Inclusive Economy | August 7, 2023

Legal challenge to Fearless Fund misses the mark on racial bias in venture capital

Dennis Price

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ImpactAlpha Editor

Dennis Price

ImpactAlpha, Aug. 7 – The next shoe has dropped.

The conservative activist who spearheaded the legal strategy that led to June’s U.S. Supreme Court decision barring affirmative action in college admissions has turned his sights on venture capital. A lawsuit by the American Alliance for Equal Rights, led by Edward Blum, alleges anti-white bias by Atlanta-based Fearless Fund, which provides capital for early stage businesses run by Black women.

Fearless Fund is one of dozens of funds that has launched in recent years to take on what’s seen as an implicit bias in venture funding against Black and other founders of color. Funds allocated just $2.3 billion of the $215.9 billion, or just 1% of  U.S. venture capital to Black founders last year, according to Crunchbase.  

Blum’s lawsuit is the latest effort from conservative activists to use the courts to roll back progress on advancing economic opportunity. The rejection of affirmative action followed earlier moves to halt Covid-era funding meant to support historically underserved entrepreneurs as well as business centers backed by the Minority Business Development Agency. 

“The precedent and slippery slope we are on is terrifying,” says Henri Pierre-Jacques of Harlem Capital, which backs diverse founders.

Implicit bias

Last week’s lawsuit has had the paradoxical effect of highlighting the industry’s real problem with racial equity – implicit bias against founders of color – that has stymied innovation and opportunity in the U.S. economy. 

Racial bias in the financial system goes well-beyond venture capital, including the racist history of redlining, which blocked Black households from accessing mortgages. In asset management, white men manage 98.6% of $82 trillion of assets nationwide, a percentage that hasn’t budged in decades. 

Research from Stanford SPARQ showed that the better fund managers of color perform, the more bias they face. For funds like Illumen Capital, removing that bias is not just the right thing to do, it’s an opportunity for outperformance and impact.

“Why does the Alliance target a modest venture capital fund supporting Black women, while predominantly white institutions perpetuate systemic financial havoc without facing commensurate consequences?” asked Creative Investment Research in a blog post. “This stark disparity urges us to scrutinize the very bedrock of the economic system.”

Such scrutiny could be awkward for the white-dominated VC industry. The Fearless Fund lawsuit could open a Pandora’s box for fund managers, says Sequoia Taylor of Spry Ventures, an early stage investment advisory firm. “There will be diversity groups suing them.”

Combating bias in venture capital

Fearless Fund, launched in 2019 by three Black women, Arian Simone, Keshia Knight Pulliam and Ayana Parsons, has raised tens of millions across two funds to back female founders of color from LPs including Bank of America, PayPal, LISC and Mastercard. The portfolio includes more than three dozen Black female -led startups, such as Partake Foods, Slutty Vegan and Bread Beauty. 

“For years, Black founders have complained of discrimination, but they have been effectively blocked from doing anything about it, because, to prevail, they must show that the discrimination is intentional,” Gregory Shill, a Civil Rights and business law professor at the University of Iowa, told TechCrunch

“Rather than challenging this head-on, one alternative tack has been to set up funds that specifically recruit Black or women founders. That effort is what is being challenged here.”

The lawsuit alleges that Fearless Fund is violating a section of the Civil Rights Act of 1866 barring racial bias in private contracts by making only Black women founders eligible for a grant contest.

Not all conservatives support Blum’s effort to restrict investment activity. “I think the ladies should have the right to fund whoever they want based on whatever criteria they want,” tweeted podcast host Erick Erickson.

Policy change

Targeting what little funding flows to founders of color could stymie the post-COVID economic recovery in the U.S. In recent years, founders of color, and Black women in particular, have been starting business at higher rates than white entrepreneurs. 

The Jobs Act of 2022, an update to the decade-old Jobs Act, includes the Expanding American Entrepreneurship Act, co-sponsored by Sens. Jerry Moran (R-Kan.) and Tim Scott (R-S.C)., a provision meant to promote greater diversity among investors and emerging fund managers. Diversifying who can invest, say proponents, will help drive more investment in women founders and entrepreneurs of color.  

Revitalization of American entrepreneurship requires more, not less, participation by women and entrepreneurs of color, says John Dearie of the Center for American Entrepreneurship. “Thriving entrepreneurship is the essential pathway back to the strong economic growth, job creation, and opportunity expansion the American people need and deserve.”

“This blatant racism will only make us stronger,” responded Backstage Capital’s Arlan Hamilton, a personal limited partner in Fearless Fund. “This is why our funds exist, why we have dedicated more than a decade to this fight.”