Silicon Valley Bank: The Rising Opportunity for Private Market Funds
Silicon Valley Bank (SIVB) was once a shining example of the innovation and success that permeated the tech industry in its namesake region of California. The regional bank’s first office opened in Santa Clara in 1983, targeting a specific niche within the financial system, providing venture-funded startups with banking and credit solutions. With respect to the risk spectrum, SIVB had built an impressive operation capitalizing on the nascent growth of the tech industry, and as with any youthful industry there are inherent risks of failure. During this growth period, most mainstream banks passed on the opportunity to provide these venture-backed companies with capital solutions. SIVB saw this opportunity, stepped up to the plate, and capitalized on the success of many rising tech players. In doing so the firm weaved its web through the fabric of the startup world and rapidly grew in both size and reputation throughout the 1990s and early 2000s.
Becoming the go-to bank for many emerging tech titans in their infancy, SIVB broadened its scope of service to include a variety of innovative solutions across the financial services spectrum and captured increasingly demanding capital needs. The firm provided venture debt/equity funding, stock and bonds underwriting, M&A advice, and access to capital markets. SIVB also provided traditional banking services such as granting loans and providing financial services for companies of all sizes. The firm even expanded its reach globally opening overseas offices, and offered private equity investments, international banking services such as foreign currency exchange, and asset management services.
Nearly 40 years after its inception, SIVB had grown into a modern-day powerhouse, with its influence reaching 50% of venture-backed companies in the US. In 2021 and 2022 alone, the firm served 55% and 44% of venture-backed technology and healthcare companies that IPO’d respectively.1
Silicon Valley Bank: By the Numbers
56%
Of loans were to VC and PE firms, secured by their limited partner commitments
14%
Of loans were mortgages to wealthy individuals and legacy Boston Private Clients
24%
Of loans were to various tech and health care companies, including 9% of all loans going to early and growth stage startups
50%
Of all U.S. Venture-backed tech and healthcare startups were banking clients
Source: Axios; Data as of 2022 Year-End
Unsustainable growth is an issue that plagues many firms, and unfortunately for SIVB, unsustainable growth was something it experienced twice in its long tenure. During the dot-com bubble, SIVB felt the reverberating effects from public market contagion and found itself in dire financial straits. Though eventually recovering, the initial effects should have served as an important cautionary tale about the dangers of prioritizing growth above all else. However, growing at warp speed over the past few years on the heels of the pandemic, the firm could no longer contain the new beast it had created in unison with the multitude of macroeconomic regime changes.
As a home to many tech titans, at the onset of COVID-19, SIVB became the landing spot for many emerging companies looking to take part in this fictionally engorged digital world. From 2020 to 2022, SIVB saw its deposits increase threefold from $66B to nearly $200B, capturing a large piece of the developing ecosystem from crypto to remote work startups. As reported by the Kobeissi Letter, the magnitude of deposits from companies flush with fresh financing was enormous. To name a few, Circle had $3.3 billion, Roku had $487 million, BlockFi had $227 million, Roblox had $150 million, with several other companies’ deposits in the multimillions, and 97% of deposits exceeding the FDIC insurance limit.2
Balance Sheet Issues at Silicon Valley Bank
As a bank, the deposits SIVB received were re-invested in long-duration treasuries, a held-to-maturity (HTM) portfolio of securities, ultimately viewed as a safe haven asset. The main problem was that deposits were invested into these “safe haven” assets at record low rates, and as deposits piled in, they couldn’t invest fast enough. It was stated that nearly $130B of fresh flows were invested at <2% yields with a 6-year plus duration. Ultimately, with the fed’s reversal of the low-interest rate stance to curb inflation, rates jumped astronomically, nearly 400 bps by the end of 20223, and SIVB incurred unrealized losses from the marked-to-market decline in treasury prices. However, SEC regulation only requires these marked-to-market losses to be recognized in the event of asset liquidation.
Unfortunately for SIVB, the buck of unrealized losses, would soon have to stop, and turn into realized losses as the surrounding macro environment worsened. Amplified further by the strain on the economy, cash burn of many start-ups, and ultimately lack of liquidity in the VC funding arena, SIVB deposit rates and flows came under pressure, and further compounded losses from 2022 into 2023. With clients’ withdrawals exceeding deposits, SVB faced a liquidity crunch, and was forced to liquidate nearly $21B of securities at a realized loss of $1.8B.4 Shortly thereafter, market participants woke up, began to see the company’s balance sheet issues, while also recognizing the magnitude of the net interest margin pressure and mounting deposit outflows, and the stock was targeted.
The absence of SIVB has led to a void in the market, providing potential for those with the resources and knowledge to fill the gap. With the demise of SIVB and the resulting fallout of two smaller banks, Signature Bank and Silvergate Capital Corporation, many startups are fearful of another regional banking fiasco, and established private market funds are now stepping in to fill continued financing needs. The aftermath of the SIVB fallout is resulting in the retooling of company needs and is opening up the door for private market funds to capitalize on strategic partner opportunities. Company founders are moving away from the pre-SIVB mentality of focusing on dilution, valuation, and raising for growth at all costs, and instead focusing more on capital certainty, resilience, and rationalization. As a result of this, strategic partners will be in higher demand in a post-SIVB world, where companies further entrench and entrust their capital needs with strategic investors. This shift in mindset in turn is presenting an opportunity for lifecycle specialist funds that operate across venture, private equity, and private credit strategy spectrum. These funds have developed acute focuses on business and financing across sectors that include Technology, Life-Sciences, Health Services, and more. The deep infrastructure developed over the past two decades is enabling these private market funds to provide a range of services to startups, including financing, strategic advice, and broader network connections with other portfolio companies to fill other financial service needs.
As private market funds are offering more flexible terms and customized solutions, they are catering to the specific needs of each startup. Ultimately, this might pose a hyperbolic shift in the private market funding landscape. This landscape to fund private companies has notoriously been fragmented with private market funds typically targeting specific portions of the capital stack. With specialists’ funds that have matured over the past few market cycles, deep expertise and resources are allowing funds to broaden their investment mandates. From senior debt to equity investments, in this fund-friendly environment, private market funds will be able to control more stages and more parts of the capital stack, while nimbly building positions in companies and growing conviction through alternative financing solutions.
Private Market Funds: Investing Across the Capital Stack
While the recent SIVB fallout and broader private market drawdown have surely rattled the investment community, we are beginning to see a shakeout occur. Where weak business models once were some of the best performers, quality companies with strong operation controls will trump lower-tier businesses. Looking at the technology sector specifically, on a relative basis, it is quite arguably more attractive than it has ever been over the past few years. Valuations have come down substantially, technological capability has matured, and we are now moving toward a year of efficiency.
As the financial landscape continues to evolve, private market funds are becoming an increasingly popular option for investors seeking to diversify their portfolios and take part in this dislocation. In the aftermath of SIVB, these funds provide a unique opportunity to service all parts of the capital structure. By diversifying across the capital stack, funds can manage their risk exposure more effectively, while also potentially generating higher returns and build conviction into robust companies. With a team of experienced professionals at the helm, lifecycle private market funds are well-positioned to navigate the complex landscape of today's financial markets and potentially deliver value to investors across the board. Whether you're an institutional investor seeking to maximize returns or an individual investor looking to diversify your portfolio, private market funds offer a compelling opportunity to access a broad range of investment strategies and fill the financing gap left behind in the aftermath of SIVB.
Sources:
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