"Trust Me"

. . . isn't enough for most banks when it comes to lending to high-tech start-ups. How to cozy up to bankers and get the financing you need
Magazine Contributor
7 min read

This story appears in the May 2000 issue of . Subscribe »

In spite of all the announcements that splashy start-ups and young technology firms are grabbing megabuck investments, money to launch an Internet business isn't exactly dropping out of the sky. This is particularly true for women and minorities, who together get less than 4 percent of venture capital even though collectively, they're opening small businesses much faster than other groups.

So what options are out there for entrepreneurs who fall outside the radar screen of venture capitalists and angels? Can they go to banks? Maybe.

An informal Business Start-Ups survey of some of the nation's largest or most notable banks found that most do not lend to Internet start-ups and have no intention of doing so in the future. There is, however, a handful of banks that have taken on this volatile business segment, and they're doing so with a lending model that's definitely outside the banking norm.

The veteran in this banking subset is Silicon Valley Bank. Founded in 1983 in the heart of California's technology hotbed, this midsized bank was created to provide bridge funding to venture-backed high-tech and life science companies. Today, that one location has grown into 22 branches in the nation's technology regions and $4.1 billion in assets.

"We get involved in the first round of financing, and we can lend as little as $25,000 all the way to hundreds of thousands," says Harry Kellogg, vice chairman and head of strategic initiatives at Silicon Valley Bank in Santa Clara, California.

The other players in this category are:

  • Cupertino National Bank, a 15-year-old institution with $1 billion in assets and six locations on California's San Francisco peninsula. They've been lending to tech firms for five years.
  • Imperial Bank, a $6 billion Los Angeles-area bank whose Emerging Growth Division has offices in nine of the nation's technology corridors. They've been involved in high-tech lending for six years.
  • FleetBoston Capital Corp., a $185 billion institution that offers lines of credit, term loans, acquisition financing and bridge loans to computer programming and software companies, biotech firms, and computer hardware manufacturers.
  • PNC Bank, through its Venture-Bank, describes itself as a cross between a venture firm and a commercial bank. Working from four offices, PNC provides entrepreneurs nationwide with working-capital lines of credit, bridge loans, equipment financing and more. Early-stage firms must be investor-backed, and bridge loans are typically three to six months in duration.

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.

Lending Problems

What's Next?

But what happens when tech firms become the mainstream? That's the question of the hour, admits Harry Kellogg of Silicon Valley Bank in Santa Clara, California, who hopes his bank's lead time in the market will give them a strong leadership role should the big boys decide to move in.

And what about lending to non-venture-backed companies? That just doesn't seem to be in the cards, experts say. One of the main reasons for this goes back to the very nature of banking as a highly regulated industry, under even more scrutiny since the savings and loan bail-out in the 1980s. Another consideration is that some bankers don't have the expertise to evaluate the long-term profit potential of high-risk businesses.

So, if you plan to start or have already launched a high-tech company, your best bet for financing remains yourself, your friends and your family. Probably the most bankers will be able to do is refer you to a venture capitalist or an angel. But if you're clever enough to grab the attention and money of private investors, then cracking open bank vaults could be just a matter of time.

A Success Story

In The Driver's Seat

Getting venture capital to jump-start his tech company was no big deal, says Rajiv Enand, CEO and co-founder of ServiceWare Inc. "They were calling us because we had done a good job of marketing our company," explains Enand, whose Oakmount, Pennsylvania, firm helps organizations create and maintain knowledge bases for customer service purposes. "Venture capitalists thrive on finding small companies in a hot space, and we got our name out by attending trade shows and getting our name in print."

Getting a bank loan, on the other hand, was a totally different story. "We went to PNC, and they politely laughed at our balance sheet," says Enand of the company's 1995, 1996 and 1997 treks to the bank for funding. "At the time, they didn't lend to high-tech companies. We had no real tangible net worth--nothing they could secure against assets; it was all intellectual property."

Two years and $1.5 million in venture capital later, the tide had changed. PNC, sprouting a new technology division, came looking for ServiceWare.

"We needed about $15 million, and if we had gotten $15 million in equity capital, it would have cost a large percentage of the company," says Enand. "Instead, we took $9 million in equity and got debt financing from PNC for the rest."

The difference this time? Venture backing. Enand says they actually had a choice between PNC and two leasing companies, Transamerica and Comdisco Ventures. "We got terms from all three and chose the most favorable," Enand says. "They even bid against each other. It's a very competitive market now--a buyer's market."

Enand's observation is true, but only if the buyer has the right backing. Those high-tech start-ups that capture venture capital and angel funding for the long haul can walk into a growing number of banks and expect to walk out with a loan in hand.


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