Dealing with the effects of continuing inflation and a likely recession is daunting for all financial institutions, but the stress is even greater for a de novo bank that is not yet profitable. One of them, Grasshopper Bank, a digital-only business bank, has several strategies to cope with these twin threats, according to CEO Mike Butler.
“We’re going to have to live with a slowdown in the economy,” as Federal Reserve efforts to tame inflation bite, says Butler, President and CEO. However, he thinks that both consumers and businesses are better prepared for a downturn than they were for the 2008 recession. He’s confident that preparation will help shorten the recession.
At Grasshopper, Butler thinks diversification, even for a tech-oriented institution, will help ensure not only survival but the growth necessary to show steady monthly profits by the end of 2023, which is within the five-year window typically expected of de novo banks.
The young institution, opened in 2019, has been undergoing a makeover since Butler arrived in May 2021 after engineering the sale of Radius Bank to Lending Club. Butler believes strongly in diversification and has added new elements to Grasshopper’s product lineup. The bank had assets of $606.8 million as of the third quarter of 2022.
“We’re kind of the ‘25% people’ here,” says Butler, a veteran banker. By that he means that he doesn’t intend for any lending area to become more than 25% of his asset mix.
“This way I keep a diversified portfolio and maintain the levers that give me choices during different parts of the economic cycle,” says Butler.
Where possible, he also looks for opportunities to insulate the risks of each activity.
Specialized banks run the risk of putting too many chips on one asset type, ag banking being a classic case. Elements of Grasshopper’s plan illustrate how institutions dependent on the technology sector can ride out both the combination of inflation and recession as well as the turmoil in fintech.
Lending One Step Removed from Fintech’s Risk
Under its initial leadership team, Grasshopper focused on the goal of becoming the community bank for New York City digital entrepreneurs, from tiny players to larger startups seeking their first rounds of investor funding from venture capitalists. (The bank’s name is a play on the name of Grace Hopper, a Navy rear admiral and computer pioneer.) Grasshopper began with an office in the heart of New York’s “Silicon Alley,” the idea being to be an eclectic tech community bank.
Butler has refined tech lending to focus more on the venture capital community that serves fintech companies. In addition, that lending is just one line for the bank now, rather than being the centerpiece of its lending.
“We’ve expanded the bank’s scope fairly dramatically to multiple lines of business,” says Butler. This includes commercial real estate lending and a major foray into Small Business Administration loans.
A Safer Way to Lend to Fintechs?:
About 20% of Grasshopper Bank's lending goes to venture capital and private equity companies. This provides some insulation from the ups and downs of individual fintech firms.
Butler acknowledges the pullback in investor funding of fintechs, but that hasn’t altered the appeal of the market. “We don’t feel like there’s going to be a complete stop,” he says. So there are still opportunities for venture firms to invest in companies with potential.
Butler wants to develop deeper relationships with the investment firms Grasshopper works with and to serve those companies with credit and other banking services with consistency. Rather than falling into any broad “no more venture lending” position, he says, Grasshopper prefers to evaluate developments in the market and see where the bank fits best.
“I think there will still be plenty of business for a bank our size in this area,” says Butler. But it will be with the insulation of lending to the investors and not the fintechs themselves, and holding to the 25% limit discussed earlier. Examples of the types of credit Grasshopper provides include term loans for general partners and working capital lines of credit for management companies.
The bank can build on the lending relationships by adding treasury management and other banking services as part of an overall package for venture and private equity firms.
“This will allow them to be more efficient and effective,” says Butler, “and that will be really helpful to them during these more difficult times.”
The bank still maintains a strong focus on providing banking services to startup firms through its app-based Innovator Checking Account. These fledgling commercial depositors receive unlimited cash back on their debit card purchases and interest on business balances.
Read More: Banks Should Scavenge Troubled Fintechs’ Talent and Technology
Using SBA Lending to Build Business While Laying Off Risk
SBA credit was one of the key legs for Radius Bank. That bank was an all-digital deposit generation machine that spread the money back out in multiple niches. Butler has adopted similar strategy at Grasshopper.
The SBA program is run by Stephanie Dunn, President of Grasshopper’s small business operation, whose long career in this specialty includes several years at Live Oak Bank, ranked as top SBA lender in the U.S. in government fiscal 2022. Butler sees SBA credit, chiefly via its mainstream 7(a) small business loans, as a major growth area for the bank in 2023. The operation, started in late 2021, achieved Preferred Lender Program delegated authority less than a year later. This status enables the bank to provide faster processing and closings.
Butler says roughly 25% of Grasshopper’s loan production will be through SBA programs, but that this will effectively come out to between 5% and 10% because the bank routinely sells 75% of SBA credits into the secondary market for these loans.
“It’s a great balance sheet tool,” says Butler.
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Grasshopper’s Banking as a Service Deposit Engine
As a branchless bank with a strong business emphasis, Grasshopper doesn’t have a retail base to draw on for deposit building. Butler and members of his Grasshopper team have experience from Radius Bank days in BaaS banking. In January 2022 Grasshopper launched a banking as a service business that has so far signed up three fintech companies. The three relationships account for over $300 million in deposits.
Of the three deals, only one has been made public thus far, a July 2022 Baas arrangement with Treasure Financial. The fintech offers automated cash management solutions to businesses. It relies on Grasshopper to provide an interest-earning deposit alternative for clients.
The movement of deposits towards fintechs keeps going and those relationships then reside in the fintech industry, according to Butler. He says BaaS is a good way for a bank to recapture those balances.
At this point the balances, and small amount of fee income, represent the bank’s gain. Lending as a service is not of interest to Butler. There are companies that do “LaaS” well, but he doesn’t see it for Grasshopper.
“I feel like it’s complicated and right now the evolution of digitization is more disruptive on the deposits side than on the loan side,” says Butler. “I want to get us on the forefront of the deposit side.”
Part of that process has been learning how to use BaaS deposits from each partner. Butler explains that each program has differing volatility in its deposits, so the dollars coming from each have to be deployed differently. Deposits of shorter-term duration must be matched with shorter-term opportunities. At present Butler says the bank is a net seller of deposits.
“With liquidity tightening up, we’re feeling very good about being net sellers,” says Butler. “Being a bank that uses technology to generate deposits versus relying on bricks and mortar is an advantage for us at this point.”
Butler anticipates building the BaaS portfolio to about a dozen relationships, and plans to cap it at an appropriate point. Again, he doesn’t want to put too many chips on any single activity on either side of the balance sheet.
Read More: What the Federal Crackdown on Bank+Fintech ‘BaaS’ Partnerships Means
How ‘Work from Away’ Helps Grasshopper Recruit and Retain
The battle for qualified people is yet another economic hurdle for banking companies today. If unemployment increases as recession hits, some pundits will declare the war for talent to be over, says Butler. He thinks that’s nonsense.
“Talented, high-performing people will still be hard to come by and they need to have an environment that’s adaptive to the individual,” says Butler. “We need to accept that the world of traditional 9-to-5 is over.” As CEO of an all-digital institution he sees no reason to be bound by geography and subject to the tyranny of commuting for hours to no real purpose.
He says that Grasshopper has increasingly left the choice of where to work to the employee. Butler’s personal base is in Boston and he is often in motion, calling from WeWork locations wherever he happens to be.
Butler believes ultimate flexibility is key to attracting the best. “If you like to work in an office setting, we’ll provide an office setting,” says Butler. “If you like to work from away we’ll let you work from away. If you prefer a hybrid environment, you can have a hybrid environment.”
The managers of each section decide how and how often to get their teams together in person. Butler believes that’s more appropriate than mandating the same approach companywide.