News analysis
Why did Silicon Valley Bank collapse?
Why did Silicon Valley Bank (SVB) collapse, and what governance lessons does its sorry tale teach us?
The collapse of Silicon Valley Bank (SVB) in March 2023 was a devastating event that has sent shockwaves through the banking industry.
After Silicon Valley Bank failed so quickly, it has become clear that many banking institutions must strengthen their corporate governance practices.
Here, we explore what led to Silicon Valley Bank’s demise, why it happened, and how other boards at financial institutions can strengthen their corporate governance structures to avoid such a disaster.
Why did Silicon Valley Bank fail?
The sudden collapse of Silicon Valley Bank came on the heels of a frantic 48-hour period during which customers rapidly withdrew their deposits.
However, the actual cause of SVB’s downfall can be traced to decisions made several years earlier.
SVB, like many other financial institutions, invested heavily in US government bonds amidst an environment of near-zero interest rates.
What initially seemed like a secure investment quickly turned sour when the Federal Reserve ramped up its interest rate hikes to curb rising inflation.
This increase in interest rates caused bond prices to plummet, eroding the value of SVB’s assets.
Concurrently, the Fed’s aggressive rate hikes drove up borrowing costs, forcing tech startups to redirect more of their capital to debt repayment.
These startups needed help to secure new venture capital funding, leading them to tap into their deposits held by SVB.
Ultimately, this confluence of factors spelt disaster for the once-thriving $212 billion tech lender.
Corporate governance structures in banks – how are they regulated?
Corporate governance structures in banks play a critical role in maintaining transparency, promoting ethical conduct, and ensuring the effective functioning of these institutions.
These structures typically comprise a board of directors, who oversee the company’s strategic decision-making and hold the senior management accountable for their actions.
Regulatory bodies across the globe, such as the Securities Exchange Commission (SEC) in the United States and the Financial Conduct Authority (FCA) in the United Kingdom, are responsible for enforcing and monitoring these governance structures.
The regulators establish rules and guidelines to fortify banks’ financial resilience and stability while safeguarding stakeholders’ interests.
Furthermore, banks must comply with stringent reporting and disclosure standards to foster trust among investors, depositors, and clients.
As the global economy evolves, these regulatory bodies constantly revise and update their guidelines to keep pace with the dynamic financial landscape.
This ensures that corporate governance structures in banks remain efficient, effective, and up-to-date.
How to strengthen corporate governance in banks like Silicon Valley Bank
Strong corporate governance in the banking sector is crucial to maintaining financial stability and fostering public trust.
As a result, banks worldwide continuously seek to improve their governance practices.
One key focus area to enhance governance-related measures is promoting a strong risk culture.
This involves adopting a proactive risk management approach, including robust risk assessments, clear responsibilities, and comprehensive mitigation strategies.
It is now clear that Silicon Valley Bank needed robust risk management strategies in place. It didn’t.
The role of the board of directors in managing risks is vital. These individuals must possess the appropriate expertise and exercise decision-making independence to act in the best interest of stakeholders.
Implementing transparent disclosure mechanisms is another essential element to improve the integrity of the banking industry.
By effectively sharing information, banks can keep stakeholders well-informed and governments better equipped to supervise the sector.
Good risk management could have saved Silicon Valley Bank
Following the collapse of SVB (and the threats posed to other US banks), the importance of strong corporate governance in the banking sector has become increasingly evident.
Financial organisations worldwide have acknowledged the need for effective risk management measures.
By identifying, assessing, and addressing potential risks, banks protect themselves and contribute to the stability and overall health of the entire financial system.
One of the critical components of robust risk management in banking is implementing an enterprise risk management (ERM) framework.
This provides a comprehensive approach to managing risks across various business operations.
An ERM framework involves:
• The allocation of qualified risk managers.
• Providing effective risk mitigation guidance.
• Fostering a culture of risk awareness within the organisation.
How to strengthen governance in banking
The necessity for robust corporate governance in banking has never been more critical.
- Financial institutions are grappling with increasingly complex risk management challenges and the demand for transparent information to instil confidence in their stakeholders.
- Disclosures and reporting requirements are essential in achieving this as they promote transparency and pave the way for informed decision-making for investors, regulators, and management.
- Banking regulators often establish mandatory disclosure requirements, compelling financial institutions to disclose specific information.
- This includes information about their financial health, risk exposures, and corporate governance activities.
- These disclosures help monitor and control the potential risks associated with banking activities.
- They also encourage accountability and ethical behaviour among the management and the board.
The board at Silicon Valley Bank wasn’t strong enough
Just one member of Silicon Valley Bank’s board of directors had a career in investment banking.
Federal authorities investigated the board after it failed to prevent the bank from going under.
Remember, the board of directors is responsible for shaping a bank’s strategic direction but is also entrusted with the critical task of providing essential oversight to the management.
A well-constituted board, comprising members with different skills, expertise, and backgrounds, offers various perspectives.
A strong board also adds tremendous value to the decision-making process.
Furthermore, the board is expected to guide the organisation in establishing and adhering to ethical standards.
This guidance demonstrates a solid commitment to long-term sustainability and fostering a culture of transparency and accountability.
Impact of corporate governance on financial stability
The impact of corporate governance on financial stability cannot be overstated, as it plays a pivotal role in ensuring any organisation’s sustainable growth and development.
For example, the collapse of Silicon Valley Bank could have been prevented because there were several red flags surrounding the governance ecosystem at SVB.
Remember, effective corporate governance mechanisms provide a solid foundation for businesses to make responsible and strategic decisions that uphold the interests of shareholders, employees, and other stakeholders.
By facilitating a strong system of checks and balances, corporate governance enhances transparency, boosts investor confidence, and ultimately contributes to the overall stability of financial markets.
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