Why Betting on Communities of Color is Critical for Continued Growth in the U.S. Economy
Author: Danielle Shoots
As demographics of the United States are shifting and the population of BIPOC
communities continue to grow, many financial publications have
written at great length about the economic and socio-political
need for venture capital funds to invest in businesses led by
founders of color. Yet, not much meaningful action has been taken
despite the data.
Particularly, for Black-owned businesses, the amount invested from 2020 to the first half of 2021 went from .6% to 1.2%. This shift comes as a result of some understanding and consideration that economically, investing in BIPOC founders is simply a good business decision. However, much of the action taken has come as a direct response to the George Floyd 2020 murder. In fact, SoftBank Group’s Opportunity Fund was launched to support founders from BIPOC communities within 48 hours of the tragedy.
While a doubling of the percentage of venture capital invested in Black companies would seem like a win, a lot of the promised financial capital, in a post George Floyd’s murder economy, has yet to actually reach the founders and businesses it’s intended for. What has become clear is that the gap is far more than financial; it is systemic in a lack of understanding in valuing the lived experiences of BIPOC founders.
A broken system that needs to be fixed to maintain the global economic positioning of the U.S.
The tools and vehicles of wealth building in the U.S. have long been the industries that have barely moved in the work of diversity, equity, and inclusion. The truth is that most of the people in this country have been left out of the venture capital investment space entirely.
BIPOC communities have been entirely capable of building wealth and have done so time and time again, usually in the face of adversity. Historically, however, they have been excluded from accumulating generational wealth; or their access to wealth has been decimated due to violence, theft, or the greatest culprit, “economic policy.” We have witnessed prime examples of this, particularly for the Black community, from Freedman’s Bank of 1865 to Black Wall Street of the early 1900s.
Fast forward to today, the venture capital industry has already captured the data that clearly states BIPOC communities are fully capable of building wealth and being successful entrepreneurs. They simply just exclude these communities or underfund them because they do not understand their customers (likely other people of color) and their problems; nor see the value in investing in these businesses that solve their customer’s unique problems.
This poses a problem for the overall U.S. economy because BIPOC people are a little over 43% of the U.S. population and will grow to more than half of the U.S. demographics in the next generation. If BIPOC-led businesses continue to be underfunded and the problems of nearly half of the U.S. population are being ignored, the U.S. will lose its place as an economic powerhouse in the global economy and all Americans and their businesses will be devastated by another economic crisis.
Population growth is going to impact the U.S. economy
As of 2021, almost half of the U.S. population are people of color or non-White. Yet, according to the US Government Accountability Office report, of the $70 trillion dollars in U.S. assets under management, less than 1% are invested in businesses led by BIPOC people. By 2055, the U.S. will be the most ethnically diverse it has ever been. Yet, funding for the Hispanic/Latinx community remains stagnant at 2% and Asian-led businesses saw a significant 20% drop in funding from the second half of 2022 compared to the second half of 2021.
BIPOC founders are the leading demographic for opening up businesses yet the least funded. The venture capital industry already knows that this discrepancy is a plague on the industry itself and the entire growth projection of the U.S. economy. In fact, 83% of firms acknowledge that if they prioritize investing in businesses led by founders of color, they can maximize returns. However, 60% say it is not their fund’s priority. The reason for the disconnect is implicit bias. Most venture capital firms are majority White and male run, with a small number of diverse perspectives.
Businesses are formed to solve problems that consumers pay to have solved. The U.S. economy cannot grow if homogenous venture capitalists only invest in companies that solve a fraction of the population’s problems. 88% of the venture capital industry already recognizes that this is the case; and acknowledges that BIPOC-led founders have a competitive advantage by understanding and catering to nearly half the population’s pain points.
Understanding the lived experiences of BIPOC communities creates higher investment returns
It is therefore difficult to digest the racial equity gap given most of the industry is very much aware of the financial benefit of investing in BIPOC founders. The fact remains BIPOC founders of color meet and exceed expectations in the market. Yet, venture capital funds still see their businesses as extremely risky investments.
This is likely still because venture capital firms do not take the time to educate themselves on: the lived experiences of communities of color, what problems they face, and the solutions BIPOC-led businesses are creating to resolve them. It has also been discovered that despite venture capitalist firms being primarily focused on the “data”, they appear to lack data on the potential returns from these companies.
From a smart investing perspective, there is a large market that venture capital funds are simply not accessing. They are leaving money on the table both in undervalued companies with leverage and in the consumer market data that shows growing population trends are only increasing the buying power of BIPOC communities. In recent years, Black Americans spent over $1.2 trillion annually and Hispanic/Latinx consumers were expected to have reached $1.7 trillion in 2020.
Investments in BIPOC-led companies impact job creation which has an overall positive effect on the national GDP
According to the Stanford Business & National Venture Capital Association, jobs, higher wages, and economic growth, all tend to be created from venture capital investment. In fact, venture backed companies are the highest job and revenue generators in the U.S. economy. Yet, in the last 10 years, the number of venture capital-backed IPOs have plummeted in the overall U.S. economy which has likely cost the U.S. 22 million jobs, overall.
This phenomenon may be explained by the fact that venture capital firms continue to not invest in businesses created by BIPOC communities and currently, Black American women, are the leading demographic in business creation. Despite this fact, 61% of Black women are self-funding their businesses and are considered solo-entrepreneurs. The lack of funding available for Black women and other founders of color makes it hard for these groups to create jobs within their communities, as founders of color tend to hire from within.
The lack of access to funding is the highest driver in business failure, and therefore the highest driver in job loss. Consider the effects of the pandemic and the consistent lack of funding which both created disproportionate job loss in communities of color. Both phenomena will only lead to overall U.S. economic challenges, such as: a higher likelihood for another recession, a declining GDP, and a potential threat of losing our dominance in the global economy.
Tightening the racial wealth gap benefits all
Tightening the wealth gap between communities of color and White citizens has an overall positive impact on the U.S. economy. The data shows that White families typically have eight times more access to wealth compared to Black families, and five times comparative to Hispanic/Latinx families. Factors like the Great Recession and Covid have both negatively impacted BIPOC families and only expanded the racial wealth gap.
This gap has gotten increasingly worse over time and the main factor in this phenomenon is the fact that White families tend to have inherited and had access to building wealth historically, whereas families of color have not. Therefore, entrepreneurship can help reduce the wealth gap today; yet BIPOC founders disproportionately do not have access to funding.
There isn’t a lack of entrepreneurs of color, nor a lack of motivation, or a lack of skillset by these groups to run a business. Therefore, without initial access to funding or access to generational
wealth, there are fewer opportunities for wealth creation for these groups. Increasing the racial wealth gap disadvantages everyone. The less buying power communities of color have, the less likely they can buy homes, contribute to the broader economy, invest in retirement funds, or even the stock market.
The investment case is simple: it just makes good business sense
It can’t be stressed enough that investing in BIPOC communities doesn’t just accelerate the economic growth of those communities, but the nation’s as a whole. We must revolutionize the investment pipeline to include these communities. There is an incredible opportunity for venture capital funds to support businesses where the founders have unique lived experiences that they are creating solutions for in their target market.
When we think about companies in the past twenty years that received hyper returns and have billion-dollar valuations, such as Google, Airbnb, Facebook, etc., they tapped into a market where they were able to sell the problem and solution to their customers. People of color can leverage their own experiences to do the same.
For the first time, we are seeing billion-dollar valuations, primarily on Black-led companies. When venture capital firms continue to invest in communities of color, everyone wins because wealth is compounded. Increasing investment is not just a moral or even a charitable issue, it is a fiscally responsible one. McKinsey found that ethnically and culturally diverse companies are 36% more profitable and that BIPOC-led focused funds saw higher yields compared to their competitors. The bottom line is investing in businesses led by founders of color is simply a good investment.