ve said to my board many times: “The minute I can’t reinvent myself, or I’m unwilling to reinvent my team, I should retire.” Part of this is being intellectually curious, being driven to want to figure things out, and being competitive, wanting to win. And also understanding that what got you to where you are doesn’t mean doing the same thing is going to end up in the same place. You have to constantly be pushing yourself to reinvent as a CEO and a leader. Be willing to reinvent your team, repurpose your team, or make changes to your team to make sure that you’re fit for the next leg of the journey. I spend extraordinary amounts of time with my head of HR and our board, strategizing about how we’re going to do that.
If we do that, we keep winning, whatever it is—AI revolution, whatever the next revolution is, if we are set up to be agile, and adapt ourselves, and bring the people in, and repurpose the people, we win.
AI is the greatest gift I’ve ever seen to enable us to deliver alpha in fulfillment.
Eric Kutcher: As you say, the technology changes every day. Five, ten years from now, what are the biggest things we will feel differently in the industry, as consumers?
Chris Nassetta: How we go to market is going to evolve in huge ways. When there was no internet, reservations would either come through our central reservation call center, or people would call the hotels directly. The internet changed all that, and the LLMs are going to change it again. For consumers, the new world will have your personal agent for any travel you want, who knows you and is going to learn from you. And that provides an opportunity—if we are executing well and delivering on the experience, then the LLMs are going to need us, and find us. This will continue to drive even more direct business, which is the majority of our business today.
The big opportunity where this asymptotic curve of technological advancement serves us really well is mass customization. If we have the tools so that when you connect with our ecosystem, we can atomize everything we do—every room in every hotel in the world, every amenity, everything that you might want to add on in any part of the experiential part of your stay—if we can atomize that and feed that in, that makes us show up better. All of a sudden, the agents that are looking are saying, “Yeah, these guys can really deliver to a customer exactly what we think that customer wants.”
And then think about the on-property experience. Same thing—it’s already built into our ecosystem, with the use of AI, taking all sorts of structured and unstructured data, we have ubiquitous messaging built into our app. We can scrape social media, all sorts of other unstructured data, to customize your experience while you’re on the property, in real time.
To me, this is the holy grail, particularly in problem resolution. Most of the time, when people have problems, they don’t do anything about them, and they go away unhappy. Or they call after the fact, and in our industry, we give them points or a free night. In a world where we have all this data, there are lots of ways we can get information and fix our problems in the moment. So we know you have an HVAC problem in room 323, or you have no towels in 436. It is literally built into the core infrastructure of our property management systems, and work orders get spit out to tell people, “You need to go do X or Y.” We’ve built all that, and that is being tested. When you suddenly can take all this data, and it can result in a very specific action against a problem or opportunity, it’s game-changing. It’s not ten years away. That’s a world that exists in a limited way now.
It’s all about fulfillment. I look at AI as the greatest tool to enable us to continue our journey to be the best place to stay. We set out on a journey to be the best place to work in the world and achieved that. I say to our team, “We need to be viewed in the eyes of the customer as the best place to stay.” We’re a business of people serving people, so it’s always going to be about our people to a large degree. But it’s also going to be, “How do we enable those people?” AI is the greatest gift I’ve ever seen to enable us to deliver alpha in fulfillment. And that’s our business.
A lot of my time, still to this day, is just continuing to build the strategy, continuing to refine the culture.
Eric Kutcher: You described your journey of the last 18 years, taking this company that was very physically different to where it is today, through several challenging events along the way. As a leader, what are some of the lessons learned that you would want to pass along that you wish you had known at the beginning?
Chris Nassetta: I think what I would have reinforced to myself 18 years ago is that the two most important things a leader does are build a great culture and build a great strategy. Jim Collins used to say, “Culture eats strategy for breakfast.” A lot of my time, still to this day, is just continuing to build the strategy, continuing to refine the culture, all those things that I think we’ve done so well. Adaptability and agility have become more and more important.
Choose your words really carefully because the longer you’re running an organization, the more weight that they have.
The most important thing as a CEO, and it relates to strategy and culture, is being able to keep a steady approach, to lift up and see the bigger picture. When you have these big organizations, 500,000 people in my case, as I said, if you start jerking the wheel all around, the reverberation down through the organization is unrecognizable when it hits the front line.
Your words are heavy. I knew that when I got here, but not the way I know it now. Be authentic and be transparent, but choose your words really carefully because the longer you’re running an organization, the more weight that they have. You can never communicate enough or be transparent enough. Being a long-tenured leader, ultimately, you’ve got to build a great culture and strategy and instill the right skills to deliver on that. But you’ve got to be able to bring people along. They’ve got to believe in where you’re trying to take them, but they also need to believe in you.
Eric Kutcher: What excites you most about the next leg of the journey?
Chris Nassetta: We’ve accomplished a lot. I’m proud of everything we’ve done. But the opportunity set I see from an industry point of view is extraordinary. If you look at where the world is going, you have a burgeoning middle class that’s going to continue growing, with more and more disposable income. People are super interested in allocating their disposable income toward experiences more than in things. It takes lots of different forms—restaurants, concerts, amusement parks—but unless you’re in your hometown, we’re at the epicenter of the experience economy. And I think we’re at the beginning of a real golden age of travel. Five, ten, 15, 20 years down the line, you’re going to see our industry be one of the biggest employers; we are already one in ten jobs in the world. And I think we’ll be in the top two or three growth industries over the next ten or 20 years. So, the backdrop is great.
For Hilton, as much as we’ve done—I’m certainly proud of it, and our teams deserve all the credit—we have a long way to go. I think about parts of the world where we’re just getting started. As I say, we have 25, soon 30, brands. All of those are populated in the US, and we have a big platform here with 6,000-plus hotels. But we still have a bunch of newer brands in different segments here in the US. In most of the rest of the world, there is no market where we have more than 12 of our soon-to-be-30 brands populated. There are markets like China, where we continue to have great growth. But in India, we have a very small presence relative to the population, as with Southeast Asia, Africa, the Caribbean, and Latin America. The Middle East is really investing in the travel and tourism sector to create diversification away from oil and jobs for its population, to generate tourism within the country, and also bring in international tourists.
We’re two-and-a-half to three times bigger than when I got here 18 years ago. When you wake up in ten years, we’ll be two to three times bigger again, and we’ll have an even more powerful network against our goal of being able to serve every customer for any need they have, anywhere in the world. If I think about AI—the customer fulfillment side and the alpha we can drive in our quest to be not just the best place to work in the world but the best place to stay—that really excites me.
A microscope on small businesses: Spotting opportunities to boost productivity
https://www.mckinsey.com/mgi/our-research/a-microscope-on-small-businesses-spotting-opportunities-to-boost-productivity?
By
MSMEs are vital for growth and jobs, but struggle with productivity. The route to higher productivity lies in creating a win-win economic fabric for all companies.
At a Glance
- Micro-, small, and medium-sized enterprises (MSMEs) form the backbone of economies. Across the 16 countries we examine, MSMEs account for two-thirds of business employment in advanced economies—and almost four-fifths in emerging economies—as well as half of all value added. They also power dynamism and will play an important role in preserving competitiveness in an era of shifting global production.
- Boosting MSME productivity relative to large companies could yield significant value. Small business productivity is only half that of large companies, and less in emerging economies. Raising MSMEs to top-quartile levels relative to large companies is equivalent to 5 percent of GDP in advanced economies and 10 percent in emerging economies.
- Capturing this value requires a fine-grained view. The relative productivity of MSMEs and large companies varies widely across subsectors and countries. For example, in virtually all countries, eight subsectors out of 24 drive more than 60 percent of the value of narrowing the productivity gap in manufacturing, but the top ones vary by country.
- A win-win economic fabric can improve productivity for both MSMEs and large enterprises. MSME and large company productivity move in tandem in most subsectors, indicating spillovers if the right conditions are created. For example, automotive MSMEs have gained operational proficiency through systematic interactions with productive original equipment manufacturers, and small software developers have benefited from talent and capital ecosystems seeded by larger companies.
- All stakeholders have a role to play in developing granular productivity strategies. In subsectors where both small and large companies lag, infrastructure and policy improvements can target both together. Where MSMEs struggle but large enterprises outperform, building networks among them helps. Even where both large and small companies do well, strengthening their interactions could boost productivity.
Micro-, small, and medium-sized enterprises (MSMEs) are the lifeblood of economies around the world. They account for more than 90 percent of all businesses, roughly half of value added, and more than two-thirds of business employment.
But small businesses lag behind large companies in productivity. On average, their labor productivity, or value added per worker, is half that of their larger peers. Accelerating productivity growth has always been the sure way to deliver long-term prosperity, and MSMEs can—must—play a crucial role. Their contribution is potentially even more important amid the beginnings of a reconfiguration of global trade patterns. Such shifts are unlikely to translate into a meaningful long-term realignment without a competitive network of MSMEs supporting and complementing large companies.
If MSMEs were to narrow the productivity gap with large companies, not only could that breathe new life into economy-wide productivity, employment, and growth, but economies and companies could raise their resilience in an uncertain world. The question is how.
Only by studying MSMEs at the fine-grained level can we understand where and why opportunities exist and plot a path toward higher productivity for all. After all, MSMEs are immensely varied. They range from a self-employed individual, such as a taxi driver or an online game designer, to a microenterprise with one to nine employees, like a laundry or a dental practice, to a small enterprise with up to 50 employees, such as a bakery or local auto repair chain, to a medium-sized furniture manufacturing company or software business employing up to 250 people.
In this research, the McKinsey Global Institute (MGI) has aggregated a richly granular data set of MSME productivity across sectors and subsectors for 16 countries with different income levels, accounting for more than 50 percent of global GDP. In this group (listed by per capita GDP in 2021 in purchasing power parity terms) are ten advanced economies: the United States, Germany, Australia, the United Kingdom, Italy, Israel, Japan, Spain, Poland, and Portugal; and six emerging economies: Mexico, Brazil, Indonesia, India, Nigeria, and Kenya. At the sector level, in the manufacturing sector, for instance, our data cover 24 level-two subsectors and 95 level-three subsectors. This enables us to explore the details of businesses that are highly diverse in size, economic context, degree of formalization, and, especially, the nature of economic activity in which they engage (see sidebar “Definitions, scope, and data limitations”). Most previous external analysis has tended to study MSMEs in a single country or has compared productivity among countries within a particular sector.
This research focuses on the variation in MSME productivity relative to large companies across sectors, subsectors, and countries, enabled by our rich data set. We use this microscopic, but cross-country, lens to spot potential value and identify how MSMEs can work with other companies in specific business contexts to capture it.
1. Small businesses power the economies of today and tomorrow
MSMEs are ubiquitous and play vital economic roles across countries, albeit with important differences depending on whether they operate in an emerging or advanced economy.
MSMEs fuel the economy-wide production and jobs
MSMEs create enormous value for economies around the world. They account for roughly half of global GDP. That share varies significantly among economies. In Portugal, Israel, Indonesia, Italy, and Kenya (ordered by decreasing share of value added), the share is larger than 60 percent. In the United States, Nigeria, and India, it is less than 40 percent. They are also significant employers, accounting for roughly 40 percent of all employment and 70 percent of employment in the business sector, which we define as excluding the farm, government, and finance sectors. That share is as high as 96 percent in Kenya, where MSMEs account for half of all employment.
MSMEs create enormous value for economies around the world.
The business sector plays a larger role in advanced economies. But within the business sector, MSMEs have a greater impact in emerging economies, employing four-fifths of all workers, compared with two-thirds in advanced economies.
MSMEs are also meaningful job creators. In advanced economies, one 2013 study suggested, they contributed more than half of net job growth in businesses. In the United States, for example, SMEs have accounted for two out of every three jobs added in the past 25 years. In emerging economies, MSMEs created seven out of ten new formal jobs over the past decade.
MSMEs play a crucial role in production across sectors, but their contribution is more significant in some. While there are differences among countries, MSMEs tend to contribute the majority of the value added in four sectors: accommodation and food, construction, professional services, and trade. Although they contribute only about 45 percent of value added in the manufacturing sector, they are the second-largest contributor to small business value after the trade sector. Across all sectors, MSMEs also employ at least half of all business workers.
MSMEs drive business dynamism
Many MSMEs grow rapidly into large companies, adding to the vibrancy and dynamism of the economies in which they operate. They promote innovation and competition among companies, encouraging all businesses to continually improve their products, services, and processes, which, in turn, can enhance overall economy-wide productivity and dynamism.
Many large companies of today were MSMEs not long ago. About one in five of today’s very large companies—defined as having a market capitalization of more than $10 billion in the United States and equivalent values in other economies—were MSMEs at some point after 2000 and have since powered their way to large company status.
The share of scaled-up companies varies by country, indicating different levels of MSME dynamism. Dynamic MSMEs can stimulate competition among businesses, driving the entire system to become more innovative and efficient, ultimately resulting in increased productivity. Yet overall, rising productivity—crucially, that of large companies—can create new market opportunities and build business capabilities for smaller enterprises, raising the rate of scaling up.
Unique factors at the country level can contribute to dynamism. In Australia, high dynamism reflects a resources boom that has expanded growth opportunities for small mining companies. Israel, by contrast, has a small economy, but one of the most technologically advanced in the world. Its dynamism is connected to entrepreneurial ecosystems, a high density of skilled professionals, an ability to tap into global networks, and large-scale lending to MSMEs. Over the past decade, growth in bank credit to SMEs in Israel was higher than to large businesses, at 61 percent versus 16 percent. In India, only about 10 percent of large companies in 2022 were MSMEs at some point after 2000. Indeed, previous MGI research found that India has a “missing middle” of mid-size companies. MSMEs have faced structural barriers, such as the high cost of compliance and finance, that have tended to constrain their growth.
Researchers have found that high-growth businesses in advanced economies tend to be younger and intangible-heavy. Enterprises that tend to rely on profits rather than external financing to fund their growth are also more likely to scale up. Our analysis finds that in the information and communications technology (ICT) and mining sectors, one in three enterprises that are large today have grown from being MSMEs in the past two decades. These sectors seem to experience a fast pace of innovation and technological disruption, as well as higher rates of investment.
MSMEs in the emerging economies in our sample seem to exhibit greater dynamism than in advanced economies in core sectors like construction, utilities, and transportation. Investment in physical infrastructure tends to rise faster in countries that are in the earlier stages of their development. Where such sector growth opportunities have been captured, we see greater business dynamism.
Some emerging economies have powered national growth through the manufacturing and trade sectors as well. In a similar analysis of companies founded after 1950, in China—not included in our sample, as noted—the dynamism of the manufacturing and trade sectors is higher than in the advanced economies on average.
MSMEs can boost national productivity while staying small or by fueling larger companies
In emerging economies, the MSMEs that are so vital to sustaining livelihoods are heavily skewed toward microenterprises. In India, Kenya, and Nigeria, microenterprises employ more than 90 percent of MSME workers, of whom some 90 percent are self-employed own-account workers and contributing family members. They face challenges of particularly low productivity.
In emerging economies, the MSMEs that are so vital to sustaining livelihoods are heavily skewed toward microenterprises.
As these emerging economies climb the income ladder, microenterprises may grow their revenue and productivity, but most tend to stay small or medium-sized. As a result, MSMEs as a group continue to contribute larger shares to national output, and in that sense, MSMEs directly lift aggregate productivity growth.
In richer economies, the dynamic is different. Much of employment has shifted away from microenterprises to small and medium-sized companies or even to larger ones. Only about half of all MSME workers are employed in microenterprises. As these advanced economies climb the income ladder, beyond a certain point, more MSMEs tend to scale up into larger companies, are taken over and merged into them, or simply exit in the process known as creative destruction. As a result, the contribution of large businesses to the national output of the richest economies rises, relative to that of small companies. As such, MSMEs may not increase their share of the economy, but they still contribute to business dynamism.
Chapter II in the next edition.
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