SVB Saga Shows Cracks in Procurement System: Alexander Harstrick

One of the most trusted investors in cutting-edge technology is the federal government. Alexander Harstrick discusses the ways the US could build protections into its contracting system to ensure innovators stay afloat during financial mishaps.

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The intense focus on Silicon Valley Bank’s demise and resurrection over the last two weeks has focused almost entirely on the impact to startups and investors, but another important stakeholder has been damaged—the US government and every American.

About 50% of the venture-capital backed ecosystem banked with SVB, and directional estimates suggest that same number applies to the startups that sought to contract with the government. These numbers rise meaningfully when the other banks currently in focus are added.

So what does the collapse of America’s most startup friendly bank mean for roughly 600,000 small government contractors that compete for about $150 billion in contracts each year?

First, let’s acknowledge that running a startup is extraordinarily hard. Founders are expected to simultaneously be visionaries, technologists, salespeople, operations managers, HR experts—to name just a few required hats they wear—all without formal training.

Finance is often an afterthought. Carta, a popular operations platform for startups, points out that only 18.1% of companies with post-money valuations up to $50 million (which is a lot of them) have any finance personnel at all. This shouldn’t be a punishment. They should be able to rely on the safety of their cash in a bank account.

As we debate the future of startup banking, I would propose a few considerations, hardly exhaustive, which likely became immediately obvious to any deep tech company working with the federal government over the past few weeks:

How patient will we be towards contract reward inefficiency?

Companies need to know their customer—in this case the federal government—will honor their contracts and pay on time. In the absence of deposits, cash flows from those contracts save the day. That means any problems with government payment cycles turn into fatal flaws if a startup can’t rely on the contracts they have won to be paid on time.

How far and through which channels is the government willing to go to protect existing critical contractors?

Yes, the FDIC, Treasury, and Federal Reserve saved the day for deposits. But could the Defense Department, Energy Department, and others have enacted similar policies or forward-paid existing contracts and protected companies they had already designated as mission critical?

These policies don’t exist now formally. While they have started informally in the last few weeks, without a set procedure the response will be pointlessly slow when needed most. Remember that Credit Suisse, a multibillion-dollar international bank was wiped out in less than 48 hours.

Is $250,000 enough insurance for government focused startups?

That standard, set for individual account holders, is supposed to be sufficient for two weeks of operations. That is two weeks’ coverage to include salaries, equipment, vendors (the list goes on) for very expensive companies.

The fact that so many banks offer sweep accounts, where multiple $250,000 accounts are set up for the same entity to take advantage of the FDIC limit, would suggest that the policy itself is worth revisiting. Harvard Business School Professor Mihir Desai even proposes the establishment of special “Payment Banks,” a completely separate structure of bank that is designed to do nothing more than process business payments.

No matter what, the answer needs to be simple. Our incentive structure should do as much as responsibly possible to reward good innovation, not just savvy CFOs.

How efficient is our foreign capital tracking in emergency situations?

A lot of companies from a lot of countries banked with SVB and other banks that are in the crosshairs now. At the same time, US technology companies are widely considered some of the most attractive globally for investment.

For 72 hours, countries that normally have a hard time getting access to leading American innovation saw the SVB panic as an opportunity to buy great companies at a steep discount (read: at all), and we can expect this trend to continue.

It’s difficult to say whether that’s predatory or just opportunistic. But from the founder’s perspective, if only one person is throwing you a life raft, you don’t stop to look at the flag on the side. Not every one of these companies is backed by an informed investment fund that sees the pitfalls of such a transaction. Nor do they know that the US interpretation of foreign investment is murky at best. If we truly believe in making a better environment for trusted capital, we quickly need better rules and contingency plans for emergencies to block nefarious actors.

In the end, we are surviving this existential moment for American innovation, but there are few who feel safe as a result. The outcomes we are seeing do little to mask the glaring process and procedural issues that were revealed in the last few weeks. Let’s keep debating how best to harden the American economy, but let’s be impatiently mindful that small innovative companies are a major part US national security, environment, and every other foundational service that the government provides.

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Author Information

Alexander Harstrick is a Managing Partner and Co-founder of J2 Ventures, a fund that specializes in early-stage companies that are looking to partner with the federal government. J2 is one of the most active investors in the dual-use space, focusing on companies leading AI / ML, Healthcare, Cybersecurity and Infrastructure innovation.

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