The Enterprise Center (TEC) is leading the way with its innovative $50 million Capital Growth Fund, demonstrating how private sector investments can be leveraged through the Small Business Invest Companies (SBIC) program Administration (SBA) to Increase Private Equity Investments in Black-Owned Businesses.
In 2021, minority-owned businesses managed a miniscule 1.4% of all assets while representing around 40% of the population. SBICs with at least one person of color on the investment team were more than twice as likely as all-white SBICs to invest in companies whose CEO was a person of color. The same was true for women. SBICs are a program of the SBA’s Office of Investment and Innovation.
The Fund will provide much-needed capital, enabling Black-owned businesses to grow, hire people, develop innovative products or services, and acquire other businesses. This will help create a diverse private equity industry that mirrors the American people.
Leading Change for Equitable Equity
Because we [TEC] are in Philadelphia, the majority of the minorities we serve are African Americans, [by far] largest minority population,” said Della Clark, president of The Enterprise Center and partner at Innovate Capital Growth Fund.
As the business hub of the Minority Business Development Agency (MBDA), one of TEC’s goals is to connect minority and women-owned businesses to government and corporate contracting opportunities. through supplier diversity programs. With both a Community Development Financial Institution (CDFI) and an SBIC under one roof, it is uniquely positioned to help start-up and mature growth-oriented businesses.
Innovate Capital targets minority and women-owned businesses in the Mid-Atlantic region with revenues between $2 million and $20 million and who have recurring contracts in sectors such as education, health , infrastructure, manufacturing, technology/software and value-added distribution. It is particularly focused on companies serving educational and medical institutions, which are the economic engines of the region and offer large five-year contracts.
Assess the financing gap
For every dollar of wealth an average white family has, a black family has 12.5 cents, according to the Federal Reserve Bank of St. Louis. Significantly lower wealth means that when aspiring black entrepreneurs want to start a business, they have far less money to invest, which limits their ability to grow their business.
According to Startup Funding Trends by Race: How Access to Capital Affects Profitability. They are more likely to be rejected and pay higher rates, according to Disparities in access to capital between minority- and non-minority-owned businesses: the troubling reality of capital limitations faced by MBEs. Lower levels also dampen the rate at which black men and women start businesses compared to their white counterparts.
“When you look at the difference between a founder or a CEO from a low wealth community, they are historically offered [technical assistance] programs and debt,” says Clark. “A founder or CEO of a successful community starts with capital from family and friends; many receive money from angel investors, followed by venture capital.
“By the time they hit $5 million in revenue, they look attractive for mezzanine financing from banks or other institutional investors,” Clark said. “While minority-owned business balance sheets become debt-laden when they reach $5 million in revenue.” Interestingly, debt is mostly used by entrepreneurs who have the most difficulty accessing it to start and grow their businesses.
“We have a broken system. Funders give us money for programs with unrealistic measures,” Clark said. “They don’t provide money for follow-on capital for this program.” Non-profit organizations like TEC recruit staff, but the process begins again in two or three years when the program ends.
Level the playing field
Clark realized that low-income communities get program funds, but prosperous communities get investment capital. CEOs and founders of affluent communities have accelerated business growth compared to CEOs and founders of low-wealth communities whose businesses are growing slowly.
The capital stack of companies whose CEOs and founders were from low-income communities was entirely or mostly debt. In contrast, the prosperous communities stack had a lot more fairness in the mix. The debt ratio affects the balance sheet of minority companies, making them unattractive to private equity investors or as acquisition targets.
“If we’re going to change poverty in Philadelphia, we’ll have to focus on building wealth by identifying CEOs who stand out and have growth IQs,” Clark said. TEC determined that it needed to provide equity investments to companies with predictable revenues, as they had contracts with local, state, and federal governments as well as corporations. These companies, in turn, would provide outsourcing opportunities to minority and women-owned small businesses.
“That led us to look for an SBIC license,” Clark said.
Starting an SBIC was a good choice for TEC. As an MBDA Business Center, it receives federal funding to support minority-owned businesses with technical assistance, especially for certified minority and women-owned businesses seeking government contracts and companies through supplier diversity programs. It is also part of a federal loan program, the CDFIs.
As a CDFI, TEC receives funding from banks as part of their obligations under the Community Reinvestment Act (CRA). Banks are interested in investing in SBICs because it is one of the few ways they are allowed by law to invest directly in private equity funds. These funds are considered riskier but promise higher returns than other investments. They can also use ARC dollars for investment. TEC has pre-existing relationships with banks and other institutions that could be sponsors of an SBIC fund.
There are nearly 300 SBICs, and few are owned by women, minorities, and veterans — just 49. The SBA application fee is $45,000, and creating and running a fund entails significant legal and other costs. “That’s a lot of money, and a lot of minority organizations don’t have that,” Clark said.
In February 2022, Innovative Capital Growth Fund received its license from the SBA. “We closed on $20 million and have about $7 million in commitments,” Clark said. Institutional investors in Innovate Capital include Bank of America, Children’s Hospital of Philadelphia, Delaware Valley Regional Economic Development Fund, Forman Family Foundation, Halloran Philanthropies, Independence Blue Cross, Republic Bank and the University of Pennsylvania.
Fundraising has been slow. “I didn’t realize fundraising was going to be difficult,” Clark said. “Most large foundations and corporations would rather give grants to nonprofits like ours than investment capital.”
Clark is one of three managing partners. “I come from the CDFI world and I don’t have a Goldman Sachs pedigree,” Clark said. His two partners complete his skills. Bob Palmer is a former Managing Director of CMS Mezzanine and brings over 30 years of banking and private equity experience. Blessy Thomas is an experienced growth strategist.
The public-private investment vehicle is a win-win – it increases the odds that Black-owned businesses will receive private equity funding and offers private investors the potential for high returns.
How will you leverage an existing source of capital, SBICs, used in a new way?