Weekly Update: There's Always a Weakest Link
Highlights from SaaS & VC & Markets from the week of 3/13
It was another exciting week, so there’s a lot to cover in this edition of the Weekly Update:
Deal of the Week
Podcast Recommendation of the Week
Reading Recommendation of the Week
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I. Market Update: Searching for Stability
With so much stress & uncertainty around SVB and regional banks, it was easy to miss that the stock market was generally up this week. The WCLD cloud index rose a healthy 4.5%, closing at $27.85. Big tech flourished:
The tech-heavy Nasdaq 100 gained 5.8% on the week, its best week since November, and far stronger than the S&P 500 Index’s 1.4% advance. That divergence represents the biggest one-week outperformance by the Nasdaq 100 since the financial crisis in October 2008.
Yet the news was again dominated by banks, risks of financial contagion, and the search for scapegoats. While politicians on both sides of the aisle have been lashing out at various players, I think the story is that there are no clear villains.
As a reminder, the GFC of 2008/2009 produced a true rogue’s gallery of crooks & villains. Things were so crazy in subprime that there was actually a popular product called a Ninja Loan - “ninja” stood for “no income, no job, no assets.” Anyone with a pulse could get a pile of mortgages. Lending standards were forgotten.
Sure, SVB made critical mistakes in balance sheet management. They paid for them by having their stock wiped out. But their problem was not making bad loans.
Looking around, we can also place blame on regulators. They clearly made mistakes. Although I don’t think they were completely out to lunch like they were leading up to the GFC. It turns out that last year, SVB received a series of regulatory warnings:
Regulating banks is a very complicated matter - and I’m no expert on all the nuances. But I think it’s important to take a wider perspective and consider two key facts:
The US practices fractional reserve banking. No bank keeps all customer deposits on hand, so no bank can survive if everyone wants their money back at once.
In a competitive market, there will always be a bank with the weakest balance sheet. There will always be a “weakest bank.”
As long as the weakest bank is held to a high standard, that’s not a problem, right? Nope, even if regulations are stiff, there is still going to be a bank that looks the worst.
Once we establish these two key facts, then the following is perfectly reasonable:
It’s good advice to tell deposit holders at the weakest bank to move their money elsewhere.
When deposit holders leave the weakest bank, it gets even weaker. More deposit holders leave, it gets weaker still. It will collapse.
Then, deposit holders at the next weakest bank will want their money out, leaving it even weaker, and so forth.
This highly logical scenario would crash the banking system and then the economy. There would be no obvious villains.
The good news is that the federal government provides FDIC insurance for deposit holders. But that’s only insurance up to a point - as we saw with SVB, that alone is not enough to quell panic. Fortunately, the feds have given explicit assurance that they will backstop deposit amounts above the FDIC limit at SVB and other banks deemed systemically important. It’s assumed that this assurance is extensible across the banking system. Hopefully this is enough to stabilize the banking sector.
Meanwhile, earnings season continues. Last week a few large public SaaS players announced notable results. Gitlab, the open source enterprise infrastructure leader, beat plan on revenue. But hey forecast a decline in quarterly revenue and lowered their forward guidance considerably for next year (their fiscal 2024). The market wasn’t impressed, sending their stock down 15% on the week.
After growing 68% in fiscal 2023, they project 25% growth in 2024. While their margins have gotten slightly better, they are still burning a lot of cash. Is Gitlab a harbinger of a tough road for enterprise software for the coming year? Let’s hope not.
On the other hand, cybersecurity SaaS vendor SentinelOne had a strong earnings announcement, with revenue up 92% and gross profit up 109% year-over-year, respectively. Guidance was strong. Their stock was up 9% this week.
While they are burning cash, it’s justified by their rocket-ship growth. Their Rule of 40 score is an impressive 72. While enterprise IT budgets may be softening, cybersecurity remains a key issue for businesses and an area of persistent demand.
II. Deal(s) of the Week: pre-YC Demo Day Feeding Frenzy
YC Demo Day begins April 5th, but many of the current batch of YC startups started fundraising this past week. If there’s one area of tech that hasn’t deflated in the past year, it’s this.
Nobody will debate the strength of the YC talent network. Their top companies are a remarkable group. It's quite likely that this batch of 200+ startups will include many startups that generate 10-20x or higher returns for seed stage investors.
Yet the exuberance around Demo Day is an odd contrast to the softness in the market for Series A rounds and beyond. What’s going on? Multi-stage VC funds are feeling cautious after the excesses of 2021. They perceive safety in seed rounds and the YC brand. Post-bubble hangovers make strange bedfellows.
III. Podcast Rec of the Week: All-In Podcast On the Banking Crisis
The latest episode of All-In provides an entertaining sample of Inside-Silicon-Valley perspective on the banking crisis. It even provides a smidgeon of introspection and accountability.
IV. Reading Rec of the Week: Matt Levine on SVB Crisis
Even if you don’t like listening to the All-In Podcast, it might be worth listening just because everyone in tech listens to it. Matt Levine’s Bloomberg column is kind of like that, but in finance. Give it a shot!
Same logic applies to schools. It’s common to talk about “failing schools” and, of course, we want all schools to do well. But if we judge schools by ranking them, there will always be schools ranked on the bottom, hence there will always be “failing schools.”
While I think there’s room for debating how to be most responsible in a panic, I appreciate that VCs have a reasonable defense for urging port cos to flee SVB last week. Although I also think there’s a reasonable position that VCs should have stayed calm, because that’s the best way to stop a panic.
The hosts acknowledge that VCs (including me!) could have done a better job encouraging portfolio companies to diversify their corporate treasury. What they don’t realize is that had VCs been proactive about encouraging portfolio companies to park more of their capital in FDIC-insured accounts across multiple banks, the motivation for panicking about SVB would have been significantly deflated.