America’s small businesses: Time to think big Olivia White Anu Madgavkar Adi Kumar Asutosh Padhi Kanmani Chockalingam October 2024 Confidential and proprietary. Any use of this material without specific permission of McKinsey & Company is strictly prohibited. Copyright (c) 2024 McKinsey & Company. All rights reserved. Cover image: (c) Klaus Vedfelt/Getty Images McKinsey Global Institute The McKinsey Global Institute was established in 1990. Our mission is to provide a fact base to aid decision making on the economic and business issues most critical to the world’s companies and policy leaders. We benefit from the full range of McKinsey’s regional, sectoral, and functional knowledge, skills, and expertise, but editorial direction and decisions are solely the responsibility of MGI directors and partners. 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MGI Directors MGI Partners Sven Smit (chair) Michael Chui Chris Bradley Mekala Krishnan Kweilin Ellingrud Anu Madgavkar Sylvain Johansson Jan Mischke Olivia White Jeongmin Seong Lola Woetzel Tilman Tacke America’s small businesses: Time to think big iii Contents At a glance 3 Introduction 5 1. Small businesses are the bedrock of the US economy 7 2. US small businesses struggle with productivity 11 3. Small business economic impact and productivity varies by region 16 4. More productive small businesses will boost US competitiveness 24 5. A path to higher productivity: Networks and interactions 30 6. What stakeholders can do to drive MSME productivity 35 Acknowledgments 37 Endnotes 38 America’s small businesses: Time to think big 1 At a glance — Micro-, small, and medium-size enterprises (MSMEs) are the bedrock of the US economy. They employ nearly six in ten workers, produce almost 40 percent of value added nationally, and grow into a meaningful share of very large corporations. — MSMEs in the United States are only half as productive as large companies, compared with 60 percent in other advanced economies. Narrowing the productivity gap, which is equivalent to 5.4 percent of the US GDP, is particularly vital in an era of shifting global production. — MSME performance varies across US states and metro areas. Some of the variation is due to sector mix, but overall, the performance of large and small businesses tends to go hand in hand, as local variations influence the productivity of all businesses, regardless of size. — Interactions between small and large businesses are key to boosting collective productivity. Strengthening networks and collaboration with large companies—in supply chains, industry clusters, and customer–provider interactions—could help US MSMEs gain advantages of scale in technology, human capital, market access, and finance. America’s small businesses: Time to think big 3 Introduction California’s Napa Valley wine industry is world-renowned, generating $50 billion annually in economic impact.1 The wines produced among the 700 wineries in the region rival those of any other region across the globe. The story of the Napa wine industry is a familiar one. Only a few decades ago, the region was a rural outpost with a small community of mostly independent vineyards. It boomed after investors and entrepreneurs worked together, put their product to the test, and won awards against the world’s best in the 1970s. Napa is just one example of places and industries springing up from humble beginnings to become global successes. Dalton, Georgia, is considered a global carpet capital.2 Eighty-five percent of the carpets sold in the United States and 45 percent sold globally are made in the region. Similarly, High Point, North Carolina, is a global hub for furniture—at one point the region was responsible for producing 60 percent of all furniture sold in the United States.3 Its biannual markets host exhibitors from around the world. Today, Napa wineries, Dalton carpet companies, and High Point furniture factories are a mix of big and small businesses, and in many cases still include family-run operations. They succeeded not only because of their product but also because of their ability to efficiently produce it at scale. The regions’ success illustrates how, under the right conditions, micro-, small, and medium-size enterprises (MSMEs) in any industry can expand their global reach. To get there, US MSMEs should look to ramping up productivity, a move that will be vital to American competitiveness in the coming years (see sidebar “Measuring productivity”). Small businesses can reach the next level of growth by taking advantage of new technology, including generative AI (gen AI), and partnering with bigger companies, and they will need the infrastructure and systems to support them. Measuring productivity Productivity is a measure of how as value added per worker (in US dollars 27.7 hours in Alaska to 44.3 hours in efficiently goods and services, or output, at purchasing-power parity). The more Louisiana in 2023.2 We use the per-worker are produced, compared with the amount accurate measure of labor productivity metric, as it is more commonly available of inputs used.1 In macroeconomic terms, is value added per hour worked—as the across size categories and sectors. Due it is defined as the value of the goods and number of weekly hours worked varies to the lack of comprehensive data at the services produced, divided by the amount substantially among US states. For example, individual company level for micro-, small, of labor, capital, and other resources the average weekly hours worked by and medium-size enterprises, we rely on required for its production. For this report, production employees on manufacturing subsector-level average productivity to we focus on labor productivity, measured payrolls in the United States varied from make inferences.3 1 “Investing in productivity growth,” McKinsey Global Institute, March 27, 2024. 2 “State and metro area employment, hours, & earnings,” US Bureau of Labor Statistics, April 2023. 3 We focus on national- or sector-level productivity from a growth economics perspective. Organizational-productivity research often studies issues related to attrition, disengagement, skills mismatch, or time inefficiency. See, for example, Aaron De Smet, Marino Mugayar-Baldocchi, Angelika Reich, and Bill Schaninger, “Some employees are destroying value. Others are building it. Do you know the difference?,”McKinsey Quarterly, September 11, 2023. America’s small businesses: Time to think big 5 1. Small businesses are the bedrock of the US economy The McKinsey Global Institute aggregated a richly granular data set of MSMEs and large companies across 12 broad sectors, 68 level-two subsectors, and more than 200 level-three subsectors in 16 countries with different income levels, accounting for more than 50 percent of global GDP. In this group (listed by per capi