VC firm sues California over founder diversity reporting law

A Colorado-based venture capital firm sued California officials Thursday, challenging a first-in-the-nation law requiring venture capital companies to collect and report demographic information about startup founders they fund.

Plaintiff's counsel, Pacific Legal Foundation, believes it is the first to sue over SB 54, known as the Fair Investment Practices by Venture Capital Companies Law (FIPVCC).

In a complaint filed in the Eastern District of California, 1517 Management Company LLC and four affiliated venture funds allege the law violates the First and 14th Amendments and the dormant commerce clause.

They allege the law forces firms to survey founders about race, ethnicity, gender identity, sexual orientation and other protected characteristics. 1517 Management Company LLC et al. v. Mohseni, 2:26-at-00906 (E.D. Cal., filed May 28, 2026).

The plaintiffs are represented by Pacific Legal Foundation attorneys Caleb R. Trotter and Wilson C. Freeman. Defendant Khalil "KC" Mohseni, commissioner of the California Department of Financial Protection and Innovation, was sued in his official capacity.

The law, passed in 2023, required venture capital companies to submit registrations or file reports by April 1 of this year. But on March 17, the department suspended implementation and enforcement. It plans to initiate formal rulemaking to "ensure that the regulations adopted are clear, practical, and effective in achieving the objectives of the law" and will seek stakeholder input.

"Our concerns are endemic to the language of the statute itself and can't be fixed in rulemaking," Freeman said in a phone interview Thursday. "This is a pre-enforcement challenge seeking to block the law before it takes effect."

The suit challenges the law on First Amendment, equal protection and extraterritoriality grounds. The plaintiffs seek declaratory and injunctive relief barring enforcement of the law, along with attorney fees and costs under 42 U.S.C. section 1988.

"I'm not familiar with any other state that has a law like this one," Freeman said. "I believe this is the first" lawsuit to challenge SB 54.

The law requires covered venture capital firms to annually report aggregate demographic information about founders of companies receiving investments. The law applies to firms headquartered in California, firms with significant operations in the state, firms investing in California companies, or firms soliciting investments from California residents.

Critics of SB 54 have raised concerns since the bill's passage about the breadth of the law and the burdens it could impose on covered entities.

In early March, Cooley sent a letter to the state agency saying major compliance questions remain unresolved, including reporting obligations for affiliated entities, survey requirements, definitions of covered businesses and founders, privacy safeguards, and handling nonresponses before the now-suspended filing deadline.

In a 2024 Daily Journal column, Lisa Liu, now with Sand Hill Law Group, wrote that SB 54's definition of venture capital company is broad enough to potentially reach entities beyond traditional VC funds while also raising privacy concerns because firms must report information on all portfolio companies, including those outside California. The language could encompass private equity, family offices, trusts, and even some accelerators, she wrote.

She said that Gov. Gavin Newsom, in his signing statement, noted that the agency implementing the law would have a steep learning curve.

When the bill advanced through the Legislature in 2023, supporters described it as an extension of California's broader transparency efforts involving workplace and boardroom diversity.

Former state Sen. Nancy Skinner, D-Berkeley, the bill's author, said in a 2023 news release that SB 54 would "help more women- and minority-owned startups access the VC lifeline that nearly all entrepreneurs depend on."

Under the statute, firms must survey founders regarding race, ethnicity, gender identity, LGBTQ+ status, disability, veteran status and California residency using a state-prescribed form. Failure to comply can trigger penalties of up to $5,000 per day per violation, according to the complaint.

Liu wrote in 2024 that although founder participation in the surveys is technically voluntary, the law nevertheless raises privacy compliance issues because the information collected includes sensitive personal data regulated under statutes such as the California Consumer Privacy Act.

She said covered entities should consider revising privacy notices and seeking consent from survey participants.

In a statement announcing the suit, Pacific Legal Foundation attorney Freeman said the law improperly pressures firms to make investment decisions based on identity classifications.

"Sorting people by race is never a neutral act," Freeman said. "California enacted SB 54 under the guise of fighting discrimination, but the law itself mandates race-based and sex-based classifications and creates a public pressure campaign that favors certain groups over others."

The plaintiffs argue the reporting requirements compel speech because venture firms must initiate conversations with founders about sensitive demographic topics even when they otherwise would not collect such information.

"On its face, the FIPVCC compels Plaintiffs to speak when they otherwise would remain silent," the complaint states.

The lawsuit contends the law pressures firms to adopt race-conscious investment practices by publicly disclosing what the complaint characterizes as "diversity scores."

The filing cites legislative analyses stating the reporting requirements could force venture firms to "reconsider how they source potential deals and make investment decisions," while supporters described the measure as intended to boost investment in women- and minority-owned startups.

"Our client ... wants to continue treating everyone equally regardless of race," Freeman said. "Any historical discrimination by others ... doesn't justify the state requiring our client to change its practices from being completely race-blind and focused on meritocracy."

Founded by Danielle Strachman and Michael Gibson, 1517 Fund focuses on early-stage science and technology startups, often backing founders outside traditional academic or credentialed pathways. The complaint states the fund has invested more than $175 million since 2015 and supports a "meritocratic, identity-blind" investment philosophy.

"1517 Fund's investment decisions are and have always been made on the basis of merit, without regard to race, ethnicity, gender, gender identity, sexual orientation, disability, or veteran status," the complaint states.

The plaintiffs allege the law interferes with that philosophy by requiring the fund to "abandon this practice" and collect demographic data from founders for public reporting.

In addition to the First Amendment and equal protection claims, the suit argues California is improperly regulating firms and founders with little or no connection to the state. The complaint notes that a "vast majority" of companies funded by 1517 are headquartered and operating outside California, yet the law requires demographic reporting on all portfolio companies once a venture firm falls within the statute's coverage.

"If California may impose this regulation, every other State may enact parallel demographic-reporting regimes reaching nationwide," the complaint states.

The California attorney general's office did not respond to an email request for comment Thursday.