Diversity on startup boards can hurt chances of raising capital

Diversity on boards is often said to lead to better decisions, more creativity and stronger companies. But a new comprehensive study of more than 25 000 US start-ups shows that this picture is not always true – at least not in companies initially funded by venture capital l.

The new research shows that cultural diversity among the investors sitting on a startup’s board can actually hurt the company’s chances of raising new capital. The more culturally diverse the investors, the less likely the startup is to be approved for the next round of funding. And even when a round is raised, the amounts tend to be lower.

This relationship is particularly strong in early stages, such as Series A and B. At these stages, the need for rapid coordination, clear governance and quick decisions is greatest. A heterogeneous group of investors on the board risks slowing down rather than strengthening the company’s development. When start-ups reach more mature phases, the negative effect weakens, but it does not disappear completely.

Problems with trust and communication

The study shows that cultural heterogeneity affects several key aspects of board performance. Investors from different cultures tend to have different views on risk, conflict, hierarchy and communication. This can lead to lower trust, increased misunderstandings and more difficult knowledge transfer. As a result, the board becomes less effective in its advisory and monitoring role. In practice, this can make the start-up less attractive to new investors, who often look closely at how well the board functions.

The results go against the conventional wisdom that diversity always strengthens governance. Instead, the study shows that cultural diversity on the board can have significant disadvantages – at least in the stages where startups are most dependent on close-knit and decisive owner representatives.

Diversity is good for global expansion

For entrepreneurs and investors, this means new trade-offs. An internationally mixed investor base can be valuable when the company is expanding globally or needs specific skills. But in the early stages, a more culturally cohesive group can provide better conditions for quick and coordinated decisions.

The research reminds us that board composition in start-ups is not just about the resources investors bring – but also about how they work together. Diversity can be an asset. But it does not come without costs, and in the early stages of a venture-backed company, the disadvantages can outweigh the benefits.

More about the article and the authors
The article Investor heterogeneity and venture performance is published in the scientific journal Journal of Business Venturing.

The authors are Marwin Mönkemeyer, University of Cambridge, UK and Kathrin Rennertseder, Hamburg Financial Research Center, and Henning Schröder, Leuphana University Lueneburg, both Germany.