5.2  Size of entering and exiting firms

The analyses in Section 4.1 examined the size of firms in the population as a whole. Another variable of interest with regard to firm size is the size of entering and exiting firms. Previous studies (eg Carroll et al, 2002; Bartelsman et al, 2003) have found that in both New Zealand and other OECD countries, entering and exiting firms tend to be significantly smaller than incumbent firms. However, no attempt has yet been made to compare the size of entering and exiting firms between New Zealand and other OECD countries.

Figures 1 and 2 show the size of entering and exiting firms relative to incumbent firms, for New Zealand and other OECD countries from the firm-level project. The measure of firm size used is average number of employees per firm. The New Zealand data are averaged across the 1995-2000 period, with zero-employee and one-year firms removed from the data.

This comparison suggests that the size of both entering and exiting New Zealand firms (relative to incumbents) is at or slightly above the middle of the OECD range. In New Zealand, entering firms are on average about 43% of the size of incumbent firms, while exiting firms are slightly larger at around 49% of the size of incumbent firms. While these figures are similar to those for a number of European countries, it is noticeable that firms in North America (the USA and particularly Canada) seem to enter at a smaller size relative to incumbent firms. This pattern is discussed further below under the analysis of firm growth (Section 5.6).

Sources: Statistics NZ and OECD/Bartelsman et al 2003

Figure 2 – Size of exiting firms relative to incumbent firms, NZ and OECD firm project data

Sources: Statistics NZ and OECD/Bartelsman et al 2003

Firms in New Zealand therefore seem to enter and exit at a similar or slightly larger size (relative to incumbent firms) compared to firms in most other OECD countries. While this result is not particularly informative in and of itself, it is of some relevance to understanding rates of employment turnover and firm growth. This will become apparent under Sections 5.4 and 5.6 below.

5.3  Firm turnover (entry and exit) rates

Firm turnover (entry and exit) rates refer to the proportion of firms in the population that, in any given year, are either new entrants or will exit the market within the year. As mentioned in the introduction, Mills (2003) found New Zealand’s turnover rates to be substantially higher than the typical OECD rates over the 1990s. However, these comparisons were potentially confounded by measurement differences. For one, the inclusion of zero-employee firms in the New Zealand data could have increased firm turnover estimates (relative to the OECD data) because smaller firms tend to have higher entry and exit rates. A second issue is the inclusion of one-year firms in the New Zealand data. Since a one-year firm by definition is a new entrant in one year and an exiting firm in the next, including such firms in the analysis would be likely to increase entry and exit rates in the New Zealand data relative to the OECD.

5.3.1  Comparison with OECD project

Figure 3 shows the annual average firm turnover rates in New Zealand and other OECD countries from the OECD firm-level project. The New Zealand data are for the period 1995-2000, while the OECD data range across the period 1989-1994. Zero-employee and one-year firms have been removed from the New Zealand data. The figure for New Zealand when these firms are left in the data is also shown for comparative purposes.

Figure 3 – Firm turnover (entry and exit) rates, NZ and OECD firm project data, annual average

Sources:Statistics NZ and OECD/Bartelsman et al 2003

This comparison shows that once zero-employee and one-year firms are removed, New Zealand’s firm turnover rates are closer to typical OECD figures. While New Zealand still has the highest turnover rates of any of the countries surveyed (24.1% per year), our rates are not substantially higher than countries like the UK, USA and Canada that are at the upper end of the OECD distribution in terms of firm turnover.[12]

5.3.2  Comparison with Eurostat data

Another way of comparing turnover rates internationally would be to compare rates for New Zealand (with zero-employee and one-year firms included) with turnover rates from the Eurostat data (Brandt, 2004). However, while some preliminary comparisons were made in the preparation of this paper, they are not reported on here. The main reason for this is that the Eurostat data have been cleaned for false entry and exit, while the New Zealand data have not. Given that cleaning the data appears to reduce entry and exit rates substantially (Brandt, 2004), it would be difficult to draw any clear conclusions from comparisons of firm turnover rates between the New Zealand and Eurostat data.

5.3.3  Summary and discussion

Once measurement differences are taken into account, New Zealand’s firm turnover (entry and exit) rates appear to be more similar to other OECD countries; we no longer seem to be such an outlier on this measure in the way that Mills (2003) suggested. However, New Zealand’s firm turnover rates are still at the top of the OECD range. While the data do not allow full testing of hypotheses, it is interesting to speculate why this might be the case.

One possible explanation for high firm turnover rates could be a high proportion of small firms, which tend to have higher turnover rates. However, as Section 5.1 showed, there is no convincing evidence that the proportion of small firms in New Zealand is significantly different to many other OECD countries.

A more plausible explanation could be that high firm turnover rates are related in part to the very low barriers to firm entry in New Zealand. The World Bank (2004) Doing Business survey found that New Zealand is one of the easiest places in the world to start a new business, when measured in terms of the number of administrative procedures involved, the time taken, and financial cost. Costs associated with closing a business are also low in New Zealand relative to the OECD average (World Bank, 2004). All other things being equal, it might be expected that rates of firm entry and exit would be higher in countries where the costs associated with entry and exit are lower.

However, New Zealand’s firm turnover rates are still somewhat higher than turnover rates in countries like the USA and Canada, which also have very low barriers to entry and exit. It is not immediately clear why this would be the case, and the data are generally not sufficient to allow testing of hypotheses, but potential explanations could include differences in the sectoral composition of the economy, business cycle effects, or cultural factors such as a preference for self-employment, which could be reflected in high rates of business start-ups. It has also been suggested in some previous studies that high rates of firm turnover are indicative of New Zealand being a difficult environment for new firms – possibly due to issues around size and distance – such that many new firms struggle to survive and grow. However, data presented later in the paper do not indicate that survival and growth rates for new firms in New Zealand are noticeably lower than in many other OECD countries.

A final unresolved issue with regards to firm turnover rates, which could also potentially explain some of the cross-country differences, is the impact of “false” entry and exit. As discussed earlier, it is currently not possible to distinguish “true” from “false” entry and exit in either the New Zealand data or the data used in the OECD project. To the extent that rates of false entry and exit may differ across countries – for example, due to differences in the level of merger and acquisition activity – this could affect the comparability of firm turnover rates. The completion of the Linked Employer Employee Database (LEED) should help to resolve this issue, and may allow better comparisons in future between “cleaned” data on firm turnover rates in New Zealand and overseas data like the Eurostat that have also been cleaned of false entry and exit.