Investing banking division is a specialized segment in the banking and finance industry that primarily focuses on raising funds for companies by connecting them with investors.
The investment banking field has shown exponential growth in the last few decades as we progress towards a more globalized world where funds can be free transferred between economies of different nations. The role of investment bankers is also very crucial as a lot depends on the performance of investment banks.
So what do investment bankers really do? The role of an investment banker is very dynamic and encompasses a range of activities such as helping clients to raise money, analyzing the market, networking with prospects, financial analysis, financial advisory, etc.
Let’s understand this more contextually by analyzing the functions of investment banks and how they add value to the economy’s growth prospects.
Investment banks as underwriters
Investment banks provide underwriting services to companies who are about to go public with their Initial Public Offer. Underwriting can be explained as a process in which an individual or institution takes a certain financial risk for a premium or fee. The risk element might include loans, insurance or investments. Now, before taking such risk the modern-day investment banks conduct thorough research to find out the degree of risk associated with a particular deal.
This extensive research will help to set an optimum premium amount on the financial transactions. In case of investment banks working as underwriters, they are required to raise the capital amount for their clients from investors by issuing either debt or equity securities. There are three types of underwriting commitments provided by investment banks to their client these includes firm commitment, best efforts, all or none. Let’s explore this in details.
• Firm Commitment
In case of a firm commitment underwriting service, the underwriter has the full responsibility to buy the entire stock issue at a fixed price decided in advance based on the research. Even if the underwriter fails to sell the entire issue they have a legal obligation to accept the deal.
• Best Efforts
In case of best efforts, the underwriter commits to sell as much of the issue as he can but without any legal financial obligation. This means that if the stock issued is not fully subscribed by the public then the investment bank will not have a legal obligation to pay for the unsubscribed shares to its client.
• All or None
This is a very special case of underwriting where the deal stands canceled if all the stocks issued are not sold out. If the stocks are not sold to the buyers are the predetermined price then the underwriter will not receive any form of compensation for their services.
Mergers & Acquisition services
Investment bankers play a significant role in facilitating mergers and acquisition deals between two or more companies. The investment bankers play a crucial role by determining the fair price or value of companies involved in the M&A deals. This requires conducting extensive research, studying the industry and competitors, identifying the financial position of the company, and a lot more.
A strategic plan is needed by organizations who want to acquire or merge with companies in the same domain. This is where investment banks come into the picture and add value by leveraging their network and professional expertise to find out potential target companies.
In addition to this, the investment bankers also guide their clients involved in the deal on how to finance the M&A deals. They study and design a suitable capital structure for their clients and also guide on financing methods to maximize profitability without diluting ownership.