What Is the Difference Between Investment Banks and Merchant Banks?

Investment banks specialize in initial public offers (IPOs) and major public and private share offerings. Merchant banks typically specialize in small businesses by providing inventive equity financing, bridge financing, mezzanine financing, and a variety of carefully defined corporate credit instruments.

Investment banks and merchant banks are financial institutions that do not serve individuals or small to medium-sized businesses. Investment banks finance trade, whereas merchant banks finance and underwrite foreign transactions.

The Key Takeaways

• Merchant banks provide foreign finance, business loans, and underwriting services.
• Institutional investors, governments, and companies are among the clientele of investment banks.
• Merchant banks serve businesses and high-net-worth individuals.

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Investment Banks

JPMorgan Chase, Goldman Sachs, Morgan Stanley, Citigroup, Bank of America, Credit Suisse, and Deutsche Bank are among the world’s major investment banks.

Investment banks are institutions that function as go-betweens for large and complicated financial transactions. They serve governments, other financial institutions, and institutional clients such as hedge funds, pension funds, and major corporations.

Investment banks raise cash for corporations, governments, and municipalities by registering and issuing debt or equity securities, which are then sold on the open market through initial public offerings (IPOs). Investment banks have traditionally underwritten and sold these securities in huge blocks. Small boutique investment banking businesses may focus on a certain area of expertise, such as mergers and acquisitions (M&A).

Investment banks can be fee-based or fund-based, making money from interest and other leases from their clients. Some of the world’s best-known and largest investment banks are Barclays (BCS), UBS (UBS), and Credit Suisse (CS). Many of these banks also have minor retail and business branches for the general public.

Merchant Banks

Merchant banks are financial companies that provide loans and capital to businesses. They may also offer advisory services or assist their clients with significant multinational transactions. Merchant banks offer distinct services from retail and investment banks.

Merchant banks service both high-net-worth individuals (HNWIs) and multinational enterprises. Their core tasks include international financing and underwriting activities such as overseas corporate investing, foreign real estate investment, trade finance, and international transaction facilitation.

Merchant banks provide letters of credit, move funds worldwide, and advise on deals and trading technologies. They charge fees for advice and other related services to their clients. J.P. Morgan (JPM), Goldman Sachs (GS), and Citigroup (C) are among the leading commercial banks. Many, like investment banks, have commercial and retail operations catering to individual consumers and small to medium-sized businesses.

Investment Banks vs. Merchant Banks

Investment banks specialize in initial public offers (IPOs) and major public and private share offerings. Merchant banks typically specialize in small businesses by providing inventive equity financing, bridge financing, mezzanine financing, and a variety of carefully defined corporate credit instruments.

To bridge the gap between venture capital and a public offering, larger merchant banks privately arrange equity with other financial institutions and acquire significant ownership stakes in companies with excellent balance sheets, sound fundamentals, and high growth potential.

While merchant banks provide trade financing products to their clients, investment banks rarely do so because the majority of investment banking clients no longer require trade financing and related credit products.

Differences Between a Merchant Bank and an Investment Bank

Reviewing the fundamental differences between a merchant bank and an investment bank helps you understand what it’s like to work for these financial institutions, allowing you to better define your career objectives. Before deciding where to submit your applications, you should be aware of the following differences:

• Types of projects and clients

• Fees and funds

• Services

• Career advantages

• Skills

1. Types of projects and clients

Investment banks work mostly with major clientele, such as multinational corporations and governments. They typically work on more sophisticated projects with greater transaction sizes. Merchant banks offer specialized products that even small businesses can employ, such as equity finance.

2. Fees and funds

Banks offer two main types of services: fund-based and fee-based. Fund-based services are circumstances in which a bank offers funds to an organization, either long or short-term. Banks that provide fund-based services, such as loans, make money depending on the client’s ability to repay. Fee-based services enable banks to earn a fixed fee, such as dividends or commissions.

When deciding whether to work for a merchant bank or an investment bank, you should consider if you prefer fee-based or fund-based services. As a merchant bank employee, you are likely to deal with fee-based services. In an investment bank, you may come across both fee-based and fund-based projects.

3. Services

Investment banks and merchant banks offer distinct types of services, with investment banks typically having a more broad service offering due to the scale of the transactions on which they focus.

Here are examples of the services that merchant banks provide:

• International trade finance: worldwide trade finance is a significant service that merchant banks provide, allowing a worldwide organization to acquire or invest in a smaller domestic firm. Merchant banks have the knowledge, resources, and qualified personnel to handle these types of foreign transactions.

• Portfolio management: Portfolio management is a service that allows clients to pay a merchant bank to develop a collection of assets on their behalf, such as stocks, bonds, or cash, to assist them reach their long-term financial goals. Merchant banks may also help clients acquire and sell assets to increase the value of their investments.

• Fundraising: Merchant banks may provide fundraising services to clients across a variety of assets, including warrants and shares. In rare cases, a merchant bank can operate as a venture capitalist, investing in businesses.

• Project finance and loan syndication: The term “project finance” refers to the use of loans, equity, and various guarantees to create a capital-intensive facility. Loan syndication is a circumstance in which a merchant bank and at least one other lender collaborate to fund a loan for a single borrower.

Here are some of the services that investment banks provide:

• Underwriting services: Underwriting is the process of raising funds for a customer, typically in the form of stock or debt instruments, by engaging with investors such as private companies or government organizations. Investment banks offer three sorts of underwriting: loans, securities, and insurance.

• M&A advisory: This service focuses on assisting clients in preparing for and completing the mergers and acquisitions process, which results in the merging of two or more organizations. Investment banks help their clients grow by assisting firms looking to purchase from other organizations.

• Advisory services: Investment banks also provide additional consulting services, which are typically fee-based. This enables banks to provide clients with access to expert information and guidance before making final investment decisions.

• Capital restructuring: Capital restructuring is the process of modifying an organization’s capital structure to increase its profitability. It could be used to adapt to changing commercial or economic conditions. Investment banks may also provide capital restructuring to organizations at risk of insolvency.

• Trading platforms: An investment bank may also offer their clients access to trading platforms. These instruments allow investors to trade stocks, options, hedge funds, and other securities.

• Back-end corporate services: Investment banks also provide back-end corporate services. These include risk management and financial control services, which assist clients in developing and structuring their corporate strategies.

• Research: Many investment banks conduct comprehensive and regular financial research to help them and their clients better comprehend market or economic trends. Investment banks may charge a fee for access to their research results.

4. Career advantages

Working at a merchant bank typically exposes you to working with small and medium-sized businesses. Entry-level work with these banks can offer competitive pay and appealing benefit packages. Departments at merchant banks are often smaller than those at investment firms, so you may advance to a senior position faster and begin learning about closing large transactions and making fund decisions.

Working for an investment bank may open up prospects for some of the highest-paying entry-level roles in the finance business. Starting an investment career may also provide you with more appealing progression prospects in areas such as corporate investing and financial research. After two or three years of service, investment banks may give their workers long-term positions as well as career development assistance. As part of this, businesses may provide opportunities for employees to improve their negotiation skills.

5. Skills

Investment bankers and merchant bankers work with a variety of clientele, each with unique needs and expectations. To ensure that they can deliver quality services to their clients, bankers may invest in acquiring a solid skill set and learning about issues such as mergers and acquisitions or lease financing. Knowing what skills you’re likely to employ in each of these jobs will help you thrive in investment or merchant banking.

Here are some important practical skills for investment bankers:

• Knowledge of the M&A process: Investment bankers may come up with the M&A process frequently in their employment because it includes the consolidation of many organizations. Having a thorough understanding of all of the processes in the M&A process will help you develop a strong investment financial skill set.

• Leveraged buyout (LBO): An LBO is a concept that pertains to the M&A process, describing a circumstance in which a company borrows money to cover the costs of an acquisition. Developing LBO abilities enhances your capacity to assist commercial clients in investment banking.

• Financial modeling: In financial modeling, bankers summarize an organization’s expenses and earnings. This technique enables them to tailor their suggestions and provide more valuable and accurate investment advice to clients.

Merchant bankers may want to gain the following skills:

• Lease financing: Lease financing is a medium- or long-term financing approach in which the owner of an asset grants a license to another organization to utilize it. Familiarizing yourself with these contracts and their components may allow you to impress recruiters with your understanding of merchant banking services.

• Financial strategies: Merchant bankers advise clients, such as small businesses, on financing methods. To accomplish this, they must first grasp how to raise funds through stock or bond issuances.

• Knowledge of promotion: Merchant bankers may work as business promoters, assisting customers with technological or political ventures. Learning more about ideas such as permit collecting and innovation can help you prepare for this career.

Do Investment Banks Provide Consulting Services?

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