The Color of Money: Evidence of Ethnicity's Influence on U.S. Venture Investments

How do ethnic networks influence venture capitalists’ choice of companies to invest in, and the performance of the investments? We investigate this question by using data on the ethnic origins of over 22,000 U.S.-based VC partners and the 98,000 top-level executives of the startup companies they invested in during the years 1991-2010. We construct measures of “ethnic distance” for each potential VC-company pair and find that after controlling for the sorting of ethnic groups into certain industries and geographic areas, a 1% decrease in ethnic distance for the pair increases the probability of investment by up to 0.05%. Evidence for the influence of ethnicity is particularly strong during early-rounds of investment when information costs of the relationship are high, and for ethnic  populations associated with “collectivist” cultures such as Japanese, Korean and Chinese. Conditional on investment, a 1% increase in ethnic closeness increases the probability of successful exits through IPO by 0.6-1.2%. This translates to a striking estimated ex ante increase in IRR between 7% and 15% for the average VC. We conclude that co-ethnic networks have a profound economic influence on venture investments.