From The Inside of Investment Banking

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Everything coming into focus? Before you say yes, understand that although the services provided by investment banks are relatively standard, different firms can have significantly different market niches and client bases. It’s especially easy to get confused when you start paging through the corporate brochures, since every firm has a slightly different way of organizing and marketing its activities. So as you’re reading, think in terms of the basic banking functions, and suddenly “capital markets” will reveal itself to be plain old sales and trading. Keep in mind that although most investment banking org charts look complex, there are essentially three major professional divisions to a full-service investment bank: • Investment banking • Sales and trading • Research It’s important to understand which is which, because the specific tasks (as well as the skills and personalities of the people themselves) are very different. You’ll be dinged if you walk into the interview cubicle without some idea of whether you want to structure deals, trade financial products, or do research—and if you pursue and end up getting a job that you’re not really a good fit with, work will make you miserable. To help you avoid either fate, we will now take you on a brief tour of a few of the basic jobs within a typical investment bank. The Industry Corporate Finance The corporate finance group (frequently known as banking or CorpFin) serves the sellers of securities. These may be either Fortune 1000 companies that are looking to raise cash to fund growth or private companies that are looking to go public (i.e., to sell stock on the public markets for the first time). Think of investment bankers as financial consultants to corporations. This is where CEOs and CFOs turn when they’re trying to figure out how to finance their operations, how to structure their balance sheets, or how best to move ahead with plans to sell or acquire a company. (M&A can fall under the CorpFin umbrella, but we’ve written it up separately in this guide.) The activities of the CorpFin department can range from providing pure financial advice to leading a company through its first equity issue (or IPO). As a result, industry or product knowledge is key, and many investment banks divide their corporate finance departments into industry subgroups, such as technology, financial institutions, health care, communications, entertainment, utilities, and insurance, or into product groups like high-yield, private equity, and investment-grade debt. As a whole, the corporate finance group will do any and all of the following: • Underwrite equity offerings (translation: The investment bank buys all of the shares of stock for sale from the corporation or government entity and then sells them on the market to investors.) • Underwrite fixed-income (debt/bond) offerings • Help firms analyze their financial needs • Help firms devise and implement financial strategies (e.g., how to structure their balance sheets, and when and how to proceed with funding initiatives) • Determine valuations for offerings (i.e., what the opening price for the stock should be) The Industry Who Does Well Investment banking jobs like corporate finance require critical, detail-oriented thinking. If you have a knack for using numbers to understand patterns that influence business, you’re going to be valuable to a company. If you can’t crunch and analyze them, this isn’t going to be the right job for you. You should also enjoy and excel at solving problems and be able to think critically about the numbers you’re working with. They also require excellent communication and people skills, both to work on banking teams and to build solid relationships with clients. Lawyers can make as good a fit in this career as MBAs, and experienced candidates with strong experience in a given industry make good candidates for investment banking positions. Undergrad and grad students should try to get an internship—it’s the best way to secure an eventual offer. An advanced degree (an MBA or other degree) is all but required to advance in this career, and some sales ability is necessary to sell banking business to potential clients. Sample Project When a private company’s growth demands larger and larger amounts of cash, management will often turn to an investment bank to develop a financing strategy that’s more economical than, say, the revolving stack of credit cards it’s been using to meet payroll. By selling a portion of its stock to the public in an IPO, a private company can raise a significant amount of capital without increasing its debt burden. An analyst’s or associate’s role in the process begins once the bank has been invited to pitch for the underwriting business. First, you and the rest of the deal team (senior bankers from your group, plus the The Industry appropriate research analyst) will put together a pitch book that includes a preliminary valuation of the company and a description of how the bankers will position the company to make its stock most attractive to investors. If your firm is selected as an underwriter, you and the other analysts and associates staffed on the deal will do most of the legwork to finalize the valuation, prepare and submit the prospectus to the SEC for review, accompany management on the road show, and coordinate with the company’s lawyers and other underwriters during the process. After the market has closed on the day the deal is scheduled to price, the deal team will gather for a conference call with the other underwriters and company management to decide the final price for the offering. The next morning, the stock begins trading (with any luck, up!) and you start making plans for the deal team to gather with the company at a posh restaurant for a celebratory closing dinner. Job Tips This department generally hires a significant number of MBAs and undergraduates to develop financial models, create the offering memorandum (an important document that can run 200 pages), and facilitate the due diligence process. If you are hired into one CorpFin industry group, think of your relationship with that group as dating rather than marriage. Don’t necessarily plan to spend the rest of your 2 or 3 years or career in that group. Market trends are ever changing, and so are the compositions of specific industry groups. Mergers and Acquisitions The mergers and acquisitions group (known as M&A) provides advice to companies that are buying another company or are themselves being acquired. M&A work can seem very glamorous and high profile. At the same time, the work leading up to the headline-grabbing multibillion-dollar acquisition can involve a Herculean effort to crunch all the numbers, perform the necessary The Industry due diligence, and work out the complicated structure of the deal. As one insider puts it, “You have to really like spending time in front of your computer with Excel.” Often, the M&A team will also work with a CorpFin industry group to arrange the appropriate financing for the transaction (usually a debt or equity offering). In many cases, all this may happen on a very tight timeline and under extreme secrecy. M&A is often a subgroup within corporate finance; but in some firms, it is a stand-alone department. M&A can be one of the most demanding groups to work for. M&A groups will • Advise firms on merger and acquisition strategies. • Determine target company valuations. • Help the target of a hostile acquisition arrange a defensive strategy. • Conduct due diligence on a target or acquiring company (i.e., examine the financial results and other business factors that will affect the value of an acquisition). • Negotiate price, terms, and conditions of an acquisition or merger. • Work with the other company’s advisory team and the lawyers to structure the deal. Who Does Well Like corporate finance, M&A requires detail-oriented thinking, a knack for using numbers to understand business patterns, problem-solving skills, an ability to think critically about the numbers you’re working with, and excellent communication and people skills. Also like corporate finance, lawyers, MBAs, and experience candidates with specific industry knowledge make good M&A candidates. Entry-level candidates should try to get an internship to increase their chances of eventually getting full-time offers. The Industry Sample Project IBM Corporation decides it has an opportunity to strengthen its hardware business by acquiring an innovative developer of communications software. It approaches an investment bank to get advice on the potential deal. The bankers help IBM secretly value the target company’s assets and the potential value of its products to IBM (which may be higher than their current value because of the opportunities to link with IBM hardware and because of Big Blue’s marketing muscle). The M&A group then develops IBM’s acquisition strategy and makes contact with the target company. Once the offer is made, the target company will consult its own investment bankers. They help the target evaluate IBM’s proposal, determine various strategies for defending against or negotiating with IBM, and work out a deal that will be in the best interest of the company’s shareholders. After some back and forth, the sides agree on a price (usually a combination of stock and cash), sign the documents, and become one. (Meanwhile, the advisors take their own hefty fees to the bank.) Job Tips The M&A department usually recruits under the CorpFin or investment banking umbrella, although within the group you may find further specialization along industry lines. The work here tends to be intense and very deal-focused, and the hours are unpredictable. “You might be staffed on five transactions and not much is happening. Then one turns live, and you have to cancel your weekend plans,” says an insider. “Or you could be very busy, and the next day something happens and work gets pushed back a week and suddenly your weekend is free.” The job provides an excellent introduction to the high-stakes, high-power push and pull of the corporate world. Insiders tell us that personal ambition is a big success factor in M&A. “You can learn the technical skills like accounting and modeling,” says one first-year associate. “It’s not so easy to learn how to be driven and to take responsibility, to own the deal.” If you’re depressed by the thought of The Industry spending 3 or more weeks of your life crunching numbers for a deal that never happens, there may be better alternatives in CorpFin. Public Finance Public finance is similar to corporate finance except that instead of dealing with corporations, it works with public entities such as city and state governments and agencies, bridge and airport authorities, housing authorities, hospitals, and the like. Although the basic services (financial advisory and underwriting) and the financial tools (bonds and swaps, but no equity) are similar to those used for private-sector clients, numerous political and regulatory considerations must be assessed in the structuring of each deal. A particular key issue involves how to get and maintain tax-exempt status for the financial instruments the client will use. The public finance group will • Advise public entities on capital-raising strategies. • Advise public entities on portfolio management. • Arrange project finance. • Help municipal entities restructure their debt. • Determine a valuation for a debt/bond offering. • Underwrite tax-exempt notes, bonds, derivatives, and other municipal securities. Who Does Well These jobs require strong numbers skills and excellent analytical ability. They also require strong communication skills, since people in this area spend a lot of time dealing with clients. People with experience working in or with government are especially attractive when it comes to landing jobs in public finance, as are lawyers. An internship is the best point of entry for inexperienced candidates. The Industry Sample Project Let’s say the city of San Francisco wants to give the 49ers a new stadium. The city invites a number of I-banking firms to help it determine the lowest-cost financial structure to pay for the new stadium. The firms research the financial, political, and regulatory issues involved in raising the necessary cash, develop a strategy for raising the funds through tax-exempt instruments, price the deal, and prepare a proposal. The proposal will include a profile of the strategy and its cost, as well as reasons for choosing the presenting firm for the deal. Once a bank is chosen to execute the financing, it will prepare all the necessary financial and regulatory documentation and work with other departments in the bank to shop the offering. Job Tips Public finance specialists tend to spend more time with each other than with the rest of the people in the bank. Because it helps to have an understanding of government, many people in public finance come from government backgrounds. Municipal positions were hot in the ’70s and ’80s, when firms could earn fat underwriting fees for their work. However, as competition has heated up and clients have become more sophisticated, bank fees have fallen, causing the public finance business to become more of a marginal activity for many banks on the Street. Sales and Trading Job opportunities in sales and trading—an investment bank’s distribution arm— differ from those in the investment banking divisions. Remember, I-banking is more than just corporate finance. You can think of sales and trading as being similar to the sales force for any corporation. This group is responsible for selling all of the financial products (stocks, bonds, and their derivatives) sponsored by The Industry the investment banking department. As such, it serves as the vital link between the sellers (corporations and government entities) and the buyers (investors). Depending on the firm, the buyers may be institutions (pension funds, mutual funds, insurance companies, hedge funds, and other asset managers), high-networth individuals, or private investors. Although frequently lumped together, salespeople and traders actually perform different functions. Who Does Well Sales jobs and trading jobs have many overlapping skill requirements, such as verbal communication skills, sales skills, and a facility for numbers. But the people who do well in each area are not identical. For example, salespeople have to be good at building relationships with a variety of personality types, whereas traders only have to be good at building relationships with other traders. Salespeople have to be good at giving presentations, whereas traders have to be good at making snap decisions based on constantly changing information. Sales jobs typically require a lot more travel than do trading jobs. People in both careers have to be aggressive self-starters. People in both of these careers will have to take exams to become licensed in their area of specialty. For example, most salespeople have to pass the Series 7 exam. Unlike investment banking careers, it’s not always necessary to get a graduate degree to advance up the ladder in sales or trading. Sales Sales professionals typically have a list of institutional clients to whom they pitch new offerings, offer portfolio management advice, and sell securities. The sales department may be divided by account size, security type (debt or equity), geography, or product line. The department is typically divided into large institutional, middle market, and retail (or private-client services) sections. The Industry In other words, a salesperson who manages a high-volume institutional account would not likely handle a smaller, low-volume buyer as well. Groups may be further divided based on the complexity of a bank’s financial products, such as government securities, corporate securities, asset-backed securities, futures, options, foreign exchange, derivatives, and others. Because a salesperson works largely on commission, there are major bucks to be made, especially with some of the high-volume accounts. Sales will typically perform the following: • Develop strong relationships with institutional investors • Meet with economic and equity research departments to discuss economic and industry trends and their impact on the markets • Work with the investment banking department to market new debt and equity issues • Assist and advise clients in developing and executing investment strategies • Watch company/industry/economic/political news and market activity, and advise clients about the likely impact on their portfolios • Attend company presentations and research conferences, typically with clients • Arrange meetings between clients, research analysts, and company management Sample project. You’re sitting at your desk when suddenly the live news feed on your computer flashes an article about a Fortune 100 company that is firing its CEO and replacing him with a highly respected industry veteran and current board member. You immediately get on the phone to four of your major institutional clients who own big chunks of the company’s stock and tell them that this seems to indicate that potential merger talks between the company and its rival have been called off. Two of the clients had been expecting a buy-out and decide to sell a portion of their shares. The third client wants more information about the new CEO’s likely plans, so you bring in your head research analyst The Industry who covers the company, for a conference call with the client. The fourth client wants to maintain its position unless there’s a further drop in the stock price. Job tips. Along with corporate finance, the sales and trading area typically hires the largest number of MBAs and undergraduates. This is a particularly desirable job for people who love to sell and make money. Along with the big bucks, however, comes a great deal of stress. Because salespeople are essentially account managers, they’re the ones who have to take the heat from a client who is irate that a particular stock in his portfolio is falling. It’s not easy keeping all of the people happy all of the time, especially in a down market. As you progress up the ranks, you’ll typically get more (and more important) clients to manage. Trading Traders are responsible for taking positions in the market through purchases and sales of equities (stocks), debt (bonds), and other securities. Trading functions are typically divided by the product lines offered by the investment bank. It’s not a job for the meek, timid, or easily offended. During market hours, all trading floors are loud, high-energy environments. Traders must juggle several phone lines, scan computer screens flashing headlines and quotes, and respond to orders from salespeople—all while executing trades with precision timing. The firm’s capital is on the line, and every second can be worth millions. Traders typically • Develop a solid knowledge of market, company, and industry information. (An insider says, “A good trader is constantly on top of what’s going on.”) • Evaluate market activity and supply/demand indications from salespeople and clients. • “Make markets”—maintain a position in a stock the firm has underwritten, quote bid and ask prices, and buy and sell at those prices. The Industry • Advise salespeople, clients, and research analysts on market activity and pricing for different stock and equity issues. • Put major trades together by negotiating with salespeople/clients and other dealers. • Perform valuation analysis of derivatives, convertibles, or baskets of stocks. • Manage the firm’s investment risk. Sample project. The life of a trader is less project-driven and more marketdriven. For instance, let’s assume you’re at an equity trading desk responsible for trading stocks in timber companies. If you’re good at your job, you’re constantly reading the news about the economy and the real estate and stock markets. You’re also good at picking up the phone and chatting with others in the business about what’s going on behind the scenes in government and industry. Over time, in your reading, you’ve seen a few articles about some big homebuilding companies, which included anecdotal evidence that demand for their services in some regions may be slackening. Then, one morning, during your daily morning phone call with the research associate covering the same companies you trade for your bank, you learn that he’s learned from his homebuilding-industry contacts that a couple of the major players in the sector have definitely experienced lower demand in the past month or so. You also know that this afternoon, new-housing starts will be announced; this is a closely watched number, and the current consensus on the Street is that today’s is going to be a high number. You know that a lower-than-expected number will send the timber sector tumbling. You think the problem through, doing some risk analysis, and decide that odds are very good that the housing-starts number will not come in as high as expected. So you take medium-sized short positions for your bank in the couple of companies in the industry with the worst fundamentals. The Industry Late in the day, during a trading lull, you’re talking on the phone with a buddy at another desk about how great the Pistons looked against the Lakers in the first game of the NBA Finals, when the new housing-starts figure flickers across the computer screen in front of you. The number’s lower than expected! Immediately, most of the phones in front of you are ringing, with (you know) sell orders for the companies you trade. You say good-bye to your buddy, smile to yourself, and pick up a phone, knowing that as the market for timber stocks tumbles you’ll be able to close out your short position at a sizeable profit for the firm—and a sizeable positive impact on your bonus. Job tips. On the trading floor of an exchange, the action never stops while the market is in session. (In case you haven’t seen a trading floor, it looks something like NASA’s Mission Control, only instead of dozens of sleepy-looking engineers, the room is dominated by clean-cut twenty-somethings, most of whom have their sleeves rolled up and are often talking on several phones at once.) Most exchanges have different departments or “desks” focusing on different types of securities. While the market is open, traders are pretty much tied to their spot on the desk, which is an inch away from the next guy’s and jam-packed with multiple computer screens. But don’t worry: Not every day is a hectic nightmare. Both types of research can incorporate several different efforts, including quantitative research (corporate financing strategies, specific product development, and pricing models), economic research (economic analysis and forecasts of U.S. and international economic trends, interest rates, and currency movement), and individual company research. It’s important to understand that these are “sell-side” analysts (because they in effect “sell” or market stocks to investors), rather than the “buy-side” analysts who work for the institutional investors themselves. An equity research analyst will become an expert on a particular group of companies in software, semiconductors, health care, oil and gas, or some other industry group. Unlike the deal-oriented work in investment banking, research is responsible for maintaining a long-term relationship with corporate clients, long after the deal is done. Researchers meet regularly with company management, analyze the company’s position relative to its competitors, and provide investors and the sales and trading departments with recommendations about the company’s stock (usually rating the stock according to some system, e.g., “strong buy,” “buy,” or “hold”). Depending on the number of companies in his or her universe, the The Industry analyst is responsible for writing one or two reports every quarter on each company, updating interested clients on the company itself, and following market trends that may affect the company’s performance. Insiders tell us that though there are different models for the way researchers cover their industries or sectors, those who hope to rank well in the Institutional Investor research team ratings tend to cover a small number of companies in great depth. One insider who covers the biotech sector regularly follows the eight companies with the largest market caps. When you hear on the news that “Microsoft exceeded Wall Street’s expectations,” newscasters are referring to the average of the earnings estimates published by all research analysts who follow Microsoft. Research analysts listen to presentations from the management of companies they follow, run the new information through their financial models, and relay the information and their predictions about the companies’ future performance to investors and the sales force. Their predictions are tested four times a year, when companies release quarterly results, prior to which the company’s research department works long days for several weeks (insiders refer to these periods as “reporting seasons” or “earnings”). Companies usually report earnings after the market closes for the day, so analysts must rush to prepare investment recommendations based on the earnings reports, in order to provide them to clients before the market opens the next morning. Research insiders have long told us that one of the trickiest aspects of the job is to mediate the competing needs of CorpFin, traders, and the companies the analyst covers. “Investment banks are paid for doing deals,” says one insider. “On the other hand, I have an obligation to my buy-side clients, who trade stocks on my recommendation. . . . If I sell people deals that don’t perform well, they won’t listen to me and I won’t have a career anymore. I also have a relationship with the companies I cover and [which my bank]might want to The Industry take public. They don’t take kindly to negative recommendations about them. You put a sell recommendation on somebody’s stock, and management might not return your call.” Indeed, with the decline in the markets hurting investors’ portfolios, analysts are facing tremendous criticism for helping create the market bubble by recommending stocks of companies that turned out to be dogs—and sometimes even recommending stocks publicly while deriding them internally. And banks are facing criticism for the way they have tied research analysts’ compensation to the performance of their banking operations, which can cause conflicts of interest. The research analyst position involves • Meeting with company management and analyzing (modeling) the company’s financial statements and operations. • Providing written and oral updates on market trends and company performance to sales and trading as speedily as possible. • Attending or organizing industry conferences. • Speaking with the sales force, traders, and investment bankers about company or industry trends, and recommending positions on stocks. • Developing proprietary pricing models for financial products. • Making presentations to clients on relevant market trends and economic data, and offering investment recommendations and forecasts. •

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