The recent coronavirus pandemic will have an impact on the way we do business for the foreseeable future, and maybe forever as the probability of pandemics will become part of our normal risk assessment and scenario planning. One of the key lessons we should take away from this period is that we need to make a shift toward a more sustainable way of living and working. We need to seriously rethink the way we connect, consume, transact, and invest - including the entrepreneurs we support to commercialize innovation and sustainability solutions.
Sustainability considerations span all areas of the economy and include rethinking the gender balance in entrepreneurship and venture capital. While women are making progress in attracting venture capital and angel funding, they still are vastly underrepresented in the funding league tables. According to figures from Crunchbase*, in 2019 women-founded startups attracted only 3% of all venture capital funding globally and mixed teams with at least one female founder received a further 10%. These numbers have remained relatively stable over the last five years since 2015 with women-led teams in most years capturing between 2-3% of global venture capital dollar volume and mixed teams capturing a further 8%-11%.
It would be easy to explain away the gap as simple sexism but in fact it is multidimensional: women start fewer companies, women pitch less to investors, and women typically receive less capital than men. Women have made tremendous strides globally in increasing their numbers in educational and professional attainment in the past 25 years, however, the worlds of entrepreneurship and venture capital remain relatively static, as predominantly white and male. While these are important pieces of the puzzle, the real reasons that women attract less capital are more fundamental: fewer women sit on company boards and women are underrepresented in the ranks of investors who make the decisions. The composition of company boards and the decision makers in the venture capital firms who fund them are intertwined in such a way that they create a form of institutionalized and self-reenforcing bias. To understand why, it’s necessary to give a bit of context on how VC funding works.
VCs normally take equity stakes in their portfolio companies. Their returns depend entirely on the company’s future performance: profitability, the ability to attract talent, ability to understand the market and pivot accordingly, and the ultimate holy grail, gaining a position of defensibility - all of which hopefully lead to a successful exit when investors get paid. Most VC investments fail, meaning that they either lose money or only break even. Out of an illustrative portfolio of 10 investments, the fund will make all of its profits on one or two exits. Most VCs have to vet 100-150 startups to find one they will place a bet on and most prospective investments are sourced through their own social and professional networks as “warm introductions.”
To increase their chances of a successful exit, VCs want to be able to influence management, so they populate governance structures, i.e. the board, with their own people and those they hand-pick from their networks. The problem with this is that they tend to pick people who look like them, think like them, have similar backgrounds, and also share the same blind spots. Therein lies the vicious circle of self-reenforcing bias. A study published in the Harvard Business Review found homogeneous teams had the worst investment performance but that it’s actually not the decision to invest in a particular startup that predicted success or failure - it was how they advised and mentored the company on strategy and hiring post investment that made the difference. Lack of diversity in teams leads to missing the business model and execution failures that are hiding in plain sight. More diverse teams are able to bring a variety of perspectives that may help management identify issues earlier and uncover a wider range of solutions to problems that inevitably arise in launching and scaling a startup.
Numerous studies have shown that women-founded startups outperform companies founded by all male teams in both returns and revenues generated. If this is true, then investors should be clamoring to invest in women-founded companies but yet fundraising by male founders far outpaces that of female founders. The entire ecosystem of entrepreneurship and VC funding is driven by personal relationships and in turn, perceptions about an entrepreneur’s potential to be successful. The process of raising venture capital is inherently partial, even unfair, from gaining acceptance into an accelerator program to finding mentors, to securing meetings with investors, to ultimately getting funded. Along with this bias comes a whole host of assumptions about the abilities of women to be innovators and managers. A 2018 study examining the kinds of questions posed by prospective investors of both genders during pitch competitions revealed that men and women entrepreneurs are perceived very differently before their pitch is even heard. Men were asked “promotion” questions and women were asked “prevention” questions. To put it another way, the men’s ideas were evaluated through a lens of possibility and expansiveness while those of women were seen in terms of managing downside risk. The ideas that women entrepreneurs want to get funded are often not understood by male VCs or are considered “not big enough.” These dynamics might help to explain some of the reasons why women on average raise less money per round than men.
We began this discussion by talking about how the coronavirus pandemic will require the global community to reexamine how we connect, consume, transact, and invest - including the entrepreneurs we back to come up with new products and services that account for the externalities which may - or may not - bend the arc of human activity towards a regenerative future. So what does gender balance in entrepreneurship have to do with sustainability? A lot, as it turns out. Women are more likely to start triple bottom line companies that prioritize performance along a range of environmental, social, and governance (ESG) vectors that comprise the core tenets of sustainability. Research led by Kellie McElhaney at the Center for Responsible Business at Berkley’s Haas School of Business found that companies that had more women serving on their boards also performed better on ESG metrics. Hers and other research teams also found that better ESG performance leads to better financial performance in the medium to long run. They argue that having at least three women on the board of a company is the inflection point that leads to lasting change toward sustainable practices. Additionally, as mentioned above, diverse teams - whether or not they prioritize sustainability - generate better returns to investors.
The companies that will find innovative solutions to our current sustainability challenges are not going to look like companies of the past. If we are to survive as a species and find resilience beyond the havoc wreaked by the current coronavirus pandemic, we must look beyond funding the same kinds of founders that have created our past successes - and failures. Minting more women investors is the critical first step to funding more women-led startups and getting more women on corporate boards who will guide the companies of tomorrow toward a more equitable and sustainable future.
*I cite funding figures from Crunchbase and sources that refer to Crunchbase because they have a more expansive, inclusive definition of funding than sources that use Pitchbook data. Crunchbase updates its figures more regularly for late-reported deals that closed in a given year but were not counted in the year-end totals until later. In 2019, Crunchbase recorded $26.7 billion in venture funding going to teams with at least one female founder vs $17.2 billion by Pitchbook.
I am always amazed by the number of business owners that haven’t truly thought through the business model of their next big venture from the customer viewpoint before diving headfirst into the execution. They don’t really ask themselves whether their solution is truly solving a problem for anyone. Or they get the business model (mostly) right but fail on execution - disappointing customers by not listening to their feedback, not iterating fast enough, not adding the features that customers want in the right order.
People tend to fall in love with their own ideas when launching a new company or product without testing whether it’s something the customer actually wants or needs. They embark on building something “because it’s cool,” before figuring out if they have a paying customer. This is what we call the Innovator’s Bias. In an era when it’s easier than ever to start a business or launch a product, your ability to identify and solve your customer’s pain point is what will enable your solution to stand out against all the other offerings in the market.
Having worked with startups and new corporate initiatives as an employee, co-founder, and hired gun to drive a new plan forward, I have experienced Innovator’s Bias from various viewpoints. People and companies tend to begin their innovation quest with their own worldview, not with the customer’s journey of using a product to solve a problem or perform a task. They rely too much on their own experience, skills, and assets which either leads to “false positives” of insight for a new business or inventing “fake” problems to solve all together. Defining your unique value proposition should begin with the user experience and the friction they are experiencing in their current reality.
In 2004, I was working for a media company in New York that had a satellite-delivered cable news network distributed to thousands of school districts in the US. The company was faced with how to develop a new revenue stream leveraging its aging infrastructure, which were the TVs in the schools and the satellite dishes on the roofs of the schools. They had two options: find a new business case for the division or shut it down. As a public company, shutting it down without a way to replace the revenue stream wasn’t an appealing option because there would be negative signalling to the market and their share price would likely go down. They decided to repurpose the equipment to solve a different challenge the schools were having, which was complying with their software licenses and maintaining their desktops and servers. We thought we had a way to serve both goals: use our satellite infrastructure to deliver software directly to school servers and use our relationships with the schools to develop a new revenue stream. I remember the boss one day proudly exclaimed to the whole team, “...the whole world changed today because we found the problem we were looking for!” This statement reveals the first mistake that companies and entrepreneurs make when launching something new: starting with the solution and trying to retrofit the customer’s problem into our perception of their problem.
The idea was that we would help the schools fix their license compliance problems by using another enabling technology to dynamically move software around the closed user network inside the school, so that it could be used wherever there was an available computer. Our system would also help school IT departments maintain the software by automatically updating it over our remote satellite connections. The software publishers liked the idea because it allowed them to easily account for what licenses were being sold and how they were being used. What we failed to understand was the role that the teachers played in how software was used in the curriculum. Our division, after all, was led by engineers and media executives. We had no teachers on our team who could have identified a major flaw in our strategy early on. Teachers were under enormous pressure to meet student achievement standards set forth in new federal legislation. What they wanted was an entire curriculum to go with the software, customized to helping them meet the new federal standards. We were ill-equipped to provide it and had not taken this cost into account in our strategic planning.
We had created the classic solution in search of a problem based on assets and knowledge we possessed, not on what the end users were really demanding. The satellite “solution” solved a fake problem (getting software into the school) and was a creative way for us to repurpose our equipment. While the schools did have a problem managing their computers and software licenses, they really had a bigger problem with meeting achievement standards. Even worse, our system was complicated and hard to understand which only added to our customer’s pain point. The servers mostly sat idle in the schools and we were nowhere in finding a path to revenue. While our solution was unique, we couldn’t produce results for our customers. If we had paid closer attention to their real problems, we might have built a successful product. Moral of the story: it’s always about customer pull and customers will validate your instincts through their behavior in how they interact with your solution.
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