The failure of Silicon Valley Bank (SVB) marks the second biggest bank failure in U.S. history! So what exactly happened?
The demise can be attributed to the following challenges:
š· Balance sheet debacle (bond losses coupled with a fall in deposits)
š· Relatively concentrated client base
Balance sheet debacle:
To understand the rapid collapse of SVB, itās important to understand the two following asset types: āheld-to-maturityā (HTM) and āavailable-for-saleā (AFS).
š· HTM assets (bonds & other debt vehicles) are purchased to be owned until maturity. For accounting treatment, they are not marked to market ā meaning any fluctuations in the market price of the investment donāt change on the firmās balance sheet.
š· AFS assets (debt & equity securities) are, in contrast, marked to market. So, any changes in the value of the security must be accounted for in the balance sheet.
Why are the above two asset types important? Itās because when you deposit money into a bank, the bank can invest these deposits into securities. And with a boom in VC funding the past couple of years, SVB saw a massive increase in their bank's deposit balances (tripling to $198 billion from Q4 2019 ā Q1 of 2022), a large chunk of which they invested into these two types of securities.
The problem was that a lot of the HTM assets were mortgage-backed securities, which took a large hit due to rate increases; so large of a hit that if the assets were to be marked to market during September 2022, SVB couldāve been insolvent. For perspective, its tangible common equity during that time was $11.8 billion and its HTM mark-to-market losses were $15.9 billion.
Furthermore, an industry-wide contraction also led to a precipitous drop in deposits. To combat all of this, SVB sold $21 billion of AFS assets to raise cash ā only for it to be at a loss of $1.8 billion after tax. Their fighting chance was to raise capital on top of the restructuring, but they could not get it done.
Relatively concentrated client base:
While SVB banks for some of the most successful tech startups, having a concentrated client base truly adds to the pain.
Firstly, unfavorable market conditions can trigger a feedback loop within the customer base (hence the steep decline in deposits).
Also, about one-third of SVBās customers had deposits in excess of the FDIC insurance limit of $250,000 āĀ *per depositor*, not per account. Out of its total $175 billion deposits at the end of 2022, $152 billion were uninsured!
So whatās going to happen to the $152 billion?
All SVB clients with accounts greater than $250,000 in deposits will get an advanced dividend coming this week. For the remainder of the funds, they will be eligible for the dividend payments that will come as the FDIC unwinds SVBās assets. How long will that take? The FDIC has not yet given a timeline.
In addition, regulators have been urged to find a buyer for SVB, but the process is expected to be difficult due to concerns about the bank's balance sheet issues and potential fallout for the industry.
However, there is good news. On Sunday, the Biden administration guaranteed that customers of the failed Silicon Valley Bank will have access to all their money starting Monday (today).
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Start-up Society is authored by Arteen Zahiri, Rumeer Keshwani, and Elham Chowdhury