Investment Banking Overview

Investment banking seems like a scary topic. What does it mean? How is it different than just regular banking? The answer is an investment bank helps companies raise capital or advises them on buying or selling a company v.s. a regular bank or commercial bank, holds money in the form of deposits and lends money at a specified rate. So in reality, the two are quite different.

Capital Raising: Capital raising involves helping a company raise capital in order to fund daily expenses, called working capital, or to use expand the company, called capital expenditures, or capex for short. A company typically has three main choices when it comes to raising money. They can 1) borrow money from a bank 2) raise debt in the capital markets 3) raise equity in the capital markets.

When a company borrows money from a bank, the transaction is similar to when a person borrows money from a bank. An interest rate is agreed upon and the terms are set, and the company gets the money. Raising money from the capital markets is a bit different. Raising debt or equity involves selling the securities to outside investors. This can often be a lengthy process and involve a sales tour around the country called a “road show.” The interest paid is also determined by “the market,” which means the highest rate the market is willing to pay.

Advisory Services: Advising a company to buy or sell itself, or another company is very difficult, and often involves a hefty fee. How much should you pay? How should the transaction be structured? How will the transaction be financed? These are all questions that need to be answered and investment bankers are there to help lend their guidance. Fees are usually tied to the transaction value, so the bigger the deal, the more money the bankers get paid.

Research: Most banks have a research arm that helps support the other two main services. The research analysts study the companies the bank does business with, and helps guide investors in making an informed decision to buy or sell the underlying security. Research is generally a cost center, but provides a vital function in aiding the sale of underlying securities.

Other functions include sales and trading, restructuring and venture capital, but those are usually much smaller pieces of business. Boutique banks can specialize in one or more of these non-core services.

So while investment banking may seem scary, it really is not that difficult to understand.

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