Pervasive societal inequity in the United States is strikingly evident in the start-up world. In 2022, Black and Latino founders received only 1 percent and 1.5 percent respectively of total US venture capital (VC) funding. Women-founded teams received 1.9 percent of VC funds, and only 0.1 percent of VC funds went to Black and Latino women founders.
It’s a gap that persists through each stage of growth. Looking at the total funding received (across stages) for the highest-funded start-ups at the time of exit reveals that the average start-up of a White male founder received over $210 million in total funding, while the average start-up of an underrepresented founder received a mere 43 percent of that—$91.1 million (Exhibit 1).
It’s also a gap on both sides of the table—only 1.4 percent of the $82 trillion in US assets under management (AUM) is managed by women or BIPOC managers (as of 2021). In general, funds that flow from asset managers match their demographics.
Untapped innovation and investment opportunities
Closing this gap is not just the right thing to do—it is also key to driving innovation and unlocking economic gains. Underrepresented founders often create companies (such as Spanx, 23andMe, and Fenty Beauty) that have the potential to outperform their peers and tap into underserved markets.
Our research into the economic state of Latinos and Black Americans suggests that in a parity scenario, Black- and Latino-owned businesses would generate an additional $1.6 trillion and $2.3 trillion respectively, assuming Black- and Latino-owned business ownership matched their share of the population and their business revenues matched those of their peers.
Beyond the larger macroeconomic gains, founders with greater gender and ethnic diversity achieve 30 percent higher returns for investors upon exit than their White men founder counterparts.
We invest in founders with varying ethnic backgrounds and lived experiences. They’ve overcome unique challenges to get where they are. It makes the tech more relevant and resilient. They have different lived experiences, which helps them outperform—they better understand their markets and that increases customer stickiness.
Venture capitalist
In this report, we set out to highlight the stories behind them—to dig into the specific challenges for underrepresented founders that have resulted in such a disproportionate gap in investment opportunities. We heard the stories behind the data, through interviews with over 50 founders and other stakeholders within the start-up ecosystem (including VC funds, limited partners (LPs), and accelerators). And to identify the highest priority areas, we complemented these interviews with a survey of start-up founders in March and April 2023, with 161 total respondents—including 80 women and 88 BIPOC.
The underrepresented founder experience is littered with challenges
All founders experience roadblocks when creating new, innovative businesses. Underrepresented founders, however, experience greater hurdles. These challenges tend to fall into four “Big Rock” categories that compound over time and lead to the representation gap in the overall founder population.
I had learned to adapt my language on the phone to appear White, but when it came to being in person, I would pray before walking in the room to make sure I would receive the same reaction as I did on the phone.
Black woman founder
Three factors that influence investor bias
Our research shows three conditions that influence investor bias towards underrepresented founders:
- A founder’s affinity influences the willingness to invest. Having an identity that matches investors’ expectations bestows a halo of “expertise” upon the founder.
- A founder’s gender or ethnic background matches that of the investor. For example, 16 percent of women reported that their investors were “mostly women” compared to only 1 percent of men.
- One of the co-founders is a White man. One investor confided, “There are many instances where diverse founders have been told to bring cis, straight, White men into leadership positions because the likelihood of raising capital increases significantly. This is pure discrimination that is particularly present in later stage and growth rounds.”
As a White man founder, you are empowered to fail; it is celebrated. But as an underrepresented founder, you don’t have that same mindset. These societal norms tell you that if you fail, you failed and it’s your fault . . . not that you couldn’t fundraise, or the market wasn’t ready.
Venture capitalist
A Founder’s journey: Six significant inflection points
Through our research, we identified six inflexion points that, due to the compounding Big Rock challenges, can change the trajectory of the underrepresented founder’s journey (Exhibit 2). At each inflexion point, more underrepresented founders drop out of the journey.
Please note that this is not an exhaustive list of reasons; it is rather meant to paint a picture of why the gap in representation is what it is. It represents key points in the journey but is not a formula; there is no one-size-fits-all approach to starting and scaling a company.
Four key actions for stakeholders
It’s clear that investing time, money, and resources into underrepresented founders is both a crucial step in social equity and an economic imperative. The stakes for investors are high—outsized returns (particularly in the near term) and greater innovation for customers and consumers in underserved markets. Stakeholders who figure out how to effectively act now stand to gain by leaps and bounds.
We identified four actions that stakeholders can take now to move the needle.
Several types of investors stand to gain from the outperformance of gender and ethnically diverse portfolios—individual investors, companies, investing institutions, and government actors. Success will look different for each type of investor. For companies, building programs to bring innovative offerings can deliver value to current and new customers as well as employees. Government actors can stimulate entrepreneurship, and drive wealth creation and employment for women and ethnically diverse citizens. Individual investors and institutions stand to benefit from the outperformance of underrepresented founders and the potential of underserved markets.
1. Intentionally hire and promote women and BIPOC individuals as investors
Research shows that a more diverse pool of checkwriters naturally leads to a more diverse portfolio. The current ecosystem, in which AUM is heavily concentrated in the hands of White men checkwriters, requires an intentional shift in hiring and promotion practices to accelerate the representation of women and BIPOC checkwriters.
Opportunities for improvement
While these examples demonstrate a start in promoting diversity in investor roles, there is a significant opportunity to push further on the institutional investor side. The gap is even wider for LPs. Several actions can help:
- Push for at least two women and BIPOC candidates in the hiring pool for any checkwriter role. Research shows that the likelihood of hiring a woman or BIPOC candidate grows by 79 or 194 times respectively if there are at least two candidates in the finalist pool.
- Hire externally when internal pools do not provide enough diverse talent.
- Build partnerships with pipeline programs for a pool of top-notch investor candidates.
- Focus on retention practices for women and BIPOC investors at the top.
Reflect on progress
- How does the diversity of your organization’s capital allocators compare to the diversity of the United States, or the city or state in which your organization is based?
- What goals has your organization set for diversity in capital allocator roles, if any?
- What partnerships has your organization formed to facilitate successful recruiting and retention of women and BIPOC investors?
2. Increase the flow of cash and capital investments that go to women and BIPOC checkwriters and founders
Commit to investing in women and BIPOC founders and checkwriters by addressing unconscious biases, setting goals, and broadening your sourcing pool. Many stakeholders are making progress in this area by doing the following:
- Leaders are intentionally addressing biases in the due diligence process.
- Traditional LPs are making a concerted effort to invest in diverse founders and managers.
- Government, companies, and other organizations are stepping in to provide grants to more accessible funding mechanisms.
- State government funds are investing in women and BIPOC emerging managers and committing to grow their allocations over time.
Opportunities for improvement
- Commit to processes to receive and review cold outreaches.
- Pursue strategies to eliminate bias in outreach review and due diligence.
- Consider expanding your organization’s investment thesis to include a focus on underrepresented founders and investors.
- Develop partnerships with other women- or BIPOC-led funds and organizations.
Reflect on progress
- What percent of your organization’s capital is invested in women or BIPOC founders?
- How does your organization screen and evaluate potential investments?
3. Leverage non-monetary strengths to level the playing field for women and BIPOC founders and investors
Underrepresented founders often lack supporters who are willing to put their social capital on the line to connect them to investors and customers. To be of real use beyond a check, organizations need to consider how they can deploy their unique knowledge, connections, and resources in support of underrepresented founders after they invest. A number of institutions are making plays:
- Companies are integrating start-ups into their platform-based revenue models.
- Institutions are forming partnerships to collectively connect start-ups with access to capital, customers, and industry expertise.
- Investment-focused institutions are developing programs to meaningfully provide resources to underrepresented founders, which can expand their investment markets and increase their interest from a variety of stakeholders.
- Institutions are starting to amplify alternative funding vehicles (for example, permanent capital, invoice, and debt-based financing).
- Diversity focused venture capital firms and other organizations are starting to incorporate a focus on mental health in their model.
Opportunities for improvement
- Commit to offering expertise on a specific topic or skillset tailored to an underrepresented founder’s needs.
- Commit to connecting underrepresented founders with other investors, customers, and resources in meaningful and structured ways.
- Develop mutually beneficial programs or partnerships for underrepresented founders that tap into your organizational strengths.
- Accelerate the development of alternate funding vehicles to benefit underrepresented founders.
- Develop programming for key topics for start-up founders, such as types of funding, how to raise capital, and “watch-outs.”
Reflect on progress
- How do you, or how does your organization, interact with or sponsor underrepresented founders?
- What resources, knowledge, or connections do you (or does your organization) uniquely have that you could use to elevate women and BIPOC founders?
4. Develop and implement standardized metrics to drive accountability and transparency across these three solutions
Establishing standardized metrics and regularly tracking them can help organizations hold themselves accountable to making real change. Publicly committing to hiring targets for women and BIPOC investors, allocating capital to underrepresented investors and founders, measuring non-monetary support, and tracking outcomes can motivate organizations to hold themselves and others accountable to tapping into the vast economic innovation potential.
Reflect on progress
- Which, if any, DEI metrics do you, or your organization, track?
- What goals could you, or your organization, set to achieve greater transparency and accountability?
Opportunities for improvement
The opportunity for improvement for this action is simple: make more public commitments and measure outcomes. Organizations that have made commitments can consider being more transparent about their progress.
Through this research, we have recognized the urgency to act now and the role we can play in fostering growth for underrepresented founders. McKinsey runs a program called “Next 1B Founders”, including a “Next 1B: Scalers” growth diagnostic to provide tools, capabilities, and networking access to accelerate the growth of consumer product brands started by Black founders. We have also launched InNYC and InLA, two start-up accelerator programs focused on providing pro bono McKinsey engagements to underrepresented founders in New York City and Los Angeles.
By doing more to support underestimated founders and closing the gap in investment opportunities and other less tangible support, representation in the US start-up ecosystem could shift to more closely match that of the country at large—and make leaps and bounds toward an equitable and prosperous society. We hope that this report can shine a spotlight on the many ways in which stakeholders can help unlock this enormous opportunity for the US economy and all its constituents.
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