Want to start a business? It helps to have rich parents
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Want to start a business? It helps to have rich parents
There’s a persistent belief that those who have started highly successful businesses have done so with nothing but their wits, ingenuity and some sort of innate entrepreneurial spirit that makes them destined to become billionaires.
One claim making the rounds on Twitter purported that if you airdropped one in a “3rd world country with $5 in his pocket,” he’d turn into a millionaire in a few years because of the “traits, skills and characteristics” that are apparently inherent to all ultra-high net worth individuals.
But research shows how much of a role one’s family background helps in finding success. A paper from economists Ross Levine and Yona Rubinstein found that entrepreneurs “tend to be male, white, better-educated, and more likely to come from high-earning, two-parent families.”
The tale of Microsoft’s rise to domination starts with Bill Gates and Paul Allen humbly working out of a garage — now a familiar trope in Silicon Valley. However, while Gates wasn’t super rich, per se, he grew up comfortably upper middle class, said Oana Tocoian, an economics lecturer at the University of California, San Diego.
And his family connections were crucial in Microsoft’s success, she said.
The company IBM, which was seeking a software maker to develop an operating system for its personal computer, tapped Microsoft for the project, according to CNBC. Microsoft was on IBM’s radar because IBM chairman John Opel knew Gates’ mother, Mary Gates, through a nonprofit organization that both were on the board of.
Even without such a direct connection as Gates had to IBM, family wealth is important in gaining access to credit, since access to loans is conditional on having collateral, Tocoian said.
Trying to make it as an entrepreneur is also inherently risky, and without family wealth, there is no safety net to fall back on, Tocoian noted.
Stats reveal just how risky starting a business is: About a third of all new businesses fail by their second year, and half by their fifth year, said John Dearie, founder and president of the Center for American Entrepreneurship.
Dearie noted that the capital requirements of starting a new business are in some cases less than they were five to 10 years ago — for example, the cost of marketing your product can be cheaper thanks to social media, while some companies work remotely instead of paying for office space. But, he explained, there’s still a lag between the time you start a business and when you actually begin to earn a profit.
“Most new businesses lose money for several years,” he said. “If you have generational wealth, you don’t need to be working another job to get paid to pay the bills.”
But Dearie said if you do succeed, it can be very lucrative. “So there’s a very important relationship going in both directions,”he said. “Generational wealth, supporting entrepreneurship, entrepreneurship generating generational wealth.”
Tocoian said that white men generally also have more wealth to start with, which means that women and people of color in particular are at a disadvantage.
While 17% of Black women are trying to start or run a new business, only 3% of them run “mature businesses,” according to one Harvard Business Review article. And 29% of Black women entrepreneurs live in households with incomes over $75,000 compared to 52% of white men, according to data from Global Entrepreneurship Monitor.
“There are barriers throughout the entrepreneurial ecosystem that are specifically holding back women and people of color,” said Gabe Horwitz, senior vice president of the Economic Program at Third Way.
Last year, Third Way launched a partnership with the National Urban League called the Alliance for Entrepreneurial Equity, which Horwitz said is aimed at changing federal policy to help more women and people of color start and scale businesses. In the upcoming year, AEE will try to figure out “the different policy levers” it needs to pull to improve equity. For example, Horwitz said more government contracts could be granted to disadvantaged businesses.
Horwitz said the data show that white entrepreneurs start off with about $107,000 in working capital, while black entrepreneurs start off with just $35,000.
“The costs of just getting off the ground are steeper for both women and people of color,” Horwitz said.
Horwitz said sometimes businesses struggle with financing because they don’t have relationships with lenders. He pointed out businesses that had relationships with lenders were able to get quicker help from the Paycheck Protection Program, which was aimed at providing businesses with relief during the start of the pandemic. And sometimes, there are few, if any, lenders in areas that are predominantly Black or Latino.
“You don’t necessarily need family wealth to start a business. There are many entrepreneurs who can go out, start a business and scale a business without having that,” Horwitz said. “However, and this is a big however, having that at the outset of your business gives you a massive leg up compared to others.”
Dearie thinks the Expanding American Entrepreneurship Act could be one way to diversify the field. The provision would increase the cap on venture capital funds from $10 million to $50 million, allowing fund managers to invest in more entrepreneurs, and increase the number of people allowed to invest in a fund.
There are also broad economic forces that have made it even more challenging for entrepreneurs to succeed over the years.
“Market competition has become harder for the little guy, because there’s been ongoing consolidation,” Tocoian said. “And so there are fewer and fewer openings for small firms to successfully compete.”
Tocoian said that 10 to 15 years ago, her students were more likely to say that they were interested in starting a new business than they are now. Even if they have resources, they still have student loans to consider. Some of them are now looking to investment banking, for example, because that’s where they feel they’ll be the most rewarded, she said.
“We as a society believe in the freedom to pursue the American dream,” Tocoian said. “The extent to which young people’s opportunities in life are dependent on their family resources is deeply un-American.”
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