Why Five Star Bank Uses the SBIC Program

Since first opening its doors in 1999, Five Star Bank has been a financial leader in the greater Sacramento area, working with real estate investors, farming families, small business owners, high-net-worth individuals, family offices, nonprofits, trade associations, and others to meet an array of banking needs. Today, Five Star is a publicly traded company with a market capitalization of $470 million, $3 billion in assets, and $2.75 billion in deposits, and serves customers across Northern California.

We recently spoke to Five Star’s President and CEO, James Beckwith, to learn about why he’s allocating a portion of the bank’s investment portfolio to SBIC funds.

How would you describe Five Star’s investment strategy and is it typical for banks your size?

Our strategy isn’t very typical. Most of our earning assets are in loans, while our portfolio of investment securities is relatively small. We usually have a high loan to deposit ratio of anywhere from between 85 and 100 percent. By contrast, other banks our size are typically less lent up and rely more on their investments. That said, we think we have a good strategy given that our credit quality is strong and our loans are well collateralized. Plus, it allows us to maximize our impact on our community while also ensuring that we optimize our profitability.

Within our investment securities portfolio, we have investments in bonds, mortgage-backed securities, munis, and other debt instruments. We also have equity investments through SBIC funds, which represent a small percentage of our total portfolio.

Why do you invest in SBIC funds?

For a number of reasons. First, I want to make money on the investment and there’s a very good chance of earning a better return investing in venture capital than I can get elsewhere. Beyond that, there are also opportunities that can come out of those investments, such as being able to bank the venture fund’s portfolio companies. We’ve done very well banking high-growth venture-backed companies that have come to us through our SBIC investments.

There’s another important angle of course, which is supporting the community. Venture funds help stand up high-growth companies, often in our local communities. So investing in the SBIC program is effectively an economic development strategy that we can use to help create wealth within our region, which is something that has always been important to us.  

How do you see venture capital fitting into a community bank’s overall investment strategy given that there is a higher level of risk?

There’s definitely a place for it, provided that you’re partnering with the right VC management teams under an SBIC organizational structure. Knowing that you’re working with an SBA licensee provides an added layer of accountability and comfort that you wouldn’t get investing in other VCs. Plus, if you tried to invest in other venture funds that weren’t licensed, you’d be much more limited in terms of the size of your allocation.

When you factor that in along with the CRA credits you get for it, the potential to help develop your local communities, and the fact that if you do it well, you’ll get some great returns, it’s a pretty compelling value proposition.

How have community banks’ strategies changed at a time of massive consolidation and when online and neo-banks are on the rise? What role, if any, does SBIC investing have to play?

There’s definitely been a lot of consolidation and the truth is that in this industry only the fittest survive. As the number of banks decline, those that remain get bigger. Twenty years ago, the average community bank in California had $250 million in assets versus upwards of $1 billion today.

As banks mature and become more sophisticated, we’re becoming increasingly interested in fintech so that we don’t get outflanked by new market entrants like online and neo-banks. Many of the startups that venture capital funds invest in are fintechs that are either helping to solve issues that we can’t solve on our own or that are creating new markets that we aren’t able to. Investing in venture capital funds often allows us to get connected to those fintechs, which is obviously in our best interest.  

Did you face any hurdles presenting this strategy to your investment committee and, if so, how did you overcome them?

There was a fair amount of hesitation initially because people just weren’t comfortable with it. But we kept talking about it with them in a thoughtful way and backed up what we’re saying with facts. Eventually, they came around and were supportive of the idea. If you haven’t done it before, it’s a process getting everyone on board. But it’s certainly not insurmountable, particularly given how many other banks have already done it to such great success.

I’d honestly encourage every community bank to look into SBIC investing and to participate at a level that’s acceptable to them from a risk-return perspective.

Thanks for your insights, James, we appreciate it.

To learn more about SBIC investing, check out our resource page.

Read these next