INDY Committee Meeting

STANDING COMMITTEE ON INDUSTRY

COMITÉ PERMANENT DE L'INDUSTRIE

EVIDENCE

[Recorded by Electronic Apparatus]

Tuesday, October 20, 1998

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[English]

The Chair (Ms. Susan Whelan (Essex, Lib.)): I call the meeting to order. Pursuant to an order of reference of the House dated Tuesday, October 6, 1998, this is consideration of Bill C-53, an act to increase the availability of financing for the establishment, expansion, modernization, and improvement of small businesses.

We're very pleased today to have several witnesses before us to discuss Bill C-53. We have two groups of witnesses. From 3.30 p.m. to 4.30 p.m. we have Dr. Roy Norton, who's a public policy consultant, and two representatives from the Fraser Institute: Fazil Milhar, director of regulatory studies, and Jason Clemens, policy analyst. Then at 4.30 p.m. we will have Boreal Assurances Inc., a different group of witnesses.

I would like to remind members that we're going to have to keep pretty strictly to the time. We will be having bells at 5.15 p.m., and our vote is scheduled for 5.30 p.m.

If there are no questions, we can begin. We'll hear from both witnesses first and then go to questions.

I will start with Dr. Norton, please.

Dr. Roy Norton (Individual Presentation): Thank you, Madam Chairman.

I apologize for my voice. Almost since being asked to come and appear before you, I've had laryngitis. I don't know if there's a causal effect, but I'll do my best to make myself heard. If you can't hear me, wave or something, and I'll shout.

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In 1996 the industry department contracted me to conduct a consultation of Small Business Loans Act stakeholders—essentially borrowers and other business representatives; lenders, both current and prospective; government officials; and academic analysts of the SBLA.

Earlier this year, as decisions were pending on legislation to renew or replace the SBLA, the department again contracted me, this time to study the current market for small business financing. Let me now describe for you some of my key research findings.

The 1996 consultations were instructive. SBLA stakeholders were still adjusting to the massive expansion of the program in 1993, as well as to the introduction of cost recovery in 1995. While enumerating gaps in the credit market—gaps in working capital and lease financing, gaps facing very small and very young firms, and gaps confronting exporting or knowledge-based firms—almost everyone was reluctant to endorse changes that could put the SBLA program at risk.

In short, while it did not perfectly meet all identified needs, the overwhelming weight of opinion among stakeholders was that the SBLA served an essential public policy purpose.

The SBLA's reach is quite extraordinary. By my calculations, SBLA-guaranteed loans account for 40% of banks' outstanding term loans of less than $250,000, meaning that the program accounts for at least one-fifth of all term credit available to businesses borrowing less than that amount.

Bearing that reality in mind, it's understandable that there was a strong consensus among stakeholders that the SBLA's fundamentals were either about right or should be changed only after considerable experience with cost recovery. Those fundamentals are the amount of the loan guaranteed, the fees and premiums, the guarantee level, the maximum firm size, the maximum loan size, and the maximum interest rate.

Again, while not every participant in the program was equally or fully happy with those parameters, it certainly was the prevailing view that in balancing multiple objectives, the government had probably gotten the fundamentals just about right. I note that the new legislation leaves intact all of the 1995 parameters.

My research this year investigated the existence of some of the market gaps alleged by stakeholders in 1996. It relied heavily on studies done for or by the Canadian Bankers Association, the Canadian Federation of Independent Business, and the industry department—in the latter case by other private sector consultants or economic think-tanks such as the Conference Board.

It will surprise no one that the banking industry feels the small business market is awash with capital, while the CFIB concludes that its members are somewhat capital-starved. While the available statistics were not easily reconcilable, my purposes were as follows: one, to discern gaps in the financing market, perhaps thereby validating SBLA activity and perhaps even justifying an expansion of its reach; and two, in the event of overlap, to assess whether the SBLA might be wholly or partially redundant.

For me it's striking how much the small business financing market has changed, even in the two years since my 1996 consultations. Many innovative products, services, and delivery channels have been spawned. Credit growth has been rapid, outpacing growth in the national economy. Being disproportionately dependent on loan capital, those small firms whose credit requests were approved especially benefited from lower interest rates.

While their overall situation has certainly improved, different kinds of gaps evidently continue to plague small and medium enterprises.

As a general rule, smaller businesses face enduring gaps in the financing market. Some of the reasons are systemic. The relatively small sums they seek offer neither lenders nor investors a return that adequately compensates for the due diligence involved.

Smaller businesses suffer greater loan losses and are more vulnerable to bankruptcy, both partially a function of their relative inexperience. Unsurprisingly, they face heavier demands for collateral.

Two subsets of the category of smaller businesses—start-ups and younger firms—continue to face the least hospitable financing market. On this the CBA and the CFIB agree. Their limited or non-existent track records class them as high-risk.

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They seek debt financing less often than other firms do, in part because when they do, they encounter lower-than-average approval rates. Their ability to access investment is even more tenuous. SBLA guarantees, however, favour precisely this group, with firms three years of age or younger receiving 63% of SBLA loans.

Given that the size of the average SBLA loan is $65,000 and the average number of employees is 5.4 per firm receiving the loan, it seems reasonable to conclude that, absent the SBLA, the small firm financing market gap would be compounded.

Two sectors—innovative industries and exporting industries—face pronounced but largely different financing market gaps. It is to the needs of those two sectors that the market has been responding most assiduously over the past three or more years.

The problems—principally the intangibility of assets in the case of innovative industries and the abiding need of exporters for working capital—have not yet been overcome. However, the responses of other federal programs as well as by the private sector market suggest that the need to bring these sectors under the Canada Small Business Financing Act may be less pressing than was the case in the past.

Businesses in less sexy sectors in many cases continue to deal with an imperfect financing market. At least four sectors—business services, construction, retail trade, and wholesale trade—appear to have experienced credit gaps in the 1995 to 1997 period. In the case of at least one of those sectors, retail trade, the SBLA may have substantially addressed that gap.

While numerous provincial programs are targeted at individual economic sectors, only in a few provinces are there programs designed to enhance all firms' access to debt financing. None of those is as comprehensive as the SBLA. It remains very much a comparative advantage of the SBLA that it is demand-driven and lender-guided and that it does not attempt to pick winning sectors.

The most significant and enduring credit gap facing SMEs seems to be the unmet demand for working capital. It disproportionately haunts small firms. It is the main reason for which SMEs approach financial institutions. The private sector seems finally to be responding to this gap in a big way, with lines of credit and overdraft protection, business credit cards, capital leasing, and factoring of receivables. Furthermore, the federal government is using its other mechanisms to ameliorate this gap, namely the BDC, the EDC, and the regional development agencies.

There is also a leasing financing gap confronting very young firms seeking less than $100,000. However, the overall gap for lease financing is diminishing. Without any help from the SBLA, the specialized finance company market is burgeoning. Leasing growth is creating pronounced ancillary benefits. Like SBLA term loans, leasing frees scarce security for other uses, thus facilitating access to working capital. The leasing industry has made a compelling case that in guaranteeing only the outright purchase of hard assets, the SBLA distorts the SME financing market. This presumably is why the government proposes a capital leasing pilot project.

I found it much easier to conclude the existence of gaps than of overlap. That term implies duplicative, perhaps even redundant, activity. For the most part there is only limited overlap between the SBLA and other federal lenders and guarantors. Most other programming, be it federal or provincial, differs from the SBLA either in its sectoral targeting or in the means utilized to provide credit to SMEs.

Obviously the SBLA does overlap with many private sector initiatives designed to improve SME access to capital. It couldn't be otherwise. The SBLA is a broad-brush program. Of all government programs to assist SMEs, it is probably the most responsive to market demand. Its parameters are reasonably easy for lenders and borrowers alike to comprehend, and apply to far more SMEs engaged in more different kinds of activities across the breadth of the country than do those of any other program.

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For overlap to be eliminated, all SBLA lending would have to be incremental. If government were now to set about eliminating overlap, the new CSBFA would guarantee all risky loans. By program design, it would enjoy a virtual monopoly on risky lending. Defaults would thus be much higher and cost recovery either would be impossible or would necessitate fees set at such a high level that the program effectively would be killed.

Some very straightforward conclusions emerged from my research. There are gaps in the small business financing market. The SBLA ameliorated some of them; others were beyond its scope. Most of the credit market innovations in recent years complement the SBLA rather than duplicate it. If full cost recovery is achieved, the new act, like its predecessor, should help narrow the gap between the rate that lenders would charge new or young smaller business and what those businesses normally would be willing or able to pay.

My two research expeditions into the SBLA have confirmed to my satisfaction that the program's virtue is its straightforward, increasingly well-understood, and relatively non-bureaucratic design. Trying to make its successor, the CSBFA, address all gaps would likely result in it poorly serving all of its objectives.

Thank you, Madam Chairman.

The Chair: Thank you very much, Dr. Norton.

I'm now going to turn to Mr. Clemens, please.

Mr. Jason Clemens (Policy Analyst, Fraser Institute): Thank you. Like Dr. Norton, both Mr. Milhar and I are battling colds as well as jet lag, so I apologize for any lapse in my thought process over the next hour.

When we were asked to submit a brief, it was much more along the lines of the general principles of government intervention in the capital market, specifically in the small business finance markets. So my particular comments today and the brief we submitted are much more along the lines of the general concept of government debt guarantees.

In general, government intervention has two macro effects. One, it causes a reduction in the risk exposure for the lender without necessarily changing the nature of the product. That is, the risk-return relationship for any specific project is altered when there's a government debt guarantee. Secondly, because credit is finite, there is definitely a reallocation process, in that prior to the presence of a debt guarantee, the order or allocation of credit would differentiate itself from that after the presence of a debt guarantee.

In our brief we spend quite a bit of time discussing the notion of risk-return relationships. Both Fazil and I would be more than happy to discuss that further, if that's a point of contention in terms of the Small Business Loans Act.

One of the papers we looked at in the research we did for the brief was E. Brewer's “Performance and Access to Government Guarantees: The Case of Small Business Investment Companies”, which came out of the Federal Reserve Bank in the United States. It re-emphasizes the notion that government intervention in the presence of debt guarantees does alter this risk-return relationship.

Appendix A in our submission has a very simplistic diagram of the effect of debt guarantees when you look at reordering projects. The thing we would stress when we look at reordering is a full cost benefit analysis.

In our submission we note that in the 1997-98 report, 147,000 to 1.2 million new jobs are attributed to the provision of loans through this act. Unfortunately what it doesn't discuss is the fact that that credit was reallocated from other businesses. So the effect may be negligible, and it may in fact be a net detriment to job creation, if credit is reallocated from productive sources to less productive—not non-productive, but less productive—sources, in terms of this risk-return relationship.

We tried to summarize bank credit availability to provide some macro data. In table 1 in our submission, we note both micro lending and the amount of lending covered under the act—that is, zero to $250,000. Currently $2.5 billion is outstanding by the seven big banks in Canada, all of which is below the $25,000 mark.

It's interesting to note that the average authorization for micro lending is $7,900. So we are looking at quite a few loans at a very negligible amount. So the notion that small business loans aren't being made at lower amounts isn't borne out, at least not by the statistics of CBA.

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Also, in terms of the provision of bank credit, it's important to note the effect of technology. A good case in point is Wells Fargo, which has issued $50 million, largely to southern Ontario, all unsecured, basically over the phone through their call centre in Colorado. In our paper on the bank mergers, we suggested that as technology improves and the remaining barriers to entry are eliminated, small business lending is one of the markets that will be more contested, or where constestability will increase.

To summarize very quickly—and again, if people have questions, we can discuss it to a fuller extent—the Thompson Lightstone & Company Limited survey done for the CBA found that only 50% of the SMEs they surveyed used debt, 48% used supplier credit, and 46% used credit cards and leasing. So there are definitely debt alternatives. One of the things we found encouraging was that the percentage of SMEs using retained earnings—that is, their own profitability—to finance ongoing operations and expansion increased from 45% to 51%.

It is our contention in the paper that the most effective way to provide greater financing and flexibility for SMEs is through a restructuring of the tax system. We would discuss that in both absolute and relative terms. My personal inclination is that it's a question of the absolute rate of taxation. I can get into that later.

It's important also to note from the survey data that 93% of all SME loans were approved by the seven major banks, indicating an overwhelming response to requests by SMEs for financing. Also indicative of the responsiveness of the large banks is the fact that 92% of loan applications were approved on initial submission, as opposed to second or third submission, when you restructure collateral or the conditions of the loan.

I would agree completely with Dr. Norton that one of the outstanding challenges for SMEs in terms of finance is the working capital process—that is, financing accounts receivable and inventory with accounts payable. Anybody who's been involved in the small business market understands that the success, both short-term and long-term, of an SME can be dependent on managing accounts receivable, inventory, and accounts payable. Again, in our submission we did quite a detailed briefing and analysis of how that process works. The more information that can be provided to SMEs to manage working capital, the greater financial flexibility they have.

Further, it's interesting to note that in a Statistics Canada study in 1996, the chief cause for bankruptcies in Canada was mismanagement. They particularly noted financial mismanagement, or the inability for small businesses to manage their capital structure—that is, the relationship between debt and equity—their working capital structure, and capitalization. Both the findings from the Statistics Canada report as well as the findings from the U.S. that we note in our paper are indicative of the need for retained earnings as a source of financing.

The main contention of our paper is that this is really an issue of taxation. In a 1998 study from the CFIB, they found that 88.5% of their membership listed taxation, specifically the heavy burden of taxation, as the number one priority for CFIB. In contrast, only 28% indicated that the availability of financing—that is, appropriation of credit from the bank—should be the number one priority. So clearly there is an ordinal sense of issues from the CFIB membership.

In our paper we targeted three areas of finance. One is venture capital, which is extremely important. The evidence we have from the United States is that there is an extremely strong relationship between the rate of capital gains taxation and the amount of venture capital.

It's interesting to note that in 1997 almost $1.8 billion was provided to SMEs through venture capital firms, which is almost the total amount of capital issued under this act. The venture capital industry is geared and structured towards high-risk projects. It is their nature to provide this type of financing. My personal suggestion is that a reduction in the absolute rate of capital gains would facilitate venture capital investment, which would do as much as if not more than the current act does to provide financing for expansion and entering into new markets.

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Canada is three out of seven in the G-7 in terms of corporate taxation. The absolute rate is such that it impedes small businesses from retaining profits and being able to use them.

The most onerous aspect in business financing is the retained earning aspect derived from individual taxation. The challenge in Canada is that if you're not incorporated and you're structured as a small sole proprietorship or partnership, your income is taxed on your personal income tax. So the high marginal and absolute rates of taxation impede the non-remittance of profits and the retaining of those profits to be used in the ongoing operation of business.

Both Fazil and I are anxious to answer any questions. I apologize for the quickness of the presentation.

I would just end by stressing the fact that the risk-return relationship really is the foundation of prudential banking in Canada. Any skewing of the risk-return relationship by nature reorders and/or reallocates credit. It is that credit that really produces and defines future productivity and future capacity. Our suggestion is that a restructuring of the tax system in order to focus on SMEs—that is, a reduction in individual taxation and a restructuring of capital gains as well as the corporate tax—would do much more to facilitate and promote SME growth.

Fazil has some concluding comments.

Mr. Fazil Milhar (Director of Regulatory Studies, Fraser Institute): I just have a couple of additional points to make, particularly regarding taxation.

Let me start off by saying that we do constantly hear news stories about our declining standard of living. Industry Canada's paper, Keeping Up with the Joneses, pointed that out as well. From OECD data, we see that in total factor productivity in Canada—that is, how efficient we are—between 1979 and 1996 we have had a negative growth of 0.1%. In other words, our standard of living is declining.

Productivity basically refers to the efficiency with which you are able to produce things. Productivity rates or changing productivity might be rather small, but a small difference makes a huge impact in the long run in terms of economic growth. A major source of improvement in productivity is new investment, which expands the capital available to each worker. High rates of investment will induce high rates of technical change, which means innovation and faster economic growth. Therefore economies with high savings will result in faster economic growth.

In light of that, let me get to the notion of this high rate of taxation that we have on capital gains. Just to reiterate Jason's point, high taxation of capital gains and dividends reduces the savings available as well as aggregate investment. If you're working with less investment, i.e. less capital, that means you are less productive. To that extent, what matters to investors is the rate of return after taxation. High taxes on capital gains reduce the level of investment, the net rate of return, and overall levels of investment.

Since productivity growth is embodied in new capital investment, the impact of such taxes is going to slow down economic growth in the long run. The Prime Minister in a recent Chamber of Commerce speech said the government's objective is to increase the productivity rate of this country, given the fact that our standard of living is declining. Once you see productivity declining, that means your standard of living is coming down. If you are to ensure that firms have enough money to put back into businesses, invest in capital.

To reiterate, small and medium-sized businesses generally are sole proprietorships and partnerships. If you have high rates of taxation on those folks, that means they have less money, less retained earnings, to plough back in as investment. So we will have to try to lower corporate income taxes, capital gains taxes, and income taxes, because otherwise we won't provide the kind of self-financing necessary for long-term economic growth.

If you are to ensure that there is long-term economic growth, you have to ensure there is capital, i.e. capital will basically act as a lubricant for productivity growth. My concern largely is that if you compare us to the United States, we are not investing as much in capital. In the U.S., their capital gains tax rate is way lower compared to Canada's, and you see a lot capital investment occurring in smaller firms, high-tech in particular, because of venture capital coming on board.

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In Canada, if we are to ensure that some high-risk enterprises are able to succeed in this economy, we should try to look at the capital gains tax structure here, as well as personal income taxes and corporate income taxes.

Thank you.

The Chair: Thank you very much.

I want to thank the witnesses for their presentations. We're going to begin with questions. I remind my colleagues that I will be sticking very tightly to our timeframe, because of the short time we have.

Mr. Pankiw, please.

Mr. Jim Pankiw (Saskatoon—Humboldt, Ref.): Thank you.

Mr. Clemens, despite your concerns about your thought process, in spite of your cold, I found your thought process very clear. It's unfortunate that other people can't see things as clearly as you. I don't have any questions of you, because you were very clear and accurate in everything you had to say, and I would encourage other members of this committee to listen very carefully to what you had to say.

Mr. Norton, you mentioned that the stakeholders are borrowers, lenders, government officials, and...?

Dr. Roy Norton: We consulted also with some academics who had done research on the program. Stakeholders are the first three categories.

Mr. Jim Pankiw: Oh, okay, just the first three.

With respect to lenders, the Auditor General pointed out that many lenders are abusing the SBLA and simply using it as an extra form of security by requiring borrowers to use the SBLA. If it hadn't been there, they would have lent them the money anyway, so it's just a matter of taxpayers basically footing the bill for the extra guarantee. So it would seem that lenders would have a certain bias in seeing the SBLA continue, or in reporting to you that, as you stated, it's served an essential purpose. I don't know how much credibility we want to give what they would report.

You mentioned borrowers as another stakeholder. Once I was a borrower and was required by a bank to undergo the SBLA, and I was led to believe that without it, I wouldn't have got it. So again, borrowers, by and large, I would think, are going to also give inaccurate reports, because they were led to believe by the institution that this was required and essential and a good thing, when in fact it really wasn't.

The third stakeholder you mention is government officials. If the government doesn't see the wisdom in what Mr. Clemens is saying—that the simple way to deal with this problem is just to cut capital gains taxes and get government intervention out of businesses' lives, and we'd all be much better off....

It seems all the stakeholders you consulted are going to give you a biased view of the usefulness of this type of program. What would be your comments on that?

Dr. Roy Norton: Well, the stakeholders would probably all favour the program. They were consulted about its individual parameters, and they would not necessarily agree with each other on whether interest rates should be lower or higher, or whether the ceiling for loans should be $250,000 or lower or higher. You get the drift.

You raise the issue of incrementality by another name: whether any of these loans would have taken place without the SBLA. It has to be the case, in an insurance pool type of arrangement—which is effectively what this is—that some of the loans couldn't have taken place without the SBLA. But some naturally have to be included so as to balance the risk. Allan Riding and others have looked at it and assessed that the level of incrementality is at about 50%.

Under cost recovery, which is where the government has taken SBLA, or where it is taking SBLA, it's imperative that there be a program the participants can afford. Prime plus 3% is the current maximum interest rate, and that includes the annual administration fee.

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If you were to take all of the less risky loans out of that portfolio—the ones that would have been made anyway—what remained would be by definition more risky, and probably it would be the case that the interest rate charged would have to increase, perhaps even substantially. You'd then have a drop-off in demand, to the point where the program would probably become redundant.

Mr. Jim Pankiw: I understand what you're saying, but in effect then, isn't what's happening that businesses that would have got the loan anyway are being forced to pay a premium, effectively subsidizing businesses that would never have got a loan in the first place?

Dr. Roy Norton: Well, they don't have to participate, and when the interest rate went to prime plus 3%, there was a fall-off. Some businesses found they could access capital more cheaply without participating through the SBLA program. Those that continue to participate at the prime plus 3% maximum probably think that's about as good a rate as they can get.

The Chair: Thank you, Mr. Pankiw.

Mr. Shepherd.

Mr. Alex Shepherd (Durham, Lib.): Thank you.

I'm interested in some of the conclusions you've made based on some of the information you state as reference material. For instance, is a survey by the Canadian Federation of Independent Business an adequate source or reference point for you to make the assumptions you've made about the taxation system?

Mr. Jason Clemens: The reason we referenced the CFIB was simply to support the concept that really, businesses can only do one of two things with their profits. They can either remit them to the owners—that is, to themselves or the shareholders—or reinvest them. The rate of taxation determines what's left over. So you have pre-tax profit, and the higher the rate of taxation, the less the amount left over. Clearly, just as a function of the mathematics, the lower the tax rate, the more amount left over for the business to reinvest.

Mr. Alex Shepherd: Okay, wait a minute. You've made a number of assumptions in this study that I want to dispute.

First of all, you talk about unincorporated businesses, and then you compare them to the high marginal rates of tax. But isn't the reality that unincorporated small businesses are likely to have lower profitability—in other words, are likely to be at lower marginal rates of tax?

Mr. Jason Clemens: But the business itself doesn't have the marginal rate of taxation; the individual has the marginal rate of taxation.

Mr. Alex Shepherd: That's what I mean. We're talking about unincorporated businesses.

Mr. Jason Clemens: Right.

Mr. Alex Shepherd: If somebody is astute and you believe in pure economics, if they have a higher income, obviously they're going to incorporate, correct?

Mr. Jason Clemens: That would depend on the legal liability. Most people, when looking at the nature of why businesses incorporate, would tend to look at legal liability. You have limited liability as an incorporated business, whereas you don't have a shelter.

Mr. Alex Shepherd: In my practice as a chartered accountant, one of the main operations would be income tax.

Mr. Jason Clemens: Right.

Mr. Alex Shepherd: It would seem to me that some of your theories are not true, because the unincorporated businesses—the ones you would like to apply high marginal rates of tax to—in fact probably don't exist, because other than professionals, most people would be incorporated.

Secondly, because in Canada we have the small business deduction for small incorporated businesses, my understanding is that those businesses are one of the lowest-taxed in the OECD.

Mr. Jason Clemens: I don't know if Fazil wants to respond, but the data we have from both the CFIB and the OECD—and granted, the OECD data is aggregated—shows that Canada is not cost-competitive in terms of level of taxation.

Mr. Alex Shepherd: You're talking about personal taxation, but you're not talking specifically about how small and medium-sized businesses are taxed. So for instance, if a small business operation is earning less than $200,000 a year, they're going to be taxed at something like 23% in Canada. That's one of the lowest rates in the western world.

Mr. Jason Clemens: Are you saying marginally, or the average rate?

Mr. Alex Shepherd: That is a fiction. Corporations don't pay progressive rates of tax; they pay flat rates.

Mr. Jason Clemens: Right, but you're talking about individuals, right?

Mr. Alex Shepherd: No, we're talking about incorporated small businesses.

Mr. Jason Clemens: I'm sorry. I thought the reference you were just making was to unincorporated sole proprietorships or partnerships.

Mr. Alex Shepherd: I'm telling you that most small businesses that are profitable would be incorporated, and if they define themselves as eligible for the small business deduction, they're only paying a 23% rate of tax, which is one of the lowest in the OECD.

Mr. Jason Clemens: You're saying as a corporation?

Mr. Alex Shepherd: Yes. But you've made this whole analysis based on high taxation for small and medium-sized business.

Mr. Jason Clemens: Right, yes.

Mr. Alex Shepherd: Well, those two are inconsistent.

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Mr. Jason Clemens: Again, I would reassert that the rates of individual taxation in Canada, relative to the G-7, are the highest.

Mr. Alex Shepherd: Personal tax.

Mr. Jason Clemens: Yes, and again, if you look at the range of loans under $250,000, in the paper we were quite clear in saying that our view is that most of those businesses would be small businesses that are unincorporated, at that level of credit, especially when we looked at micro lending with the CBA data.

Mr. Alex Shepherd: But I'm going to suggest to you that if they are that small and they're unincorporated, you cannot take the high marginal rate of tax and apply it to them. In fact they'd be in some of the lower marginal rates of tax, because they're not that profitable.

Mr. Jason Clemens: Well, no. I guess I would disagree. The assertion you're making is that because they're sole proprietorships or partnerships, their level of profitability is not compatible with similar-sized companies that are incorporated.

Mr. Alex Shepherd: Correct.

Mr. Jason Clemens: The statement we made is that those companies are smaller, acting as sole proprietorships and partnerships, and that the appropriate income tax to look at is individual income tax. Then we provided rates in the study showing how high those rates are. Our assertion was that marginal reduction, or reduction in those absolute rates, provides more money to the businesses to reinvest and to finance their ongoing operations.

Mr. Alex Shepherd: The high marginal rates of tax can be applied to individuals who are receiving an income from a corporate entity of some kind, but not the corporate entities themselves.

Mr. Jason Clemens: But, again, you keep—

Mr. Alex Shepherd: What I'm saying is your data is skewed.

Mr. Jason Clemens: I was just discussing sole proprietorships and partnerships, and now you are discussing corporations. Corporations would face the corporate tax, whereas sole proprietorships and partnerships would face individual taxation.

Mr. Alex Shepherd: I'm taking the small unincorporated business—

The Chair: Mr. Shepherd, Mr. Shepherd—

Mr. Alex Shepherd: —and then looking at the total individual tax structure in Canada. If you take the group you're talking about, they're going to fall in the lowest marginal rate of tax, not the highest.

The Chair: Mr. Shepherd, thank you. We do have to move on. Thank you very much.

[Translation]

Go ahead, Mr. Dubé.

Mr. Antoine Dubé (Lévis-et-Chutes-de-la-Chaudière, BQ): I don't have any questions for Mr. Norton because his presentation was very clear. Maybe it's because he's defending something that concerns me more specifically.

As for your presentation, Mr. Clemens, I'm a little disappointed that it was in English only, which may have affected my understanding of it somewhat. However, your suggestions and comments about small business financing remind me of a time in the early 1980s when Mrs. Thatcher made some similar proposals. Since then, automobile manufacturers, computer companies and textile industries have disappeared altogether in Britain. Wages have declined, but the unemployment rate has not fallen. On the contrary, it may have even increased and salaries are much lower than they were before.

I might be wrong, but the feeling I get from your presentation is that you want to protect the assets of those who already have some. I am more concerned about job figures.

You expressed some concerns about business taxes, but seemed to imply that only shareholders pay. As I understand it, if businesses are taxed at a higher rate, we must also consider the cost in terms of employee wages and the number of jobs at stake.

There are people who manage to create jobs for themselves by setting up their own business. Had they not done this, they would not have found a job. It is a known fact that small business is responsible for over 80% of the jobs created in Canada in recent years. What is the government doing by guaranteeing more risky loans and ventures? It is creating jobs.

We don't necessarily applaud the Liberal government when it does this, but we agree with its actions.

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I fail to understand your way of thinking. You seem to be saying that we must discourage the practice of lending money to small business and allow financial institutions more flexibility, in which case, because automatically there would be no risk guarantees with this type of program... fewer businesses will be created, along with fewer jobs. I'd like you to try and convince me that the opposite is true. I saw nothing in your submission regarding job creation. When jobs are created, the government takes in more taxes and spends less on social assistance and on unemployment benefits.

[English]

Mr. Jason Clemens: Again, the only thing I can stress about the focus of the paper is that we tried to look at it in a broad stroke in terms of government intervention in the capital markets.

I would agree with you about the importance of SMEs in any economy in terms of entrepreneurship, the development of new products, and innovation. I completely agree with you. The question we posed was this.

In the reports, it's a one-sided assessment, in that yes, financing is provided to SMEs, but because credit is finite, it must be reallocated from other projects. The introduction of debt guarantees into the risk-return relationship within the credit provision system simply means you're moving it from these two projects to these two projects. So yes, jobs can be directly attributed to the two projects that are now financed, but in order to have a full cost benefit analysis, we have to ask and understand what the effect of transferring that credit was. The two projects that now don't get credit financing, how did they then expand their operations? Did they even expand their operations?

It's inappropriate to simply look at the benefits side of the ledger, in terms of the act and its effect on small business financing, without looking at those projects that would not have received financing or would have received it at a higher rate through alternate deliverers.

I don't know if you want to add something.

Mr. Fazil Milhar: I have a couple of points.

You raised the example of Britain. My understanding of what's gone on in Britain since the 1980s and into the 1990s is that auto companies from Germany and so on are moving into Britain, because Britain's productivity is far better and the unit cost of labour is much cheaper than in Germany. The fact of the matter is that car companies are moving into the United Kingdom as opposed to being in Germany.

I have another couple of points to address. If we want the high-technology sector to survive and succeed in Canada, we need to ensure that there is some sort of financing other than traditional bank financing—that is, venture capital. If we are to ensure that there's venture capital, we have to reduce our capital gains tax rates. If we don't, we won't be bringing enough resources to spend on those kinds of industries that are wealth-generating and therefore also improve productivity. If we do not work with more capital, we are going to be less productive.

As we know, in the last 15 years, we have seen Canada drop from number two in per-capita terms to number 11. Why is that? Because our productivity is lacking. Why is productivity lacking? Because of the mere fact that we are not investing as much in capital as the United States is. If you compare per 100,000 people, if you compare computers or any machinery you want to take, they're working with much more capital than we are.

If we are to ensure that firms are working with more capital, let's try to reduce our capital gains tax so that people can reinvest and take the kind of risk they want to take. Without wealth creation, without productivity growth, we are not going to create jobs. It's as simple an equation as that.

[Translation]

The Chair: Thank you. Do you have a brief question, Mr. Dubé?

Mr. Antoine Dubé: No, it's more of a comment. I have the impression that you are biased. You are entitled to your opinion, but I do not share it. Yesterday, I was watching a Radio-Canada program where you gave the Quebec government low marks for improving the working conditions of employees. I think you should be taking into consideration not only financial capital, but human capital as well. Thank you.

[English]

The Chair: Thank you, Mr Dubé.

Mr. Lastewka, please.

Mr. Walt Lastewka (St. Catharines, Lib.): Thank you, Madam Chair.

Dr. Norton, I noticed that in your report and when you were talking, you wanted to make the point that the changes that were made in 1995 are starting to pay off, but it will take extra time.

• 1620

You did confirm to the committee that the changes that were made in 1995, with the idea of having more cost recovery and so forth in fees, carry through in our new legislation. So the transition we had for those two or three years, going from the old system to the new system, would not come about as this legislation goes through. You did confirm that.

Dr. Roy Norton: That's right.

Mr. Walt Lastewka: Much has been said about the size of the SBLA loan. I know it's $65,000 to $68,000. Do you have any information or advice on whether we should be changing the $250,000 ceiling on loans? Could you give us your advice on that?

Dr. Roy Norton: In my consultations in 1996, that was one of the parameters that I did speak with stakeholders about, Mr. Lastewka. It had just increased. In 1993 it had increased from, I believe, $100,000—it might have been $150,000—to $250,000, a substantial increase. A few people thought it should fall back, particularly people in the CFIB, who thought maybe it was too high. Some others thought perhaps it could increase by another $50,000 to $300,000. But on balance, there was a consensus, if you like, that it was probably about right, or more to the point, that it should be left alone rather than be tinkered with.

This is like an interlocking puzzle. Every one of the changes can affect the overall soundness of the program; the quality of the borrowers, as it were; and potentially therefore the potential for cost recovery. So on balance, most people thought it should be left as it was.

Mr. Walt Lastewka: In my recent discussions with not only the bankers and lenders but the small businesses, they have said we need to have some good results for the next two or three years. That's when we'll be able to really compare.

Dr. Roy Norton: Right.

Mr. Walt Lastewka: Mr. Clemens, I was a little bit confused in your presentation, so I need some help.

When I first heard your comment that your study was based on government intervention in the capital marketplace, I wasn't quite sure whether you were coming here to comment on the bill as presented or to give us a lecture on certain items, and I'm not sure whether you're in favour of the act or not. I don't want a fuzzy answer. Is your recommendation that we not have a program in the marketplace?

Mr. Jason Clemens: Yes. I hope I wasn't lecturing, but no, I would not be supportive of the program.

Actually, one of the things we touched upon but didn't stress, just because of time constraints, was the fact that moving towards full cost recovery seems to indicate that there is a marketplace for these types of loans. In fact if you look at the structuring of the loan in terms of the pricing, it is very much along the lines of how venture capital firms structure, if they do debt issuance: a 2% upfront fee and then a lagging fee.

In fact when we got the call to present, within about half an hour, I found some 60 venture capital firms across the country, and I actually included the Bank of Montreal's profile of the various different programs they have for venture capital financing. So I would suggest that those types of niche players and the new players we see coming into the market—such as Comerica, Finova, and Wells Fargo—would contest the market.

Mr. Walt Lastewka: So what you're saying is you don't agree with the CFIB recommendation that there be a program in the marketplace?

Mr. Jason Clemens: I'm sorry?

Mr. Walt Lastewka: You don't agree with the CFIB, which says it's very important to have this program in the marketplace?

Mr. Jason Clemens: No, I wouldn't agree with them.

Mr. Walt Lastewka: Okay, thank you. I have no further questions.

The Chair: Thank you.

Mr. Jones.

Mr. Jim Jones (Markham, PC): On the same question, I was going to say, with all the new banking alternatives coming on the Canadian scene, why do we need a Small Business Loans Act? I'm hearing stories that some are growing $100 million in six months over the Internet, so it seems everybody has the access to capital.

• 1625

Mr. Jason Clemens: I don't like to give anecdotal information, but when I was in commercial banking, in southwestern Ontario we were extremely concerned with the entry of Wells Fargo, because of the market niche they were going after. They gave loans of up to $75,000 unsecured, so there was no collateral for those loans. Their turnaround time was 48 hours. At best, when I was still in the industry, our turnaround time was higher than 48 hours.

So I would completely agree that as technology advances.... For instance, Wells Fargo has no physical presence in southern Ontario. It's completely done from their call centre in Colorado. So as those technologies develop, and if the banking sector or larger financial services sectors further deregulate and allow for those niches to be contested, I would fully agree that those markets will be filled.

Mr. Jim Jones: So once we deregulate the banking system, there should be no problem for all kinds of competition.

Mr. Fazil Milhar: We don't have much competition today. If you followed the MacKay task force recommendation and actually allowed for complete deregulation, certainly you would see more competition. Today—and 10 years ago we didn't have this—1.6 million Canadians are registered Internet users, and 5.9 million Canadians use telephone banking. These things were not there before. These are the changes that are occurring. Wells Fargo, amongst others, could potentially compete.

There is one other point to make. The notion that you would have and subsidize and guarantee these loans for small businesses distorts the capital market. That's what it does, and that's something that shouldn't escape the committee—the notion that you distort the marketplace by how you lend money to project A or project B. It's taxpayers' money, after all. If there is a high rate of default, there is a moral hazard component. When you have a guarantee, banks are also, in some sense, going to lend to high-risk borrowers, because they feel they're covered up to 85%. So clearly we have distortions in the marketplace as well.

Mr. Jim Jones: You mentioned a productivity gap. What is causing the productivity gap between Canada and the United States?

Mr. Fazil Milhar: Several explanations have been given by many economists. One, some of the studies show that 12% to 31% of the decline in productivity can be explained by the growth in regulations in Canada.

Two is the high tax burden we face. As a percentage of GDP, we are 10% higher in terms of the taxes we collect in Canada. Clearly that's a disincentive, as we have mentioned, on capital gains, personal income taxes, and corporate taxes. We are not allowing firms the incentive to be entrepreneurial, to take risk, and to invest in capital. If you're not working with more capital—human capital and physical capital—you're not going to be as productive. It is a simple equation.

So there are a couple of explanations. One is the growth in regulations in Canada, federal and provincial, and second is the high tax burden. Those are possible explanations for our productivity gap.

Mr. Jim Jones: Is that the reason that this summer, when we had the Asian flu, when you looked at the flight to quality, most of the money went to the U.S. dollar and not to the Canadian dollar?

Mr. Fazil Milhar: I think everybody was going off to buy the U.S. dollar, given that everybody was scared of every other currency.

Our productivity decline has been going on since the mid-1970s. There's been a steady erosion of our productivity growth. So we have to be concerned. It seems the Prime Minister is concerned about it. Unless we address that, we will be seeing a decline in the standard of living in Canada. And that's what's going on. Right now we are number 11 in per capita terms. That's a significant drop over the last 15 years, and we should be concerned about it. We should be looking at our tax structure and the regulations we are passing, because those two partially explain the decline in productivity growth.

The Chair: Thank you very much, Mr. Jones.

I want to thank the witnesses for being with us. As I said at the beginning of the meeting, we do have other witnesses, and we are expecting bells at 5.15.

We appreciate Dr. Norton, Mr. Clemens, and Mr. Milhar being with us today. We look forward to other witnesses we'll have on this same issue. It was a very interesting discussion. Thank you for your time. If I could ask you to trade places with our next witnesses, we'll just take two minutes.

Members, don't leave; don't take off.

• 1630

• 1633

The Chair: We're going to resume our hearing. We have one of our witnesses with us, and I suggest we begin, because we are going to have bells at 5.15. We have Mr. Greg Smith, a partner at Victoria Woollen Mill.

Just so you're aware, so far Mr. Laforge has not yet arrived. We'll ask him to join us at the table when he does arrive. As we do have a time limit, if Mr. Smith would be willing, we would ask him to begin.

Mr. Greg Smith (Partner, Victoria Woollen Mill): Thank you, Madam Chairman and members of the committee.

I'm here really out of what I consider a civic duty. I don't have any particular axe to grind. I don't belong to any organization. I'm a small entrepreneur. I've used the small business loans program for two businesses that I'm involved in. I'm a a partner in a consulting company in Ottawa, and we've used the program. But I wanted to talk today about a project in which I'm a 50% partner, in Almonte, just west of Ottawa.

The project is the Victoria Woollen Mill. It's a heritage building that was vacant for a number of years, which I purchased with my partner, Stephen Brathwaite, who is also here today. I just wanted to relate our experience with the program.

I think the reason I'm here is that I wrote a letter almost a year ago to the Ottawa Citizen and related some of our experiences, because there was some press at that time about the small business loans program. I felt that it had worked very well for us. We had been very happy with it. In fact we felt it was instrumental in making our project a success.

We bought this mill. I don't know if any of you have been to Almonte. It's a beautiful little town about 40 minutes west of Ottawa. The downtown is on a waterfall. The Mississippi River runs through the town.

• 1635

About six or seven years ago, the downtown started to empty out, as in a lot of small towns. A lot of beautiful heritage buildings were sitting empty in this town, and the main street was starting to look like a ghost town.

Stephen and I had both been interested in heritage. Stephen's an artist. As I said, I'm a consultant, and I've been involved in different things. We both got interested in this vacant six-storey building on the waterfall at the same time, and almost on the spur of the moment, we put in an offer to purchase and ended up setting up a partnership and becoming part owners of this building.

I won't go through the whole story, but basically this is a building of around 18,000 square feet in a wonderful location, and it had been empty for three years and on the market. It had been sold under power of sale before we bought it.

We bought it with the intention of making it come alive again, of making it a centre for arts, heritage, and community economic development. I don't think either of us ever thought we would get rich from the project. We were interested in it for other reasons, one of which was to help keep the town going and keep the town alive, as well as our own personal interest in heritage.

When we started, we bought the building, and through a series of events, because the trust company we bought it from went bankrupt, we ended up in effect owning it mortgage-free. But we couldn't find any financing to develop the property. We wanted to renovate it in stages. We approached a number of banks, a number of trust companies, and the Federal Business Development Bank, and no one was interested in this project. We really were at a bit of a dead end. This was in 1993-94. We were holding what could have turned out to be a very large white elephant.

Finally we talked to a bank manager at the Royal Bank in Carleton Place, and I almost had to ask him to repeat himself, because he said, “Yes, we might be interested in taking a look at that.”

Anyhow, we met with him, and in effect the only way this bank manager or any bank manager or anybody considering lending us money would talk about this project was if we came in under the small business loans program. We had quite a bit of our own money either in the property or ready to put into it, so we weren't highly leveraged. We weren't looking for more than 40% or 50% of what we needed.

The way we made this project work for us—and he worked with us—was that we started a business. My understanding at the time, from what he told us, was that you weren't eligible to do real estate development projects unless it was in the context of operating a business in the property. So we created a business that operated in this building. We set up a retail business and a café, which is what neither of us does for a living and what neither of us really wanted to be doing. It ended up taking us away from our other occupations, but we got the business going, and that was the stepping stone to getting the mill up and running again.

Within about a year, we leased that business out. Whoever was advising the bank manager gave him approval for us to convert the business into a lease operation, so we effectively got out of it after a year. At the time, I believe you had to have owned a business for three years before you could lease it out, so there was some flexibility and bending of the rules, but it enabled us to get back to what we do best and it enabled some professionals to take over that business, which then became a very good anchor tenant in our building.

Through this café operation, which we incorporated, we borrowed $46,000, and we borrowed $204,000 against a first mortgage under the small business loans program, which we used to develop the property. That's what got us going. That was in 1994-95.

• 1640

We have now renovated two-thirds of the property. We've always been pushed by demand. We've been pushed by tenants wanting space, wanting to move into the building, which is a nice position to be in, but you have to be able to finance that development.

We now have about 12,000 or 13,000 square feet developed and rented out, and we're just in the process of organizing the development of the last 4,000 or so square feet, which will complete about 90% of the building. Again, it's because we have people coming to us saying they want space. We have it leased before we start.

That's been our experience. I wanted to comment just a little bit on the interaction we had with the small business loans program, but maybe I could talk about the impact this project has had on our community.

Almonte is a small community. It's a feeder community, or dormitory community in some ways, for Ottawa, Kanata, and the high-tech business. It's a community that, up until five or six years ago, very few people were investing in in a commercial sense. The downtown, as I said, was emptying out. The supermarket had moved up to the mall. A lot of businesses were moving to the mall. There were a lot of empty shops. There were at least three of four old mills like ours—wonderful old buildings sitting there that nobody wanted to buy and take on. We did it, and that encouraged other people to do it.

If you go to Almonte today or tomorrow, which I encourage you to do, you'll find that almost all of these old heritage properties have been developed or renovated, turned into pubs or restaurants, or in our case, we have a mix of high-tech businesses. It's an incubator business. We have a number of small high-tech starter companies that are expanding. That's part of the reason we have to keep ahead of them. They're hiring people, and they're doing it right downtown in Almonte. We have a café, a restaurant, artist studios shared by four artists, a graphic design company, an architect, a small print business—a real mix of tenants.

The impact on the town has been, as I said, that it stimulated other development. It's helped encourage other people to develop a lot of these white elephant, beautiful old heritage buildings. I think around 35 people are working full-time in our building now, so it's helped to create employment, either directly or indirectly, in our community. It has contributed substantially to the quality of life in our community.

We're very proud of what we've done. We've been recognized in the community by receiving an award from the town for what we did. We've had quite an impact on the community.

I really wanted to talk about the small business loans program. Again, as I said, I don't belong to any organization. I don't have a point of view to push here, other than to say it's very important for small businesses, especially in outlying areas such as Almonte—and in even more remote communities it's probably even more important—to have access to the capital they need to create jobs at home, to create opportunities, and to develop their communities and the places where they live.

In our case, $250,000, which was the maximum we could get through this program, encouraged us to put in probably twice that much of our own money, and it was matched again by at least that much from other sources. So we've put over $1 million into our community. That's hired carpenters, plumbers, and all kinds of tradespeople. It's created a magnet for people to develop businesses in the community. It has had all kinds of other spinoffs, and each of those businesses is investing in the community. So there's a tremendous leverage factor from that $250,000 that we got originally from the program.

As I said, I don't think we would have got that financing, and that building would still be there today as an empty hulk, if this program hadn't been in place, because no banks, no trust companies, no one we talked to wanted to touch it. In fact some of the managers of these companies and some of the higher-ups, even though the local manager was onside and was interested....

Many of the loan approvals had to go on to Ottawa or wherever they go up the ladder. In some cases we were turned down, or the local manager thought it was a good idea but was turned down by superiors. In some cases we were told they didn't even want to bother coming out to Almonte; it was too far; they didn't want to bother with a small project like this. So in my opinion, this program has been, in our case, instrumental in making the project a success.

• 1645

Earlier this year, we refinanced through the Business Development Bank and paid back all but $37,000 of the small business loans we'd taken, so we've paid back most of it. We kept a small one for the café, which is secured by the equipment in the café, and we're paying that out on schedule according to the original agreement. So I don't think we've been a drain on the program. We've paid it back and we've refinanced in order to go further with our project.

I have just two or three other very quick points. In my opinion, paying a small percentage premium for the loan as a kind of guarantee or to help insure the loan is worth it. If that's what you have to do to get the financing, I don't have a problem with that. As I said, we were impressed with the flexibility in the program. Although it wasn't apparent at first that we might be able to bend the rules a little bit, when we had to do that for our business to survive and for us to go further, the program met our needs and was flexible. It enabled us to, as I said, lease that café out.

The combination of the program and a bank manager—and I'd like to give him his due; this was someone who really believed in the community and the potential of the project—was very effective and very good for our community. I would like to see this program stay, be enhanced, and be made accessible to as many people as possible.

That's all I have to say.

The Chair: Thank you very much, Mr. Smith. Some of the committee members may have some questions for you.

Mr. Pankiw, did you have any questions?

Mr. Jim Pankiw: Mr. Smith, I found it interesting that you said you and your partner had a substantial amount of money to put up yourself, but despite that fact, you couldn't get financing. So you had to go through the SBLA and pay a premium on top of that—a premium that has undoubtedly cost you thousands of dollars.

I don't understand why you take the view that you don't have a problem with paying that premium and paying that extra money, instead of being critical of a banking system that is over-regulated. If there were more competition, surely you would have gotten that loan. Your proposal, in a situation where banks were less regulated and there was less taxation and government intervention....

Why do you not look at that and say you're critical of that, instead of saying you don't mind paying a premium for a program that covers up the deficiencies that exist because of the mismanagement of government?

Mr. Greg Smith: Well, those are your words, not mine. Who wants to pay 2% if they can pay 0%? Nobody.

Mr. Stan Keyes (Hamilton West, Lib.): That's right.

Mr. Greg Smith: But there was lots of opportunity for all of the competition to come and finance us. None of them wanted to talk to us. None of them would come from Ottawa or wherever they were out to Almonte, even to look at the property and go through it, even when we had a track record, even when we had 50% or 60% of our own money in the project. And that's not money we had sitting around. We both scratched, scraped, and sacrificed, and that went in over a period of time.

If this program hadn't been there, we would still be sitting there with an empty building. It was the only option we could see at the time. No one would touch it.

Mr. Jim Pankiw: I guess the point I'm making is there's a problem there. There was a problem for you, and that was access to finance.

Mr. Greg Smith: Yes.

Mr. Jim Pankiw: But instead of being critical of the regulatory conditions that exist, which prevent the competition from being there that would have allowed you to have access to that financing.... You were then forced to engage in a program that covers up the problem instead of curing the problem, at a personal cost to you.

Mr. Greg Smith: Well, I guess I don't look at it that way. From my point of view, there was ample opportunity for the competition to come in and woo us and sweep us off our feet. We couldn't get in their door, and that has nothing to do with regulations, from my perspective, as a person looking for financing. They're all out there. They all had money. Why the reluctance? I guess it's because they got burned in the big crash at the end of the 1980s. Nobody wanted to touch real estate.

• 1650

As a small businessman sitting out there and opening my mail every day, when things are good, I get tonnes of stuff from banks, saying, “How would you like to increase your line of credit?” Go over your line on your Visa and what do they do? They send you a letter saying, “How would you like some more?” In good times there's no problem, but we were trying to do this in the early 1990s, at the tail end of a real estate downturn, in a small community that nobody who was making decisions knew about, was interested in, or wanted to even bother coming out to look at.

So to me, it wasn't a lack of competition; it was a lack of willingness or interest. Either we were too small potatoes, we were too far out, or whatever it was. No banks or trust companies that we talked to wanted to help us out. So for us to make it happen, the 2%.... I would have preferred to pay 0%, but the 2% was a small price to pay, because without that, it wouldn't have happened at all.

Mr. Jim Pankiw: But it was—

The Chair: This will be your last question.

Mr. Jim Pankiw: Okay, that's fine.

The Chair: Thank you, Mr. Pankiw.

Mr. Murray.

Mr. Ian Murray (Lanark—Carleton, Lib.): Thank you.

I should be clear that I guess I have a conflict of interest here, as Mr. Smith's member of Parliament. Mr. Smith is a well-respected constituent of mine, and I'm also very familiar with the Victoria Woollen Mill and can attest to all the good things Mr. Smith has said about it.

I really have more of a comment than a question. I'm trying to bootleg in the point I wanted to make before the previous witnesses, before we ran out of time.

Mr. Smith, are you a member of the Canadian Federation of Independent Business?

Mr. Greg Smith: No.

Mr. Ian Murray: I ask the question because reference was made to a survey done by the CFIB, wherein the majority of people said the tax structure was more of a problem than access to capital. It struck me that perhaps that answer came through because most start-up businesses, which have the most problem accessing capital, are not yet members of the CFIB. It appears that once you're already in business and doing well, you start thinking about joining business organizations. So I thought perhaps the information from the CFIB was skewed or flawed to some extent.

It's my view that more often than not, the people we tend to hear from, as members of Parliament, are those who want to start up a business, as opposed to somebody who's in a business. It's at that stage that access to capital for many people seems to be almost impossible to obtain.

I don't want to belabour the obvious here. You've expressed very clearly the experience you had and your support for this act. But are you aware, as somebody who does have extensive contacts with other members of the business community in small-town Canada, of others who would share your opinion of the Small Business Loans Act and their experience with it? Or would they see you as an anomaly who somehow perhaps got lucky with the bank on this one?

Mr. Greg Smith: I can't really say what other people think. I'm involved in other types of businesses as well, in different areas. As I said, I'm a partner in a consulting business, and we've used the program to acquire equipment, basically for capital acquisitions in the business.

I've talked to a few people who've accessed the program. I don't have an opinion generally on what people would think, but my impression from anyone I've talked to about the program is that it's been very helpful. I really don't want to say much more than that, because I haven't had a lot of discussion with people about it.

Mr. Ian Murray: It may have been unfair of me to ask that, but as I said, Madam Chair, I just really wanted to bootleg that comment in. I'll stop there.

The Chair: Thank you very much, Mr. Murray.

[Translation]

Do you have a question, Mr. Dubé?

Mr. Antoine Dubé: I congratulate you on getting your project up and going. You've demonstrated quite clearly to us that the only financing available to you was through this program.

• 1655

I'd like to ask you the following question. You mentioned three areas in which financing was more difficult to secure. For example, you mentioned investing in an older building. Furthermore, if I understood correctly, you are associated with some people from the artistic community. This is also a difficult area in which to secure financing. As for the third area, I've forgotten.

Some areas of activity present more problems. Moreover, young people who want to get into business do not necessarily have the financing they need. You demonstrated that innovation is important. All of these areas involve a higher element of risk. Regional development and development in certain sectors are more risky endeavours.

We could let the market follow its natural course, but then the financial sector would not be getting involved in any risky ventures and there would be no development at all.

I see something similar happening in my own riding. In Lévis, a city of 40,000, people were fleeing the downtown area in droves and flocking to suburban shopping malls. A municipal government program was put in place to encourage people to return to the downtown core. The city was saved and everyone benefited. In any event, I support you in your endeavours. Is it more difficult to obtain funding for artistic or heritage pursuits then it is for other initiatives?

[English]

Mr. Greg Smith: We have a mix of tenants, as I said. We have a number of artists. They're our oldest and most stable group of tenants in the building, partly, I guess, because my partner Stephen is involved. They've been very good.

I don't think the kind of occupancy we projected at the time we were starting the building renovation had an influence on our financing. I don't think; I'm not sure. We had a business plan, and we basically followed our plan. The main difference has been the growth of the high-tech sector spinoff companies in our area, the small start-up companies that work for the Nortels and the Bells and the Mitels and the Newbridges of the world. A lot of these are very small, two- or three-person enterprises, or even one person, but they can grow very quickly. That was one thing we didn't anticipate in our area.

The real barrier to getting financing wasn't.... We had a substantial amount of money to put into it. As I said, by the time we'd finished with the bankruptcy of the original seller, we owned the building and property outright. We had some capital. We didn't have nearly enough, but we had some.

I think the barrier was that it was real estate in a small town. Many bank managers and trust company managers told us they didn't want to touch real estate in small towns. It was basically a no-no at the time.

As far as the risk factor itself goes, I understand that, being in business. You can't ignore risk, and you have to pay a premium for it sometimes. We knew we were in a risky business in a sense, because it was a start-up and it was in an area that had had a downturn. Real estate and the other types of business—restaurants, retail—all of them were suffering at the time. So we knew there was a premium to pay for that risk factor, but again, I just make the point that no one was willing to take any risk whatsoever, however minimal it was. We weren't looking for very much to start off.

[Translation]

The Chair: Thank you very much, Mr. Dubé.

[English]

Mr. Keyes, please.

Mr. Stan Keyes: Thank you, Madam Chairman.

I just want to thank you, Mr. Smith, for your presentation, because it dovetails with what some of my constituents are going through in my riding of Hamilton West, with the banks and the acquisition of loans.

• 1700

I'll take an opposite tack to my Reform Party colleague, who suggests that for some reason there's not enough competition out there and you're relying on the SBLA for your money. That is an argument I find rather confusing, given that in Ontario alone, with the Royal, the Scotia, the Bank of Montreal, trust loaners, caisses populaires, credit unions, CIBC, National Bank, TD Bank, and 258 other banks, I can't understand why there wouldn't be competition out there for the opportunity to lend you, Mr. Smith, money to do a project. Clearly the competition is out there. Unfortunately maybe the greed factor is too high.

I'm so glad Mr. Smith is here, because in the Fraser Institute's presentation, we heard things such as:

In our view, however, in principle, granting loans as envisioned under the Act is not the most effective or efficient way to help SMEs obtain financing.

Well, according to Mr. Smith, that's wrong.

I'll quote again:

The major banks are clearly fulfilling the role that they have traditionally occupied in the economy.... It is imperative that the government not enact legislation and regulations which alter this risk/return relationship in order to preserve the maximum...

and all the other bafflegab that comes from the Fraser Institute.

I want to zero in on this relationship and the trouble you've had with banks. I think you said the local bank managers said they were interested, they saw the project, and they even went so far as to say they personally would approve it. But then, as is the case with some of my constituents in Hamilton, the local manager hands it off to the bean-counters in the ivory towers of, in my case, Toronto. They come down, they look at the project cold-turkey, they count their beans, they don't look at my constituent—or in your case, they don't look at Greg Smith, his investment in the community, his relationships with the people who are going to be leasing the properties or even space in the property, etc.—and they just say no, leaving the local bank manager saying, “Geez, sorry, Greg. Couldn't do anything for you today.” For them it happens time and time and time again.

Mr. Smith, I hope you're highly successful and you have a property that expands in size and grows in square footage, but God help you if it does, because if you then cannot obtain financing through the SBLA, you are going to have to go back to the banks in order to get the $2.5 million loan in order to refinance the property that you have so successfully built, and the banks are going to say, “Geez, don't know if we can do that for you.”

Mr. Greg Smith: We went back last year. At that point we'd been paying regularly for three years and had never missed a payment. We had paid down our loan by, I don't know, $40,000 or whatever, and had in the meantime put a lot of our own money in as well. We went back to the bank and said, “We need $30,000 more, because we have a serious tenant who needs more space. We can cover the difference, but we need about $30,000 to do a little bit more.” That would have meant the bank converting it from a small business loan into a conventional first mortgage. They weren't willing to do that. The local manager was onside, it went to Ottawa, and a few weeks later we got a reply saying they wouldn't do that. The only reason they would carry a loan was because it was guaranteed by the small business loans program.

Mr. Stan Keyes: Yes, and I have one for you even better than that. I won't give you names or the name of the bank, but imagine this. An individual needs to put in place a mortgage for his property. He goes to the local manager, and the local manager says, “Sounds good to me.” They go to the bean-counters, who say, “Geez, we're not quite sure. We doubt you'll be able to do it.” The local bank is prepared to give them the mortgage money, but the bank's mortgage people in Toronto, which they claim are at arm's length from them.... Here is their own bank saying they'll guarantee this money, but their arm's-length company says, “No, we don't think the project will work.”

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And if you go to the bank, they always tell you these organizations are always at arm's length, and they don't mix it in together. But then you go to the mortgage financer in Toronto, and they'll tell you, “That's like taking money out of our right pocket and putting it in our left.”

So what is it? Is it independence between the bank and the mortgage lender, or is it that the bank and the mortgage lender are in cahoots? Because they'll use the argument either way. It's completely frustrating.

So I hope you're successful, but I hope you don't have to go back to the banks to be financed.

Mr. Greg Smith: Right now we're financed through the Business Development Bank as well as our own money, as I said. I don't know where we'll have to go next.

It's a real problem and it's very frustrating, especially when you have a track record, you've always met your obligations, you have an excellent credit rating, you have a successful project, and you have people beating down your door trying to help you make it grow bigger and better, and you can't get the financing you need. It's very frustrating.

Mr. Stan Keyes: What scares me most is the loss of control at the local community level. You know the bank manager, the bank manager knows you, they know what you're capable of, they know you're not going to skip town and go to Cuba with the money, they know all those kinds of things, but this guy in Toronto or head office doesn't know you, and quite frankly, they don't care to know you. They just want to see it cold and harsh, and sometimes that's not the way business works.

The Chair: Thank you very much, Mr. Keyes.

Mr. Jones.

Mr. Jim Jones: Thank you.

In my nine years on council, I saw a lot of developers and people who were building. In a lot of bankruptcies they only are borrowing for that specific purpose; they're not putting the rest of their assets up. So if that project goes down the tubes, the only risk they're taking is that asset. Was this the case here? It sounded as though you did have a lot of assets, and if you pooled all your assets, I can't see why a bank would have turned you down.

Mr. Greg Smith: Well, I drove up here in a 1986 Toyota, and that's not my car of choice.

Voices: Oh, oh!

Mr. Jim Jones: No, but....

Mr. Greg Smith: Both Stephen and I have put ourselves on the line. I have a bunch of kids, and we have both struggled to make this work. If we hadn't been so committed to it and I guess just obtuse, because if you sat down and looked at it in strictly financial terms—and I think that's what you were getting at....

Sometimes there are other considerations. I know that's not the discussion today, but in a small community, there are other factors than strictly financial considerations. We both put ourselves on the line. Neither one of us is wealthy; neither one of us has unlimited resources. We've put pretty much everything we have into this.

One of the reasons—and we say it to ourselves—is we felt we would let the community down. Both of us have heritage properties. We've been involved in heritage properties renovations before. So when we bought this, everybody looked at it and said, “Something's going to happen.” We had a fire three months after we bought it. Some vandals got in underneath. Fortunately the building wasn't damaged, but there was a lot of smoke damage. That nearly put the kibosh on things, but we kept on going, and one of the reasons was that we felt we would really be letting the community down if somehow we didn't make this thing work. We could have walked away from it many times.

Mr. Jim Jones: So the only thing you were going to the banks for financing for was this specific project?

Mr. Greg Smith: We were on the line personally.

Mr. Jim Jones: Did you even mortgage your house and all that?

Mr. Greg Smith: Both of us mortgaged our properties to get capital to put into it. We put every cent into it for the first three or four years to keep it going. With the cap at $250,000, we were capped out in the financing we could get. I would advise anybody who gets involved with any heritage buildings to realize that it's kind of a bottomless pit sometimes.

Mr. Jim Jones: I know.

Mr. Greg Smith: So every additional dollar had to come basically from us. We couldn't go back and refinance every time we needed to do some repointing or add another bit of this or fix the roof or whatever. We're heavily invested personally. We're a registered partnership. We're not an incorporated company that can go bankrupt and walk away from this. We're on the line personally.

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Mr. Jim Jones: Thank you.

The Chair: Thank you very much, Mr. Jones.

Lastly, Mr. Lastewka.

Mr. Walt Lastewka: Thank you, Madam Chair.

It's nice to hear from someone who doesn't have a group or a vision constructed by other people, just your personal experience. It's very valuable to the committee.

As we talk more and more about finances, the amount of risk and the cost of money comes into play. There are, as Mr. Keyes has pointed out—and we've been discussing this—other opportunities with banks, institutions, and so forth, but when the rubber hits the road and it gets to a project or a situation people are in where they have to borrow money, everything is determined by what risk there is in a successful project. That will determine if there's going to be a loan, and if there's going to be a loan, how much they're going to have to pay for it.

What I heard from you is that the SBLA was able to take that extra risk. The banks liked it, but there wasn't enough confidence in it. Pushing it into an SBLA, where it's guaranteed by the government and so forth, is what made that project happen.

Mr. Greg Smith: In a nutshell, yes. That's my impression anyway. No one was interested in talking to us until we talked to a bank manager who said, “Well, if you were running a business in there and if you did this and that, we could probably figure out a way to make it happen through that program.”

Mr. Walt Lastewka: The amount of money that has worked through the SBLA in the past and in our new act really isn't a large amount of money in the marketplace, but it helps those 30,000 to 40,000 projects or companies in the higher-risk area.

We always have the debate that, well, some of them might have got the loan or might have not got the loan. Some of these riskier projects, such as yours, would have not happened. As a result of your project, how much additional money was invested and how many jobs were created?

Mr. Greg Smith: We're probably around the $1 million mark now in terms of what we've put into the building, either borrowed money or our own money. So that's $1 million that's gone into that community and hired people to do the work, bought materials, and so on. Then in the building, because we created that retail café business, we attracted a well-known business person from Ottawa to set up a satellite operation out there when they took over the lease. They never would have done that if that opportunity hadn't been there. They probably employ 10 to 15 people.

Because of the location, the attractiveness of the site and the building, and the standard that we've done everything to, we have a number of local entrepreneurs—high-tech companies and so on. They could have started their business in Kanata, because that's where the action is, but the pendulum was swung to working locally because there was this fantastic environment, with a synergy between the arts and a nice café-restaurant and a beautiful view of the falls and a heritage building. All of that swung them to stay in Almonte.

Probably another 15 jobs have been created in Almonte through the tenants in the building. The artists in the building contribute enormously to the cultural life, with festivals and fairs, and helping get all kinds of things going that make the community more attractive. So there's a synergy there that has had huge spinoffs and a leverage effect.

Mr. Walt Lastewka: That's why I appreciate your coming here. You've brought us to the point of understanding the tangible and intangible items that come as a result of projects. We need to be looking at that in the future.

Thank you, Madam Chair.

The Chair: Mr. Smith, we appreciate your being here. I have just two brief questions for you. To do with a comment made earlier by Mr. Jones, do you recollect if you personally guaranteed the SBLA or if your spouses did? I don't know if you're married or not.

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Mr. Greg Smith: I'm married; my partner's not.

I don't recall. I believe I saw “joint and several” somewhere on what we signed.

The Chair: The only reason I ask is that I used to practise small business law, and I recall from the SBLA loans I did that I had to send the spouses off to get independent legal advice, because they were guaranteeing. I know of one out of the many I did who didn't make it after four or five years in business, and they had to give up everything they owned as a couple and pay off as much as they could before they came back to the government. There seems to be this idea that SBLA loans aren't guaranteed by people with their personal assets. From my practice, they were.

Mr. Greg Smith: That's my recollection, my impression. I didn't go back. I should have maybe gone back and reviewed the loan agreement.

The Chair: Okay. I just wondered if you....

Mr. Greg Smith: I think they came at us in every direction possible.

The Chair: Okay.

I have another quick question. You mentioned several times that it's a heritage building. One of the provisions in the new legislation is a pilot project that would deal with non-profits. It's not defined in specific terms yet, but one of the groups I see a lot of are heritage groups or non-profit groups. I'm just wondering what you think of the extension of this type of loan to those groups that have difficulty getting financing at all, because they don't have any income.

Mr. Greg Smith: It's a great idea. Obviously it's public money in a sense, and if it's lost, you want to guarantee it. But it's a great idea. I've been involved in non-profit organizations as well, and there's a lot of potential for projects to succeed, even though they're non-profit, and to be valuable to communities. So it's a good idea.

The Chair: I thank you very much, Mr. Smith. The bells have started; we'll be going to vote. I just wanted to add one brief comment. If you're interested, there's a heritage building in my riding.

The meeting is adjourned. Thanks very much.