Silicon Valley Bank's demise began with a downgrade threat

Moody's Investors Service, parent of Silicon Valley Bank, delivered shocking news to SVB Financial in the middle of last Week: The ratings agency was about to downgrade the bank's credit.

Two people who were familiar with the situation described the phone call as the beginning of Friday's dramatic collapse of the startup-focused lender. This was the largest bank failure since 2008 financial crisis.

Friday's crash sent panic through the global markets and wreaked havoc on banking stocks. Investors are concerned that aggressive interest rate increases by the Federal Reserve to combat inflation could expose financial system vulnerabilities.

Reuters has revealed details of SVB's failure to respond to the possibility of a downgrade. This is the first time that Reuters has reported on the failure of SVB. It shows how fast confidence in financial institutions can erode. California's startup sector was also affected by the failure. Many companies were unsure how much they could recover their deposits and worried about making payroll.

After SVB's money was parked in bonds, the Moody's called.

The team of SVB Chief Executive Greg Becker called Goldman Sachs Group Inc. (GS.N) bankers to get advice, and flew to New York, according to sources.

Sources requested not to be identified as they are subject to confidentiality agreements.

SVB worked over the weekend on a plan to increase the value of its holdings. It would then sell low-yielding bonds worth more than $20 billion and reinvest the proceeds into assets that provide higher returns.

According to sources, although the transaction will result in a loss, SVB would be able to fill the funding gap by selling shares and avoid a multi-notch downgrade.

It didn't work out.

The news of the sale of shares scared clients, mostly technology startups. They rushed to withdraw their funds, disrupting capital raising. Friday saw regulators intervene and shut down the bank, putting it into receivership.

Representatives of SVB, Goldman Sachs, and Moody's did not respond to our requests for comment.

The unraveling

The sources revealed that Moody's had informed the SVB executives about the imminent downgrade.

SVB was quick to respond in an effort to soften the blow.

According to sources, General Atlantic, a private equity firm, was contacted by the bank and agreed to purchase $500 million of the $2.25 Billion stock sale. Another investor, however, stated that it couldn't reach a deal within the SVB timeline.

SVB had already sold its bond portfolio, resulting in a loss of $1.8 billion by Wednesday.

Moody's downgraded SVB's bank but only by one notch due to SVB's plan to raise capital and bond portfolio sales.

To avoid any possible stock sales being delayed by news about the sale, it would be ideal that the stock sale was completed before the market opens on Thursday. However, sources claimed that this was impossible due to the strict schedule.

SVB hadn't done the necessary preparatory work to sign confidentiality agreements. According to sources, SVB's lawyers informed the bank that it would take investors at least 24 hours for new downbeat financial projections to be digested and completed the sale.

Reuters couldn't determine why SVB didn't start these preparations sooner.

SVB's stock plummeted on the news of the sale and ended Thursday at $106.04. Sources said that Goldman Sachs bankers still believed they could close the sale for $95, but were not able to do so.

Venture capital firms advised startups to withdraw money from Silicon Valley Bank in fear of a bank run.

This became quickly a self-fulfilling prophecy. General Atlantic and other investors left, and the stock sales collapsed.

General Atlantic didn't respond to our request for comment.

California bank regulators shut down the bank Friday and named the Federal Deposit Insurance Corporation (FDIC), receiver. The assets will be disposed of by the FDIC.