The United States government should create an independent investment fund to finance the early-stage entrepreneurs filling the void of the “friends and family rounds”. Most entrepreneurs don’t have the startup capital to experiment with their business ideas. When the net worth of the family and friends is below zero and no one else willing to give a chance, the United States government can jump in. With trillions of dollars in spending power, the government can easily separate a billion dollars for the American innovation.
Below is the text of the letter sent to the Trump Administration and Senators.
To read a pdf version, click here
Dear Mr. President:
Thank you for taking all the necessary measures to fight against the fast-spreading coronavirus and keeping our economy afloat. We are living in an unprecedented and challenging time, one that needs the immediate attention of American entrepreneurs. With an extra, but small support, these innovative thinkers can produce exponential returns benefitting America in the long run.
According to Goldman Sachs and the Federal Reserve, we could see 15% to 32% unemployment due to the pandemic. The economic crisis would be so deep that many now employed Americans or upcoming graduates would not have jobs. This could last for several years depending on the recovery time. The result of previous economic crises has shown that many would not return to work or would have a difficult time finding one. In order to avoid becoming dependant on government assistance permanently, many would attempt to create new enterprises.
On March 27th, you signed a historic $2 trillion economic stimulus bill. Of that, small businesses would get $377 billion or 19% of the total. This amount would primarily be provided through loans and reliefs to small businesses through the Small Business Administration. While the SBA’s loan would help small operating businesses, a large but significant portion would be left out. That would be the one or two-person startup and they are often the most innovative.
The United States does not offer support to entrepreneurs lacking start-up capital even during the normal course of operations. These entrepreneurs are often looked down upon because they don’t have personal relationships that are willing to finance the well-known “friends and family round”.
Often in the venture capital industry, startups reach out to venture capital firms once they raise a few thousand dollars from their closest family and friends and test their ideas by developing products or solutions. Most entrepreneurs, unfortunately, do not get any capital to get started. As a result, they never get an opportunity to launch their business. Most attempt to start, excitedly register their business, but soon realize they wouldn’t be able to receive financing and will have to shut down, becoming part of the statistics of a failed company. The problem is multiple folds.
Firstly, only about 2% of entrepreneurs receive funding from venture capital firms. This shortage of capital eliminates many potential entrepreneurs from achieving their dreams. Excluding a few exceptions, this 2% group comprises people who share similar characteristics: school, family background, and ethnicity among others.
Secondly, first-generation entrepreneurs whose families have less than zero in net worth would almost certainly not get any funds to start their business. In Silicon Valley, some pre-seed VC firms are writing first checks but it’s nearly impossible for them to fund the majority of qualified entrepreneurs. In addition, they also look for people who fit in the same characteristics as the 2% group.
Next, over sixty percent of venture-funded companies fail. While it’s easy to say that most startups fail, looking from another lens, it could also be said that VC firms often pick wrong companies to fund the 2% they choose. One theory could be: of the 98% not funded, were there great potential companies that did not receive funding because they did not fit into the typical characteristics of entrepreneurs?
And lastly, venture firms lack the diversity of professionals in terms of gender and race. This deprives the investment professionals from sourcing and funding great entrepreneurs of diverse backgrounds. Very few VCs even attempt to seek to find entrepreneurs with “other characteristics”. According to BlackVC, only 3% of venture capitalists are Black, with even fewer controlling the $80B+ invested annually in the US. At the partner level where most of the investment decisions are made, only 2% are Black. Realizing the gap, some diversity-focused funds have been introduced but they face the same problem as the first time resource-deprived entrepreneurs. These funds have a difficult time raising funds and often are so small in size that it does not support the venture capital business model to succeed. A study conducted by DiversityVC found that most venture-backed startups are “overwhelmingly white, male, Ivy League-educated and based in Silicon Valley”. Other troubling findings were (a) just one percent of venture-backed founders were black, (b) women-founded startups received only 9 percent of investments, (c) Latino founders made up 1.8 percent of those receiving funding.
The U.S. government provides support to various agencies in hopes to eventually help small businesses. For example, SBA provides funds to SBIC; however, the SBICs don’t serve the garage entrepreneurs. SBICs mostly operate as growth equity or debt capital providers and often look for the same characteristics as the other private investment firms.
It is time America supports its potential entrepreneurs who are overlooked – they don’t have a brand name, lack family background, lack resources and funds. When others don’t believe in these great American entrepreneurs’ ability to succeed, America should step in and help.
I request you to consider creating an agency to fund these unknown American entrepreneurs with very first small checks. These checks would be competitive to what pre-seed VC firms provide typically ranging from $25K-$250K. These small checks would help an entrepreneur get started. This could be a completely independent entity “Innovation Capital Fund” directly under by the Executive Branch. Like a typical private fund management business, it would have professional investment managers and operate independently.
The difference between the Innovation Capital Fund and any other private venture fund would be the expected return. While a private VC seeks over a thousand percent returns, Innovation could seek lower but a more optimistic return. This could be achieved by being non-discriminatory in choosing the entrepreneur characteristic and simultaneously funding a higher percentage of companies than the industry standard of 2%.
Yes, the government can create entrepreneurs if it really wants to. With $1 billion of committed capital, the Fund can provide early financing of $25,000 each to 40,000 companies. Please note that $1 billion is equivalent to a mere 0.05% of the $2 trillion stimulus. Applying typical VC returns assumptions, if 10% of these companies return 1000% return, $1 billion would generate $100 billion of gains which could be deployed in subsequent Funds to finance thousands of new entrepreneurs.
If the United States could take equity stakes in airlines to help the airline industry, America could take equity stakes to seed-stage startups as well. America can help entrepreneurs create businesses and employ people by providing the first round of financing to garage entrepreneurs. The economic gain from starting a seed funding program is exponentially higher than the cost of starting or managing the program. I hope you will give this proposed program a serious consideration.
Sincerely,
Ash Shrivastav