Five questions on Black investors for Cynthia Muller of W.K. Kellogg Foundation

The challenge of racial inequity experienced by people of color in their roles as founders and investors came into fresh focus with the recent publication of a wide-ranging study detailing fundraising gaps experienced by Black venture capitalists.

BLCK.VC, the advocacy group that produced the report, zeroed in on the marginal role and limited access that Black general partners have in the venture ecosystem. They tend to raise much smaller commitments from limited partners, translating into funds and check sizes dwarfed by the investing power of their white counterparts across the industry.

How LPs work with minority-led partnerships was a central feature of the study by BLCK.VC, so PitchBook wanted to get the LP perspective on these issues. We interviewed Cynthia Muller, head of mission-driven investment for the W.K. Kellogg Foundation, whose endowment is committed to promoting equitable outcomes in the private market. The interview has been edited and condensed for clarity.

PitchBook: In the past two years, corporations and countless investors have pledged to pay more attention (and dollars) to diverse managers and racial equity in general. Over that time, what has changed–and what has not–when it comes to this issue?

Muller: Since George Floyd's murder nearly two years ago, there have been more than $50 billion in corporate and investor commitments toward racial equality. While the focus on racial equity is promising, the deployment of capital into an already-malfunctioning system won't solve the issues we see in the capital markets. We have to also rewire the infrastructure as we deploy this much-needed capital. That means continuing to assess and orient our processes in recognition that the system that was built was not built for all.

The W.K. Kellogg Foundation certainly sees that the conversation of racial equity has broadened, and many investors are demonstrating that not integrating a racial equity lens to their investments is a significant business risk to their operations, value chains and brands. By now, we should all understand the business case for racial equity and what's at stake if we don't make the necessary changes to operationalize racial equity and move from a deficit mindset when investing in underrepresented and undercapitalized opportunities. I recently heard Tynesia Boyea-Robinson of CapEQ say, "Racial equity can't just be bolted on; it has to be built within."

As for what hasn't changed, 2021 was venture capital's largest year yet. However, only 1.5% of venture capital goes to Black and Latinx founders. For women, the numbers are even more disparate, with just 0.4% going to Black and Latinx female founders. And many hurdles remain for GPs and entrepreneurs seeking capital. Despite the constraints, women- and people of color-owned firms are growing. There were a record 280 women- and people of color-owned firms raising capital in 2021 (up from 234 the previous year), according to a report from Fairview Capital. But Black-owned businesses are also still struggling to recover from the pandemic. More Black-owned businesses had to decrease operations. Many have had to tap into personal finances to stay afloat.

PitchBook: We're seeing more investors from diverse backgrounds joining the VC and PE arenas, but many are concerned about their limited capacity to raise larger funds to stay competitive or to do follow-on and late-stage rounds with their portfolio companies. Can you comment on that apparent dichotomy?

Muller: Investors new to this framework of investing should keep in mind both venture and growth equity in GPs led and/or owned by Black, Indigenous, Latinx founders and female managers have a more complicated path to strong performance. But it's there and will require models that think beyond the status quo.

Institutional investors need to challenge the traditional ideas about race and the perception of risk associated with investing. Investing in an underrepresented GP or founder is not a business risk. Bias—unconscious or conscious—in an investment is and often leads to the conflation of existing negative and false perceptions about race and a manager's level of performance. Investors must be open and prepared for those tough conversations and the work needed to make sure these GPs and entrepreneurs are not left out on their own when trying to do follow-ons. They need to understand the role of their power, beyond their brand and the size of their checks, but also how to make introductions, negotiate terms that set the manager up for success, coach and advocate for their managers. WKKF has learned from our own managers that they benefit greatly from post-investment support, such as coaching, communications, technical assistance and network building to bring value and build their capacity.

PitchBook: Some general partners point out that LPs won't back a fund unless the fund's GPs also make their own funding commitment. Is that a valid concern for LPs?

Muller: Yes, I think this is a valid concern for LPs, and I think this once again comes down to the perceptions of risk. Every startup or new fund has to have someone take a chance on them, not dissimilar to the chances that have been given to their white male counterparts or highly networked individuals. The problem is that some invest based on their potential while others are valued by their performance.

We must continually be aware of decision bias in our risk profiles. That means we can't assume GP commitment is the only way to demonstrate having skin in the game. It's not OK that underrepresented GPs, who already are starting with less resources than their counterparts, are taking out second loans on their homes or accept tax-inefficient compensation structures to show they are committed. Being underrepresented is an incredible burden in a system that doesn't trust their potential like they might by a white or already well-resourced counterpart, and that should be factored into GP commitments.

PitchBook: How does your team approach potential funding of GPs who face limits on their ability to invest?

Muller: The W.K. Kellogg Foundation has often been the first or one of the first institutional investors to invest in an underrepresented-owned and led firm. We listen closely to our potential GPs, the way they structure and approach their fundraising. As a result, we're starting to see how underrepresented managers are positioned to return more capital to investors and generate more financial success. But again, the system is flawed, and the same way investors see market opportunities, we need to make sure we account for that in the context of their growth and performance as emerging and high-performing GPs.

PitchBook: Do you have or track data about the race of asset managers to guide your own allocations for meeting certain goals? What data is missing, and how would you like to see that data collected?

Muller: At the beginning of the lifecycle of a transaction, the W.K. Kellogg Foundation assesses where the manager is at across a number of key performance indicators like previous track record, networks, makeup of the team and sophistication of their operations. We do this to understand our portfolio composition and to make sure we're assessing the investment opportunity with the context of the market, the strategy and our portfolio.

This is helping us to make decisions to ensure that not only we will gain the highest return possible but also to manage the risk of a market that isn't made for underrepresented or undercapitalized GPs. Generally, we would love to see more practice around contextualizing these types of indicators across the life cycles of a transaction because it helps us to see how the manager is progressing in this fund, and whether they are ready to scale up or refine their approach in follow-on funds.
 

Related read: Black VCs could face bigger hurdles in venture market slowdown