Latinos are a fast-growing, young segment of the U.S. population that’s also highly entrepreneurial, yet businesses that Latinos start often struggle to get the financing they need to grow and succeed.
These businesses are among the “most overlooked opportunities for investors,” the Boston-based Bain & Co. wrote in a report released earlier this month.
According to the report, in the decade from 2007 to 2017, 50% of net new businesses in the U.S. were started by Latinos. And many of these businesses outperform their white-owned peers until they reach about US$1 million in revenue.
That’s because many of them fund their growth by loading up on high-cost debt, or mortgaging their homes, “all the things that are a problem when you’re scaling” a business, says Hernan Saenz, a partner at Bain and co-author of the report.
Young businesses would be better off financing their initial growth with low-cost loans from banks or community development financial institutions, or better yet, with equity investments from angel investors or venture capitalists. Equity, unlike debt, doesn’t need to be paid back, which means cash generated by a business can be used to further its growth, Saenz says.
The financing crunch young Latino-owned businesses often face reflects both a lack of demand by the owners—who may not know where or how to ask for the money—and a lack of supply, in that institutional investors and high-net-worth individuals with money to invest don’t know how to reach these businesses.
The lost opportunity is huge. “If the population of Latin-owned businesses grew at the same rate as white-owned businesses, literally today, in 2021, you’d add US$1.4 trillion to the U.S. economy,” Saenz says.
Penta recently spoke with Saenz about the investment opportunity Latino-owned businesses represent, and how to address the supply and demand problems they face.
A Shortage of Financing
Although the report said survey data doesn’t fully explain why Latino-owned businesses don’t reach out to local banks for financing as they are starting out, they said their research suggests that some business owners “may struggle navigating the current structures and processes of the financing world.”
The result is Latino-owned businesses with less than US$1 million in revenue are 19% less likely to receive full funding by a local bank as a white-owned business, the report said. As a result they turn to more expensive forms of financing, often with high rates and tougher terms.
Even when Latino-owned businesses break through the US$1 million level, they are three times less likely than white-owned businesses to seek financing from angel investors, Bain found. Their reticence may be because they don’t know how to seek this funding, or “they don’t think they will get funded,” Saenz says.
The lack of outside financing becomes even more noticeable as these companies grow, as even investors who are attracted to Latino-owned businesses tread cautiously. According to Bain, when dealing with private equity, these Latino-owned businesses need to have twice as many investors to approach receiving the same amount of funding as their non-Latino peers.
In the last 10 years, only 1% of investments made by the top-25 venture capital and private equity firms were made to Latino-owned businesses, the report said.
Creating a Marketplace
To Saenz, one solution is to create more “marketplaces” where businesses and investors can find one another. An example of one that exists today is L’Attitude, an annual gathering for the Latino business community that includes a pitch session where businesses that “are ready for capital and scaling” present their story to investors. Then L’attitude Ventures, a venture capital fund, will pick a few of these promising businesses each year to finance, Saenz says.
The Stanford Latino Entrepreneurship Initiative, which is affiliated with Stanford University’s Graduate School of Business, also holds an event where business owners are trained on how to ask for money and how to scale their companies, he says. And they facilitate connecting owners with potential investors.
These events represent a “microcosm of the solution,” Saenz says. “That’s what we need to do at scale.”
There are also some funders outside of these marketplaces that are beginning to focus on this segment, including banks such as Wells Fargo, Bank of America and listo!, which are providing small business loans. There are also Latino-owned and Latino-focused social-impact firms, such as Camino Financial—a Los Angeles small-business lender—and LiftFund, —a nonprofit CDFI in San Antonio, Texas.
Latino-focused venture capital and private equity firms, such as Palladium Equity Partners in New York and Leap Global Partners in Palo Alto, Calif., meanwhile, have provided up to 97% of total investment in Latino-owned businesses to date, Bain said.
But these funds are a drop in the bucket toward the potential that exists.
In surveying some of the bigger businesses, Bain discovered that those that make it past the US$5 million mark in revenue do “amazingly well even relative to white-owned businesses,” Saenz says.
“The problem is we’re not getting enough of them to scale.”