I was very surprised by the collapse of Silicon Valley Bank. Like many of my peer, I was unaware of the severity of the factors that led to the Bank’s rapid collapse.
Silicon Valley Bank focused on, and effectively served, early-stage companies. As a serial early-stage company CFO, I worked with Silicon Valley Bank on multiple occasions at different companies. These companies were a miniscule percentage of Silicon Valley Bank’s 40,000 customers. The collapse of Silicon Valley Bank eliminated an important funding option for early-stage companies. I have not encountered another bank that met this early-stage funding need as effectively.
Silicon Valley Bank often provided debt financing to its clients at a time when most other banks would not make a loan to those same companies. When I first began working with Silicon Valley Bank in the early 2000’s, I was surprised that Silicon Valley Bank made loans to early-stage companies that were not profitable, nor generating positive cash flow. Yet, the bank made these loans at attractive interest rates and required only modest warrant coverage.
I soon realized that Silicon Valley Bank was not making these early-stage loans based on traditional financial metrics. Rather, I felt that the loans were the result of a de-facto partnership between the Bank and venture capital firms. This implicit partnership resulted in the venture capital firms recommending that their portfolio companies bank with Silicon Valley Bank and speak to the Bank regarding loans. In return, Silicon Valley Bank sought assurance that the venture capital investors would continue to fund these companies on a go-forward basis to minimize the risk of potential loan losses. Lou Shipley wrote an excellent article for Harvard Business Review titled “What Silicon Valley Bank Did Right.” This article effectively explains Silicon Valley Bank’s early-stage company strategy.
I have never worked with First Citizen’s Bank, the acquirer of Silicon Valley Bank’s commercial banking business. However, I would be shocked if First Citizen’s Bank maintains Silicon Valley Bank’s strategy of partnering with venture capital firms. Frank Holding, Jr., the Chairman and CEO of First Citizens BancShares stated, “First Citizens has a reputation for financial strength, exceptional customer service and prudent lending that spans 125 years.” Does Silicon Valley Bank’s lending strategy match First Citizen’s definition of prudent lending?
What does this mean for early-stage companies?
1. The number of funding options will be smaller.
2. The weighted average cost of capital for these firms will increase.
I do not see any bank filling the lending niche that Silicon Valley Bank served in the near-term. Early-stage companies will have fewer options for bank debt. Banks that may be willing to lend to early-stage companies are likely to seek personal guarantees or other collateral. (This collateral requirement is often a requirement for government loans as well.) I have seen founders personally guarantee loans. However, I have not worked with a professional investor who would even consider guaranteeing a portfolio company loan.
For early-stage companies that want to add debt to their capital structures, venture debt remains an option. As compared to bank debt, venture debt interest rates and loan fees are higher than the interest rates and loan fees from banks. In addition, venture debt firms require a higher level of warrant coverage, which is more dilutive to equity investors.
If an early-stage company cannot raise debt, the company will need to take on additional equity. This is the most expensive financing option for a company.
Hopefully in two years, I can look back and realize that I was wrong, because another bank found a way to effectively lend to early-stage companies.
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