It’s not news that Black- and Hispanic-owned investment firms have a hard time raising money relative to the rest of the industry.
Only about 1.4 percent of the trillions of dollars under management in the United States are invested with diverse-owned firms, according to a study released by the Knight Foundation last year. And startups with Black founders raised less than 1 percent of all the money venture capitalists invested in recent years.
Harvard Business School professor Josh Lerner worked on the Knight Foundation study, which left a big question unanswered: Why?
One possible explanation — the investment firms posted worse results on average — wasn’t true.
“We certainly didn’t see any evidence of underperformance,” Lerner said in an interview. “It really posed a puzzle.”
In a new study of venture capital and private equity firms, Lerner, together with Vanderbilt professor Johan Cassel and University of Michigan professor Emmanuel Yimfor, attempted to get to the bottom of the issue.
Another potential explanation was the reported performance numbers were inaccurate because diverse-owned firms were using less accurate values for their investment returns. But Lerner’s study found these firms were actually more likely to use accurate valuations and mark down their losses on a timely basis compared to the entire industry.
“Diverse-owned groups seem to be less likely to have puffed up valuations,” he said.
Yet another possible explanation was the firms were being held back by a shortage of employees or of startups with founders from diverse backgrounds. Lerner said such firms are more likely to hire people of color and invest in startups with diverse backgrounds.
“You might think that they either would run out of companies to invest in or not be able to hire analysts or associates,” Lerner explained. “But if you look at the ratio of investment professionals to dollars raised or the deal sizes, we don’t see any evidence consistent with that.”
What the study was left with is, perhaps, obvious — that broader racial attitudes affect the success of these firms.
The researchers tried to find examples where a change in racial attitudes might help diverse-owned firms raise money. So they looked at two types of situations. One was after police shot an unarmed person of color in a city. The other was after a pension fund or endowment appointed a person of color as chief investment officer. Diverse-owned funds had an easier time raising money after police shootings, and new chief investment officers were more likely to invest.
“What we find is certainly evidence consistent with racial attitudes seeming to matter,” Lerner said. “During these periods of high racial awareness, it does seem that the ability of minorities to raise funds is greater.”