In the latest news development, we have read that Silicon Valley Bank (SVB) has collapsed after a failure to raise funds.
There's an abundance of recent news, so I'm not entering into details - a simple Google search will do the job. Instead, let's analyze the company and how we, as retail investors, can potentially protect ourselves before news breaks.
My followers would know that I take a very systematic approach to my investing strategy. However, I'll only be focusing on the fundamental aspect in this article. Let's examine the situation in a 3-step S.H.E. framework. Solid business model
SVB provides banking services to technology and life science companies, venture capitalists, and private equity firms, which are often overlooked by traditional banks due to their high risk profile. The bank earns its profits through interest income on loans, fees for various banking services, and investment gains.
Over time, SVB has built a strong reputation in the industry because of a possible economic moat in its niche. However, I would feel that this is a very weak economic moat.
Besides macroeconomic risks, let's examine some intrinsic risks associated with SVB:
🚩 Concentration of risk: SVB primarily serves industries characterized by rapid innovation, evolving technologies, and intense competition. Industry triggers (e.g. technological trends, or market conditions) will affect SVB.
🚩 Credit risk: Delinquent or defaulted loans can adversely impact the bank's financial performance.
🚩Interest rate risk: Increasing interest rates increase the bank's borrowing costs, which decreases its net interest margin and profitability.
🚩Authority risk: Banks are highly regulated by the authorities. Changes in regulations or enforcement actions could impact the bank's operations or financial performance.
Honest management and leadership
The bank has been led by Gregory W. Becker, President and Chief Executive Officer (CEO) since 2011. He has led SVB to expand its business and establish a strong presence in the technology and life sciences sectors globally. The rest of SVB's management team also has extensive experience in their respective areas of expertise.
The work culture at SVB gets good reviews online. The employees are generally happy.
However, I'm concerned about the management's decision to invest over $90 billions in 10-year bonds at 1.65% yield in 2021. Are they not aware that high interest rates are here to stay? Anyways...
Equitable valuation
SV Bank has established a strong reputation in the industry and has consistently produced positive key ratios:
Consistently increasing EPS
Positive free cashflows
Relatively healthy ROE and profit margin
In fact, one could say that the company is undervalued in 2022 based on the PB and PE ratios. Is that the case?
A bank makes money by borrowing money from depositors and paying them interest. Taking into consideration the current high interest rate environment, SVB has been experiencing tight cashflow from concentration risk. A major source of income (loans) decreased sharply last year.
In return, SVB's desperate attempts to raise cash in 2022 are evident by sudden increases in short-term borrowing (+7,253%) and long-term debt (+109%). Even more worryingly, the bank's investments are losing money.
In a nutshell
My overall opinion is that the key ratios are highly manipulated. It's important to look at the bank's full financial statement and macroeconomic environment when analyzing it. In general, banks borrow short-term and then invest it at higher rates - but SVB has not been very successful in it. The risks that SVB takes on in this highly interest rate environment are detrimental and deadly.
I anticipate that the high interest rate environment is going to persist, and that's problematic for all growth companies. I'm not surprised that institutions that are overexposed will be hit hard, however, I don't believe this is the start of another 2008-style crisis. Keep an eye on the global economy and be aware of the risks involved! This is a classic case study tothe problem of over-concentration.
It's a defensive year for me in 2023; and my focus is on a basket of value stocks.
Hit me up, to explore how to maximise your personalised financial portfolio!
Disclaimer: This is not intended as a financial advice or recommendation. I do not have any financial interest in the company and the opinions expressed above are solely my own.
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