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SVB and the Looming Bank Run Contagion
Assessing the hurricane's aftermath, and realizing "it's just business"
Boy, that escalated quickly. It looks like we’re getting airlifted out!
SVB is officially the second largest bank to fail in US history. What makes this bank collapse fascinating is the concentrated demographic it hit the hardest - startup investors and founders.
Here’s a summary of what went down, in plain English. If you’ve already studied up on the facts, you can skip to the next section.
SVB’s specialty is serving startups by lending and holding cash. They are generally known for working with pre IPO tech firms (hence the “Silicon Valley” in the name)
SVB accepted a whole whack of deposits during the 2020 and 2021 COVID fundraising bonanzas - customer balances ballooned from $62B at the end of 2019 to $189B at the end of 2021
You may say, “That should be awesome, don’t banks want more cash?”
Yes, and no. Banks have to pay you interest on the cash you deposit, and therefore have to find other banking shit to do with said deposits in order to generate what they call “yield”
You see, banks make money off this thing called an interest spread - they pay you a small percentage for parking your cash there, and then they turn around and lend that cash to other people (or invest in other stuff) that yields a higher rate. Then they keep the difference.
It’s a concept called fractional banking, and has allowed the US economy to grow by leaps and bounds, since banks don’t have to keep all the money in a safe, and can put the majority of it back out into the economy so people can use it to build more stuff
This is usually all fine and good. But then, shit got weird:
Startups were burning through cash at 2x the rate they used to. And SVB didn’t forecast the need to have that much cash on hand for when they came back to withdraw money at a faster rate
In fact, SVB had locked up most of that money in long term government securities
And to make matters worse, the Fed kept hiking rates, which meant SVB needed to offer higher interest rates to clients to keep their cash, despite the fact that the “locked in” long term securities they bought a year and a half ago when interest rates were low were still… well, low…
This is what they call a maturity mismatch
So SVB did what they needed to - they took a short term L and sold off a bunch of those long term assets at a loss to have more cash on hand to pay people out
Now, this is where the “medium turd sandwich” turns into a “full blown shit sandwich”
The word started to get out that SVB was pushing up against their liquidity requirements
The classic prisoner’s dilemma kicked in - no one wants to be the last guy in line to get their cash out. And word spreads fast in insulated venture backed circles
So 72 hours later, more than enough time for group think to kick in, a classic bank run literally ran SVB to the ground - with no more money on hand to serve client withdrawal requests, they were taken into conservatorship (like Britney Spears) by the government
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Assessing the Hurricane’s Damage:
As someone who’s been through a Category 5 Hurricane (Irma), Category 4 (Ian) and a multitude of tropical storms (with less memorable names), I’m very aware that there’s an “event” of some magnitude, followed by some sort of “reckoning” that you still have to assess afterwards.
At the time of writing this, I’d say we are at that stage - we’re opening up the hotel room door to see if there’s a car on fire in the parking lot, or if the pool will be open by happy hour:
As a next step, let’s try to figure what “theoretical” Category of hurricane just hit, and what the knock on effects may be.
Category 5 - There’s a boat in the parking lot, my phone doesn’t work, and the Military has to airlift us out
There’s a run on additional banks in the coming days (PacWest, First Republic and any regional banks that local businesses use)
The FDIC reimburses no more than the $250K insurance limit
Probably not… they bailed out bigger banks who did worse things in 2008
Plus, this would be really, really bad, considering 93% of SVB’s deposits were not FDIC insured (yikes!)
Net new startup funding dries up for the foreseeable future, as we discover more VCs than we anticipated held cash at SVB
This shouldn’t happen though, because most VCs call capital from LPs around the time they are ready to make an investment - they don’t just keep a massive lump sum in a savings account
Startup debt is no longer an option, because the startup banks are either overly conservative or just wiped out
A cohort of startups are vaporized from the face of the planet
The startup “ecosystem” goes into an ice age as multiples compress
Michael Lewis writes a book about this and it’s made into a movie starring Steve Carrell and Christian Bale
Category 4 - We need a new roof
We wait months in a proverbial soup kitchen line for the government to untangle the complicated liquidity preferences associated with SVB’s assets in a proverbial fire sale
“What’s your pref stack, bro”
All the payment processors (think: Stripe-esq) that used SVB as an intermediary in their complex transaction pathways need to be remapped, like a train that went off the rails at a major intersection
My bet is this nuance will be a bigger problem than we anticipated
There might be full days of sales lost in the mix, and Etsy quilters go unpaid
Michael Lewis writes a book about this and it’s made into a movie starring the Hemsworth brothers
Category 3 - We lost the lawn chairs
Startups with payrolls over $250K miss one or two pay cycles and employees are super angry, but still buy avocado toast at brunch this weekend
Employees are made whole within a month after the FDIC issues dividends on the forecasted future asset sales
Michael Lewis writes a short novella about this and it’s made into a Hallmark movie starring the stoic gentleman from HBO’s “The Last of Us” as SVB’s (former) CEO Gregory Becker
Category 2 - So, when’s the internet coming back on?
JP Morgan, or one of the big banks, buys the assets at a home town price
They payout all the SVB clients at 100% of what they had in deposits
Startups receive a slap on the wrist type-tax in the form of delayed funds for playing the Startup Game
CJ Gustafson drinks two Miller Lites and writes a semi-educated free email newsletter about it
Tropical Storm - Normal Monday
JP Morgan or Bank of America buy the assets over the weekend at more than the estimated $188 billion in deposits outstanding
Startups receive payout in full, and fast
Funding isn’t impacted in the slightest and people chalk this up to a weird thing happening to a weird bank (in the words of Noah Smith)
My bet is a combination of Category 2 and 3. Why? There’s a lot less to untangle in this bank run compared to others in the past. It was pretty straight forward by bank run standards. And the reaction of the government (regardless of what decisions they ultimately make) has been quick. Plus, SVB still holds a bunch of securities that are worth a lot - they just aren’t liquid. It’s pretty easy for someone else, with more time on their hands to hold those underlying securities, to step up.
Many of the readers of this newsletter either invest in startups or work at them. Let’s check in with each group.
Checking in on VCs
YOOOOO! My VC friends! Ya’ll are some Cold. Ass. DAWGS!
I mean, I knew you were cutthroat - but damn, this was next level!
There are multiple reports coming out of conferences last week of VCs scurrying to dark corners of the room to call their portfolio companies and encourage them to empty their SVB accounts before the next guy can.
To put it more simply: SVB caught the flu and VCs spoke a contagion into reality.
I’ve seen some rug pulls in my day, but this one takes the cake.
VCs pushed the likes of SVB, PacWest, and First Republic to underwrite thousands of loans to their portfolio companies over the years, and then when they got a whiff of a medium rare shit sandwich, they hit the eject button.
Now, I’m not virtue signaling that I wouldn’t have done the same thing - I will always try to protect my cash position, especially if I’ve either borrowed it from a bank or taken it from investors. Why? In the prophetic words of Wallace’s little brother from the The Wire:
“Count be wrong, they fuck you up.”
I just can’t imagine going back to work on Monday with a straight face, singing Kumbaya about “the current thing” and acting like we’re all in this together. Because this proved the “ecosystem” is really just “a system” with very powerful, individualistic players.
To quote Matt Levine of Bloomberg (from the top rope!):
Nobody on Earth is more of a herd animal than Silicon Valley venture capitalists. What you want, as a bank, is a certain amount of diversity among your depositors…
If all of your depositors are startups with the same handful of of venture capitalists on their boards, and all those venture capitalists are competing with each other to Add Value and Be Influencers and Do The Current Thing by calling all their portfolio companies to say “hey did you hear, everyone’s taking money of of Silicon Valley Bank and you should too,” then all of your depositors will take their money out at the same time”
Checking in on Operators
SVB quite literally created new opportunities for people. I’ve worked at companies where they gave us our very first loan - they helped us get off the ground and hire developers to build our product which went on to make millions. They lent to us when others wouldn’t.
And when we reached scale and went international for the first time, they were our first FX trading partners.
And when we wanted to make our first acquisition, they gave us a reasonable revolving credit facility.
In short, they were a good partner in the trenches. Their help was real.
But you know what else is real? Making payroll on Wednesday March 15th.
It’s hard to feel too much sympathy when you’ve got a business to run and your bank account just got the spinning wheel of death.
There are startup operators hunkered down in conference rooms this weekend, trying to figure out how to line up sufficient working capital for the foreseeable future.
Perhaps the scariest thing about this are the knock on effects for companies who didn’t even directly bank with SVB.
Rippling, one of the top startup payroll providers, used SVB. My friend runs a company and said their semi-monthly payroll of $60K just went POOF. For those who don’t work in accounting - you fund upcoming payroll three to five days ahead of time to make sure it gets to employees on schedule. My friend now has to fund it for a second time, and hope that Rippling can recover his cash from the abyss at some future point.
And here’s another one - there are a ton of founders who do personal banking with SVB - they took all their secondary dollars from 2020 - 2021 fundraises and parked them in savings accounts at SVB. Hell, they might even have mortgages tied to the institution. Not only do their companies get smashed, their personal portfolios are up in flames.
And finally, we’ll find out in the coming weeks how many startups who sell to other startups as their central customers see sales cycles lengthen and deals dry up.
Checking in on the System
When shit like this goes down, it makes you realize “there’s no grown up in charge.” There’s no wizard of Oz behind the financial markets curtain. We’re always one domino away from catalyzing 100x ARR multiples or a full blown banking system collapse. You’d think we’d be more antifragile after being at it for this long.
Yes, it was a bad hand SVB was dealt, with interest rates rising, cash burn exploding, and too much long term exposure to assets that no longer yielded what they expected.
They were most def going to take an L on FY2023.
But it probably wasn’t going to be catastrophic.
And probably is the little word that means so much there. When probably comes around, doubt creeps in and incentives change.
There are a couple of cold ironies in this whole predicament:
SVB became one of the country’s largest banks by making a long term, concentrated bet on startups. And they met their demise for the very same reason.
SVB bought US bonds, essentially giving cash to the government, who then turned around and raised interest rates, which was a catalyst in causing the bank to fail. So the government will probably bail the bank out from a problem that the government in essence created… and theoretically they’ll do it with the cash that SVB gave to the government a year and a half ago (Shout out to paid subscriber Bud Lite Bres for pointing this out)
The most sobering outcome is we confirmed it really, truly is “just business”. We like to think of the startup world as a “community”… a virtuous circle where we pick each other up and create new opportunities.
Self-inflicted bank runs shouldn’t happen in “communities.”
When times got questionable we reverted to a selfish herd mentality.
And I get it. The game theory kicks in really fast. The max upside to keeping your money in the bank is that nothing happens (and you get some virtue points you’ll never get to cash in). Now weigh that against the downside risk that you lose everything. It’s a pretty easy trade to make. And that’s why bank runs are scary.
Once again, I’m not saying I wouldn’t pull my money out. I’m no less selfish than anyone else involved.
What I am saying, to steal a quote from Joe Dirté,
“Don’t try and church it up son, don’t you mean Joe Dirt?”
We are what we are - animals dressed up in funny clothing, trying to do this thing called business. So don’t church it up and say you’re serving an “ecosystem” if you’re optimizing for your own situation.
To say it another way,
“Business is never personal. It can be ruthless, It can be cruel. But it is never personal.”
SVB’s downfall was a swift round-house kick to the face, a reminder that business is just that - business. Startups are fun, but watch ya ass.
Good luck to everyone repairing their roof after the storm. It’s slippery out there.
Mostly metrics is a reader-supported publication. To receive new posts and support my work, consider becoming a free or paid subscriber.
What I’ve been reading:
My friend Ben Yoskovitz is a startups renaissance man (and from what I can tell, had no hand in catalyzing the latest bank run). He’s been a high level exec at fast growing tech firms, runs a venture studio and also helps large corporations set up venture arms to incubate their second acts.
I’ve found his discussions on giving employees more startup equity, faking product market fit, and vanity metrics we love to hate to be extremely thought provoking.
Give him a subscribe if you are a student of the startup game.
Quote I’ve been pondering:
“My name is my name!”
-Marlo Stanfield, The Wire