The best climate for entrepreneurs: Part III

December 16, 2011

In Part II yesterday we ended with Steven Malanga’s four areas in which the state of California has sprayed “startupicide” on the economy: “suffocating regulations, inflated business taxes and fees, a lawsuit-friendly legal environment, and a political class uninterested in business concerns, if not downright hostile to them.”  Here we provide a few highlights from the original piece.  The original article can be found here in the Autumn 2011 City Journal. 

1. Regulation
Andrew Puzder, chief executive of CKE Restaurants, says that although the corporate headquarters remained in California, the “real job creating engine has already moved.”

Indeed, CKE has stopped opening restaurants in California, where the process can take up to two years because of regulations, and plans to open 300 in Texas, where a new place can debut in just six weeks. Because those two years are spent on expensive administrative work—everything from negotiating permits to filing planning documents—it can cost $200,000 more to open a restaurant in California than in Texas. And once open, a California restaurant costs more to operate, too, thanks in part to the state’s complex labor laws, including the requirement that employers pay overtime after eight hours of work in a day. California treats even service employers like CKE as if the harsh industrial conditions of the 1930s were still prevalent, Puzder complained: “It’s not like we have kids working in coal mines or women working in sweatshops.”

Many firms share this frustration with California’s regulations, and for good reason. A 2009 study by two California State University finance professors estimated that regulation cost the state’s businesses $493 billion annually, or nearly $135,000 per company. That weight, the study found, fell disproportionately on small firms and pushed California’s overall employment down by some 3.8 million jobs.

California’s regulations often utterly defeat entrepreneurs. John Bowen, the owner of an 82-year-old family-run business, King Kelly Marmalade, sold his firm to an out-of-state operator in 2007 after tiring of the ceaseless regulatory battle. At one point, Bowen started counting the government agencies that he had to deal with to run his business; he gave up when he reached 44. Bowen’s biggest woe was complying with the state’s aggressive air-pollution laws, wastewater regulations, and workplace rules. “I loved the work,” he says. “This decision [to sell] was largely as a result of excessive and oppressive government rules.”

2. Tax burden
Gino DiCaro of the California Manufacturers and Technology Association contends that, “The tax burden for a company to operate a business in California is 13 to 14 percent higher than the rest of the country,” and financial executives surveyed by CFO recently ranked California’s tax bureaucracy among the country’s most aggressive.”

Dave White, the Colorado Springs economic-development official, told the Orange County Register that his area offered significant savings, including income- and corporate-tax rates less than half California’s and workers’-compensation charges 25 percent lower. The only thing that cost less in California, White boasted, was “citrus.” Owners who have fled California for Colorado Springs concur. Earlier this year, when Howell Precision Machine and Engineering, a Los Angeles County–based maker of military and aerospace parts, announced that it was moving to Colorado Springs, its owner said bluntly, “Our survival depends on our relocating to another state.”

3. Expensive litigation environment
The American Tort Reform Foundation recently named California one of the country’s five worst “judicial hellholes,” in part for its long history of “wacky consumer class actions.”

Blame the state’s infamous consumer-rights law, which allows trial lawyers to sue firms for minor violations of California’s complex labor and environmental regulations. Abuses of the law earned California the reputation of being a “shakedown state,” with lawyers regularly sending out threatening letters in mass mailings to thousands of small businesses, demanding payments in return for not suing over purported minor paperwork violations.

4. Hostile political class
Assemblyman Dan Logue says the business community can’t match the environmental lobby’s clout:  “The state’s environmentalists think capitalism is harmful to the environment.  They think jobs and people leaving the state are good.”

California prides itself on being a leader in the environmental movement, but now even some green manufacturers say that they can’t afford to stay there. Earlier this year, Bing Energy, a fuel-cell maker, announced that it would relocate from Chino in San Bernardino County to Tallahassee, Florida, where it expected to hire nearly 250 workers. “I just can’t imagine any corporation in their right mind would decide to set up in California today,” Bing CFO Dean Minardi said. Other California green firms staffing up elsewhere include Be Green Packaging, a Santa Barbara recycling company, which decided to build its first U.S. manufacturing facility in South Carolina; AQT Solar, an energy-cell maker based in Sunnyvale, which will employ 1,000 people at a new 184,000-square-foot manufacturing plant, also in South Carolina; Biocentric Energy Holdings, a Santa Ana energy company that moved to Salt Lake City; and Calisolar, a Santa Clara–based green-energy company building a factory in Ontario, Canada, that will employ 350 workers.

California seems to find innovative ways to expand environmental regulations every few years. Construction firms, recyclers, and other users of big off-road machinery, for instance, now face significant additional costs because new emissions standards will require them to replace much of that equipment. Executives at SA Recycling in Anaheim testified at a 2010 forum on business costs that their company had to spend $5 million for new parts and equipment to meet the standards. Of even broader concern are aggressive new environmental mandates, signed into law by Governor Brown, that require the state to produce one-third of its energy from renewable sources by 2020. In a state where average energy costs are 50 percent higher than the national average, businesses are understandably nervous about how such a shift will influence their bottom lines.


UPDATE 12/31/11:  The best climate for entrepreneurs,  Part I and Part II

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