Silicon Valley Bank collapsed. Northeastern experts explain how this affects banking for startups and entrepreneurs by Beth Treffeisen March 14, 2023 Share Mastodon Facebook LinkedIn Twitter A display lists Silicon Valley Bank (SVB) achievements as customers gather to withdraw money at SVBs headquarters in Santa Clara, California, on March 13. Photo by NOAH BERGER via Getty Images An entrepreneur’s backbone is gone with the collapse of Silicon Valley Bank, which provided services to nearly half the country’s venture capital-backed technology and life-science companies. The bank’s closure followed interest rate hikes that hurt its startup customers and failed attempt to raise capital that spurred customers to withdraw deposits. The sudden collapse was the second-biggest bank failure in U.S. history since 2008. The Federal Deposit Insurance Corporation took over the 40-year institution on Friday, and it’s about $175 billion in customer deposits. The FDIC announced that both Silicon Valley Bank and the collapsed crypto-focused Signature Bank customers are receiving 100% of their deposits back. “Given the bailout, I don’t think there’s anything else that people should be worried about,” says John Bai, an associate finance professor at Northeastern. “I think confidence should still be there.” The thought of losing cash—the lifeblood of any startup—without any fault of your own is very unfortunate, says Karthik Krishnan, an associate professor of finance at Northeastern and CEO and co-founder of MentorWorks. This fintech venture provides income-based financing to students in higher education. “It’s so dynamic it’s woozy,” Krishnan says. “It makes me crazy woozy.” In England, the U.K. Treasury facilitated the sale of a Silicon Valley Bank subsidiary to HSBC, Europe’s biggest bank. The deal protected 6.7 billion pounds ($8.1 billion) of deposits. With questions swirling around the dependency on specialized regional banks, where should entrepreneurs go with their investments? Northeastern Global News asked university experts for their advice. How should an entrepreneur make a good investment? From an entrepreneur’s perspective, Bai says, it is essential to remember that “cash is still king.” Even if a startup has a lot of funding available from venture capital rounds, it is crucial to maintain as much cash as possible, Bai says. So even if it doesn’t generate the same type of return it would receive in investments, it doesn’t lose value dramatically in a downturn. Startups parked their cash with SVB because it was one of the biggest lenders in the venture debt space. A startup often prefers to take on debt rather than go for another round of venture capital financing for several reasons. The biggest being, when a startup goes up for another round of financing, the perception of the company’s worth determines the value—a time-consuming risk many new companies don’t want to endure. Instead, many entrepreneurs are subsequently using venture debt, with a major venture capital round to “extend the runway cash” and “buy more time for themselves,” Bai says. Entrepreneurs can use a similar regional-sized bank like SVB to get financing. But nobody says, “you have to leave all that money with one single bank,” says Bai. “Diversification is king here.” Entrepreneurs tend to be risk-takers, Bai says. “But I think it is very important to think about the left-tail events like this and diversify.” As the saying goes: “bad seeds are sown in good times,” says Bai. “I think it’s good to have a precautionary mindset and prepare for rainy days.” Should startups move from regional to national banks? “I wouldn’t change anything,” says Felipe Cortes, an associate teaching professor in finance at Northeastern. “I wouldn’t recommend startups change their banks. I wouldn’t recommend startups to change their funding methods.” The government stepped in, and no one reported losses so far, Cortes added. “Switching banks is very costly,” Cortes says. When one moves to a new bank, they lose relationship lending, which is crucial for risky startups. In addition, large banks don’t try to learn who their customers are. Large banks, especially with the emergence of big data and AI algorithms, increasingly use big databases to assess the risk of giving a loan. For example, a national bank giving out a car loan looks at income, monthly spending, and the individual’s asset worth and can decide on the spot. As an entrepreneur, sometimes the business is in a gray zone where a bank cannot automatically decide whether it deserves a loan and can be left out. “That’s why they go to the regional banks in the first place,” Bai says. “I think the lesson we learn here is, as an entrepreneur, you should never shy away from the regional banks. They exist for a purpose,” Bai says. However, “Do you really want to put yourself in that much risk?” What advice do you have for a startup looking for a new bank? Cortes says, “Don’t.” Moving money to a new bank won’t guarantee its safety and throws away any relationship built with the former bank. But if they are concerned, Cortes suggests looking at banks with $250 billion in assets or more because they are considered “too big to fail” and are under stricter regulations and stress tests. “Selecting the right bank at the beginning is one of the biggest decisions of any company,” Cortes says. Building information from customers about the bank and from the bank loan to the customer is worth a lot of value. Many tech startups need to pay more attention to the role of a financial expert in the early stages. It could be because of the company’s inability to hire because of financial constraints. So instead, companies outsource the investment decision or money management to a bank that presumably knows what it is doing. “But this case shows us not all banks know exactly what’s happening,” says Bai. “Sooner or later, these startups will need a financial expert.” What does the future of startup funding look like? SVB had a large community in the Massachusetts startup community. However, Krishnan is unsure if the bank’s closure will change how startups are funded in the future. SVB was critical in providing venture debt to startups looking to generate cash and have an equity investor behind them, Krishnan says. So if the bank cannot resume its venture business, it could have broader implications in the industry. “It is a very important question because startups are a big driver of innovation, and that can have a rippling effect in the long term,” Krishnan says. Beth Treffeisen is a Northeastern Global News reporter. Email her at email@example.com. Follow her on Twitter @beth_treffeisen.