The Failure of Venture Capitalism: How the American Dream is a Facade
Everyone knows the story of a young adult starting a business and becoming their own boss through a startup. Often called the American dream, or American individualism, having a house with kids and a dog running around the neighborhood while setting your own work schedule seems peaceful and achievable. However, starting a business is challenging. Additionally, the likelihood of failure of a business is too high for many Americans. Venture capitalists and their current diversity levels combine to create systematic cycles where it is harder for marginalized communities to enter the industry. With a lack of diversity in venture capitalism and increased difficulty in class mobility, the idea of the American dream and individualism is not feasible for many socio-economic groups. Everyone wants to be in the 1%. However, study after study shows that the further you are from the 1%, the more impossible it is (Benedetti). There are so many biases against those who do not fit the mold. Moreover, without systematic change to the way startups receive funding, these biases will continue to oppress those of different races, income levels, and family sizes.
90% of America strive to make their own decisions and think for themselves (Bianchi). This struggle for individualism is why the American dream holds so much strength in American culture. However, American society has fallen victim to the success bias. The success bias gives people the impression that entrepreneurship is easier than it truly is. The people who make it do the top and preach about how failure leads to success? They have anecdotal evidence to support how they got there. The success bias is in every aspect of American culture; one example is in the case of cancer patients seeing the possibility of success against odds in two out of every three patients (Ray). While claims of entrepreneurship success are very well-argued and explained, they are based on subjective experiences and anecdotal evidence often limited to a single industry or company type and specific opportunities. The other and eventually successful entrepreneur Suneel Gupta calls these specific opportunities luck, as do dozens of other founders and former failures (Gupta 17). This makes those experiences difficult, if not impossible, to generalize, but time and time again, people can pick up a book on how to get there themselves. This same idea applies to the recency bias in venture capital or VC. In VC, it is widespread for a recently successful project to serve as interest in a new idea. In the case of the venture, only so many of the same ideas can lead to success.
Nevertheless, once one project is successful, it breaks the idea that your similar idea can be successful. The success bias is also a bias related to the stories we are told. We only talk about the winners and the success stories. However, the American dream is much more complex and so much more complicated than people often believe due to the stories we are told.
Part of the struggle to succeed in entrepreneurship relates to those in venture capital and angel investment. These investors have strong ideas on what qualifies someone to be a good entrepreneur, including commitment, familiarity, and the idea itself. Many angel investors were once entrepreneurs themselves. These investors will look for values and traits like themselves. Because of this, they often fall victim to the familiarity bias. The familiarity bias is the concept that anyone is more likely to choose something familiar to them because it makes sense to them and their world (Jain). The familiarity bias impacts your everyday decisions, from what to get for dinner to the route you take to work. In the case of entrepreneurship, it needs to be thought of when pitching a product, when asking for help, and beyond. An idea talked about in Backable, a book on how to find success in entrepreneurship in seven easy steps, is casting a central character to whom everyone can relate (Gupta 24). This central character is designed to relate your problem to your investors. This is one example of the familiarity bias. If your investors relate more to your central character, they will invest in you.
An extension of the familiarity bias is the ability to understand the problem the startup is working to solve. This problem is particularly evident in startups trying to solve issues where socio-economic status matters. In lower-income and in race groups where upward mobility is extremely limited, there is a struggle to get venture capitalists to understand your problem because they have never experienced it. This is true both in the sense of the worldly problem a startup is trying to solve and in the ways of needing a second job, not having the savings to give the business, and more. Historically, those in lower-income brackets save less because they have less disposable income, and they then have less to give the business (Zachary).
Similarly, when trying to get investors interested in a business, it is essential that they understand the problem. This is done by showing them the issue and the product’s solution. However, if the investors cannot relate to the problem, how will they see the solution? They will not. Instead, investors will invest in solutions to problems they can relate to (Rohm). This issue is not easily solved by a how-to guide or a better explanation of the issue. Instead, this is a systematic issue that needs to be changed from the criteria VCs use to decide whom to invest in.
Angel investors look at the path they took. They often went all-in on their idea, quit their day job, and poured their savings into the business. They expect the same from those looking to start a new business. As seen on tv shows about angel investors, like a shark tank, they often ask, “are you willing to quit your day job for this business?” This is because they want you to be fully invested in the business and its success. This means quitting your day job and committing to the idea of failing forward. The idea of quitting your day job is promoted through all startup literature and success stories. From “Backable” by Gupta to “Do Cool Sh*t — Quit Your Day Job, Start Your Own Business, and Live Happily Ever After” by Agrawal, each of these books tells personal stories about committing yourself to your business and quitting your day job. Many of these books also include interviews with famous CEOs about going all in. The idea of quitting your day job is sold to the entrepreneur time and time again, well before they get into looking for funding.
Once the entrepreneur begins searching for funding, they will run into this problem again. Investors ask new entrepreneurs to fully invest in their business, both with time and money. The investors want the entrepreneur to have “skin in the game”; therefore expect sed entrepreneur to quit their day job and pour their savings into their business, even if they have a family or little to no savings due to their previous job (Zachary). The investors do not want to pour money into your business if you are not putting yourself into it (Agrawal). Additionally, angels and VCs invest in people, not the business (Agrawal). Quitting your day job is scary, and it should be. It is a giant leap. It is leaning into the idea of failing forward.
Failure comes at a high cost. As Gupta says in his book, “you are moving fast, making lots of mistakes and always running out of money (Gupta 133).” Savings and other disposable income increase dramatically with class status (Wennberg). Failure seems to be a popular idea to reference as this book goes on. However, repeatedly, people must look at it and remember that not everyone has the ability or the case where they can afford to fail rapidly, quickly, and publicly.
Marginalized communities, like lower-income adults and single-parent households, are unable to fail in this way because they do not hold the disposable income to afford failure or loosing. This is the same with other people who experience the negative impacts of biases and unlikely dreams. Additionally, failure is never fun, so what makes people who are struggling and already unlikely to do well willing to attempt to fail? It is really unknown. Failure sucks. “Nobody wants to fail,” says Ashley Good, chief executive and founder of Fail Forward. “It is awful. You will never hear me say to celebrate failure.” Nevertheless, she added, “failing intelligently is an increasingly important skill (Martin).” Failure is good practice. However, failure is not cheap. It costs money and time. Successful entrepreneurs and businesspeople repeatedly speak about how repeated failure led to their success, but they often forget that failure is costly. Fear of failure is one of the number one reasons people do not pursue entrepreneurship, combined with a lack of individualism (Wennberg). Fear of failure and self-assurance are keys to entrepreneurship that much lower class and socio-economic groups do not have for reasons outside of their control.
However, Angel investors are aware of how likely any given startup’s failure is. With a success rate of 1 in 5 businesses, these investors know that failure is highly likely (Zachary). Nevertheless, their requirements for investing do not change. Instead, investors double down on their ideas and the needs for their funding. They are setting them up for failure without adequate research and understanding.
The American dream is something that will continue to exist in American culture. However, until there is systematic change done to the startup investment process, it will be nearly impossible for those are the bottom to succeed. The idea of the American dream exists around the world, but we are failing to live up to its intent of it. The dream that we can all climb the ladder will be a façade until we change the ways that entrepreneurship is funded.
Words Cited
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Benedetti, Arianna Helene. In Pursuit of the American Dream: How Social Class Affects Future
Possible Selves. eScholarship, University of California, 2019.
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GUPTA, SUNEEL. Backable: The Surprising Truth BehindBehing What Makes People Take a Chance on You. LITTLE, BROWN, 2021.
Jain, Kapil. “What Is Familiarity Bias? How to Overcome This Bias?” Enrichwise, 19 Mar. 2022, https://www.enrichwise.com/what-is-familiarity-bias-how-to-overcome-this-bias/.
Martin, Claire. “Wearing Your Failures on Your Sleeve.” The New York Times, The New York Times, 8 Nov. 2014, https://www.nytimes.com/2014/11/09/business/wearing-your-failures-on-your-sleeve.html.
Ray, C. D., Floyd, K., Mongeau, P. A., & Randall, A. K. (2019). Success bias and inflation bias after planning and communicating emotional support. Journal of Cancer Education, , 1–5. doi:http://dx.doi.org.libproxy2.usc.edu/10.1007/s13187-019-01550-1
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