THE BLOG
07/05/2016 10:23 pm ET Updated Jul 06, 2017

Scaling Diversity In Venture Capital: A Nod To Continued Innovation In America's Capital Formation Legislation

Today, I only know of seven active early stage venture capital funds in America that have African American General Partners. There's Troy Carter and Marlon Nichol's Cross Culture Ventures, Charles Hudson's Precursor VC, Kesha Cash's Impact America Fund, Erik Moore's Base VC, Lauren Maillian's Gen Y Capital Partners, Monique Woodard of 500 Startups, Stephen Green's Elevate Capital and Dr. Paul Judge and Allen Nance's TechSquare Capital, the seed fund that I am a part of at TechSquare Labs in Atlanta.

Only seven.

I know that seven is God's number of completion - but really?!

Here's another note about these black venture capitalists. They don't just invest in minority cofounders. We're aiming for technical cofounders with identifiable intellectual property that are fundable - period. Yet, because we are minorities, we are also tapped into minority deal flow that may be "invisible" and "unfundable" to other funds for a number of reasons of which I will not go into in this post.

Well, I can't resist.

For the life of me, I can't understand how mostly white, male angel groups and venture funds miss the data, such as provided by McKinsey, that indicate that companies having ethnic, racial and cultural diversity are 35% more like to see investor returns above their respective national industry medians.

So, with all of the reiterated and regurgitated data and reporting on the lack of capital that African Americans, Latino Americans and women receive in angel and venture funding, what can we actually do about it?

First, we have to understand who typically successfully raises venture funds; and who do they raise the money from. Then, we have to understand the investment potential of non-white male investors, or limited partners, when raising money.

Traditionally, the General Partners (GP's) of early stage funds are successful, exited entrepreneurs who have some experience in investing in startups and have a network of potential investors, or Limited Partners (LP's), who have at least $100,000 - $250,000 (which is normally the minimum investment into a fund) to invest as risk capital.

Essentially, funds raise money from limited partners that have to trust them with their money before they even identify the companies to invest in. It's different from an entrepreneur, or issuer, in Securities and Exchange Commission (SEC) jargon, raising money around a particular company. Limited partners in venture funds are primarily investing in the thesis of the fund and the track record of a fund's general partner. So, it goes without saying, that raising a fund can be incredibly more difficult for anyone - including white males.

That said, let's consider the difficulty for minorities and women. There are a lot of minorities and women that are "qualified" to raise a fund. The gap, however, when raising money from diverse communities, is the reality that the amount that the fund will most likely be able to raise will be much less than the traditional minimum amounts funds require as an initial investment.

Why?

Well, in my experience, $25,000 is the sweet spot that even the wealthiest African Americans typically invest in startups and early stage deals. Therefore, with a maximum of up to 100 investors allowed in a traditional qualified venture fund, a black investor that doesn't have an expanded potential investor network outside of his or her community would only be able to raise a $2.5 million fund. That's a start; but doesn't allow for scale to address the incredible demand for early stage, first in equity capital in under-represented communities.

It is what it is; and although we continue to push for increased diversity and inclusion throughout the innovation, entrepreneurship (startup) and investment ecosystem; the space is a very relational and affinity driven world - which is why most cofounders, early teams, advisors and investors are from the same homogenous groups. So, for so many reasons, today in America, it's very difficult for a black cofounder of a high growth tech company to attract early stage capital from non-white investors.

Here is my simple thesis for a definitive solution to increase the number of minority GP's of early stage venture funds and increase the amount of early investment in minority lead startups.

First, the SEC should increase the investor limitation from 100 to 500 persons for qualifying venture capital funds, which is the proposed amendment to the Investment Company Act of 1940 in Congressman Patrick McHenry's (R-NC) Supporting America's Innovators Act of 2016 (H.R. 4854). This will encourage more experienced minority innovators, entrepreneurs and investors of color to launch venture funds that can take benefit from investment from the approximate 400,000 black Americans with a net worth of1M or more and beyond as indicated in this 2015 article on wealth by The Washington Post.

Then, the SEC should limit the liability of a crowdfunding intermediary or portal's liability while extending at least a 5-year grace period for portals to make a good-faith effort to comply with all crowdfunding rules as proposed by the Fix Crowdfunding Act (H.R. 4855); and increase the amount a company can raise from1M to 5M. These "tweaks" to the bipartisan Jumpstart Our Business Startups (JOBS) Act, specifically as it relates to the Title III rules, will encourage more minorities to launch platforms without the fear of institutionalized red tape and bureaucracy. Minority owned crowdfunding platforms would attract more minority entrepreneurs raising capital and new retail investors wanting to participate in the growth of our nation's economy. It will also allow all issuers the opportunity to raise more money during a round, thereby protecting its valuation in the process and saving on the necessary legal and accounting fees required to utilize equity crowdfunding.

That same Washington Post article I referenced above also shows where 30%, approximately 12 million African Americans, have a net-worth between $50 thousand and $1 million. This demographic is perfect for equity crowdfunding.

As reported in an April 2016 article by Fast Company, a new study from the Center for Global Policy Solutions titled "The Color of Entrepreneurship: Why the Racial Gap Amongst Firms Costs the U.S. Billions", showed that non-white entrepreneurs added more than 72.3% of the jobs created by privately held companies.

This is just the tip of the iceberg of possibility in how expanded capital formation can reduce poverty and further close the nation's wealth gap. The report goes on to suggest that without past and present discrimination in America, there would be an additional 1.1 million businesses established that would produce 9 million jobs thereby increasing the nation's income by $300 billion. We could literally erase most of the 9% unemployment amongst black Americans.

No one could argue with that, as we know more funded small businesses means sustainable jobs, resulting in less crime, illiteracy and health disparities in communities of color, specifically - thereby creating a better America and beyond.

So, although these bills passed in the House of Representatives this evening thanks to the early bi-partisan support of Congresswoman Maxine Waters, the Senate is next.

It is my hope that even during this Presidential election season, our Congress will come together once more to advance capital formation for all.