Financial R&R: Navigating the Aftermath of the Silicon Valley Bank Collapse - Implications for Private Equity
Ron Borys and Ryan Farnsworth are joined by Tim McAndrew, Alliant Financial Institutions, as they review the last six weeks since the second-largest bank failure in U.S. history. The team examines the implications for private equity and venture capital firms including the challenges of transitioning to new banking relationships, the impact on D&O and how private equity firms are navigating the risks of a changing landscape.
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Welcome to Financial R&R, a show dedicated to financial insurance and risk management solutions and trends shaping the market today. Here are your hosts, Ron Borys and Ryan Farnsworth.
Ron Borys (00:14):
Well, welcome everybody. This is Ron Borys with the Financial R&R. I'm here today with my partner Ryan Farnsworth, and we've done a fairly extensive job on this podcast covering the banking challenges currently in the wake of some failures. The big high profile one started with Silicon Valley Bank. Certainly, a lot of coverage and concerns with regards to depositors. As we know, things change pretty rapidly in this segment, so we thought it'd be really helpful. For those of you who know Tim McAndrew joined our financial institution's vertical about a year and a half ago. His job is really to focus and be an advisor to our existing private equity firms as well as new potential firms. And he certainly has seen a fair amount in the last few weeks with regard to, particularly, portfolio companies. How has the failure of these banks impacted the portfolio companies? I know when Silicon Valley Bank and Signature Bank failed, there was a lot of attention around the various companies. SVB is very heavy in tech, and what was that going to mean for the banks that either had deposits there or were relying on funding of some sort from those types of relationships? So, Tim, as you always do, we're really excited to hear your perspective. Our listeners are really eager and anxious to understand what this could potentially mean for them this year and the questions they might need to answer as they're looking to renew their insurance. So, thanks for joining us.
Tim McAndrew (01:36):
Yeah, Ron, thanks for having me.
Ryan Farnsworth (01:38):
And Tim, where I think it makes sense is let's first focus on the private equity and the venture capital firms themselves and their portcos, and then perhaps we can talk about any insurance implications at the end. Because I think from everything that we're learning from, let’s call it a "mini financial crisis" over the last six weeks, is that there's a lot of risk management lessons to be learned in all of this, first and foremost. So maybe speak to that and what you're seeing and hearing from private equity and venture capital firms about how they're starting to manage those risks at the portfolio company levels.
Tim McAndrew (02:10):
Yeah, sure, Ryan. Definitely in some interesting times here. What we've seen in recent weeks, the carriers are asking for a lot more detail on the private equity funds risk mitigation strategies as related to cash investments both within the fund and by their portfolio companies. Specifically, they're asking if the private equity fund had any capital call facilities with Silicon Valley Bank, and if so, have they been able to successfully transition those to other banks? But really more frequently, we're seeing them drill into the portfolio company level, as you said, what they're asking about is what percentage of the portfolio companies use Silicon Valley Bank as the primary banking relationship. And for those who did use SVB, what steps did the sponsor or equity holder take to make sure the portfolio companies could fund payroll business operations and assist with transitioning to other banks?
Ryan Farnsworth (03:04):
And I think one of the things that, Tim, we're hearing from press and other reporting is that Silicon Valley Bank in particular was so good for startups because they had a lot of perks, the ease of borrowing money was available to startup companies and their sponsors. And without SVB there, where's that capital going to come from? What are the industry experts and what are our clients saying about that source of funding in the future?
Tim McAndrew (03:34):
No doubt. SVB, they'd certainly carved out a very distinct niche as both a commercial bank and a major provider of venture debt that catered to just a broad range of early-stage technology, science and healthcare companies. I think what we're hearing and what we expect to see is definitely, I think generally speaking, a shift toward more equity financing. The past few years, we definitely have seen private credit taking a lot more share from the regional bank lending markets. We can expect to see even more of this, certainly, in the foreseeable future. And I think there's just going to be greater scrutiny as the tech community transitions to other sources of capital. There will be greater scrutiny also on the underlying business, greater scrutiny of cashflow generation and things like that, that may result in more expensive venture debt if they were to be able to get it.
Ryan Farnsworth (04:25):
Clearly, they've had regulatory scrutiny and even from senior management firms at our private equity and venture capital clients, that scrutiny has been there, that focus on risk management has been there. We've had several discussions with our private equity and venture clients about how they're working with their portfolio companies to actively introduce new banking relationships to them. Several of our clients also extended their own loan facilities and lines of credit to their portfolio companies as additional short-term sources of capital to get through what may have been a shortfall or at least a learning experience through the Silicon Valley bank crisis. We've heard several war stories from our clients about how that weekend following March 9th was not their favorite weekend of all time with a lot of concern around how their portfolio companies were going to make payroll the following week and whatnot. And no one wants to relive that.
Ryan Farnsworth (05:21):
But as you mentioned, a lot of scrutiny has been drawn out over the past six weeks. We're starting to see that on the insurance company side. As you mentioned, our private equity and venture clients are going through renewals of their management and professional liability policies. As we transition to thinking about what firms can be doing from an insurance renewal perspective or risk management strategy, when they talk about risk transfer of that risk to the insurance carriers, what are we seeing from insurance companies? What types of things are they focusing on? What are they asking our clients as they drill into that and scrutinize it from an insurance perspective?
Tim McAndrew (05:57):
Yeah, I think one of the top items that the carriers are asking is just the sense of partnership with some of these tech startups as they transition to new banking relationships. What is their timeframe in terms of when the next new funding round comes up? What's their strategy? Are they stress testing within the portfolio companies in relation to business metrics and being able to hit those targets? Board relationships as well is kind of another topic.
Ron Borys (06:26):
It's going to be interesting to see how this continues to play out because when you think about the protections in place for depositors, right? And most companies are not going to start going back to the days of keeping a vault of cash in your business, right? We're so heavily reliant on the banking industry and on the ability to keep cash and deposits in banks. That FDIC protection level of $250,000 just seems extraordinarily low, right? I mean, that was the big panic or fear amongst everyone was, you just look at how inflation has impacted the costs of things and payrolls and salaries and all that stuff. So, it's going to be really interesting to see how this potentially progresses and what additional protections there will be out there. Because while I appreciate the level of underwriting and diligence that needs to be done by both our insurance underwriters as well as investors and so on, there's going to be other changes that need to come about in order to prevent things like this from happening again in the future.
Ryan Farnsworth (07:28):
Yeah, and I think one perspective that we've pretty universally understood thus far throughout these last six weeks is that this appears to just be another blip in the radar of the underwriters as we manage what's already a rapidly changing insurance marketplace into a much more softer and favorable insurance market for buyers. All of the concerns that we have generally about what these risks look like going forward are mitigated by the capacity that's out there. The appetite that underwriters have once they underwrite to a particular risk as to how they foresee this type of occurrence happening at a fund level or at a portfolio company level. And could it implicate the directors and officers of a portco, especially if those directors or officers are representatives of the fund. It's not really changing the terms and conditions; we're not seeing additional exclusions; we're not seeing a spike in pricing as long as they can be underwritten to private equity and venture clients can feel comfortable that if they address those concerns, they'll be able to proceed with the timely and effective renewal as if they are continuing with proper risk management strategies.
Tim McAndrew (08:38):
Yeah. And I also think we continue to see an environment where perhaps it was a challenge to get some coverage enhancements the past few renewals, but we're still seeing even after this, opportunities to improve coverage in very relevant areas of these policies, which is a good development as well.
Ryan Farnsworth (08:56):
We definitely have had a lot of discussions around limits management, around insurance program structure. So, Tim, that point on coverage is spot on. When these types of events happen, directors, officers, management teams are going to be concerned: are we buying the right limit? Are we looking at it from the right perspective? We don't want to just buy limits just because our peers buy limits the way that they do. This underscores our approach of limit analysis, loss modeling, using data and analytics to help make decisions that drive the best possible outcome for your individual firm and for your individual risk management strategy. You don't want to be grouped together with others and that should be the case as well when you look at your insurance program structure and your overall strategy to how you buy insurance.
Ron Borys (09:40):
Yeah, no, I've certainly taken a ton away from you, Tim. I mean, obviously, a lot of people are thinking about this, now that renewals season is coming up. When I think of the work that we're doing for private equity firms and the advice that you've been able to bring and the insight you've been able to bring, obviously you were in that on the writer's seat, not that long ago, although it feels like you've been a broker forever. But it's great to be able to provide that perspective and really help our clients find that more rewarding way to manage risk. It's really important. We love the work that you're doing. We appreciate the fact that you took time out of your day to join Ryan and I and get out there and share your perspective with our clients. And for those looking to learn more about Alliant or what we're doing in the Financial Institution vertical, you can visit our website at www.alliant.com.
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