Patrick McKendry

Silicon Valley Bank failed on Friday, collapsing in a whirlwind bank run that materialized and ran its course in only a few days. The fall is astonishing for its size - it is the 2nd largest bank failure in U.S. history¹. The whirlwind collapse is also shocking for the speed at which it occurred. On Wednesday evening, concerns mounted when the bank surprised clients by announcing it was seeking to raise approximately $2 billion in capital to shore up its balance sheet after the value of its securities dropped amid rising interest rates.¹ On Thursday, SVB’s stock price dropped by 60% by day’s end, preventing the necessary share sales from happening.² Through all of this, the bank’s clients - primarily consisting of technology start-ups and VC firms - began withdrawing their cash rapidly in the hopes of self-preservation. By Friday, the FDIC took control of the bank, in a nearly unheard of mid-day takeover as opposed to the standard hold of waiting for markets to close at Friday’s end.³

The question of what happens next remains to be seen. Of the $161 billion deposited at SVB, nearly 93% was uninsured by the FDIC.³ Per Pershing Square CEO Bill Ackman, the federal agency can attempt to sell the bank to preserve liquidity for its depositors, choose to guarantee all insured and uninsured assets, or slowly liquidate the bank’s assets to hopefully return the majority of cash to its depositors.⁴ The next steps that we see, starting today, will influence how this failure ripples through the already struggling tech sector. Fortunately, the majority of financial analysts have few concerns for broader financial sector impact given that most banks have a significantly wider portfolio of clients and assets and extensive liquidity requirements due to regulation changes after the 2008 financial crisis.⁵ More broadly speaking, the longer term potential loss could materialize in the decreased funding of innovative growth companies. Silicon Valley Bank was established in 1983 with the primary business model of providing financial services for companies whose primary financial assets were venture capital funding.⁶ The bank’s relationships with its clients and willingness to invest in their potential was an important growth enabler in Silicon Valley over the past decades. Will more traditional banks be willing to fund those assets in the same way? We are about to find out.

Underlying this story is the unfortunate truth that, as of Tuesday, Silicon Valley Bank was nowhere close to insolvency.⁷ In fact, as the shares sale began to unfold, SVB CEO Gary Becker told depositors that the only danger was “everybody is telling each other that SVB is in trouble.”¹ The bank’s problem was only indirectly a financial one. Rather, as per the New York Times, “For now, it looks like the collapse could have been avoided — it happened because management bungled how it communicated to its customers and the public, and created a vacuum of confidence.”⁷

Communication is one of the universal challenges of business. SVB’s end is just the latest example of what can happen when that communication goes awry. Over the years, I have learned a lot of lessons in effective communication through failures - and occasional successes - of my own as well as by watching great communicators around me. We can see a few of the key lessons playing out here. Let us walk through some of the key communication missteps here and how we can learn for ourselves through SVB’s example. Communication has many sides and each benefit from different tactical approaches. For this review, we will focus on communicating about problems and their resolutions. With problem management, the name of the game is minimizing swirl. We will cover the importance of avoiding surprises, short-circuiting problems by aligning with critics, and why a single touchpoint is never enough.

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Focus on alignment with critics

While the financial decisions made by SVB leadership are questionable, analysis of the situation has begun to describe the collapse as the first social media bank run. Said differently, the factors leading to the run were partly financial and more based in group think. SVB’s growth over the years came from its involvement with the community of Silicon Valley founders. That same tight community also readily shared their questions, concerns, and guidance with each other as questions of solvency started to appear.

Prisoner’s Dilemma

The SVB collapse has elements of the prisoner’s dilemma. In common language, the prisoner’s dilemma is applied to describe situations where two parties can benefit from coordination, suffer when they fail to align strategies, and have a difficult challenge in coordinating their plans.¹¹ In the case of SVB, we could view the decision of depositors as a collective prisoner’s dilemma and write it as such.

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The depositors of the bank, A thru N, are hearing of solvency concerns. If the bank goes insolvent all depositors would lose their money; however, this is unlikely to happen as run of course. There is concern of the banks lending power to depositors in the short term if it avoids insolvency, but each depositor has an option to improve their position: any one of them can choose to withdraw their funds, increasing the risk of insolvency for the remaining depositors and potentially critically impinging their cash flow. In the case of SVB depositors, the communication challenge is realized from having to coordinate across a huge number of account holders.

Interestingly, while game theory and mathematical equilibria suggest that purely rational players will choose defection or betrayal, that is not often what happens. Merrill Flood, the mathematician who helped originally design the prisoner’s dilemma, found in his early tests with human players, the opposite tends to hold true as fairness and collaboration are sought out instead. One such story from Flood’s tests tells how two of his distinguished research analysts - a mathematician and economist respectively - each chose to play the lower-value collaborative option rather than defecting approximately 70% of the time when playing against each other.¹²

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Handling Critics

Similarly for SVB, many in the tech community pushed to stand by SVB as a sign of partnership. But two names stood out as champions of self-preservation by withdrawal - Peter Thiel and Garry Tan.¹⁰ Thiel’s Founders Fund identified issues on Thursday as incoming payments to their accounts failed to process and quickly withdrew all of their cash. Tan, CEO of Y Combinator, recommended all start-ups in their portfolio reduce their exposure down to the federally insured limit of $250k in order to preserve cash.¹⁰ We cannot predict if SVB would still be standing had these two advised otherwise, but as major players in Silicon Valley their advice was likely sought and followed by most in the industry.

This is an important reminder for us around the importance of focusing a meaningful portion of our communication towards those who disagree with our conclusions and paths forward. Conflict avoidance and confirmation bias inherently guides us towards wanting to spend time working with those who are aligned with our thinking. It is easier and more comfortable to do this. Yet, these stakeholders already tend to agree with us and do not need much additional information to continue with the prescribed plan of action. They are unlikely to fight against us even if our communication towards them starts to dwindle. On the other hand, those who are not aligned with the plan or have doubts about our team’s ability to deliver it will consistently look for evidence to hold against us. Maintain consistent and frequent communication out in order to keep them up to date. Regularly seek out any emerging concerns so that you can address them before they grow out of control. And, most importantly, work to find common ground. Identify and talk openly about mutually beneficial outcomes that can be had from collaborating - or mutually destructive ones from defecting.

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No Surprises

The first key in communicating about problems is to avoid surprises. As we analyze SVB’s unraveling, the crux of the problem was the unexpected announcement of a share sale to raise capital. The sudden announcement raised anxiety in its depositors. Those depositors reacted with panic and killed their golden goose.

The problem with surprises is that they trigger an emotional response. They surface our fight or flight response. Humans are incredibly flawed decision makers in the most controlled situations. When surprise introduces stress, our worst decision-making biases and simplest heuristics come out. This rarely leads to optimal outcomes. In his landmark research exploring behavioral economics, Nobel prize winning psychologist Daniel Kahneman highlights this idea by introducing System 1 and System 2 thinking. Kahneman describes System 1 as “emotional” and “fast” while System 2 is “more logical” and “more deliberate”.⁸ When we fail to pre-empt surprise communication, our faster emotional System 1 thinking kicks up and kicks out our logical System 2 processes.

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Loss Aversion

One of these emotional decision biases that Kahneman highlights in his book Thinking Fast and Slow is prospect theory, more commonly known as loss aversion. Prospect theory describes how humans place asymmetric value on how they view losses versus gains. Said differently, people take out excess risk in attempts to avoid losing things that they already possess, but will act more conservatively in chances to gain something that they do not have.⁹ To demonstrate prospect theory, Kahneman and his research partner Amos Tversky asked respondents to make a selection in the following scenario:

100% chance to gain $450 OR 50% chance to gain $1000

100% chance to lose $500 OR 50% chance to lose $1100

The researchers found that decision makers tended to choose to gain the $450 in Scenario A (a risk-avoiding decision) and chose to risk the chance to lose $1,100 dollars in Scenario B (a risk-seeking decision). A truly rational decider would have selected the inverse options based on their calculated utility.⁹ Yet, when given the chance, humans will take the risk of being worse off if it gives them a shot of keeping what they already have.

If we plot Scenario B against the decision set of SVB depositors, it may look something like this:

B. 99% chance to to lose some of their deposit AND dissolve the bank, further increasing future problems OR 1% chance to lose their full deposit by not withdrawing

Recall that, prior to the depositor’s bank run, SVB was in solid financial shape. These proportions are made up for illustration, but the second option - do not withdraw deposits - is better on utility because the likelihood of bank failure is so low. Rather, depositors opted for the mathematically lower utility option, attempting to withdraw deposits and lose some amount of their funds while also sinking the bank. All of that undue risk added just for a shot of walking away whole.

Preventing Surprises

If we want to avoid irrational and emotional decision-making, we need to work to avoid surprising our stakeholders. The first key here is to share information on problems early, when they are still small. SVB notified clients of problems at the 11th hour when they announced the share sale in order to prevent an imminent ratings downgrade by the credit rating agency Moody’s.² Realistically, the bank’s problems started a year prior as interest rate hikes by the Federal Reserve negatively influenced the value of its long-term bonds which were intended to counteract the predominantly risky and volatile tech assets of its portfolio.² SVB could have informed depositors of this growing risk months earlier. They might have highlighted - rather than hidden - the potential need for future readjustment of its asset holdings. By doing this, SVB could have given their close-knit group of depositors plenty of time to absorb the information and put together a collaborative and logical plan of action.

Additionally, by communicating early the bank could have articulated its contingency plans given various potential future market outcomes. Contingency planning is an important feature for maintaining confidence when communicating problems because it highlights that the situation remains fully under control. This approach could have framed the bonds offloading and subsequent share sale as the simply unfortunate, but expected, run of business. Instead, the surprising nature led to an emotionally charged panic where irrationality took hold. A little heads up can go a long way.

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One touchpoint is never enough

Tasks are described as sisyphean when they are interminable and tedious. The word finds its origin in Greek mythology where we are introduced to Sisyphus, founder and king of present day Corinth. Sisyphus was extremely clever, clever enough to escape death twice. On the second occasion, Sisyphus arrived at the banks of the river Styx and convinced Persephone that he was actually brought there by mistake and should be sent back to the land of the living, which he was. Hades took it upon himself to punish Sisyphus for his trickery, assigning him the task of something so mundane and fruitless that it would be truly tortuous for someone of Sispyhus’s wit. The task was to roll a boulder up the side of a hill, only for it to magically roll back down to the bottom once it neared the top. Sisyphus’s punishment was to do this again and again and again for eternity.

This is what communication for problem resolution is like. No matter the merit of an idea, the work of getting alignment can feel unending or even impossible to complete. Just when you think you have complete buy-in, a new stakeholder appears, or a previous champion thinks of a new problem statement and starts to question the agreed upon solution, or you find that your clear action steps were not interpreted quite right. Just like that, you are back to the bottom of the hill.

This was the nail in the coffin for Silicon Valley Bank. As it became clear that a share sale was the only way to maintain the bank’s credit rating, CEO Greg Becker likely realized that there was only one thing that could bring real trouble for the bank - a bank run. And for that reason, Becker scheduled a call with all SVB clients on Thursday to stress to them the bank’s overall health, their plan to shore up the balance sheet, and stress that the only trouble that could be created would be if all depositors chose to withdraw their funds at once. That call lasted 10 minutes. That’s it. Nothing more.

Becker could have scheduled time separately with Thiel to respond personally to questions about the bank’s plan with the goal of easing his concerns in order to get the Founder’s Funds investments back into the bank. Becker could have done the same with Tan, asking him to request those in the Y Combinator portfolio to at least hold from withdrawals through the upcoming weekend in order to give SVB time to find the last pieces of their equity raise. The bank’s executives could have called major players in their portfolio with regular updates on how the equity raise was progressing in order to continue to soothe concerns. As far as we have heard, none of that happened.

It is a good reminder that when presented with white space or uncertainty, stakeholders will tend to let their minds wander towards worser case outcomes. Additionally, as time between communication touchpoints lengthens, more and more context will begin to change and create new questions. While a face-to-face touchpoint is productive, a single touchpoint is never enough. Consistent communication is critical.

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Conclusion

For such a common activity, communication is the achilles heel of many teams and companies. Were there poor financial decisions at the core of Silicon Valley Bank’s balance sheet? Yes. Were those critical mistakes that should have capsized an organization that had been a staple of the tech and venture capital community for decades? Unlikely. With problem management, the name of the game is minimizing swirl. SVB execs failed to avoid surprises, nip concerns of vocal stakeholders early, and follow up to maintain open communication throughout the stabilization process. The ROI of good communication is high.

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References

Communication Breakdown - Lessons Learned from Silicon Valley Bank