Improved gender diversity in venture capital (VC) firms leads to improved VC deal performance and better performance for the firm overall, according to a new working paper published by the Cambridge, Mass.-based National Bureau of Economic Research.
“We show that exogenous shocks to gender diversity lead to economic and statistically significant increases in performance,” say authors Paul Gompers, Harvard Business School professor, and Sophie Wang, PhD student, in the working paper.
VC firms tend to hire few women, the paper notes. In fact, 75% of firms have never employed a female as a senior investment professional. However, when senior VC partners have daughters of their own, they become more likely to hire women, the paper adds.
“We show that when existing partners have more daughters, the probability of hiring a senior female investor is significantly increased. Because the gender of one’s children is usually thought to be exogenous, the gender diversity induced by hiring a senior female investor can be used to estimate the causal effect of gender diversity on performance,” the paper says.
Specifically, the paper;s authors find that the proportion of female hires by VC firms increases by almost 2% if an existing partner has a daughter rather than a son.
“Given that about 8.03% of the new hires are female, this suggests a 24% increase in the probability of hiring a senior female investor when a son is replaced with a daughter for the existing partners,” the paper says.
Furthermore, the authors find that increasing gender diversity does increase performance by an amount that is “both statistically significant and economically meaningful.”
In particular, they find that the relative effect of having a daughter over a son is a 3.2% increase in excess return for a venture fund, and that the likelihood of deal success increases by about 2.88%. “These results provide convincing evidence in a real business setting that performance is improved with greater gender diversity,” the paper concludes.
It also cautions that simply imposing a gender quota would not necessarily produce the same effects.
“Our results suggest that diversity achieved through genuine removal of a bias or change in belief can lead to better economic outcomes,” the paper says.
“We believe that further research efforts into uncovering how exactly the parenting of a daughter and improved gender diversity improves outcomes could be fruitful.”
The researchers propose several possible theories. For one, they suggest that the pool of potential female VC investors is relatively untapped, which means the women that are hired may be higher quality than their male counterparts; therefore, an increase in the quality of investors generates higher returns.
A second potential explanation is that simply having a diverse set of backgrounds improves investment decisions, and may reduce errors in judgment.
“Different perspectives may reduce groupthink and allow venture capital firms to avoid costly investment mistakes,” the paper suggests.
Finally, the authors hypothesize that VC investment success is largely driven by having access to the best deals, and a more diverse investor background “may attract a much wider deal flow and, hence, average deal quality may increase.”