28 Nov Bias in investment decisions
The Start-Up Series has been going now for over a year and we have just finalised our 11th investment. So, as any start-up should, we’ve been looking at our data and making some comparisons to other established businesses in our industry.
The success or otherwise of our decisions is judged in the long term – we hope that our investors will get a stunning return over five to seven years from a portfolio of seed investments. So, after just a year we cannot judge how that is going to pan out (although all our businesses are making strong progress so far). But we can look at our decision making and see if there are any differences appearing that mark us out from our competitors.
There was one element that we have been aware of for a while. Beauhurst, a company that compiles records and reports about private financing to start-up and growth companies (and consistent with many other sources) finds 52% of private equity funding in 2016 was directed to London and a further 10% to other areas in the South East of England.
Our first competition winner is based in Liverpool, our second just outside Manchester, the third Birmingham. We were delighted that we didn’t fall into the London bubble. At the end of the year we find 45% of our funding has gone to businesses outside London and the South East.
We were more surprised when we looked at the gender of the businesses receiving our funding. A report by The Entrepreneurs Network, supported by Barclays, published in March this year found that private funding in 2016 was split 91% to business without a female founder, with only 9% to business including a female founder.
Even on crowdfunding, where you might expect a more democratic split, a Nesta report in 2016 found only 23% of crowdfunding directed to female founders. We have a 70% male to 30% female ratio of entries to the Start-Up Series. But our funding ends up directed 59% to business without a female founder and 41% to those with. Although we don’t positively discriminate, women end up outgunning their male competitors.
This might give us a liberal-minded, warm, fuzzy glow, but as investment professionals what does it mean and is it likely to improve the performance of our fund?
We can only speculate at this stage but we expect that three factors might be at work – and if so they bode well for our decisions versus our competitors:
- We have a six-week distillation process that properly digs into our businesses, much more comprehensively the further a business gets into the competition. And we have some clear criteria that we have built up from 12 years of angel investing. We are rigorous in reminding ourselves of our criteria and challenging ourselves whether we are maintaining our objectivity. We suspect that this helps us to eliminate the inherent bias in white middle-aged London based males – like us and the vast majority of investors – that gravitate towards the type of person they are and know.
- We don’t ask anyone to ‘pitch’ at any point in our competition. We think too much emphasis in early stage investing is put on the ability to pitch an idea, where confidence and bravado can disproportionately outweigh insight, analysis and thoughtfulness. We still value the ability to succinctly put across a market insight and idea (the first part of our competition only asks for a two page summary or a two minute video), but this doesn’t have to be face to face where personality can overcome commercial nous.
- So far, our competition has been for consumer businesses (although now we have subsequently opened it up to business-to-business (B2B) businesses). Our first criteria is strength of insight into a market need or opportunity. We think that both location and gender might have a role to play in the strength of empathy with real consumers and the ability to see problems that need solving or opportunities to be exploited. Often people based in London can have an abnormal view on real life for the family high streets across the UK. Businesses that have the potential to achieve real scale rarely base their insight on what is happening on Shoreditch High Street or in wealthy London suburbs. We can wonder whether women are generally more empathetic to the world around them and therefore have stronger insight. But certainly women as a gender make up a much higher than male share of consumer spending.
So, for entrepreneurs, what’s the take out? Be aware that there are biases, usually subconscious, at work in the minds of a potential investor and in their selection process. If you try to predict them you can think about what it will take to overcome them. And if there are investors reading this – we challenge you to think about your biases and how you actively eliminate them.