Bank On Silicon Valley

By Will Ashworth | October 30, 2008 AAA

What a world we live in. Beneficiaries of the federal government's $700 billion bank bailout will receive more than $70 billion in discretionary bonuses, despite the fact that management at these banks are responsible for creating the mess in the first place. While it's fun to disparage the greedy beggars, doing so isn't the aim of this article. Instead, we'll be highlighting a bank you can actually trust - SVB Financial Group (Nasdaq:SIVB).

A Proud History
SVB Financial Group is celebrating its twenty-fifth anniversary this year. During its history, five major events shaped its future the most. First, Silicon Valley Bank opened an office in Santa Clara, California in 1983, which was the launching point of its odyssey of growth. Second, the bank became a public company in 1987 when its shares began trading on the Nasdaq. Third, in 2002, it began to focus its business on technology, life sciences, private equity and premium wine - a critical decision that would ensure the bank's future financial health. Fourth, it opened international offices in the United Kingdom and India in 2004, which made it a global bank. And, fifth, it became SVB Financial Group in 2005 in recognition of the bank's expansion beyond the role of traditional commercial banking. If your business is venture capital, you know who they are. (To learn more about venture capital, read Seek an Adventure in Venture Capital.)

Financially Robust
The lending business has endured a tough year. Yet, despite challenging economic times, Street.com rates Silicon Valley Bank (held by SVB Financial Group) one of the strongest in America compared to other banks of the same size. Avoiding real estate loans, most of its lending is for commercial and industrial purposes. Although commercial and industrial loans are typically seen as possessing greater risk, many come with shorter terms and higher interest rates. One might assume that a bank focused on technology and venture capital would have gone belly-up in 2000 following the tech bubble crash. Contrarily, 2000 was one of Silicon Valley Bank's best years in its 25-year history. Today, maintaining a focus on technology and venture capital has allowed the bank to avoid the subprime mortgage mess of the day. (Still don't understand subprime mortgages? Read What is a subprime mortgage?.)

Silicon Valley Bank increased its net interest income by 7.9% in 2007 to $382.2 million, through a larger loan portfolio. Its commercial banking division granted 46.6% of its loans to technology companies and 18.5% to life sciences, for a combined total of 65% of its total portfolio. The commercial banking unit's income before tax increased 32.6% in 2007 to $225.6 million, up from $170.1 million in 2006.

The third quarter of 2008 was a glass half-full, half-empty performance, however. Compared to the second quarter, business was up, with net income of $27 million or 80 cents per share, up from $21.3 million or 62 cents per share. However, when compared to the same quarter a year ago, the numbers are a little less encouraging. Net income in Q3 2007 was $38.1 million or $1.03 per share. Considering the dramatic changes in the banking industry over the last year, maybe these numbers are not so bad after all. The nine months year-to-date numbers were flat, with net income of $2.22 per share compared to $2.41 per share last year, or a decline of 10%. Thus, it is no wonder CEO Ken Wilcox commented that his company was handling the economic downturn better than most due to high credit and astute investment standards. I couldn't agree more.

Income Opportunity
In addition to the common shares, I would also like to point out a second income opportunity. On October 30, 2003, Silicon Valley Bancshares issued 2 million trust-preferred securities in SVB Capital II (Nasdaq:SIVBO) at $25 per share, which raised $50 million. Silicon Valley Bancshares is a bank holding company to which Silicon Valley Bank is a principal subsidiary.

The special-purpose trust then bought $50 million in 7% Junior Subordinated Debentures due October 15, 2033. $40 million of the offering proceeds went to pay off some of its existing 8.25% Junior Subordinated Debentures due 2028, held by SVB Capital I. The remainder was held for general corporate use. Based on Wednesday's close of $19, the $1.75 payment yields 9.2%, a solid fixed income for investors. The only downside is that it can be redeemed at any time for full value after October 30, 2008. But that's OK; you'll make approximately $6 per trust unit.

Bottom Line
I'm not a fan of banks or technology companies. I have a general distrust of the former, and in the latter, like Warren Buffett, I don't understand them. So, for me, investing in this company as opposed to Bank of America (NYSE:BAC) or Microsoft (Nasdaq:MSFT) makes a lot of sense. The common securities and the trust-preferred security make SVB Financial Group the best of both worlds. If the common goes down, your yield on the other goes up, which seems like a win-win situation to me.

Remove the fog from a financial institution's financials by reading Analyzing a Bank's Financial Statements.

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