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So, I have what I think is a fair grasp of the fundamentals of yesterday's Silicon Valley Bank insolvency.

The clearest, most succinct explanation I've seen is from today's The Rational Walk.

From the section dealing with accounting handling of Hold 'Til Maturity (HTM) bonds:

"When management is forced to liquidate securities classified as HTM, the unrealized losses become realized. In addition, the status of the remaining HTM portfolio is called into question. Rather than being held to maturity, those securities suddenly must be regarded as available for sale. As soon as this happens, they must be marked to market on the balance sheet and the bank's stockholders' equity plummets."

(The whole article highly recommended: https://rationalwalk.substack.com/p/the-fall-of-si... Ungated, I think) (Hint: click on the minuscule tables and they'll pop open in a much larger window)

But I'm hoping one of the wiser heads on this board could - using terms adapted to the meanest understanding - explain this sentence from today's NYT:

"The bank and its advisers may have also made a tactical mistake: The...equity investment could have been completed overnight, but the bank's management also chose to sell convertible preferred stock, which couldn't be sold until the next day. That left time for investors ' and, more important, clients ' to start scratching their heads and sow doubt about the firm..."

From an SVB board perspective, what were the advantages of raising a portion of the suddenly-needed capital via convertible preferred stock? (Presumably with the alternative being just immediately issuing more common shares from their treasury?)

-sutton
happy to ask dumb questions since, well, learning to talk

On Wednesday, SVB said it would raise $2.25 billion in equity capital. The stock price collapsed on Thursday, and trading was halted Friday before the market open. The response was so swift that I doubt restructuring the deal would have changed anything. Growth can hide many mistakes, but a shrinking asset base is unforgiving.

https://wolfstreet.com/2022/07/22/the-silicon-vall...

In hindsight, the mistake was not raising more capital in 2021 when the stock price was rising. But many were surprised by the sharply higher interest rates in 2022.

""The bank and its advisers may have also made a tactical mistake: The...equity investment could have been completed overnight, but the bank's management also chose to sell convertible preferred stock, which couldn't be sold until the next day. That left time for investors ' and, more important, clients ' to start scratching their heads and sow doubt about the firm..."

From an SVB board perspective, what were the advantages of raising a portion of the suddenly-needed capital via convertible preferred stock? (Presumably with the alternative being just immediately issuing more common shares from their treasury?)"

One, thanks for the link to Rational Walk's technical description of what happened. I had already seen it, but it provides a great summary for anyone who cares to understand.

Two, I cannot answer your question about the advantages of issuing convertible preferred stock versus immediately issuing common shares other than to guess that the convertible preferred stock would have likely gone to preferred lenders at juicy terms. I am also guessing that they thought it might be an image thing. They were scared issuing common stock would make them look undercapitialized.

Three, the fact that it came down to a day or two for issuing preferred stock demonstrates an amazing level of incompetence by management and the BOD. The discrepancies between the hold to maturity investments and their actual value did not happen overnight. Those amounts had to be growing over many, many months. To have the bank blow up because management had to wait a day to sell preferred equity is like driving late at night down I-80 in the middle of Nebraska and see the flashing lights of multiple emergency vehicles many miles ahead of you, then when driving at 50 mph past the accident that all of the emergency vehicles were attending to, you hit a firefighter who accidentally walked too close to the open road and saying you didn't see him. No excuses. There was plenty of warning.

From an SVB board perspective, what were the advantages of raising a portion of the suddenly-needed capital via convertible preferred stock? (Presumably with the alternative being just immediately issuing more common shares from their treasury?)

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I would summarize the tactical (but existential) mistake this way:

1) SVB did the math in its head to determine it needed X dollars of new equity investment to make up for the loss in valuation of the securities it was having to sell to make up for depositor outflows.

2) They COULD have immediately issued standard votable shares worth $X billion to close up the gap and presumably return to solvency.

3) Instead, they decided to split the sourcing of the $X billion needed between traditional common share sales and CONVERTIBLE shares, which may provide a higher assurance of dividends but also typically provide zero voting rights. Had SVB survived, this approach would have reduced the dilution of voting power of the existing shareholders, including presumably the board.

4) A convertible offer requires more logistics (hence, TIME) to be coordinated to define legal terms, etc. This was time that SVB did not have.

5) By publicizing the plan, SVB leadership a) clearly identified the size of the hole in its books, b) that further spooked local start-up depositors who were over the FDIC limit, c) conveyed to the public that TWO separate sales were required to plug the hole and that one of the two sales efforts would be delayed which triggered MORE panicked withdrawals.

6) The extra time required to originate the convertible sale provided an extended window for more depositors to pull their money the next morning which further widened the insolvency, triggering the FDIC to close the doors.

In essence, by being greedy by trying to close the gap with a portion of shares that did less to dilute control of the firm by existing shareholders, SVB execs accelerated its complete failure.


WTH

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