FUNCTIONS OF AN INVESTMENT BANK

Issue of IPO 

Investment banks underwrite stock offerings just as they do bond offerings. In the stock offering process, companies sell a portion of the equity (or ownership) of itself to the investing public. The very first time a company chooses to sell equity, this offering of equity is transacted through a process called an initial public offering of stock (commonly known as an IPO). Through the IPO process, stock in a company is created and sold to the public. After the deal, stock sold in the India is traded on a stock exchange such as the NSE or BSE. 

Bankers to one of the largest IPO’s in Indian history, the ` 12,000 crores IPO of Coal India Limited included Citigroup, DSP Merrill Lynch, Morgan Stanley, Deutsche Bank, Enam Financials and Kotak Mahindra Capital Company. 

The equity underwriting process is another major way in which investment banking differs from commercial banking. Commercial banks were able to legally underwrite debt, and some of the largest commercial banks have developed substantial expertise in underwriting public bond deals. So, not only do these banks make loans utilizing their deposits, they also underwrite bonds through a corporate finance department. When it comes to underwriting bond offerings, commercial banks have long competed for this business directly with investment banks. However,

only the biggest tier of commercial banks is able to do so, mostly because the size of most public bond issues is large and competition for such deals is quite fierce. 

From an investment banking perspective, the IPO process consists of these three major phases: hiring the managers, due diligence, and marketing. 

(i) Hiring the Managers: The first step for a company wishing to go public is to hire managers for its offering. The choice depends on the past transaction experience, the fee quotes, the valuations the bank promises to fetch for the company’s offrering etc. 

The selection process also relies on the investment banker’s general reputation and expertise as well as on the quality of its research coverage in the company’s specific industry. The selection also depends on whether the issuer would like to see its securities held more by individuals or by institutional investors (i.e., the investment bank’s distribution expertise). Prior banking relationships the issuer and members of its board (especially the venture capitalists) have with specific firms in the investment banking community also influence the selection outcome. Often, the selection process is a two-way affair, with the reputable investment banker choosing its clients at least as carefully as the company should choose the investment banker. 

Almost all IPO candidates select two or more investment banks to manage the IPO process. 

When there are multiple managers, one investment bank is selected as the lead or book-running manager. The lead manager almost always appears on the left of the cover of the prospectus, and it plays the major role throughout the transaction. The managing underwriter makes all the arrangements with the issuer, establishes the schedule of the issue, and has the primary responsibility for the due diligence process, pricing and distribution of the stock. 

(ii) Due Diligence and Drafting: Once managers are selected, the second phase of the process begins. For investment bankers on the deal, this phase involves understanding the company's business as well as possible scenarios (called due diligence), and then filing the legal documents as required by the stock exchanges. Lawyers, accountants, I-bankers, and of course company management must all toil for countless hours to complete the filing in a timely manner. The Securities Act also makes it illegal to offer or sell securities to the public unless they have first been registered. It is important to note, however, that the SEC has no authority to prevent a public offering based on the quality of the securities involved. It only has the power to require that the issuer disclose all material facts. 

Once the registration statement is filed with the SEC, it is transformed into the preliminary prospectus (or “Red Herring”.) The preliminary prospectus is one of the primary tools in marketing the issue. Within 20 days, the SEC responds to the initial filing and declares the issue effective. At this stage, the red herring is amended and transformed into a prospectus, which is the official offering document. During the period after the filing, the SEC examines the registration statement and engages in a series of communications with issuer’s counsel regarding any changes necessary to bring about SEC approval. If the changes are minor, they are included in the “price amendment”; if the changes are extensive, a new prospectus is prepared and distributed.

(i) Marketing: The third phase of an IPO is the marketing phase. Once the approval comes on the prospectus, the company embarks on a roadshow to sell the deal. A roadshow involves meeting potential institutional investors interested in buying shares in the offering. Typical road shows last from two to three weeks, and involve meeting numerous investors, who listen to the company's presentation, and then ask scrutinizing questions. 

Often, money managers decide whether or not to invest thousands of rupees in a company within just a few minutes of a presentation. 

The registration and marketing process can take several months, and it is therefore impossible for the underwriter to include certain information (such as the final IPO price, the precise discount to the dealers, and the names of all the syndicate members) in its initial filing with the SEC. On the day prior to the effective date, after the market closes, the firm and the lead underwriter meet to discuss two final (and very important) details: the offer price and the exact number of shares to be sold. After those final terms are negotiated, the underwriter and the issuer execute the Underwriting Agreement, the final prospectus is printed, and the underwriter files a “price amendment” on the morning of the chosen effective date. Once approved, the distribution of the stock begins. On this morning, the company stock opens for trade for the first time. The closing of the transaction occurs three days later, when the company delivers its stock, and the underwriter deposits the net proceeds from the IPO into the firm’s account. 

But the IPO is far from being completed. Once the issue is brought to market, the underwriter has several additional activities to complete. These include the after-market stabilization, the provision of analyst recommendations, and making a market in the stock. The stabilization activities essentially require the underwriter to support the stock by buying shares if order imbalances arise. This price support can be done only at or below the offering price, and it is limited to a relatively short period of time after the stock has began trading. In general, the underwriter will continue to actively trade the stock in the months and years following the offering. By “making a market in the stock”, the underwriter essentially guarantees liquidity to the investors, and thus again enhances demand for the shares. 

The final stage of the IPO begins 25 calendar days after the IPO when the so called “quiet period” ends. This “quiet period” is mandated by the SEC, and it marks a transition from investor reliance solely on the prospectus and disclosures mandated under security laws to a more open, market environment. It is only after this point that underwriters (and other syndicate members) can comment on the valuation and provide earnings estimates on the new company. The underwriter’s role thus evolves in this aftermarket period into an advisory and evaluatory function. 

Follow-on offering of stock 

A company that is already publicly traded will sometimes sell stock to the public again. This type of offering is called a follow-on offering, or a secondary offering. One reason for a follow-on offering is the same as a major reason for the initial offering: a company may be growing rapidly, either by making acquisitions or by internal growth, and may simply require additional capital. Anotherreason that a company would issue a follow-on offering is similar to the cashing out scenario in the IPO. 

Issue of Debt 

When a company requires capital, it sometimes chooses to issue public debt instead of equity. Almost always, however, a firm undergoing a public bond deal will already have stock trading in the market. (It is very rare for a private company to issue bonds before its IPO.) The reasons for issuing bonds rather than stock are various. 

a) The stock price of the issuer is down, and thus a bond issue is a better alternative. 

b) The firm does not wish to dilute its existing shareholders by issuing more equity. These are both valid reasons for issuing bonds rather than equity. 

Sometimes in an economic downturn, investor appetite for public offerings dwindles to the point where an equity deal just could not get done (investors would not buy the issue). 

The bond offering process resembles the IPO process. The primary difference lies in: (1) the focus of the prospectus (a prospectus for a bond offering will emphasize the company's stability and steady cash flow, whereas a stock prospectus will usually play up the company's growth and expansion opportunities), and 

Importance of the bond's credit rating: The company will want to obtain a favorable credit rating from a debt rating agency like CRISIL, with the help of the credit department of the investment bank issuing the bond; the bank's credit department will negotiate with the rating agencies to obtain the best possible rating. The better the credit rating - and therefore, the safer the bonds - the lower the interest rate the company must pay on the bonds to entice investors. 

Merger and Acquisitions (M&A) 

M&A advisors come directly from the corporate finance departments of investment banks. Unlike public offerings, merger transactions do not directly involve salespeople, traders or research analysts. In particular, M&A advisory falls into the domain of M&A specialists and fits into one of either two buckets: seller representation or buyer representation (also called target representation and acquirer representation)

Representing the target (seller)	Representing the acquirer
Sell-side representation comes when a company asks an investment bank to help it sell a division,  plant  or  subsidiary operation. Generally speaking, the work involved in finding a buyer includes writing a Selling Memorandum and then contacting potential strategic or financial buyers of the client.	The advisory work itself is straightforward: the investment bank contacts the firm their client who wishes to purchase, attempts to structure a palatable offer for all  parties,  and make the deal a reality.

.Deals that do get done, though, are a boon for the I-bank representing the buyer because of their enormous profitability. 

A buy-side Advisory and Sell-side Advisory services by Investment Bankers as Merger and Acquisitions Advisors has been briefly discussed as below: 

Buy side Advisory 

The Investment Banks provide advisory services to clients who have identified particular companies which are to be acquired and help them in negotiating, due diligence, financing and documentation of the transaction. These are being divided into following four steps for easy understanding: 

Short-listing of companies to be acquired – In this step, the investment banker helps its client companies to short list the companies to be acquired. To extend this service, it uses its network of relationships with companies, private equity funds and other intermediaries to identify the suitable companies that are to be acquired. 

Preparing and executing term sheet – After the companies are shortlisted, the investment banker prepares term sheet which includes all the terms and conditions of the merger transaction. It then facilitates negotiations with the target company and ensures that the term sheet is entered into by the client with the target company. 

Due Diligence – The next step is due diligence which means investigating the deal from legal, commercial and financial point of view. It basically includes verifying assets and liabilities, identifying risks, knowing the amount of risk involved and protection against such risks. 

Transaction Closure – After the completion of the due diligence process, the investment banker negotiates on the final agreement with the target company to close the merger and acquisition deal. It also arranges finance for the deal, if required. 

Sell side Advisory 

The Investment Banks helps the client companies in identifying suitable buyers which may include private companies, public companies, private-equity funds, hedge funds and international buyers. These are also being divided into following four steps for clarity of the process involved: 

Preparation of information – An investment banker helps in the preparation of information on the purchasing companies insert business profile which helps to present the deal in a structured manner in front of the potential acquirers. 

Target short-listing – After going through the client companies extensively and short listing of potential buyers, the investment bankers enables the client company chooses its partner. As in the case of buy side advisory services, it uses its network of relationships with companies, private

equity funds and other intermediaries to identify the suitable companies to whom the client company has to be sold.

Preparing and executing term sheet – In this step, the investment banker helps his client enter into a term sheet with the potential acquirer.

Due diligence and deal closure – After entering into a term sheet, the investment banker help the client in the due diligence process and negotiates with the purchaser to close the deal.

Private Placements

A private placement, which involves the selling of debt or equity to private investors, resembles both a public offering and a merger. A private placement differs little from a public offering aside from the fact that a private placement involves a firm selling stock or equity to private investors rather than to public investors. Also, a typical private placement deal is smaller than a public transaction. Despite these differences, the primary reason for a private placement - to raise capital

- is fundamentally the same as a public offering. Often, firms wishing to go public may be advised by investment bankers to first do a private placement, as they need to gain critical mass or size to justify an IPO.

They are usually the province of small companies aiming ultimately to go public. The process of raising private equity or debt changes only slightly from a public deal. One difference is that private placements do not require any securities to be registered with the stock exchanges, nor do they involve a road show. In place of the prospectus, I-banks draft a detailed Private Placement Memorandum (PPM) which divulges information similar to a prospectus. Instead of a road show, companies looking to sell private stock or debt will host potential investors as interest arises, and give presentations detailing how they will be the greatest thing since sliced bread.

The investment banker's work involved in a private placement is quite similar to sell-side M&A representation. The bankers attempt to find a buyer by writing the PPM and then contacting potential strategic or financial buyers of the client.

Because private placements involve selling equity and debt to a single buyer, the investor and the seller (the company) typically negotiate the terms of the deal. Investment bankers function as negotiators for the company, helping to convince the investor of the value of the firm. Fees involved in private placements work like those in public offerings. Usually they are a fixed percentage of the size of the transaction.

Financial Restructurings

When a company cannot pay its cash obligations - for example, when it cannot meet its bond payments or its payments to other creditors (such as vendors) - it goes bankrupt. In this situation, a company can, of course, choose to simply shut down operations and walk away. On the other hand, it can also restructure and remain in business.

What does it mean to restructure? The process can be thought of as two-fold: financial

restructuring and organizational restructuring. Restructuring from a financial viewpoint involves renegotiating payment terms on debt obligations, issuing new debt, and restructuring payables to vendors. Bankers provide guidance to the firm by recommending the sale of assets, the issuing of special securities such as convertible stock and bonds, or even selling the company entirely.

So what do Restructuring bankers actually do, and how does it differ from what other investment bankers do?

The main difference is that Restructuring bankers work with distressed companies – businesses that are either going bankrupt, getting out of bankruptcy, or in the midst of bankruptcy. When a company’s business suffers and it starts heading down the path of bankruptcy, its creditors – anyone that has lent it money, whether banks, hedge funds or other institutions – immediately take notice. A Restructuring group might be hired by a company to negotiate with its creditors and get the best deal possible, usually in the form of forgiven debt. Or they might advise a company on how best to restructure its current debt obligations either to get out of bankruptcy or to avoid it in the first place.

Another big difference is that Restructuring bankers must work within a legal framework – the Bankruptcy Code – and hence must have a more in-depth legal understanding than other bankers.

From an organizational viewpoint, a restructuring can involve a change in management, strategy and focus. I-bankers with expertise in "reorgs" can facilitate and ease the transition from bankruptcy to viability. Typical fees in a restructuring depend on whatever retainer fee is paid upfront and what new securities are issued post-bankruptcy. When a bank represents a bankrupt company, the brunt of the work is focused on analyzing and recommending financing alternatives. Thus, the fee structure resembles that of a private placement. How does the work differ from that of a private placement? I-bankers not only work in securing financing, but may assist in building projections for the client (which serve to illustrate to potential financiers what the firm's prospects may be), in renegotiating credit terms with lenders, and in helping to re-establish the business as a going concern.

Because a firm in bankruptcy already has substantial cash flow problems, investment banks often charge minimal monthly retainers, hoping to cash in on the spread from issuing new securities. Like other public offerings, this can be a highly lucrative and steady business.