Mixed Messages

Is California driving away businesses--or setting an example for other states?
Magazine Contributor
4 min read

This story appears in the March 2004 issue of Entrepreneur. Subscribe »

Over the past two years, some California businesses have risen in revolt. Complaining that state regulations and high utility prices make doing business so expensive that it's nearly impossible to make a profit, business organizations petitioned the state legislature for relief, blasted the op-ed pages of California newspapers, and, ultimately, helped throw Gov. Gray Davis out of power.

Aki Korhonen, president of PC-Doctor Inc., a software producer previously in the San Francisco Bay area, says, "All the things that go into the business environment are more expensive [in California]. A combination of factors makes business hard." So hard, in fact, that Korhonen, 34, moved his business to Reno, Nevada, in October 2003.

Korhonen has a point. Because of its laws, California has some of the highest costs of doing business in the nation-costs that fall hardest on the 1 million-plus small companies in the state. California employers pay roughly twice the national average in workers' comp rates, and this fall, California's legislature passed the Family Medical Leave Law, mandating most employers to provide health insurance to employees. Meanwhile, the California Chamber of Commerce estimates California employers pay the highest unemployment taxes in the nation.

Yet, experts say, it's unclear whether the ways in which California forces businesses to change pushes many companies out of the state or limits growth. Though other Western states have launched campaigns to lure California companies-Colorado's governor even takes personal trips to Silicon Valley to woo firms-no studies have shown that there's an entrepreneurial exodus from the Golden State. "Los Angeles and San Diego counties show more businesses are being created than shutting down," says Joel Kotkin, an expert on the California economy at Pepperdine University's Davenport Institute for Public Policy in Malibu, California.

In fact, as Stephen Levy, director of the Palo Alto, California, Center for Continuing Study of the California Economy, notes, California's unemployment rate has risen less than the national unemployment rate over the past two and a half years. And overall, California's business costs aren't so high. A 2003 study by the Federation of Tax Administrators, a research organization, revealed California has only the 13th highest corporate tax rate in the United States; while a study by the Beacon Hill Institute at Suffolk University in Boston found California had the 16th friendliest business climate in the nation.

In fact, many experts believe that California's advantages-such as proximity to Asian markets, high-quality intellectual capital, a strong tradition of startup activity-still more than make up for the costs of regulations. Levy believes that, as the national economy recovers, California will outpace the rest of the country in job growth. And, Kotkin notes, business is now very engaged in California politics, and new Gov. Arnold Schwarzenegger has vowed to improve the state's corporate climate, which should make future legislature more business-friendly.

What's more, many states are following California's lead, increasing regulations to shape companies while trying to keep business costs from going through the roof. California is one of the first states to recognize it must create the high-value work force it needs to develop new ideas and production overseas, says Wayne Schell, president of the California Association for Local Economic Development, a Sacramento advocacy group. Other states are now passing laws that pay for job retraining for unemployed workers, nurture startups and try to improve their human capital.

Meanwhile, Kotkin says, "the people who moved from California to Arizona, Nevada and Oregon [in the 1990s] carried some of the same ideas with them, and these states are catching up in terms of a regulatory environment." Indeed, other Western states are considering similar medical insurance laws and workers' comp reforms similar to a bill that passed California's legislature this fall. Ultimately, other states may even warm to the idea of a celebrity keeping lawmakers focused: Pat O'Brien, co-host of Access Hollywood, is reportedly considering running for governor in his home state of South Dakota.

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