CHAPTER 6

INVESTMENT
BANKING FIRMS

LEARNING OUTCOMES
the nature of the investment banking business
the revenue-generating activities of investment banks
the activities of investment banking firms that require them to commit their own capital
the role investment bankers play in the underwriting of securities
the different types of underwriting arrangements
the difference between riskless arbitrage and risk arbitrage
the various roles investment bankers play in mergers and acquisitions
what is meant by merchant banking
why investment banking firms create and trade risk control instruments

INVESTMENT BANKING FIRMS

distribute newly issued securities and are
involved in the secondary market as market
makers and brokers

2 GENERAL FUNCTIONS OF IBF

IN CAPITAL MARKETS
1. Assist in obtaining funds
for corporations, government agencies, state and
local governments that need funds

2. Act as brokers or dealers in the buying and

selling of securities
for investors who wish to invest funds

TWO CATEGORIES OF INVESTMENT

BANKING FIRMS

1.Bank-affiliated Investment Banks

affiliated with large financial services
holding companies

2.Independent Investment Banks

independent of a large financial services
holding company

TWO CLASSIFICATIONS BASED ON THE

INVESTMENT BANKING ACTIVITIES

1.Full-service Investment Banks

involved in the wide range of activities

2.Boutique Investment Banks

specialize in limited areas of investment
banking

SERVICES PERFORMED BY
INVESTMENT BANKING FIRMS
(revenue-generating activities)
Public offering
(underwriting) of securities
Trading of securities
Private placement of
securities
Securitization of assets
Mergers and acquisitions
Merchant banking

Financial restructuring
advising
Securities finance
Prime brokerage
Trading and creation of
derivative instrument
Asset management

PUBLIC OFFERING (UNDERWRITING)

OF SECURITIES
the traditional role associated with
investment banking

TERMINOLOGIES:
Underwriting
the function of buying the securities from the issuer

Underwriter
when an investment banking firm buys the securities from the issuer and accepts
the risks of selling the securities to investors at a lower price

Firm Commitment
an underwriting arrangement which the investment banking firms agrees to buy the
securities from the issuer at a set price

Best-efforts Underwriting
the investment banking firm agrees only to use its expertise to sell the
securities and doesnt buy the entire issue from the issuer

Gross Spread (Underwriter Discount)

the difference between the price paid to the issuer and the price at
which the investment bank offers the security to the public
2 Important Factors
1. Size of the offering
2. Type of security

Initial Public Offering (IPO)

common stock offering issued by companies that had not previously
issued common stock to the public

Secondary Common Stock Offering

an offering of common stock that had been issued in the past by
the corporation

Underwriting Syndicate
group of firms that underwrites the issue

Concession Price
price less than the reoffering price

Privatization
process in which investment bankers also may assist in offering the
securities of government-owned companies to private investors

THREE FUNCTIONS OF
INVESTMENT BANKERS
1. Advising the issuer on the terms and the timing of the
offering
2. Buying the securities from the issuer
3. Distributing the issue to the public

TRADING OF SECURITIES
Revenue from this activity is generated through:
1. the difference between the price at which the investment
banking firm sells the security and the price paid for the
securities (called the bid-ask spread)
2. appreciation of the price of the securities held in
inventory

TWO TYPES OF ARBITRAGE

TRANSACTIONS
1. Riskless Arbitrage
calls for a trader to find a security or package of securities trading
at different prices

2. Risk Arbitrage
trading strategies that are unfortunately labeled

PRIVATE PLACEMENT OF
SECURITIES
the sale of securities directly to an
institutional investor such as insurance
companies, investment companies and
pension funds

SECURITIZATION OF ASSETS
refers to the issuance of securities using a pool of
assets as collateral

Asset-backed Securities
securities backed by a pool of loans or receivables

MERGERS AND ACQUISITIONS

Under Merger and Acquisitions (M&A) activity
are:
Leveraged buyouts (LBOs)
Restructuring and recapitalization of companies
Reorganization of bankrupt and troubled companies

SEVERAL WAYS INVESTMENT

BANKERS MAY PARTICIPATE IN M&A
1. finding M&A candidates
2. advising acquiring companies or target companies
with respect to price and nonprice terms of an
exchange, or helping target companies fend off an
unfriendly takeover attempt
3. assisting acquiring companies in obtaining the
necessary funds to finance a purchase

3 TYPES OF FEE STRUCTURE

1. the percentage can decline, the higher the selling
price
2. the percentage can be the same regardless of the
selling price
3. the percentage can be fixed with addition of an
incentive fee if the price is better than a specified
amount

MERCHANT BANKING
an activity in which, when an investment
banking firm commits its own funds by
either taking an equity interest or creditor
position in companies

FINANCIAL RESTRUCTURING
ADVISING
involves a significant modification of a
corporations capital structure, operating
structure, and/or corporate strategy with the
objective of improving efficiency

Financial restructuring may occur in order to:

1. Avoid a bankruptcy or problem with creditors
2. Reorganize the firm

SECURITIES FINANCE
the financing of positions in securities and
the borrowing of securities fall into a little
known

2 Activities Involve in Securities Finance

1. Securities Lending
service of putting together borrowers and lenders of
securities

2. Repurchase Agreements
is the sale of a security with a commitment by the seller
to buy the same security back from the purchaser at a
specified price at a designated future date

PRIME BROKERAGE
is a package of services to hedge fund and large
institutional investor
is a fee-driven service except in the case of
securities finance where interest income is
earned

TRADING AND CREATION OF

DERIVATIVE INSTRUMENTS
Derivative Instruments:
Futures
Options
Swaps
Caps
Floors

Derivative Instruments can be used

1. To control the risk of an investors portfolio, or, in
the case of an issuer, the risk associated with the
issuance of a security
2. Allow an investment banking firm to realize revenue
in several ways
3. Acts as a counterparty to the agreement
4. To protect an investment banks own position in
transactions

ASSET MANAGEMENT
the management of an investors
investment by a financial services company
or financial institutions

PREPARED AND REPORTED BY:

Angeles, Marivic F.
Cristobal, Jayson C.
Del Remedios, Maricor N.
Glariana, Maricel P.
BSBA FM IV-A