Woman-Led Investment Fund Goes Where Few Black-Led Funds Have Gone Before

It wouldn’t be the first time The Enterprise Center’s West Philadelphia headquarters has been a site where Black folks from the area have broken barriers into spaces previously reserved for white folks.

As told in Matthew Delmont’s “The Nicest Kids in Town,” when the building became the original filming studio for American Bandstand in 1952, Black teens were allowed in to dance on camera alongside white teens. But after two years on the air, producers adopted admissions practices that kept the Black teens out, even though the show continued to feature popular Black performers and drew Black and white audiences nationwide. In 1957, a group of Black teens showed up at a taping but for over an hour, producers only let in white teens. After a reporter on the scene from Philly’s Black newspaper, The Philadelphia Tribune, started asking questions, the Black teens were finally able to gain admission.

Inside, it was all hunky-dory — the teens all knew each other from their neighborhoods. But contradicting claims made by legendary American Bandstand Host Dick Clark, Delmont found evidence that aside from a few rare moments like that one, the show’s white-only admissions practices remained in place until production moved to Los Angeles in 1964.

The Enterprise Center, originally part of the Wharton School of Business, acquired the then-dilapidated building at 46th and Market Streets in 1994. President & CEO Della Clark and the staff have spent the past three decades supporting entrepreneurs of color and women entrepreneurs, connecting them to sources of capital and revenue sources like contracts with the city or with larger businesses in the region. But there’s long been a missing piece of the puzzle that Clark is now trying to fill with the help of a federal program that supports private investment fund managers to make investments in growing businesses.

Known as the Small Business Investment Company or SBIC Program, it was one of the first programs of the Small Business Administration when Congress created the agency in the 1950s. Each SBIC in the program consists of a team of private investment managers who pool capital from larger investors like banks, pension funds or insurance companies and invest those pooled funds into portfolios of companies over a fixed period of time. Over the decades, SBICs have made early-stage investments in companies like Apple, Intel, FedEx, Whole Foods, Costco, Staples and Tesla. Since the SBIC program’s inception, at least 2,100 SBICs have deployed at least $80.5 billion across at least 172,800 investments, including some repeat investments into the same companies.

According to SBIC program data, there are around 300 active SBICs in any given year, and they collectively make around a thousand investments on a yearly basis. But only about 60 SBIC investments every year are in companies owned by women, people of color or veterans. Clark hopes her new SBIC, called the Innovate Capital Growth Fund, can help bump that number up.

“Many of these funds do not have fund managers that look like me,” says Clark, a Black woman. “And you tend to invest with those whom you feel most comfortable. That’s why we need more minority-led SBICs because you cannot grow to size and scale with just debt. You need both debt and equity. And I think what has happened in America is that we’ve only put debt in these low-wealth communities. Most minorities don’t even know about the SBIC program.”

A Need for More Equitable Equity

One of the side effects of the yawning and persistent racial wealth gap in the United States is a somewhat paradoxical situation when it comes to sources of capital for starting up and growing a business. The entrepreneurs who have the hardest time accessing debt are also the ones who are most reliant on debt to start and grow their businesses.

The median white household has eight times the median net worth of the median Black household, according to the most recent data from the Federal Reserve. That’s eight times more in stocks, bonds, real estate or other investments that white entrepreneurs can sell or ask family or friends to sell and invest the proceeds in their new business. If they don’t want to sell, that’s still eight times more in assets that can be used as collateral, gaining white entrepreneurs easier access to small business loans.

Meanwhile, the typical Black entrepreneur has one-eighth the wealth to draw upon, forcing them to rely more on personal credit cards instead of lower-cost small business loans. When Black entrepreneurs do seek small business loans, they’re rejected at higher rates, receive smaller amounts and pay higher interest rates than white entrepreneurs in similar economic situations.

All that adds up to an average of $106,720 in startup capital for white entrepreneurs compared with just $35,205 in startup capital for Black entrepreneurs, according to research by business scholars Robert W. Fairlie, Alicia Robb and David T. Robinson. Some of that is debt or loans, and some of that is equity capital. Equity capital can come from the founders, or from the founders selling shares in the business to outside investors in exchange for a pro-rated cut of profits. But according to that same research, the average Black-owned startup has around $500 in outside equity at founding, while the average white-owned business has more than $18,500.

Filling in the Equity Gap

Those disparities at the startup phase have an impact downstream. Black entrepreneurs hustle and grind to make up the difference while relying more heavily on higher-cost debt instead of lower-cost equity. They will inevitably run into a wall at some point because every business has a limit before the amount of debt on its books starts to scare away the additional lenders or investors it needs to keep growing.

“When you look at the difference between a founder or CEO from a low-wealth family or community, they historically get offered programs and debt,” Clark says. “A founder or CEO from a prosperous community typically starts out with family and friends capital, eventually gets [venture capital and] equity investments so by the time they get to $5 million in revenue, they look attractive for mezzanine financing from banks or other institutional investors. Whereas minority-owned businesses, their balance sheet when they get to $5 million in revenue is loaded up with debt.”

The Enterprise Center’s new Innovate Capital Growth Fund is specifically seeking out minority- or women-owned businesses that have hit that wall. They have between $2 million and $10 million in revenue and have probably gotten there with a loan or two and some non-financial assistance from The Enterprise Center’s other programs. Clark calls these companies “standouts, not startups.”

Clark is betting that with an equity investment from the new Innovate Capital Growth Fund on their balance sheet, they’ll be able to use some cash for direct investments in the business but also to pay off debt or just hold more equity on their balance sheets, so they look more attractive to larger lenders and other investors. The fund intends to boost each portfolio company to that next level that seems so rare among minority and women-owned businesses.

In Philadelphia, white-owned businesses average ten times more annual revenue than Black-owned businesses, while male-owned businesses average five times more than female-owned businesses, according to the most recent available Survey of Business Owners data from the U.S. Census Bureau.

Finding the Right Tool for the Job

Getting an SBIC license is no easy task, but Clark has already spent years trying other ways to do more equity investments that haven’t panned out or were hard to scale.

The Enterprise Center made its first equity investment back in 2016, which Next City covered at the time, using an obscure grant program under the Department of Health and Human Services.

In 2019, Next City covered Clark’s efforts to court investors to make equity investments using the new Opportunity Zones tax break, but nobody took the plunge. “Most Opportunity Zone investors wanted real estate; they didn’t want to invest in operating businesses, which is riskier,” Clark says.

Clark realized the SBIC program would be a good fit because of The Enterprise Center’s pre-existing relationships.

Under The Enterprise Center’s one roof is a Minority Business Development Agency site, meaning it receives federal funding to support minority-owned businesses with technical assistance, particularly for going after city contracts or corporate supplier contracts as part of supplier diversity initiatives. It is also part of the SBA’s other lending programs, including its micro-lending program and Community Advantage loan guarantee program.

Perhaps most importantly, as a federally certified Community Development Financial Institution, The Enterprise Center has also received funding for decades from banks to support its small business lending programs and community development projects. Such funding relationships with community-based organizations allow banks to meet some of their obligations under the Community Reinvestment Act. Those same banks can also receive automatic CRA credit for investing in an SBIC-licensed fund that serves one of their markets, such as the Innovate Capital Growth Fund. Banks are especially favorable to investing in SBIC funds because of CRA credit and because it’s one of the few ways banks are allowed by law to invest directly in a private-equity type fund, which is considered riskier but promises a higher than usual payoff.

So far, the Innovate Capital Growth Fund has pooled $12 million from investors, including some large banks, plans to raise $50 million by the end of this year and invest those dollars in portfolio companies over the course of the next five years. It hasn’t made any portfolio company investments yet, but Clark says several are already under evaluation.

All investors, including banks, like the benefits of the SBIC program structure. For every $1 of investor capital raised, the SBIC program typically provides $2 in low-interest, government-guaranteed debt to boost the size of each SBIC, allowing it to make more or larger investments, meaning more returns for the fund’s private investors. It’s like having the federal government step in as the largest investor in your fund, but having your largest investor cap its own returns at a very low rate of interest so that private investors have more profits to share.

Leveling the SBIC Playing Field

A few factors can at least partly explain why the SBIC program overall doesn’t reach many companies owned by women, people of color or veterans. There is also evidence that SBICs managed by women or people of color do reach more companies whose founders and executives look like them and that those SBICs perform just as well financially as those managed by only white men.

According to a 2016 study also co-authored by business scholar David T. Robinson, SBICs with at least one person of color among its investment team were more than twice as likely than all-white SBICs to make investments in companies whose CEO was a person of color, and also more likely to invest in companies whose ownership was at least 50% people of color. Similarly, SBICs with at least one woman on their fund management team were similarly more likely to invest in companies with a woman CEO or whose ownership was at least 50% women.

Even controlling for the fact that many racially or gender-diverse SBICs are smaller and have begun investing more recently, there appeared to be no evidence that investment performance suffers because of directing investments toward more diverse portfolio companies.

But those SBICs have been few and far between. The study also found that only 10% of SBICs had at least one ethnic or racial minority on their investment teams, and only 12% had at least one woman on their investment teams.

“One of the issues with the SBIC program is that, quite understandably, they place requirements that people obtaining a license have at least a certain number of years of prior investment experience,” Robinson tells Next City. “And so in a world where you have under-representation by different ethnic groups and by women in the investment world in general, that spills over into this program just through that requirement.”

Out of $70 trillion in assets managed by investment firms registered in the U.S., less than one percent are managed by firms led by women or people of color, according to a 2017 report from the U.S. Government Accountability Office.

“There are amazing opportunities to invest in amazing founders of color, women, immigrants, but [private capital markets are] such a relationship-driven business,” says Bailey DeVries, head of the SBA division that administers the SBIC program. “That’s why we need more investors who are women, people of color, or immigrants connected to those communities across the country to become part of the program. We need more Della Clarks.”

Significant costs are associated with obtaining an SBIC license. There’s the application fee, currently $45,000, legal fees for drawing up documents for investors, documents for portfolio companies and other documents to draft and review. There’s the cost of coming up with a slide deck for investors and marketing materials for potential portfolio companies.

Some of these things are harder to change than others, but criteria for evaluating SBIC applicants and other factors may be possible even without action from Congress. DeVries says the Biden-Harris Administration is very supportive of making changes that would align the SBIC program with the administration’s executive order on advancing racial equity. “We’re looking at our policies, looking at our regulations, engaging with current SBICs and SBIC investors to modernize the program,” DeVries says. “It is wonderful we have individuals like Della in the program who are committed to this mission, but this should not be a story about one individual or personal heroics. She’s incredible, she’s a force, but there’s a lot more that we can do.”

But once you go through it the first time, some of those documents can be tweaked slightly or reused verbatim for subsequent funds. Assuming you’re successful with your first fund, you’ll also have that track record to put on your application for subsequent SBIC licenses. Clark is already dreaming of a second and third SBIC fund, though she’s admittedly not getting much sleep right now.

“If we’re not successful in fund one, there’s no discussion on fund two,” Clark says. “So there’s overwhelming pressure for fund one.”

Oscar is Next City’s senior economics correspondent. He previously served as Next City’s editor from 2018-2019, and was a Next City Equitable Cities Fellow from 2015-2016. Since 2011, Oscar has covered community development finance, community banking, impact investing, economic development, housing and more for media outlets such as Shelterforce, B Magazine, Impact Alpha, and Fast Company.

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