By: Antoine del Sordo<\/p>\n\n\n\n
The sudden collapse and closure of Silicon Valley Bank (SVB), deemed the second-largest bank failure in U.S. history, can be attributed to a broad array of factors. This article, that will be comprised of two parts, aims to analyze this event delving deeper into the key factors that contributed to SVB\u2019s collapse. This first delivery will be centered in analyzing the liquidity risk management and deposit concentration from a corporate finance perspective.<\/p>\n\n\n\n
SVB was a corporation organized under \nthe laws of the State of California that served \nas the principal subsidiary of Silicon Valley \nBank Financial Group (SVBFG). Prior to its \nfailure, SVB furnished private banking \nproducts and services to clients \npredominantly in the technology and lifescience-healthcare sectors proffering an array \nof credit solutions to both emerging and \nestablished companies, with an emphasis on \nengaging start-up companies as clients and \nretaining them as they expanded.1\nThis earned SVBFG to be recognized as the \npreeminent financial institution for \nSilicon Valley technology start-ups. \nNevertheless, certain recent financial \ndecisions affected the liquidity of SVB, which \nplayed as a key factor for its collapse.<\/p>\n\n\n\n
Foremost, it is important to note that, liquidity \nrisk is an inherent aspect of banking, \nas financial institutions serve as \ncredit intermediaries by collecting shortterm deposits and disbursing long-term \nfunds. This process, known as maturity \ntransformation, involves liquidity risks as \ndepositors may seek to withdraw their \nfunds within a timeframe that does not \nalign with the banking institution\u2019s \ninvestment of those funds.2\nIn the case of \nSVB, it relied on a large and concentrated \ndeposit. However, when depositor \nconfidence on SVB was lost due to various \nindicators and news reports 3\nthat informed \non its lack of investment \ndiversification, its high degree of \nconcentration of depositors and its \ncommitment to illiquid long-term \ninvestments, SVB was unable to satisfy the \nwithdrawal requests that increased \ndramatically in March 2023.4<\/p>\n\n\n\n
In particular regarding the highly concentrated \ndeposit base, the 2022 balance sheet of \nSVBFG shows that deposit accounts with a \nvaluation surpassing $250,000.00 dollars \nrepresented the 89.38%5 of the total \ndeposits received by SVB, and that the profile \nof the holders of such accounts mainly \ncorresponded to venture capital backed \nentities which were likely to know each \nother due to their specific profile, thereby \namplifying the risk of a bank run.6<\/p>\n\n\n\n
Although in periods of high growth \nrates, particularly for venture capital firms, the \nrisk of SBV to become illiquid appeared \nto be mitigated due to SBV\u2019s assets growth \nrate of 271% from 2018 to 2021, \nconsequently holding SVBFG as of December 31, 2022, $212 billion in \ntotal assets, of which $209 billion \nwere managed by SVB.7<\/sup><\/a><\/p>\n\n\n\n A large portion of such assets was invested in \nlong term-low risk investment instruments, \nwhich appeared to be a reasonable decision as \nlong as the high growth rate of assets \ncontinued. Nevertheless, when in the second \nhalf of 2022, venture capital backed companies \nexperienced a substantial slowdown due to \nconcerns about a recession in the US and global \ninflation, the assets growth (including deposits) \nhad an abrupt slow down and cash withdrawals \nby companies began to rise to maintain their \noperations. This caused that SVB experienced a liquidity shortage, which was exacerbated by \nthe events of March 2023 when on March 9, \nSVB experienced a total deposit outflow of \n$42 billion dollars8 and anticipated an \nadditional outflow exceeding $100 billion \ndollars on March 10, with a negative cash \nbalance of approximately $958 million dollars \nat the close of business on March 9.9<\/p>\n\n\n\n Likewise, SVB\u2019s strategic financial decision of \ninvesting in long term low risk investment \ninstruments was not appropriate due to the risk \nprofile of its specific depositors\u2019 base, which as \nmentioned, primarily consisted of a small group \nof venture capitalists, because it significantly \nlimited SVB\u2019s ability to respond effectively to \nchanging market conditions. Consequently, \nwhen SVB\u2019s deposits began to decrease in the second quarter of 2022 and the first quarter of \n2023 at the time venture capital backed clients \nwere withdrawing their balances, there was an \ninsufficient \u2018balance of highly liquid assets that \ncould be readily sold or monetized\u201910. As a \nresult, in conjunction with the shocks suffered \nfrom the increase in interest rates and the \nsubstantial number of withdrawals from \nconcentrated depositors in March 2023, SVB \nwas unable to meet depositors\u2019 withdrawal \nrequests and was declared insolvent by the \nCalifornia Department of Financial Protection \nand Innovation.<\/p>\n\n\n\n Based upon the foregoing, it may be concluded \nthat SVB\u2019s financial performance in the years \nleading up to its failure reveals that, despite \nsignificant growth in its assets from 2018 to \n2022 driven by a surge in deposits during a \nperiod of high liquidity, the bank\u2019s deposit base \nwas heavily concentrated within a limited \ngroup of depositors. These depositors, \nprimarily venture capital backed companies, \nwere particularly sensitive to the economic \nslowdown experienced in the latter half of \n2022, which resulted in a decrease in deposits \nand, coupled with the impact of rising interest \nrates (that will be deeper analyzed in the \nsecond delivery of this article), a substantial \nnumber of withdrawals from concentrated \ndepositors in March 2023, and large portion of \nassets placed in long term-low risk investment \nproducts, led to SVB\u2019s inability to meet \nwithdrawal requests and to its eventual \ninsolvency.<\/p>\n\n\n\n 1<\/sup><\/a> US Securities and Exchange Commission (SEC) SVBFG Form 10-K (December 2022) 32-33.<\/p>\n\n\n\n 2<\/sup><\/a> Ferran, E. and Look CL, Principles of Corporate Finance Law (OUP 2014) 274.<\/p>\n\n\n\n 3<\/sup><\/a> Kinder, T. and others, 'Silicon Valley Bank profit squeeze in tech downturn attracts short sellers' Financial Times (21 February 2023) accessed June 20, 2023.<\/p>\n\n\n\n 4<\/sup><\/a> California Department of Financial Protection and Innovation, 'Order Taking Possession of Property and Business of SVB' (10 March 2023).BGFRS (n 4) 51.<\/p>\n\n\n\n 5<\/sup><\/a> Lai, VV and Huong, TT, From Hero to Zero-The Case of SVB (SSRN 7 April 2023) 12.<\/p>\n\n\n\n 6<\/sup><\/a> Rubinstein, M. 'The Demise of SVB' Net Interest (10 March 2023) accessed June 20, 2023.<\/p>\n\n\n\n 7<\/sup><\/a> Board of Governors of the Federal Reserve System (BGFRS), Review of the Federal Reserve's Supervision and Regulation (April 28, 2023) 17.<\/p>\n\n\n\n 8<\/sup><\/a> California Department of Financial Protection and Innovation, 'Order Taking Possession of Property and Business of SVB' (10 March 2023).<\/p>\n\n\n\n
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