Investment banking is a form of finance in which the investment bank, also referred to as an investment house, raises capital for its clients by underwriting (or in some cases originating) and selling securities or financial products on behalf of clients. It includes advising on mergers, acquisitions, and restructuring companies, underwriting bonds or equity offerings, as well as distributing shares of newly-issued stocks.
The most common type of securities is debt obligations issued by corporations and governments such as corporate bonds or government bonds. Since the 1980s the industry has experienced dramatic changes with globalization and consolidation reducing barriers to entry. (JPMorgan Chase, Citigroup, and Bank of America) now have combined total assets of nearly $8 trillion, larger than the GDP of India and Spain combined. Since then investment banking along with asset management has been one of the fastest-growing and highest profit centers for banks in North America and Western Europe.
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The term “investment banking” encompasses a wide range of financial activities, but commonly refers to three main areas:
The firm raises capital from investors or buyers and creates contracts called “underwriting agreements” with the issuer. Underwriting can occur in some different ways but commonly occurs when securities are sold to an institutional investor such as a pension fund, hedge fund, or sovereign wealth fund. The investors give the firm money and in exchange, the firm buys the securities from the issuer and afterward sells them to the investor at a later time. In some cases, it is not the direct delivery of securities to investors but simply acting as financial advisor to special purpose vehicles (SPV) set up by governments for various reasons.
Underwriting is also sometimes referred to as “securities issuance”; this is a somewhat narrower definition of investment banking. Investment banks are prohibited by their regulation from offering advisory services to their clients on capital raising and may only advise on mergers and acquisitions (M&A) once they have purchased securities in the capital market. If a company is planning to issue equity or bonds, the bank’s analysts will offer their opinion as to its value. The banks’ role is limited to “book-running” and sometimes a co-manager role (sometimes called selling group participation). The book-running managers are responsible for the proper allocation of shares to investors and will act as a counterparty on trades.
The following activities are often included in specialized investment banking divisions:
Unlisted public offerings: Many companies, such as hedge funds, private equity firms, and financial institutions, choose not to list on exchanges but instead seek funding through private investments. In this case, investment banks provide the firms with a research report, which is sold in conjunction with the new issue. Unlisted offerings may be direct placements or private placements.
Direct placement: If a company wishes to sell new equity directly and does not require selling group participation to raise capital, then investment banks often act as sales agents for the company. Direct placements are often used by small-capitalization companies such as early-stage technology firms, Internet-based businesses, and start-up companies that would not otherwise find investors. By selling directly to investors, these companies save on their costs because they do not have to employ an underwriter.
Secondary market issuance: A company may seek to sell a block of equity held by existing shareholders on a public exchange or another public market. Secondary offerings are often made by firms to raise new capital. These shares are often offered in connection with debt offerings, to reduce the average cost of the debt and make it more attractive to investors. The shares issued in a secondary offering may be publicly traded, although this is not required. They may also be sold for cash, for other securities, or other assets of the firm, such as inventory.
Initial public offering (IPO): A company must register its securities before it can sell them on an exchange or directly to investors outside of an IPO. This process is referred to as underwriting, and the securities issued in an IPO are said to be “underwritten.” The underwriters provide capital for the firm, compensate the issuer for each security, and sell and distribute a portion of these securities as part of an overall public offering. Many investment banks specialize in investment banking activities for initial public offerings. This can include seeking out investors on behalf of the company issuing stock (primary distribution) or assisting existing shareholders to liquidate their holdings (secondary distribution).
Barclays PLC (London): Barclays Capital provides research and investment banking services, including primary distribution of equity, debt, and derivative products in Europe, Asia, and the Americas. It is a subsidiary of Barclays PLC (London). The firm has invested in several firms including Affleck Media Group (Ireland), AIM Financial Services Group (Ireland), Aeris Capital Holdings Limited (Hong Kong), and GEC Altran plc (United Kingdom).
Citigroup Inc (New York City): Citigroup Inc is a financial services holding company. Its subsidiaries, which are engaged in banking, include Citibank, N.A. The company offers deposit and credit products to businesses and individuals; and loans to individuals primarily through its consumer finance group, as well as its auto lending business. It also offers capital markets services to corporate, governmental, institutional, and individual clients.
Coutts & Co (London): Coutts is a banking group that includes leading private banks in London and the Channel Islands, with offices around the world including New York City, Geneva, Zurich, and Singapore. Coutts & Co makes investment banking, corporate finance, liquidity management, restructuring, and life sciences services available to British companies and institutions. Examples include financial restructuring on a global basis for SMEs and medium-sized corporations; investment in start-up companies through pre-IPO equity or senior debt financing; corporate finance in London and New York; acquisitions, divestitures, joint ventures, and capital raising.
Credit Suisse First Boston (New York City): Credit Suisse First Boston Inc provides research services to institutions, companies, and governments. In addition, Credit Suisse First Boston provides investment banking and corporate finance services to clients including equity capital markets; debt capital markets; mergers and acquisitions; equity joint ventures; mezzanine financing; and global private equity sales. The firm has numerous affiliates around the globe including New York City was established in 1984.
HSBC (London): HSBC Holdings plc is a global wealth management business with approximately 180 offices in over 70 markets. The world’s largest bank by market value, it has operations in over 100 countries and territories.