Proceedings of the Standing Senate Committee on
National Finance
Issue 11 - Evidence - February 8, 2012
OTTAWA, Wednesday, February 8, 2012
The Standing Senate Committee on National Finance met this day at 6:45 p.m. to study the potential reasons for price discrepancies in respect of certain goods between Canada and the United States, given the value of the Canadian dollar and the effect of cross-border shopping on the Canadian economy.
Senator Joseph A. Day (Chair) in the chair.
[English]
The Chair: Honourable senators, I call this meeting of the Standing Senate Committee on National Finance to order.
[Translation]
Honourable senators, this evening we are pursuing our special study on the potential reasons for price discrepancies in respect of certain goods between Canada and the United States.
[English]
This evening we are pleased to welcome Ted Mallett, Vice-President and Chief Economist with the Canadian Federation of Independent Business, appearing via teleconference from Toronto.
Mr. Mallett, do you have a few introductory remarks, following which we will get into a question and answer session?
Ted Mallett, Vice-President and Chief Economist, Canadian Federation of Independent Business: I do. I have a few pages. I do not know if you received my notes. They are rough. We did not put them formally together; they are to help translation and others to follow along.
The Chair: We have them.
Mr. Mallett: Thank you for your invitation to speak to you this evening. It is a salient topic and one that has been commonly brought up by CFIB members in our conversations and surveys, particularly in the border communities.
Plenty of anecdotal examples of where Canadian prices exceed U.S. are known. We often see attempted shopping basket type studies that try to quantify, on average, what the differences in pricing are.
These are not easy tasks. Pricing is a highly variable issue over time. Marketing strategies, loss leader and local conditions play a big part in altering pricing day-to-day, month to month and sometimes hour to hour.
If one is looking for differences one will find them, and not necessarily only across international borders. We will find price differences across geographic areas within Canada as well.
I am not trying to discount the validity of these studies. We know negative anecdotes — where prices are significantly higher than in the U.S. — tend to travel faster and farther than ones where the opposite is true. We do find cases where you can find something cheaper in Canada than U.S. at a particular point in time.
We know through research on the consumer price index — through the Bank of Canada and other analysts — that market basket pricing is not the same as spending behaviour. People will alter their behaviours based on pricing scenarios presented to them. They shift their timing of spending to maximize their benefits over time.
Just because a price is presented in a differential, it does not force the consumer to pay that at that particular time. They can make adjustments in their spending in other ways.
We have also anecdotes; our surveys collect that information extensively. A British Columbia business owner recently said he can get his product for less money via retail in the States than he can from his own supplier charging wholesale in Canada. I have heard from a Manitoba building supplies dealer that he has to compete with suppliers from North Dakota where construction materials are considerably cheaper. These are the pressures our members are facing. It is an important issue, especially when talking about big changes in the exchange rate.
Markets seek balance and the best way to do that is with information. There is good news. The consumer's ability to compare prices online has never been greater. It gives them the power to change their spending behaviour based on prevailing prices and do better comparison shopping. Retailers use these tools to stay competitive, checking on competitors' prices and making adjustments where possible.
Comparison shopping tools will continue to narrow the gaps in prices and we endorse any measures that put more information in the hands of consumers and small retailers to help them price effectively.
A small but significant step was shown last week. Statistics Canada has made CANSIM database available free of charge, instead of charging $3 a series. Our members were not using that at all. It does not necessarily have pricing information, but it has a great deal of marketing intelligence information that small firms can now use for the first time to be able to judge or alter their marketing behaviours or to adjust their consumers.
What else can be done, if anything? That depends on the root causes of price differentials and they are varied.
I will list a few examples that have come up.
Market size is one example. Canada is one tenth the size of the U.S., which affects the productivity levels that Canadian firms are capable of achieving.
There are many more mid-sized businesses in the U.S. Growth opportunities to achieve efficient scale are considerably more common there.
Geography is another reason. Product distribution networks tend to be more efficient in grid patterns. U.S. markets, for the most part, look like matrixes. Cities are located in matrix locations within hubs and spokes. To a larger degree the Canadian marketplace looks like an east-west ribbon draped along our border with long distances between sizable markets.
The other aspect is that backhaul capability of shippers makes a considerable difference in terms of the economics of truck and containerized transportation.
Ownership is another issue. Price gaps tend to show up most visibly, and we see most studies looking at national brands or world brands.
Brand owners sell licensing rights or pass them on to local subsidiaries in each country, which add to the overhead costs of marketing and distribution. The smaller the country, the higher the overhead estimate could be.
Energy is also an issue related to market size and geography and, perhaps, the average size of loads and distribution networks. Higher fuel costs contribute to higher product costs.
Labour is a function of productivity and prevailing wages. Labour costs tend to be higher in Canada, and flexibility of labour markets is also famously more pronounced in the U.S.
Taxation has also been cited quite often as a reason for the differential. Payroll taxes, sales taxes, income taxes, property taxes — which have not been studied enough in this country — and customs duties are higher in Canada.
Those are the structural issues, but there are also cyclical issues. The U.S. has come through a steeper recession and, notably, the collapse of the housing markets and weakness in employment markets led to steeper markdowns there in prices in select areas and changes in buyer behaviours.
We come to the popular notion that retailers themselves are to blame by picking up arbitrage benefits and perhaps not passing on costs or price reductions as effectively as they could because of exchange rate changes. It is a good question, and I will try to answer it. We tend to look at this as to what evidence there is, particularly in the small business sector. We have been looking for signs of excess profits accruing to the retail sector and we have not been able to see any. Financial stats brought in by Statistics Canada and the small business profiles they put together show that the small retail sector is in cutthroat competition and operating on extremely thin margins.
Profit margins are not the only way to judge the competitiveness of industries and so on, but perhaps it creates a peek at things. Looking at the most recently available small business profiles, and that is for 2008, for the average incorporated small firm, a business with revenues of less than $5 million, their average profit margin is roughly 6.9 per cent of revenue.
When you look at the retailers, however, within that group, the average profit margin is only in the mid 2 per cent range, so 2.5 is typical; and generally the smaller the business, the lower the level of profitability there.
When we break it into even smaller groups of retailers, we find that for motor vehicle and parts, on average, it is about 2.5 per cent of revenues; home furnishings, about 3 per cent; electronics, about 3 per cent; and building materials, about 4 per cent. When you get into food and beverages and gasoline stations, we are below 2 per cent profit margins, and for general merchandise stores, it is even less than 1 per cent. These are considerably small margins where there is not a whole lot of opportunity and certainly does not show that small retailers are cranking in the revenues and adding it into their profit levels.
Again, profits are only one measure of these elements, but it is perhaps insightful to see where they come from, at least, on the small business side.
We do not have comparable numbers on the mid-sized business segments in Canada, but there is evidence that shows that the large businesses in Canada are more concentrated than they are in the U.S., so we have a very different retail structure here than south of the border.
Another crucial factor is volatility. Exchange levels are not the villain when we are talking to our members. It is the inability for them to safely predict where they will be six months into the future. There is almost a risk premium built into prices on products that are imported.
We have seen exchange rates change only within five cents, plus or minus parity, over the past two years. That is the longest period of stability I can recall for some time, certainly, in the data going back a decade, we have not seen that stability before. Hopefully, that will continue and the risk premium can be reduced and brought down further.
Our members have an interest in serving the best interests of their consumers. They fight hard amongst themselves to do so, and we want to see a world where Canadian and U.S. prices are much more in line with each other, so we therefore support the work of your committee in trying to understand the issue better and to develop policies that will work to try to reduce the gap.
Thank you very much.
The Chair: Mr. Mallett, for the record, could you tell us who your members are, how large you are, and a little bit about the Canadian Federation of Independent Business?
Mr. Mallett: CFIB was founded in 1971. We have about 108,000 small business owners, independently owned business owners in Canada.
The average business size is about 14 or 15 employees. The median size is about four or five employees, so half of our members have less than four employees and the other half have more than four.
We only allow members who are actual business owners. We do not have umbrella organizations or chambers of commerce as part of the membership or associations. Our membership is business owner populace, and we are also 100 per cent reliant on membership dues from them. We do not accept money from other sources or sponsorships and so on.
The Chair: Do you put an upper limit on the size of your members?
Mr. Mallett: No, we do not, as long as they are privately owned. If the company is publicly traded on the stock market and they go public, then they have to drop out of membership. They have to be privately owned.
The Chair: With respect to the figures that you have given us for the profit margins in the various industries, can you tell us if you have any comparable figures for those same sectors in the United States?
Mr. Mallett: I have not been able to find those particular segments. They may be available, so I am not saying they cannot be found, but I did not have access to that information over the past couple of days.
The Chair: If you happen to come across comparable figures and you could send those along to us, that would be interesting and might tell us something.
Mr. Mallett: I will look for that.
The Chair: Finally, what proportion of your members operate as retail businesses and what proportion are manufacturing?
Mr. Mallett: Just over 25 per cent of our members are retailers. Roughly 10 to 12 per cent of our members are manufacturers; 10 per cent are construction business; 5 or 6 per cent, agriculture, and then moves into the service sector.
We are broadly representative of the economy as a whole, and we have members in all sectors across the country.
Senator Nancy Ruth: In your list of things like market size, geography, ownership, et cetera, you did not mention credit cards.
I have a question about what your members think about credit card fees and costs, and you recently published an article entitled, "How does paying by cash or Interac help small businesses?'' Can you tell us a bit about that and what conclusions you came to?
Mr. Mallett: I probably want to defer to one of my colleagues who wrote the paper. We know that credit card fees and debit card fees are a pretty important element to retail performance and profitability here.
They are problematic in the States as well, where some of their costs, especially debit, are higher costs than we find in Canada. Part of our concern was we would end up with a U.S. system of debit cards here, and Interac would possibly be purchased or be allowed to disappear and taken over by the Visas and MasterCards and considerably increase the cost to retailers.
Senator Nancy Ruth: The differences in terms of credit charges to the person who uses the card may well be different in the United States than they are in Canada. Was that compared in your study?
Mr. Mallett: Yes, they can vary considerably. The owner of the card, the holder of the card can pay a fee as well as the merchant themselves pay another fee for the debit card or credit card transaction, and they can differ substantially depending on the volume of the transaction, the ticket size, and what service they are using.
Senator Nancy Ruth: Let us say we are buying a book, so the two prices are stated right on the product. Do retailers, say, in the publishing industry have any role in setting the price differences?
Mr. Mallett: The small retailer, and this applies to books or almost any other product that they sell, has virtually no impact on pricing apart from what it does to their own margins. They may try to attract business by offering some loss leaders and sales here and there, but generally they are not able to offer or sell products with a higher price compared to their larger competitors either in Canada or in the United States.
Senator Ringuette: Of course you know that since last June the U.S. Federal Reserve is now imposing a maximum fee for merchants for the use of debit cards, and they are looking into putting forward the same kind of regulation in regard to credit cards.
I assume that in the last seven years on a yearly basis the excessive fees for credit card use for the purchases of goods in Canada were $5 billion. How could you relate that in regard to the profit margin table that you presented to us? I look at food and beverage and gas stations at 1.5 per cent. If you look at excessive fees in comparison to our counterparts in New Zealand and Australia, they are paying 2.5 per cent on the credit card sales. That would impact dramatically in regard to the 1.5 per cent that you have given to us in your schedule.
I find that it is certainly an issue. Five billion dollars on a yearly basis flying out of Canada — I am talking about the excessive fees — for services provided is a lot of money out of our economy.
In looking at these margins, I say, wow. You need to have a lot of respect for the people that will make investments into a retail outlet, whether it is home furnishings, food, beverage, gasoline, clothing, sporting goods with these low margins.
Mr. Mallett: Absolutely. I think one of the reasons I put the table in here was to show what they have to deal with and the uncertainties they have over time. Exchange rates are just one because of the product costs and so on but you raise some very good questions or points about credit card and debit card fees, and I did a back-of-the-envelope assessment last year looking at where the price of a litre of gasoline goes. Well, "X'' per cent of that goes to the refiner, "X'' per cent goes to, really, the driller or the oil company, and then you get into the retail margins, and the credit card fee is a substantial part. Because it is charged on the entire sale, it is a big part of what goes out the door.
We have seen considerable problems in the gasoline and retail industry. They are often seen as the bad guys because whenever the gas price goes up, consumers blame the retailer more than anything. They have done that in the case of when sales taxes go up. They do that in cases where the exchange rate has perhaps not brought prices down, but these are the realities that small retailers have to deal with. I am glad you said you have to give them respect for operating. It is a brutal industry.
I remember seeing stats going back to 1984 to 1998, so about a 15- or 16-year period. Sixty per cent of the retailers in business in 1984 were no longer in business in 1998. A huge amount of turnover takes place. It is one of those industries that is relatively easy to start or get into but is also very easy to fail and be kicked out. That is really what we are dealing with.
Senator Ringuette: We always have the saying that the small- and medium-sized businesses in this country are the engine of our economy, so when there is criticism or not enough support in regards to that particular group, I question the issues, or the policies, should I say.
You have said that 12 per cent of your members are in the manufacturing sector. What would their profit margin be on average in comparison to the retailers?
Mr. Mallett: Well, 2008 is the most recent data available. I could certainly go back to the source. It is listed in my notes, the website. It is run by Industry Canada using Statistics Canada information and it is a neat little tool. It allows businesses to kind of benchmark their financial performance against similar kinds of industries and businesses there using the official stats, so we have supported that kind of tool, and I have used it for the purposes of this presentation, but I will certainly go back and look up the manufacturing numbers as well.
Senator Ringuette: In the list of examples of issues that would impact in regard to pricing, like market size, geography, transportation, labour, taxation, you are certainly the first one to indicate to us property tax.
How would that compare in regards to the U.S.? We have been told many times that real estate costs are a lot cheaper in the U.S. than in Canada, so I guess property tax should also be an item we should compare.
Mr. Mallett: Property values can differ substantially between regions, not just between countries but downtown locations versus rural locations. In technical terms, a business property value is the net present value of the income stream or the net earnings that a business can expect based on that kind of property. With regard to high value properties, it is because there can be high revenues coming back.
The Canadian property tax system is not well analyzed because the amount of information we have about property tax is locked within the hundreds of thousands of municipalities across Canada. No one is actually effectively collecting this information. I have had a number of conversations with chief statisticians over the years that we really need more information on property taxation.
However, I will give you a hint. Retailers are the downtown cores of most communities. Our members tend to be very visible and it is the commercial establishments that tend to bear the brunt of municipal property tax policies.
In Toronto, Vancouver and Calgary, for example, and maybe Montreal, businesses pay about four times the rate of tax on the value of property as residents do within those same cities. Based on a $500,000 commercial property, the tax will be four times higher for a commercial business than it will be for a residential property taxpayer.
That gap is a little smaller in many other cities but, on average, for mid-sized cities, businesses pay maybe double what the residential taxpayer does. That tends to get thrown into the cost profile for businesses as well. We would certainly encourage any kind of study that would try to unlock the effect of property taxation on overall health of the economy. To date — and I have been looking at this for 25 years now — we have not seen any good, solid research — apart from a few analysts in the academic world — coming from federal or provincial governments on this.
Senator Gerstein: Mr. Mallett, I go back to the title of our study which, if I may paraphrase quickly, says, "Study on the potential reasons for price discrepancies . . . given the value of the Canadian dollar.''
In your opening remarks you raised a number of issues. As I look at page 2, I see six of the seven, quite frankly, could have been written 15 years ago. The same things held true: geography, market size, ownership, energy, labour, taxation. You could have lifted it out of a 15-year-old report.
The business cycle, I agree with you, is something that has changed in the last couple of years when you talk about the U.S. and the decline in the real estate market.
If that could all be lifted from 15 years ago, the issue before us is that in 15 years the Canadian dollar has appreciated by 50 per cent against the U.S. dollar. That is what we are really studying here in this committee.
What do you think, if you just isolate the one issue of currency, should have happened to prices, and what has happened? This has happened, we are led to understand, and for many good reasons, but all I am saying is the other reasons have remained the same, over many years. What do you think could have happened? Your margin report is very interesting. It would be interesting, as the chair raised the question, to compare it to U.S. numbers for the same thing. I would also be interested to see what the numbers are compared to what they were 15 years ago.
I still come back to the single issue of the change in the value of the Canadian dollar. What are your views on it?
Mr. Mallett: The Canadian dollar is one of those things that has a big impact on the cost of running a business, especially their inputs, as well as manufacturers or other businesses trying to export their products.
It is a residual, however. Businesses do not have the ability to control for the dollar; they must react to the kinds of changes. We have seen some pretty substantial changes over history to this. I come back to saying that we have seen a pretty stable relationship between the Canadian and U.S. dollars over the past two years. We think that is, more than anything, the best thing that could happen.
Even if a change in the value of the currency is perceived as a positive for a particular business, if the value of the currency is going up it should theoretically help a retailer that is bringing in offshore products or products from the U.S., but if they cannot count on where that figure will actually be, they cannot price properly. They need six months to be able to price effectively and adjust their own internal prices and cost structures to be able to manage these sorts of things.
Therefore, if there is high variability over time, then that will be a problem for them. We have seen structural changes to the currency. We think Canada is seen as a safer country to invest in, and that is where we have seen the inflow of capital and an increase in the value of the currency. Businesses know that they have to deal with these kinds of things. We are just pleased that, over the past two years, we have not seen dramatic changes.
As you say, a 50 per cent difference in the cost of the currency over time, no business would be able to withstand that type of shift effectively over a short period. We are happy that things are fairly stable and we would hope that government policy works towards or at least encourages a stable dollar policy as opposed to a big change up or down.
Senator Gerstein: If you looked in your crystal ball and saw that the relationship between the Canadian and U.S. dollar was to remain relatively at par for the next three, four, or five years — and I am not suggesting it will or will not, but if it did — from your position, what would you think would happen to retail prices in Canada? Should they come down?
Mr. Mallett: I think there would be a reduction in the gap between Canadian and U.S. prices if we saw stability in the currency.
Senator Gerstein: Do you think there has been sufficient change in the prices between the U.S. and Canada as a result of them being relatively stable over the past two years? As you have indicated, they have been relatively around the par range for two years.
Mr. Mallett: It is tough to say. We have not done our own comparison or market basket kind of studies. The study we saw, we know that the Bank of Canada looked at that and found a reduction in the gap between Canadian and U.S. prices. Certainly, the sophistication of consumers in Canada, allowing them to price-comparison shop and so on, especially online, is beneficial as well. We want to make sure that the consumers have the power to make those kinds of decisions that serve their interests. Over time, that means that prices should come together.
Generally, I think we have seen, anecdotally at least, from some of the studies we have looked at, a reduction in that gap. Whether we can entirely eliminate it is tough to say, because of the kind of structural changes. I am confident to say we have seen less of a gap now than we perhaps had two years ago.
The Chair: Mr. Mallett, you indicated to Senator Gerstein that companies need six months of relative stability in order to react. However, at the end of the six months they will look at things and say they cannot be sure, six months from now, it will be stable. Therefore the six months becomes a year, a year and a half and then two years. Is what we are looking for not some more assured way of predicting stability in the exchange rate?
The follow-up to that would be whether you see any merit in pegging our dollar at the U.S. dollar.
Mr. Mallett: No, I do not see merit in pegging the currency. We think that can cause problems. We have certainly seen problems in Europe, where countries have been essentially pegged at the euro level and then internal inequities end up creating huge problems for the economy.
Our view is that small firms do not have as much access to the hedging tools that larger importers and exporters have through banks and their own financial arms perhaps, and that hedging tends to be quite expensive for small firms. They are dealing with much smaller values or volumes of products or expenditures or financial transactions.
To the degree that the financial community in Canada can help bring those kinds of products to a smaller and smaller group would be beneficial along those lines because they are looking for certainty. I say six months because businesses that are planning for, say, the summer holiday season or the summer retail season have to be doing that right now. When we get to July and August, they will be planning their Christmas or holiday expenditures and ordering and so on. If they are purchasing offshore or from suppliers that are purchasing offshore, they have to be able to be fairly confident about the cost of these products as well as what they can sell them for in Canada, quite far in advance.
Senator Neufeld: I want to go back to Senator Ringuette's question about the credit card costs. You agreed with her that that is pretty onerous on the small businesses that you represent.
Hypothetically, if there were no transaction costs for credit cards and debit cards, how much would the schedule that you have in your document here change? Instead of 6.9 per cent on average, what would it be? I do not know, but you may know. You agreed with her that it was pretty onerous, so I would like to know what difference that would make to the profit margin. Can you give me some sense?
Mr. Mallett: It would be tough to say. It is a good question. I cannot give you a definitive answer, because quite often a business may opt for a slightly different structure. The money that they perhaps would have had to spend on transaction costs, they would have developed into other areas, or purchased more labour or other kinds of products, applied it to their own business, and so on. We know that these figures are net of those kinds of transaction costs. It is really impossible to say, apart from that likely a portion of it would show up in profits and perhaps be more profitable for firms.
Of course, then there is the competitive aspect of things as well. When businesses see that there are profits available, then they are likely to enter the market as well. There are all kinds of reasons that suggest that there may be some benefit, but it would be impossible to peg exactly what that would be.
Senator Neufeld: I am asking straight across the board. I am not asking about hypothetically they will change, the way they will invest their money, how they will spend that money, all those kinds of things. I am saying: Take the cost of credit cards, whatever that is. What change would there be on this table? Not saying they will change how they will do business, but just one to the other. I think that is a pretty straightforward question. Would you like to try to give us an answer or get us an answer?
Mr. Mallett: It would be similar between zero and whatever the transaction costs are. I think a portion of that would go to profits and a portion of that would go somewhere else.
Senator Neufeld: If it is 2.5 per cent, I do not think it will add 2.5 per cent to the bottom line; at least it would not in my mind, but maybe it would.
Mr. Mallett: No, I do not think so either, but a portion of it could.
Senator Neufeld: Some people have told us that wholesalers sell goods much cheaper to businesses in the U.S. than those in Canada, and that is part of their problem. In Canada, because of the smaller market and all those kinds of things, they are paying a bigger wholesale price for widget A.
Is there some way that we can actually, with your help, check that out? Is there something that we could identify — I do not know what that would be — that would be sold in both the U.S. and Canada, that companies have to pay in Canada and what they would have to pay a comparable company in the U.S.? Is there a way we could do that, to try to find out where some of these differences are? We have been told enough — at least I have — that that is one of the big problems.
Mr. Mallett: I think it is quite conceivable to do that kind of study, if you pick maybe a dozen products, just a wide range of products to look at. I know there have been market-basket kinds of studies, but there have also been industry structure studies that go into where, in the chain of things, our prices pass through. I think you would easily be able to get that done.
Maybe CFIB could help in some respects. There may be some other academics who have already done some of this work. A good literature search would be helpful. I think doing a case study analysis on, say, a dozen different products would be quite helpful here.
Senator Neufeld: If we can get some help there, we will do some work too, I think.
The Chair: We can get some direction from the Library of Parliament on that as well, as to what has been done. They can do a search, and then steering committee will consider what we might want to do.
Senator Neufeld: In your last paragraph, you commend the work of the committee and you say for everyone to understand the issue better and to develop policies that will work to reduce the gaps. Maybe not off the top of your head, but can you give me three policies, three things that you would think would make the big difference that we could actually look at, that we could actually do something with? Could you do that?
Mr. Mallett: If you would allow me to have some time to think about that and get back to you, I would be happy to do it.
Any policy that would be proposed or put forward I think would be fairly small. There are multiple reasons for these kinds of changes, and any one policy change would only have a small effect on any one of those, we believe. Maybe I could have some more time to review what some of the bigger ones could be and we will get back to you.
Senator Neufeld: That would be great. I wanted to say also that not all costs in Canada are higher than they are in the U.S. There are a lot of energy costs, including electricity, that are generally quite a bit higher. New York is probably twice or three times as high as Canada. There are also some costs in the U.S. that are a lot higher than what we face.
Mr. Mallett: Yes, and I certainly mentioned that in my remarks. Most people focus on the higher costs in Canada and they conveniently overlook the opposite side. It is important to look at it fairly on both sides.
Senator Callbeck: Mr. Mallett, you gave us some information in your brief on retail businesses under 5 million, and the margin figures. I think you said on average it is 2 per cent plus. Can you comment on whether those percentages are going up or down? Five years ago, would they have been less than what they are here or would they be more?
Mr. Mallett: There are some 2006 data available, and I am sure there is also previous years' information available locked within Statistics Canada and Industry Canada. Those data are available. It will go up and down per year. I am pretty sure that the margins are lower in 2008 than they were in 2006, but I cannot tell if that is a trend or not, based on the available information.
It is a good question. This information is available deep in the database, and someone should be able to pick it up over time. Hopefully we will be able to collect that for you.
Now, 2008 is also a fairly unique year in the scheme of things. The first half of the year went quite well for Canadian businesses and the last half of the year went quite poorly for them. We are dealing with two very different economies: pre-September and post-September 2008.
Senator Callbeck: I want to come back to the 2 per cent range. You said small businesses under 5 million, that is their profit margin. However, we had a witness yesterday who talked about Canada's retail sector, which would include the small and large businesses, saying the operating profit amounted to 12.9 per cent on average. If you are going to accept those two percentages, the large retail businesses are doing extremely well.
Mr. Mallett: It depends on what percentages you are looking at. I am not sure if the numbers you saw yesterday were based on percentage of revenues or perhaps it is return on equity, those kinds of measures. Again, those data are also available within this particular data source that I cited. We do find that the smaller the business, the more likely they are to be losing money, and therefore the profit margin is down, no matter how you measure profit, over time. Certainly, it is more volatile for small firms. We are not the only source to say that the small retailer has a pretty hard life, particularly with the kinds of margins they work with.
Large firms, large retailers, can have problems as well; they just have greater financial heft to be able to get through and restructure and adjust these kinds of things as well. We have seen large Canadian retailers run into problems, too.
Senator Callbeck: I have one more question, this time on Internet purchasing, which many people are doing these days. Is that affecting the large retail business more than the small retail business, in your opinion?
Mr. Mallett: It is not hurting the large retailers as much as it is small retailers. Small retailers do not have the technical capacity to operate both a bricks-and-mortar storefront as well as a fully functional online product. Consumers are quite picky, quite sophisticated in terms of how websites should be designed, and so on. There are very good retail websites out there, but they tend to be large chains that operate them. Small retailers do not tend to operate those kinds of chains or websites, and certainly the distribution costs and the efforts in order to be able to maintain that kind of thing helps with volume. Small firms do not have the volume to be able to do good electronic business highly profitably, compared to larger firms.
Senator Marshall: Mr. Mallett, I must say that I found your remarks very interesting. I think probably the area of most interest is your opening remarks. We spoke about a number of factors. I know you talked about geography and taxation. In your opening remarks, you talked about information for consumers and how relevant that is. I guess competition will rule in the final analysis.
When you talked about the other factors, such as market size, geography and labour, you said: What else can be done, if anything? Do you think there is any room there to bring those expenditures or those costs down to narrow the gap in the pricing between U.S. prices and Canadian prices?
Mr. Mallett: I cannot see any policies that would make large changes to those kinds of things. We cannot just reduce payroll taxes by half overnight. There are lots of other implications to those kinds of shifts. Clearly, we would like to see signals to the business owners, and so on, that we have a good competitive tax environment, and I think we have moved a long way in that way already. That is important.
I think we are talking about very small measures. That is why I did focus on information, because I think that is what has the biggest impact on changing people's perspectives and giving them the power to make the best kinds of decisions. It could well be that we have had these kinds of problems for decades over time. It is just that because people were less able to comparison shop as effectively as they can now, we just did not know about the kind of price differentials that were in existence. People are waking up to these kinds of things. The consumer is getting more sophisticated. Retailers know this and they are struggling or eager to catch up, or to make sure they can service this new kind of power consumer. Good for them. We want to make sure that as much information gets into people's hands as soon as possible so they can act accordingly. It is not just the consumer who needs information but the businesses as well. Again, the smaller and mid-sized retailers perhaps do not have the access to the kinds of market intelligence that many of the larger firms can have, and therefore they are at a bit of a disadvantage. Not necessarily any big government can do this sort of thing, but if we can all encourage the kind of tools and information technologies that help small firms understand their consumers better, understand their world, their marketing role better, that will help.
Senator Marshall: We would like to know the reason for the price discrepancies. Based on your testimony and the testimony of other witnesses, it would seem that these are all factors, such as geography and transportation costs. At the end of the day, we all would like to know the reasons for the price discrepancies. At the end of the day, we would like to bring the Canadian prices down closer to the American prices. It would be informative to know the reason why. If you cannot do anything about it, then you have to look for some other options.
You list all these factors. I do not hold out much hope of reducing prices based on those factors. Then you spoke about the exchange rate levels. You are saying maybe over the long term it will stabilize for such a lengthy period of time that maybe that will impact prices, but maybe not. It seems to me you are right back to your opening remarks that really it is information provided to the consumer; that is what will make the big difference to the prices.
Mr. Mallett: It is not just restricted to retailers, but we have been saying for quite some time that Canada has a pretty good track record of business start-ups. It is relatively easy here to start up a business. Entrepreneurs are seen as positive forces in communities, and so on, and that is a good thing. It was not always the case. Twenty or thirty years ago, we did not have that kind of aura around entrepreneurship. The economy was driven by big business and that is where everyone wanted to land a job.
In general, we like to see more encouragement of turning small firms into mid-sized firms. I did not mention regulations at all perhaps. There will be lots of regulations in the U.S. as well. One of the biggest drawbacks to making your business bigger is how much more rigmarole you will have to do to satisfy various requirements, and so on. The business itself has to create a more formalized structure. That is tough enough, going from an informal to a fairly formal business. However, with all the other responsibilities added — and you need a COO, a CFO, someone in charge of human resources, and so on — those are big structural changes that a business has to go through when they go from small to mid-sized. A lot of firms say that it is not worth the effort. Maybe it is some degree of tax. Maybe it is some degree of other elements that can help encourage the existing small firms and make it worth their while to become medium-sized. We have businesses that go through that phase, but it is a painful one. It would certainly help in the retail environment, but also in all business sectors, where we have more of a push toward growth incentivizing so that we turn our rich resource of micro businesses into small and then medium-sized businesses. It is something the U.S. market does well naturally because of the structure and it is large, but are there ways we can help that in Canada? I think there are some good tax incentive structures that can move in this direction. We have encouraged a lot of these things over time. In general, it is something that philosophically we encourage.
Senator Marshall: We have had other witnesses speak about regulatory regimes and how they impede businesses from growing or being profitable. I think it was yesterday that we had a witness here talking about all the forms that a business has to fill out for different groups and how this required a big effort and cost a significant amounts of money.
My understanding is that you have not really conducted any formal study of this area, but obviously you have a lot of members. What else are they telling you? The regulatory aspect is a bona fide point. Are there some other issues that we as a committee should be aware of?
Mr. Mallett: If you ask a business owner what the constraints are on them operating a business, you will get a laundry list of challenges. It is the nature of the beast.
I did not include it with this particular package, but, every month, we put together a business barometer, which tracks the business expectations within small and mid- sized enterprises. Every month we are tracking things. What are your major constraints? Is it your customer demand, the people walking in the door? Is it exchange rates, interest rates, various costs, banking fees and so on? We track that month to month. They do not change much over a short period of time, but we do see trending over time. Shortage of qualified labour is starting to creep up there for some types of businesses.
We see improvements in other areas as well. Access to financing thankfully was not a serious problem during the recession, not like it was in 1991.
These are elements that we have tracked over time, and then, of course, our website and our barometer site have anecdotal information in terms of what individual business owners are saying. We get a range of people, some saying that their business has never been better and some saying it has never been worse. It runs that whole gamut.
Senator Marshall: As I say, I was very interested in your remarks with regard to information. That came up as an issue very early in the study, and I think a large part of the solution rests with adequate information being available to consumers.
Senator Hervieux-Payette: You seem to represent both businesses with less than five employees and bigger businesses. I do not think they are faced with the same problems.
You were talking about having to learn to hire and get more staff and so on.
My own experience with start-ups is that most people are under 50, and they have a good knowledge of information technology. They are smart, even in shopping for anything they need and in finding the programs that will help them to manage their company.
I have two simple questions. We are told that we are falling behind, and we are not good in terms of productivity and innovation. This is the landmark report for the last 25 years by the chamber of commerce.
It seems that the people who represent — I do not know if it is the minus fives or the plus fives — are not doing the right thing, paying too much, doing this and that but not doing it properly. It seems that we are not at the best advantage.
The lack of competition was something that was mentioned yesterday. Of course, if there is little competition — a small market — this is going to lead to a higher price.
It was suggested yesterday that we may go by sector. You indicated 10 sectors in your paper. Would it be a good thing to ask the Competition Bureau to do one by sectors, since the element that affects the price could be different from one sector to another? I was in the food industry. It was never more than 1 per cent profit because of the size of the sales.
I am wondering if you feel that we have the right data if we work with the facts that we need to address this question. When I go to the store and buy lamb from New Zealand, at the same price or lower than the one that has been raised almost in my backyard, I find that pretty strange. Costs to transport from New Zealand are certainly higher than those to transport from the next city in my province.
It is the same thing with fish and apples from China. An apple from China sometimes costs less than the one from Rougemont and sometimes from B.C. This is hard to understand. My retail store, wanting to make a profit, will buy these things. We are talking about large quantities if we talk about all the supermarkets, but lamb at 10,000 kilometres away costs less than the one that is 50 kilometres away.
If you know the situation of agriculture in my province and most of the other provinces, they do not make big profits. They have difficulty surviving. Running a farm needs a lot of cash and makes very little profit.
I say to myself, how do we reconcile all of that? Which sector do we go to? Clothing is the same. It is made in China because it costs less. In that case, I can understand that they have very cheap manpower, but if we could factor in taxes and other things, for each sector, maybe we could start to understand what is included in the price by sector. It is not the same for motor vehicles, home furnishings or food and beverages. It is not the same ratio that you would use in terms of building your cost.
Mr. Mallett: That is right; every market is different. You are right to bring up the productivity issue. We do not see it as something caused by small versus large firms. We think that productivity growth is symptomatic of the ability of firms to go from small size to mid size. It means they are doing more with less or getting more efficient over time and able to gain those efficiencies of scale.
The degree to which we can encourage more businesses to grow would help the productivity record that this country has right now. We have lots of very strong and dedicated business owners in all sectors. That is a good thing, but you cannot have a mid-sized business unless you have a small one first.
We have many small firms that do not feel safe enough to go into a growth strategy. They feel it is risky. We talk to them all the time, 2,000 to 3,000 conversations a week with business owners. Making investments, buying new equipment or adding to their productivity capability without the assurance of benefiting down the road is a risk for them.
We talked with many business owners who said they were large businesses, or at least larger, once. I remember speaking with somebody who used to have 50 employees. They said running their business was a lot of work. They are down to five employees, and he is happier and is making more money. Is that less productive, or are they doing what they do best?
We believe that the business owner is the world expert on running their business. It is tough for us, as analysts, to judge businesses from afar, saying, "You are not running your business well enough.'' I do not see that as being a real issue. We want to encourage a culture of growth and sustainable businesses here, and, hopefully, the sort of thing that would encourage that would turn our productivity challenge around and create some benefits. We would all benefit from that in terms of standards of living and so on going into the future.
Senator Hervieux-Payette: Do you consider your organization a small- or medium-sized business?
Mr. Mallett: I would not call us small. We are probably medium-sized at this point.
Senator Hervieux-Payette: You said you have a membership of 108,000.
Mr. Mallett: That is right.
Senator Hervieux-Payette: What is the growth on an annual basis of new entrepreneurs joining you?
Mr. Mallett: We have been growing at a rate of a couple of thousand per year for the past number of years. We kept growing through the recession, which not many other business organizations could do. It is a voluntary organization. We are mainly in public policy lobbying, so there are relatively few tangible benefits that a member can get. However, we are able to convince more business owners that being part of CFIB was a good thing to do. We came through the recession pretty healthy, all considering. It is a kind of testament to the importance that we feel in representing the interests of entrepreneurs too.
Senator Hervieux-Payette: My question was relating to my previous question about the Competition Bureau doing the study that might be helpful. I suspect that undertaking a study for the 10 sectors you are talking about may be above the budget that an organization like yours might have. It is costly to undertake these studies.
Mr. Mallett: That is possible. It would take some time for us to do that sort of thing, but we would be happy to be part of that kind of assessment.
The retail sector is two different worlds in Canada operating at the same time. We have an extremely cutthroat and competitive small business retail environment and a relatively concentrated and arguably less competitive large retail component within Canada. We are not sure where the mid-sized sector stands relative to the U.S. It is well enough to do a kind of study to get a better handle on how these work and to do some of the case study analyses that might help to shine a light on this.
Senator Hervieux-Payette: I do not know how you can reduce costs if you do not know the costs. That is why I mention it.
Let us look at the items that create higher prices in Canada than those in the U.S. Once we know what that is sector by sector, we can act upon it. Since the beginning of hearings, as my colleague said, we have heard the same thing for 25 years. What are the elements of the costs? Which ones are critical? Which ones can be reduced? How can we improve the situation? What government policy could be developed to ensure that we become more competitive as we serve the interests of the consumer?
Mr. Mallett: That kind of study is doable, although it is not something that we have done in the past. Certainly, a market structure studied by elements much more expert in terms of each individual industry, for example, should be able to do that kind of thing.
The Chair: Mr. Mallett, we have heard from witnesses who have indicated that labour costs are one single factor that helps to feed this discrepancy, in particular lower labour costs and our minimum wage set by the provinces. Do you have any comment with respect to your members in that regard?
Mr. Mallett: It can work both ways. We have had a much better labour environment, at least employment market, in Canada than we have had in the U.S. One of the reasons we have statistics about lower productivity in Canada is that businesses were hiring people instead of buying equipment. There are some benefits to hiring people because it keeps them working and in the marketplace, and so on.
For the most part, retailers in Canada tend to have more people working for them than retailers in the U.S. Maybe it is because of differences in the relative size of retailers. The smaller the business, the more labour intensive it tends to be. Therefore, perhaps the economies of scale of growing are tougher there. Labour is a bigger component to retail costs here than it tends to be in the U.S. There may be differences by sector, by business size or by business type along the way. Those are some of the notions.
Of course, there are also built-in extra costs, for example the labour standard, minimum hours of work, and payroll taxes associated with that. To some degree, minimum wage may have some effect, but it tends to be an offset as well. When minimum wages go up, employment levels tend to go down for the people in those minimum wage categories. There tends to be almost an equal and opposite reaction in the other direction. The total dollars stay the same, but the number of hours gets adjusted over time. We do not think that minimum wage has a big impact on this issue.
The Chair: The other factor I want you to comment on is tariff items. We heard from some witnesses who indicated that it is not a major factor. From your membership point of view, what would you say about tariff items?
Mr. Mallett: It must be highly specific areas that would be affected. We are a generalized organization. We have members in virtually every type of retail operation. There is bound to be a handful of products with very high tariffs that would affect things. In a generalized notion, I would be in agreement that tariffs would be small in the scheme of things, but they may be large in specific cases.
The Chair: Mr. Mallett, thank you very much. You have given us many interesting things to think about. Some of us are starting to form opinions based on what we are hearing, and others of us are still considering these factors. Your input this evening on behalf of the Canadian Federation of Independent Business and on your behalf has been most helpful. We thank you for agreeing to participate in this study by the Standing Senate Committee on National Finance.
Mr. Mallett: It was certainly a pleasure. Thank you for the invitation.
The Chair: Senators, I call this portion of the meeting concluded.
(The committee continued in camera).