Bank Failures: What This Means for Startups

By Robert McGarvey | Monday, 27 March 2023 | Feature

If you thought that the present wave of bank failures — headlined by the collapse of Silicon Valley Bank and Credit Suisse — means nothing to you and your startup, you are wrong.

In fact, you just may be in the category that is most impacted, even if you weren’t an SVB customer or had never heard of Credit Suisse before the tidal wave of headlines.

“The biggest impact will be on early-stage companies,” said Adam Zbar, a startup veteran who has raised three-quarters of a billion dollars in his career and is currently CEO of Hamsa, a global liquidity startup that tokenizes assets to give entrepreneurs enhanced access to capital. Zbar, by the way, personally has been a long-time customer of Silicon Valley Bank and had significant assets in it when it failed.

Omnia Family Wealth co-founder and chief operating officer, Michael Wagner added: “It’s a negative for business formation. It’s just going to be harder to fund a new business. Credit is drying up.”

What happened, and why does any of this impact you and your startup?

In a nutshell, a few aggressive banks — notably Silicon Valley Bank — could not manage runs on deposits triggered by fast-spreading panic. This mattered a lot to startups because SVB had become the go-to institution for venture capitalists. In 2022 44% of venture-funded IPOs in tech and health care moved through SVB.

Right now, many in the venture community and at regional and community banks are waiting for more shoes to fall and more institutions to fail. That uncertainty has prompted more lenders to early-stage companies to clutch their wallets tighter. These are people who can handle bad news; what prompts them to push the pause button is uncertainty because they just don’t know what comes next.

Do you plan to start a new business now and need funding? Or maybe you are an existing startup and had planned to go out for a funding round. So, now what?

Keep Your Finger Off the Panic Button

Don’t panic, and do not give up — that’s advice culled from multiple startup veterans. That just may be the most crucial advice for every entrepreneur. Keep cool.

Remember, the country went through a more devastating banking implosion in 2008 when some 25 banks failed, including heavyweight Washington Mutual (aka Wamu).

We came out of that meltdown and went into full recovery mode by 2011.

That doesn’t mean you have to chill out for three years before seeking funding. Just accept that some traditional funding avenues are in a “go-slow” mode (many of the best-known venture funding firms included). Be patient, don’t panic, and keep asking.

Will More Banks Fail?

Call this the trillion-dollar question. The right answer: nobody knows if more banks will fail.

The nuanced answer: Mainstream, huge banks — Chase, Bank of America, etc. — along with financial institutions that have pursued conservative courses of business presently seem solid.

What does that mean regarding where you park your cash?

By all means, protect yourself by taking responsibility for yourself and your company, said David Burrows, founder of startup Hivessence, a sustainable, honey-infused self-care brand. Its sales benefit their 501(c)3, Arkearth, which deploys pollination accelerators into community gardens, urban farms, etc. That means it’s crucial to pay attention to early warning signs of bank instability.

Burrows elaborated: “We opened an account with SVB early last year with the intention of using the bank as a resource for holding funds from investors and running our daily operations. I got nervous late last year and pulled our funds from the bank when the stock price plummeted in October of 2022.”

If in doubt about your bank, ask your accountant and your investors — are they hearing anything that should prompt you to move your funds?

The Twitter Effect

But don’t be too quick to join the stampeding herd. That’s because a social media avalanche could undo more banks. In our connected world, said Mike Davis, the founding partner of Olive Tree Ridge, a private equity firm and Investment bank, a worrisome banking post on Twitter can be like yelling fire in a movie theater, that is, it can trigger a mass exit.

The “Twitter Effect” is real and important. Many experts say it was instrumental in SVB’s demise. Just don’t join the herd.

Understanding FDIC Insurance

It was in 1933, with the US in a Depression and the wreckage of bank failures everywhere, that the US government introduced the Federal Deposit Insurance Corporation, which guaranteed bank deposits in participating institutions.

FDIC insurance has a limit, however, and nowadays, it is $250,000 per account. That’s why Hamsa’s Zbar said, “Don’t count on deposit insurance — SVB’s failure took Hamsa and many startups by surprise.”

He added, “Their failure exposed that over 90% of the depositors’ funds were uninsured. If the government hadn’t stepped in to backstop the deposits, it would have resulted in over $100 billion in losses.”

As Zbar indicated, the federal government did step in as SVB failed and said all deposits would be insured. That triggered a loud sigh of relief — especially in Silicon Valley. But there are no promises that additional bank failures will be covered in full by FDIC. Maybe, maybe not, but do you want to risk any funds you have over $250,000 in an institution? Of course not.

That’s why “the biggest change startups will make going forward will be that treasury management will no longer be an afterthought,” said Zbar. What he is talking about is a systematic assignment of funds into fully insured accounts and a reshuffle of excess assets into new accounts. It sounds laborious — and it is, although software now can manage most of this. The payoff, however, is that there is no need to worry about uninsured deposits in an era of banking instability.

Remember those two words: Treasury Management.

A Venture Capital Housekeeping Matter

A bank tradition — certainly at Silicon Valley Bank — has been that if it participated in a venture loan, the receiving company had to keep all its funds at the originating bank. “This is one of the things that created such a concentration of startup and VC capital at SVB,” said Zbar. He added: “Going forward, I suspect many startups will not agree to this requirement. Either the banks will have to create flexibility around this condition, or our VCs, our principal equity backers, will no longer allow startups to get venture debt loans from the banks that require this.”

Be alert to this if you win significant venture funding. Right now, it simply is unwise to put deposits above FDIC-insured limits in any institution — and very probably, your capital sources will support you in that position. And for the ones that don’t, just tell them to remember SVB.

Add all the pluses and minuses, and what is the outlook for a startup in today’s banking turmoil? Said Wagner: “if you can weather this, you will be more likely to weather future headwinds. The American entrepreneur will get through this.”

About the Author

Robert McGarvey

Robert McGarvey, a veteran journalist who has long covered startups and small businesses, created and hosts the CU2.0 Podcast for credit union and fintech executives which is at 120 episodes and counting.