"Trust Me"

The Banks' Duties

The lending model these banks use is basically the same--they loan money to firms that have already received funding from accredited angels, venture capitalists or both. "We lend to selected start-ups that have quality management and solid support on an ongoing basis from their venture capital investors," explains Don Allen, chairman of Cupertino National Bank in Cupertino, California.

"We depend quite a bit on venture capitalists' due diligence. They have the expertise and resources to do the technical due diligence," adds Sam Bhaumik, a senior vice president in the emerging technology group of Imperial Bank in Menlo Park, California.

But the frenzy of dot.com funding has caused Imperial to step back and conduct an additional "sanity check" of the business models, says Bhaumik, whose bank typically loans $500,000 to $10 million.

In addition to relying on investors' research as well as their own, these banks often take a lien on the firm's intellectual property and any equipment purchased. In the case of Cupertino National Bank, they also limit their lending to no more than 10 percent of the original equity investment. All lending is short-term.

The advantages of banks lending to pre-IPO tech firms are obvious, but why should an entrepreneur go to a bank if he or she already has investor backing?

"Most of the companies that come to us are looking for equipment financing to help fund the purchase of computers, for leasehold improvements and for bridge loans," says Bhaumik. Typically, these companies raise a fairly large round of first financing, which normally lasts for 12 months, explains Bhaumik, and when they get down to the last few months, they'll use the bank loans to give them a cushion while they search for additional venture backing.

While this formula seems simple enough that any bank could do it, according to Allen, it takes a tremendous amount of coordination with banking regulators, development of a bigger appetite for risk, and the building of relationships with credible venture capitalists and angel investors. "Most banks are uncomfortable with lack of profitability," adds Kellogg. "The difference here is that the companies are unprofitable but backed by pretty sophisticated or substantial investors who can continue to raise money for the company in the future." In addition, the bankers like the added expertise and business connections private and institutional investors usually bring to young companies.

"I don't think other banks are missing the boat. It's just a strategy of ours to focus on technology start-ups. And the strategy of other big banks is to focus on other businesses," adds Kellogg, who stresses that high-tech companies are a tiny segment of the small-business marketplace. Who knows? Try it and you might just get lucky.

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This article was originally published in the May 2000 print edition of Entrepreneur with the headline: "Trust Me".

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