An investment bank is an intermediary organization that provides fee-based services. It uses its expertise and financial knowledge for the growth in business or investment opportunities of companies, institutions, and governments.
The following functions are performed by investment banking:
- It links companies that need money to grow with other companies, institutions, or investors through loans, stocks, bonds, or hybrid financing arrangements.
- Investment banking provides corporate-finance advice through financial expertise.
- It associates investors with the financial markets of the world.
The investment banking firms offer fee-based services, such as corporate advisory, IPO management, underwriting, brokerage services, and research. In comparison with the commercial banks, investment banks offer a difference in their services to the clients.
The commercial banking firms are more oriented toward providing fund-based services, such as loan syndication, transaction financing, cash management, and other services.
The activities of investment banking are classified into three categories, namely:
- Strategic advisory
- Securities underwriting
- Structured finance
- Loan syndication.
Mergers and acquisitions, restructuring, and securitized products are the services offered under strategic advisory.
Mergers and acquisitions are the advisory services toward clients on a wide range of strategic transactions.
Restructuring provides guidance to the firm by recommending the sale of assets and issuing special securities.
Securitized products involve securitization, the process of converting all the assets into smaller tradable securities through appropriate structuring.
Mergers: They occur when two firms of similar size agree to operate as a new single company rather than operating as two separate companies.
The examples representing mergers are displayed here.
Acquisitions: A company adopts another company and becomes the new owner. The purchase involved during the adoption of a company is termed acquisition. According to a legal point, the target company ceases to exist.
The examples representing acquisitions are displayed here.
A merger occurs by the consent of both parties, whereas an acquisition occurs in a hostile method.
The process of mergers and acquisitions is not straightforward. It requires a lot of planning, negotiation, and execution skills.
During mergers and acquisitions, first maintain relationship with clients and monitor the possibility of M&A activities within an existing client organization. Then, pitch the deal and negotiate the fee. The next and main step is to advise the client on how to proceed with the entire transaction for its best execution. These details are captured in a pitchbook. Close the deal after the client accepts the pitch of the investment bank, and then the investment bank initiates the actual execution of the transaction. Finally, the execution process takes place, which is most difficult as it involves a lot of negotiations between the buyer and the seller, and complying with regulatory guidelines.
The fee earned by an investment bank is a percentage of the executed deal amount.
Financial and organizational are the two types of restructuring.
Financial restructuring: In this restructuring, bankrupt corresponds to a company, which cannot fulfill its cash obligation.
It involves renegotiating the payment terms on debt obligations, restructuring payables to vendors, and issuing new debt. It also involves compensating the debt by issuing equity and changing the ownership.
Organizational restructuring or reorg: It involves changes in the management, the strategy, and the focus or vision.
The fees earned by an investment bank consist of minimal retainers as well as a percentage of the value of new securities issued.
Securitization is the process of converting the whole assets into smaller tradable securities through appropriate structuring. Investment banks have a securitized product group that acts as an underwriter.
The securitized product group provides innovative structuring and skilled distribution capabilities to the institutional users of commercial mortgage and asset-backed securities. The bank uses the securitization process to convert loans and other financial assets for clients or for the bank itself. The investment bank earns a spread on each security issue.
The examples for securitized products are Mortgage Loans and Credit card receivables.