Fearless Fund lawsuit could have a chilling effect on DE&I investments

A lawsuit claiming racial discrimination for investment programs for underrepresented entrepreneurs could dissuade would-be investors from funds with racial mandates

Conservative activist Edward Blum’s racial discrimination lawsuit against venture capital firm Fearless Fund could have a chilling effect on the investment community, speakers at the Culture Shifting Summit, a conference addressing diversity in venture capital and private equity, said recently.

Venture capital and private equity firms could pull back from investing in companies run by underrepresented individuals, and investors could shy away from private funds focusing on such companies, attendees said.

On August 2, Blum’s American Alliance for Equal Rights sued Fearless Fund, claiming the fund is operating a “racially discriminatory program” in violation of Section 1981 of the Civil Rights Act of 1866.

Section 1981 states: “All persons within the jurisdiction of the United States shall have the same right in every state and territory to make and enforce contracts, to sue, be parties, give evidence, and to the full and equal benefit of all laws and proceedings for the security of persons and property as is enjoyed by white citizens, and shall be subject to like punishment, pains, penalties, taxes, licenses, and exactions of every kind, and to no other.”

Blum claims that the Fearless Fund’s Strivers Grant Program, which awards small businesses owned by Black women $20,000 in grants, along with technical support and mentorship, violates Section 1981, because entering the contest essentially forms a contract, and that restricting the prize winners to Black women discriminates on the basis of race.

In June, Blum’s nonprofit organization, Students for Fair Admissions, successfully sued the University of North Carolina and Harvard University in two landmark Supreme Court cases that struck-down affirmative action on the basis that taking into account racial considerations in the college admissions process violates the Equal Protection Clause of the Fourteenth Amendment.

There has been more focus on diversity, equity, and inclusion at investment firms and the companies in which they invest. Investment firms themselves have pledged more diversity in hiring practices and in their investments. But the lawsuit against Fearless could deter LPs from supporting funds with racial mandates, especially in a difficult fundraising environment, and it will be hard for these funds to grow beyond their first or second funds, which many use to replenish sources of capital for entrepreneurs.

While investments in businesses and funds owned by underrepresented groups have been seriously lacking, speakers at the Culture Shifting event noted that funds and businesses owned by black women have the hardest time getting investments.

“The statistics in our work are just awful. Black entrepreneurs have less access to capital and are rejected at three times higher rate than white entrepreneurs when seeking business capital,” stated the CIO of a VC firm. The event was held on background so attendees could speak without fear of being identified in the press.

“There’s no long line to invest with black and brown people, or maybe even women. The lawsuit against the Fearless Fund and the repeal of affirmative feels terrifying,” added a partner at an early-stage VC firm.

The vice-president at a family office said because of the Fearless Fund lawsuit, allocators who “prize diversity” will have to be more focused on their efforts and also try other solutions to reverse the chilling trend the suit is expected to have.

“There’s nothing preventing allocators from continuing to make a commitment to valuing diversity in how we construct our portfolios,” she added.

‘How we invest’ won’t change

Facing an expected decline in funding to businesses owned by underrepresented individuals, a managing director at a multi-asset manager reiterated her firm’s commitment to investing in diverse managers.

“I’m almost sure that we have lost some clients because they think that we’re too focused on racial equity. But that won’t change how we invest. We’re going to keep going. We’re going to do as much as we can in this space. We will be creative. We will be innovative. We’re not going to stop,” she said.

Recently, 70 venture funds — many founded and led by Black female general partners — released an open letter denouncing Blum’s arguments that grants and funds dedicated to Black women constitute reverse racism. The letter states that “over $288 billion of venture capital was deployed in 2022, with an estimated 0.41 percent share invested in Black women founders.”

According to the letter, Black women received less than 0.35 percent of all VC funding in 2021, while Black founders more broadly receive approximately 1 percent of all VC funding in the US — an estimated $2.25 billion out of the $215.9 billion in venture capital deployed in 2022 figures.

One lawyer speaking at the event said investors need to understand that litigation like the Fearless Fund lawsuit puts DE&I programs “under attack.”

“That doesn’t mean your programs are not valid. You just have to commit and push forward with your programs to help the historically disadvantaged,” he said.

The most impactful way to continue to support underrepresented businesses is through investment.

“Support looks like dollars. It does not look like any type of verbal action, especially at a time like this. If you say you stand for diversity, equity and inclusion, it can’t just be rhetorical. Your actions have to match your words,” stated the CEO of a VC firm.