Full details on the sectors included in these categories follow in the appendix.2

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1 Dr Neil Lee Department of Geography and Environment 1 London School of Economics and Political Science n.d.lee@lse.ac.uk October 2015 Barriers faced by Economy firms Submission to the Business, Innovation and Skills Committee Introduction 1. The digital economy is rightly an important focus of government policy. The BIS Select committee has launched an inquiry into supporting the digital economy. It seeks to address issues such as the influence of government action on the sector, the challenges faced by Economy firms and their financing needs. These are all difficult questions to address. Fortunately, however, the UK government collects useful data on the perceptions of firms on these issues. 2. In this submission, I use the 2014 Small Business Survey (SBS) to consider the issues raised by the select committee, with a focus on (1) the barriers faced by Economy firms, (2) the availability of external financing. This is new, relevant evidence which should help the government play a leading role in helping take advantage of digital tech. Background 3. The Small Business Survey 2014 is a representative sample of SMEs in the UK conducted by the Department for Business, Innovation and Skills (BIS). I use the definition from New Economy (2013) to identify a total of 241 of Economy firms based on their SIC codes. These consist of two sub-sectors: Content firms including publishing, motion picture activities, specialised design, advertising and media representation. There are 120 Content firms in the SBS. Information Communications Technology (ICT) including wired and wireless telecoms, computer consultancy, web portals, news agencies. There are 121 ICT firms. Full details on the sectors included in these categories follow in the appendix.2 4. It is important to set the responses below in context. First, they relate to firms in the Economy sector, not the spread of the digital economy into the wider economy (see Nathan and Rosso, 2013). Second, the data is based on the perceptions of firms. This is important as it will give a firm level view of the problems. But firms have vested interests, and just because they perceive a problem does not mean government should act. Third, this data is for Small and Medium Sized Enterprises (with a minimum of one employee). Results do not capture freelancers or large companies. 1 Please note that this submission represents individual views rather than the views of the LSE or Department for Geography & Environment. 2 Weights are used in all calculations to make the results representative of the business stock.

2 Barriers faced by UK Economy firms 5. The first question posed by the Select Committee relates to the barriers faced: What are the major barriers to UK business success in the digital economy? What steps could the Government take to help businesses to overcome these barriers? The SBS contains information on the obstacles perceived by firms and table 1 breaks down these barriers for Economy firms, the two sub-sectors of digital content and ICT firms, and other firms. Where the percentages are shaded grey, this indicates a difference between information economy firms and the rest of the business population which is unlikely to have occurred by chance (i.e. statistically significant at 10%). Table 1. Obstacles: Which, if any, represent obstacles to the success of your business? Variable Non- All Economy Of which - Content The economy 59% 56% 58% 54% Obtaining finance 28% 28% 35% 22% Cash flow 42% 42% 51% 33% Taxation, VAT, PAYE, NI 49% 43% 50% 37% Recruiting staff 32% 38% 38% 39% Regulations 50% 33% 50% 18% Availability / cost of premises 21% 18% 19% 17% Competition in the market 56% 62% 64% 60% Shortage of managerial skills / expertise 18% 16% 21% 11% Shortage of skills generally 30% 44% 47% 41% Pensions 21% 29% 37% 22% Late payment 39% 51% 58% 44% Not being able to increase prices 52% 54% 59% 50% Red tape 55% 44% 55% 34% Any other 5% 3% 1% 5% No obstacles 5% 6% 3% 8% Number of firms Shaded figures indicate statistically significant differences (10%) from non- Economy firms. 6. The most important barriers perceived by Economy firms are competition in the market (62%), the economy (56%) and not being able to increase prices (54%), shortage of skills (44%) and red tape (44%). While many of these should not be the object of government policy (competition is a good thing). 7. Economy firms are more likely to perceive three barriers than other firms: late payment (51% compared to 39% of other firms), shortage of skills (44% vs. 30%), pensions (29% vs. 21%). In contrast, they are less likely to perceive regulations (33% vs. 50%) and red tape (44% vs. 55%) are issues, although both are still perceived as important obstacles by a large number of Economy firms. I next focus on three of these concerns and the evidence behind them. 8. There is considerable political discussion about regulation and red tape. The evidence here suggests that while this is a significant issue for Economy firms, it is less important for them than for other. 44% of Economy firms see red tape as a problem, compared to 55% of all firms a result due to ICT firms, who are particularly unlikely to see this is an issue (34%). Similarly, regulations are an issue of concern for almost a third of Economy firms, but this is significantly below the figure for other firms (50%) and again due to ICT firms (only 18% of them see this as an issue. Other evidence suggests poorly performing firms ICT

3 may perceive red tape as a problem, while growth-oriented firms are less likely to be concerned (Lee, 2014). The UK is already a lightly regulated economy and there are unlikely to be much low-hanging fruit in this area. 9. In contrast, skills shortages are particularly important for Economy firms than those elsewhere. 44% of Economy firms perceive skills shortages to be a significant barrier to their growth compared to 30% of non- Economy firms. This is a longstanding, systemic and important issue solving it would yield significant benefits to the UK economy. 10. The results suggest financing is a problem, but a generic problem - not one specific to Economy firms. 28% of Economy firms suggest this is a problem compared to 28% of other firms. While digital content firms may face a slightly bigger problem (35%) this is not statistically different from other firms. Moreover, not all firms deserve external finance and efforts to increase lending to SMEs may do considerable harm. There is one important caveat to this view, however, as late payment is a particular problem for Economy firms in general (and Content firms in particular). 11. While table 1 considered all barriers Economy firms faced, table 2 reports the results if they had to choose the biggest obstacle only. Competition is a statistically significant problem for Economy firms in general, mainly due to ICT firms but clearly there is no need for government intervention here as competition is economically beneficial. Economy firms are also particularly likely to suggest skills shortages are a problem (9% compared to 4%), with digital content firms particularly likely to suggest this is a problem (12%). Table 2. Obstacles: So currently which represents the biggest obstacle to the success of your business? Variable Non- Economy Content The economy 13% 9% 7% 11% Obtaining finance 5% 1% 1% 1% Cash flow 7% 11% 13% 9% Taxation, VAT, PAYE, National Insurance 12% 6% 9% 4% Recruiting staff 5% 6% 5% 7% Regulations 6% 6% 11% 1% Availability/cost of suitable premises 3% 2% 3% 1% Competition in the market 12% 19% 12% 26% Shortage of managerial skills/expertise 1% 1% 3% 0% Shortage of skills generally 4% 9% 12% 7% Pensions 1% 0% 0% 0% Late payment 5% 5% 4% 5% Not being able to increase prices/fees 6% 7% 8% 6% Red tape 7% 4% 4% 4% Other 2% 2% 0% 3% Number of firms Shaded figures indicate statistically significant differences (10%) from non- Economy firms. 12. There were two areas which Economy firms felt were less likely to be problems for their success: taxation, VAT, PAYE and NI, and obtaining finance. The latter is particularly interesting as only 1% of firms in these categories suggested this was the biggest barrier ICT

4 they face, compared to 5% of all firms. This suggests that obtaining finance is not a significant problem for the sector. 13. In summary, while information economy firms face a range of problems skills shortages are the main sector-specific issue. In contrast, they seem relatively less concerned about regulation and access to finance. In this respect, the select committee s question about the workforce is crucial. Access to finance for Economy firms 14. Another question asked by the committee is: How effective are UK financial markets in supporting the digital economy? What actions could the Government take to improve their effectiveness? The evidence presented above suggests financing is not a problem for digital economy SMEs in particular, but they may still be problematic for some firms. I consider this issue further using data on applications for finance of Economy firms and their likelihood of rejection. Note that results for the second question here should be considered with caution as sample sizes are low (the SBS only contains 41 Economy firms who apply for finance). But they are consistent with those above. Table 3. Access to finance for Economy firms Non-digital economy Economy content ICT Have you tried to obtain finance for your business in the past 12 months Any difficulties in applying for finance in the last year? (% of those which apply) 20% 7% 8% 7% 40% 29% 16% 40% Shaded figures indicate statistically significant differences (10%) from non- Economy firms. 15. Economy firms are less likely to apply for finance than other firms. Of the firms in the sample, only 7% applied for finance in 2014 compared to 20% of all firms. Moreover, of those that apply only 29% are likely to have difficulties obtaining finance (such as problems of rejection). In short, Economy firms appear less likely to try to obtain finance and if they do apply no more or less likely to find it difficult. Implications 16. The results here suggest that workforce skills are the main challenge faced by Economy firms. In this respect, many of the government s policies are distinctly unhelpful. There have been proposals to reduce the number of visas offered to skilled workers; these are likely to exacerbate the key problem faced by the sector. Similarly, skills are not always the focus of policy in this area. For example, Innovate UK s Economy strategy included measures around working with skill agencies and universities, yet there was little emphasis on what is the most important sector-specific issue. 17. Policy needs to ensure tech skills are taught to both the future workforce, through initiatives in schools and universities, but also the existing workforce, through training and life longlearning. It is also vital to ensure skilled migrants are able to come and work in the sector. techuk present some sensible policy recommendations on this in an important recent report (techuk, 2015) including measures around better training for ICT teachers in schools, breaking down gender barriers in tech participation, and ensuring smart migration.

5 18. Academic evidence suggests that addressing skills problems will have long-term benefits for the sector and the UK economy as a whole. Siepel et al. (2015) use longitudinal data for high-tech firms and argue that it is very difficult for companies to come back from early skills shortages. 19. It is important to caveat the results here on financing. Most Economy SMEs are likely to apply to banks for financing and the financing is likely to be mundane such as overdrafts and loans. However, a small but very significant sub-set of Economy firms may be seeking equity finance such as Venture Capital and it would still be important to consider this issue. Similarly, there are likely to be significant issues around cash flow, shown by the high share of firms complaining that late payment is a significant obstacle to their success. References Lee, N. (2014) What holds back high growth firms? Evidence from UK SMEs. Small Business Economics, 43: Nathan, M. and Rosso, A. (2015) Measuring the UK s Economy with Big Data, London: NIESR New Economy (2013) The Sector in Greater Manchester: Sector Profile. Manchester: New Economy Manchester. Siepel, J., Cowling, M. and Coad, A. (2015), Long-Run Drivers of Growth for UK High-Technology Firms, in Corbett, A. Katz, J. Mckelvie, A. (ed.) Entrepreneurial Growth: Individual, Firm, and Region (Advances in Entrepreneurship, Firm Emergence and Growth, Volume 17) Emerald Group Publishing Limited, pp TechUK (2015) We're just not doing enough - Working together to meet the digital skills challenge. Available from: recommendations-to-meet-the-digital-skills-challenge#sthash.5oztq80s.dpuf

6 Appendix: Definition of the digital economy Adapted from New Economy (2013) content: Printing of newspapers (1811) Pre-press & pre-media services (1813) Reproduction of recorded media (1820) Manufacture of computers & peripheral equipment (2620) Publishing of books, newspapers, journals & periodicals, and other publishing activities (5811, 5813, 5814, 5819) Publishing of computer games and other software (5821, 5829) Motion picture, video & television programme production activities, post-production activities, and distribution activities (5911, 5912, 5913) Motion picture projection activities (5914) Sound recording and music publishing activities (5920) Radio and television programming and broadcasting activities (6010, 6020) Advertising agencies (7311) Media representation (7312) Specialised design activities (7410) Photographic activities (7240) Motion picture, television and other theatrical casting (7810) Information Communication Technology (ICT): Wired telecommunications activities (6110) Wireless telecommunications activities (6120) Satellite telecommunications activities (6130) Other telecommunications activities (6190) Computer programming activities (6201) Computer consultancy activities (6202) Computer facilities management activities (6203) Other information technology and computer service activities (6209) Data processing, hosting and related activities (6311) Web portals (6312) News agency activities (6319) Other information service activities (6399)