Project | Investment Banking | Securities (Finance)



MBA (in Finance), Semester - II Roll No: 32

I hereby declare that this project on “Investment Banking” has been prepared by me during the year 2012 for the partial fulfilment of MBA in FINANCE course under UNIVERSITY of CALCUTTA, and this project report has not been submitted in any university or institution for award of degree of diploma so far.

(TANMAY BHADRA) Roll No: 32 . Date: 11th June, 2012-06-06

I realise that these words written by the way of gratitude are not sufficient to express my gratefulness to those who supported me with courage, confidence and suggestions. I wish to express my sincere thanks and hearties gratitude to Professor D. R. Dandapat, Co-ordinator, MBA in FINANCE, UNIVERSITY OF CALCUTTA. I also express my deep reverence to Professor R. P. Chowdhury, our semester in charge and all faculty members of MBA in FINANCE for their active cooperation and invaluable support.




INTRODUCTION A Brief History of Investment Banking and Securities Regulation Role of Investment Banking

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the marketing of financial securities is important.000 per account-holder. In the USA. is research coverage (forecasts and recommendations) by security analysts. At the end of 2000. An important tool in the marketing of financial securities. Since the investment banking firm providing research reports also underwrites of offerings. In Europe. In return for the government deposit guarantee. Since investment banks are selling to investors the securities that firm issue. securities trading and brokerage.. capital raising services. Most investment banking firms are vertically integrated organizations that incorporate merger and acquisition (M&A) advisory services. and take principal positions. In the course of these activities. including taking equity positions in firms and underwriting corporate securities. biotechnology and technology companies). where markets are perfect and there is no role for marketing. The prohibition on underwriting securities was gradually relaxed. partly because for many industries (i. although deposit insurance remains. There is a perception that analyst coverage has become more important over time. The key difference between commercial banks and investments banks in the corporate financing function is that commercial banks primarily act as long-term principals. as of 2003). whereas investment banks primarily act as short-term principals. information is produced.e. universal banks have been permitted to perform both commercial and investment banking functions. Commercial banks were permitted to take deposits from individuals that are guaranteed by the government (up to $100. the Glass. The Glass-Steagall Act was finally replaced.Investment banking firms are intermediaries that advice firms. This is a topic that has no reason for coverage in a Modigliani-Miller framework. making direct loans to borrowers. commercial banks were prohibited from certain activities. and research coverage. this is referred to a “self-side” coverage. first for debt securities and then for equity securities. historical accounting information is of limited use in discerning whether new products and services will create economic value added. the Securities and Exchange Commission’s Regulation FD (fair disclosure) went into effect.Steagall Act separated commercial and investment banking functions from the 1930s to the 1990s. This . In 1999. especially equities. distribute securities.

. The “busy side” constitute the pension funds. Until the late 1980’s. and equity securities. or the promotion of securities (i. for it requires that information that a corporation provides to analysts must be publicly disclosed to others as well.regulation may affect the role of analysts. hedge funds. market-making).e. Trading securities for cash or securities (i. as well as providing advice on transactions such as mergers and acquisitions.) is referred to as the “sell side”. mutual funds. divestiture or other financial services for clients. foreign exchange. facilitating transactions. underwriting research. A brief history of investment banking and securities regulation . acquisitions. etc. commodity. Many firms have both buy and sell side components. Investment banks help companies and governments raise money by issuing and selling securities in the capital markets (both equity and debt). A majority on investment banks also offer strategic advisory services for mergers. fixed income. and the investing public who consume the products and services of the sell-side in order to maximize their return on investment. the United States and Canada maintained a separation between investment banking and commercial banks.e.. such as the trading of derivatives.

in order to meet regulatory capital requirements. the lead underwriter knows where the shares are placed. this is the major reason why syndicates still exist. and most of the larger firms have converted to publicly traded stock companies. the historical rationale for forming syndicates to distribute securities has largely disappeared. Frequently. generally with a limited capital base. Consistent with this. As a consequence of distributing the shares in an initial public offering. almost all investment banking firms were private partnerships. The lead manager does most of the work and receives most of the fees. When underwriting large securities offerings. largely through mergers. with large fixed costs and low marginal costs. the number of investment banking firms participating in a given syndicate has shrunk noticeably over the last few decades. Indeed. the investment banking industry began to change to a more “transactional” form. Investment banking firms have grown in size and scope. where corporations use different investment bankers for different services. which gives a natural advantage for making a market later on. since the underwriter knows whom to call if there is an order imbalance. Many investment banking firms had “relationships” with corporations. Advice on acquisitions and follow-on stock . on an as-needed basis. distribute the securities. With their new-found large capital bases and distribution channels. and share risk. A reason for the increase in size of investment banking firms is the increased importance of information technology. All of the managers usually provide research coverage. these partnerships almost always formed underwriting syndicates. In the 1970s. a “tombstone” advertisement listing the syndicate members is published. A syndicate is composed of one or more managing underwrites and from zero to over on hundred other syndicate members. after a deal is completed.Until the 1970s.

self regulatory organizations such as the New York Stock Exchange and the National Association of Securities Dealers impose requirements on members.offerings frequently follows as well. In the USA. The USA Securities and Exchange Commission (SEC) regulates securities markets. All of these activities are information-intensive activities. In 1999. whereby proprietary information possessed in the M&A advisory function is not disclosed to stock traders. In the course of assisting in the issuance of securities. the SEC started permitting certain qualified individual investors to have access to web casts of the road show. where attendance is restricted to institutional investors. which are supposed to be as impregnable as the Great Wall of China. federal government regulation of securities markets is based upon a notion of caveat emptor (buyer beware) with full disclosure. In Europe. An exception to this is that limited oral disclosures may be made during “road show” presentations. Thus. and the threat of class action lawsuits on behalf of inventors constrains the actions of issuers and underwriters. In the M&A advisory role. . The underwriter almost always assigns an analyst to follow the company and provide research coverage. Investment bankers are this putting their reputations on the line. certifying for investors that the terms of the deal are fair and that material information is reflected in the price. starting before a firm announces its IPO and ending 40 calendar days after the offer. In addition. with specific requirements for the amount and form of accounting disclosures. “Chinese walls”. Prospectuses are required to contain all material information. they produce “fairness opinions”. securities underwriting capabilities are combined with M&A advisory capabilities. as well as sales and trading capabilities. investment bankers perform “due diligence” investments. are supposed to exist. firms going public and their underwriters are prohibited from disclosing projections that are not in the prospectus during the “quiet period”.

The three reasons for this are” 1) They are dependent upon access to corporate managers for information. Because the underwriter cannot directly gain from any price appreciation above the offer price on unsold securities. On the front page of a prospectus. the offer price and underwriting discount (commission) are disclosed.Typically. there is every incentive to fully distribute the securities offered. beginning in 1982 the SEC began permitting publicly traded firms meeting certain requirements (basically. new rules were announced in an attempt to limit the conflicts of interest and alert investors to the conflicts. although if the issue fails to sell out at the offer price. the managing underwriters issue research reports with “buy” or “strong buy” recommendations as soon as the quiet period ends. The conventional wisdom is that analysts have become “cheerleaders”. a firm can sell the securities whenever it wants. the underwriter may sell at a lower price. The underwriter is prohibited from distributing any securities at a price above the stated offer price. Michaely and Womack (1999) present evidence that self-side analysts affiliated with managing underwriters face conflicts of interest. SEC Rule 415 states that by filing a letter with the SEC disclosing the intention of selling additional securities within the next two years. and 3) The institutional clients that pay attention to a report are likely to be long in the stock. Instead. Based on the logic of the efficient markets hypothesis. In 2002. or as an advisor on M&A deals. 2) Their compensation is tied to whether their investment banking firm is chosen as a managing underwriter on equity or junk-bond offerings. while bearing the full downside of any price fall. . large firms) to issue securities without distributing a prospectus.

From 1984-1992 there were virtually no shelf equity offerings. commodity. such as quarterly financial statements. Before selling equity. in what are known as “shelf” issues. as well as providing advice on transactions such as mergers and acquisitions. divestiture or other financial services for clients. Investment banks help companies and governments raise money by issuing and selling securities in the capital markets (both equity and debt). the United States and Canada maintained a separation between investment banking and commercial banks. advising in mergers and acquisitions. Until the late 1980’s. fixed income. The role of the Investment Bank Investment banks provide four primary types of services: raising capital. The securities can be taken off the shelf and sold. In practice. but they have enjoyed a resurgence since then. foreign exchange. are deemed to be sufficient information to investors. however.Existing disclosures. and equity securities. A majority of investment banks also offer strategic advisory services for mergers. many firms prefer to hire an investment banker and conduct a marketing campaign (the road show). acquisitions. executing securities sales and trading. Most of the major Wall Street firms are . such as the trading of derivatives. shelf issues are commonly done for bond offerings. complete with a prospectus. and performing general advisory services.

The investment bank will work with the client to structure the transaction to meet specific objectives while being attractive to investors. structuring. expand existing operations. 2. Example projects include the acquisition on a specific firm. and private individuals. General Advisory Services Advisory services include assignments such as strategic planning. and providing and opinion as to the fairness of a proposed transaction. or for specific project financing. such as to acquire another company. an investment . Raising Capital An investment bank can assist a firm in raising funds to achieve a variety of objectives. common equity. as well as a valuation range and recommended structure. Mergers and Acquisitions Investment banks often represent firms in mergers. reduce its debt load. then sale of a company or a subsidiary of the company. and assistance in identifying. Although large corporations often have sophisticated finance and corporate development departments. and publishing research reports. specialized investment funds. In each case. Sales and Trading These services are primarily relevant only to publicly traded firms. Who needs an Investment Bank? Any firm contemplating a significant transaction can benefit from the advice of an investment bank. the investment bank should provide a thorough analysis of the entity bought or sold. preferred equity. 4. acquisitions. Smaller investment banks may specialize in two or three of these categories. and divestitures. placing new offerings. a great deal of capital is actually raised through private placements with institutions. Capital can include some combination of debt. assisting in financial restructurings. 1. business in each of these categories. Specific functions include making a market in a stock. Although many people associate raising capital with public stock offerings. and hybrid securities such as convertible debt or debt with warrants. and executing a merger or joint venture. or firms which plan to go public in the near future. 3.

and the client should expect topnotch service from the investment banking firm. What to look for in an Investment Bank? Investment banking is a service business. and generally assisting in all phases of the project to ensure successful completion. such as potential investors or companies that could be approached for acquisition. 2. Generally only large client firms will get this type of service from the major Wall Street investment banks. 4. For example. and is vitally interested in seeing the transaction close. and in a financial transaction may be at a disadvantage versus larger competitors. 3. it may be preferable to work with an investment bank that has some background in your specific industry segment. A quality investment banking firm can provide the services required to initiate and execute a major transaction. coordinating legal. the firm must have a demonstrated record of closing transactions. The investment bank should have a wide network of relevant contacts. Experience It extremely important to make sure that experienced. thereby empowering small to medium sized companies with financial and transaction experience without the addition of permanent overhead. senior members of the investment banking firm will be active in the project on a day-to-day basis. companies with less than about $100 million in revenues are better served by small investment banks. Most small to medium sized companies do not have a large in-house staff. Ability to Work Quickly . Services Offered For all functions except sales and trading. negotiating the terms of the transaction. and other advisors. preparation of relevant documentation such as an offering memorandum or presentation to the Board of Directors. the services should go well beyond simply making introductions. Some criteria to consider include: 1. accounting. most projects will include detailed industry and financial provides objectivity. assistance with the due diligence. Record of Success Although no reputable investment bank will guarantee success. or “brokering” a transaction. a valuable contact network. Depending on the type of transaction. allows for efficient use of client personnel.

Fee Structure Generally. The investment bank must be willing and able to put the right people on the project and work diligently to meet critical deadlines. that the project is completed in an efficient time frame. investment banking projects have very specific deadlines. 5. and with terms that provide maximum value to the client. with the majority of the fee contingent upon successful completion of the transaction. for example when bidding on a company that is for sale.Often. the investment bank will be intimately familiar with your business. an experienced. some executives elect to execute transactions without an investment bank in order to avoid the fees. a good investment bank should become a trusted business advisor that can be called upon informally for advice and support on an ongoing basis. After the transaction. 6. knowing that the transaction is being handled by individuals with experience in executing similar projects. Because investment banks are intermediaries. rather than on the day-to-day details of the transaction. However. an investment bank will charge an initial retainer fee. the client is able to focus on running the business. It is important to utilize a fee structure that aligns the investment bank’s incentive with your own. and generally not providers of capital. At the same time. Ongoing Support Having worked on a transaction for your company. The investment banker has a vested interested in making sure the transaction closes. quality investment bank adds significant cant value to a transaction and can pay for its fee many times over. . which may be one-time or monthly.

done by a special set of traders who do not interface with clients and through Principal Risk. risk undertaken by a trader . Banks undertake risk trough proprietary trading.CHAPTER .2 ORGANIZATION STRUCTURE OF AN INVESTMENT BANK The main activities and units The primary function of an investment bank is a buying and selling product both on behalf of the bank’s clients and also for the bank itself.

or negotiating with a merger target. Sales & Trading is often the most profitable area of an investment bank. such as Mergers & Acquisitions. In the process of market making traders will buy and sell financial products with the goal of making an incremental amount of money on each trade. coordinating with bidders.g. responsible for the majority of revenue generated by most investment banks. while Private Client Services manages the funds of high net-worth individuals. Sales is the term for the investment banks sales force. real estate). Product coverage groups focus on financial products. Front Office Investment Banking is the traditional aspect of investment banks which involves helping customers to raise funds in the Capital Markets and advising on mergers and acquisitions. Investors may be institutions (insurance companies. Sales desks then communicate their clients’ orders to the appropriate trading desks. and maintain relationships with corporations within the industry to bring in business for the bank. bonds.) or private investors (both directly via investment contracts and more commonly via collective investment schemes e. Other terms for the Investment Banking Division include Mergers & Acquisitions (M&A) and Corporate Finance. The Investment Banking Division (commonly referred to as IBD) is generally divided into industry coverage and product coverage groups. Private Wealth Management deals with institutional investors. .after he buys or sells a product to client and does not hedge his total exposure. The Investment management division of investment banking is generally divided into separate. and Leveraged Finance. Industry coverage groups focus on a specific industry such as Healthcare or Technology. whose primary job is to call on institutional and high-net-worth investors to suggest trading ideas (on caveat emptor basis) and take orders. to meet specified investment goals for the benefit of the investors. pension funds. corporation etc.g. often known as Private Wealth Management and Private Client Services. etc. Investing management is the professional management of various securities (shares. or structure new products that fir a specific need.) and other assets (e. which can price and execute trades. mutual funds). Banks seek to maximize profitability for a given amount of risk on their balance sheet. Investment banking may involve subscribing investors to a security issuance. Financial Sponsors. An investment bank is split into the so-called • Front Office • Middle Office • Back Office.

Sometimes. and investment bankers by covering their clients. By trading and analyzing the capital flows of the firm. Examples include Goldman Sachs Capital Partners. Ranging from derivatives to specific industries. its resources are used to assist traders in trading. In recent years the risk of errors has become known as “operational risk”. the direction it would like to take in terms of its proprietary and flow positions. There is a potential conflict of interest between the investment bank and its analysis in that published analysis can affect the profits of the bank. correctly (as per standardized booking models in the most appropriate systems) and on time (typically within 30 minutes of trade execution). merchant banking is a part of Alternative Investment division. When this assurance is not in place.Structuring has been a relatively recent division as derivatives have come into play. as well as the way structures create new products. While the research division generates no revenue. and the assurance Middle Offices provide now includes measures to address this risk. market and credit risk analysis can be unreliable and open to deliberate manipulations. Strategy is the division which advices external as well as internal clients on the strategies that can be adopted in various markets. Merchant banking is a private equity activity of investment banks. strategists place companies and industries in a quantitative framework with full consideration of the macroeconomic scene. Another key Middle Office role is to ensure that the above mentioned economic risks are captured accurately (as per agreement of commercial terms with the counterparty). This strategy often affects the way the firm will operate in the market. the suggestions salespersons give to clients. the sales force in suggesting ideas to customers. with highly technical and numerate employees working on creating complex structured products which typically offer much greater margins and returns than underlying cash securities. Research is the division which reviews companies and writes reports about their prospectus. the Finance division is the principal adviser to senior management on . etc. JPMorgan Partners. The necessity for numerical ability has created jobs for physics and math Ph. often with “buy” or “sell” ratings. and setting limits on the amount of capital that they are able to trade in order to prevent ‘bad’ trades having a detrimental effect to a desk overall. Finance areas are responsible for an investment bank’s capital management and risk monitoring. Middle Office Risk Management involves analyzing the market and credit risk that traders are taking onto the balance sheet in conducting their daily trades. Therefore in recent years the relationship between investment banking and research has become highly regulated requiring a Chinese wall between public and private functions.D.s who act as quant.

Compliance areas are responsible for an investment bank’s daily operations’ compliance with FSA regulations and internal regulations. A finance degree has proved significant in understanding the depth of the deals and transactions that occur across all the divisions of the bank. Technology has changed considerably in the last few years as more sales and trading desks are using electronic trading platforms. In the United States and United Kingdom.essential areas such as controlling the firm’s global risk exposure and the profitability and structure of the firm’s various businesses. . While some believe it provides the greatest job security with the bleakest career prospectus of the divisions within and investment bank. who are also responsible for Computer and Telecommunications-based support. Technology refers to the IT department. The private areas of the bank deal with private insider information that may not be publicly disclosed. Back Office Operations involve data-checking trades that have been conducted. It is however a critical part of the bank that involves managing the financial information of the banks and ensures efficient capital markets through the financial reporting functions. In recent years due to increased competition in finance related careers. An investment bank can also be split into private and public functions with a Chinese wall which separates the two to prevent information from crossing. often reporting to the Chief Financial Officer. a Financial Controller is a senior position. while the public areas such as stock analysis deal with public information. ensuring that they are not erroneous. Every major investment bank has considerable amounts of in-house software. created by they Technology team. Often compliance areas are also considered as a back-office division. These platforms can serve as auto-executed hedging to complex model driven algorithms. many have outsourced operations. college degrees are now mandatory at most Tier 1 investment banks. and transacting the required transfers.

which has been the primary source of investment . This was up by 14% on the previous year. The recovery in the global economy and capital markets resulted in an increase in M&A activity. but 7% below the 2000 peak.8 billion. to $52.CHAPTER .3 SIZE OF INDUSTRY Size of Industry Global investment banking revenue increased for the third year running in 2005.

during this time period. Credit spreads are tightening and intense competition within the field has ensured that the banking industry is on its toes.banking revenue in recent years. Europe (with Middle East and Africa) generated 31% of the total. a proportion which has fallen somewhat during the past decade. . with 51% of the total. The US was the primary source of investment banking income in 2005. Asian counties generated the remaining 18%. Between 2002 and 2005. This compares with a 55% increase in Europe. slightly up on its 30% share a decade ago. fee income from Asia increased by 98%. and a 46% increase in the US.

CHAPTER .4 RECENT EVOLUTION OF THE BUSINESS Recent Evolution of the Business New products Investment banking is one of the most global industries and is hence continuously challenged to respond to new developments and innovation in the global financial markets. Throughout the history of investment banking. it is only .

while many products have been commoditized. otherwise known as Private Investments into Public Companies (otherwise known as Regulation D or Regulation S). Such transactions are privately negotiated between companies and accredited investors. since these can usually not be patented or copyrighted. trading bonds and equities for customers is now a commodity business. but structuring and trading derivatives is highly profitable. Each OTC contract has to be uniquely structured and could involve complex pay-off and risk profiles. the more it knows about the market flow. allowing it to theoretically make better trades and pass on better guidance to clients). SPACs (Special Purpose Acquisition Companies or Blank Check Corporations) have been created from this industry. pushing down trading margins. Listed option contracts are traded through major exchanges. These PIPE transactions are nor-rule 144A transactions. The fastest growing segments of the Investment Banking Industry are called PIPEs. an increasing amount of profit within investment banks has come from proprietary trading. such as the CBOE. Large Buldge Bracket Brokerage firms and small boutique firms compete in this sector. However. where size crates a positive network benefit (since the more trades an investment bank does. In addition. they are very often copied quickly by competing banks. Vertical Integration . and are almost as commoditized as general equity securities. For example.known that many have theorized that all investment banking products and services would be commoditized. New products with higher margins are constantly invented and manufactured by bankers in hopes of winning over clients and developing trading know-how in new markets.

This process is called securitization. prohibited banks from both accepting deposits and underwriting securities which led to segregation on Investment Banks from Commercial Banks. and because of the fear that this will continue. many Investment Banks lend at loss leader interest rates in order to make money securitizing the loans. many Investment Banks have focused on becoming lenders themselves. Previously. In fact. initially created in the wake of the Stock Market Crash of 1929. lenders have begun to securitize loans themselves. the Glass-Steagall Act. Glass-Steagall was effectively repealed for many large financial institutions by the Gramm-Leach-Bliley Act in 1999. For example. the money from the sale of the bonds can be used to make new loans. Because of this. investment banks had assisted lenders in raising more lending funds and having the ability to offer longer term fixed interest rates by converting the lenders’ outstanding loans into bonds. especially in the areas of mortgage loans. causing them to be a very popular financing option for commercial property investors and developers. while the lender accepts loan payments and passes the payments on to the bondholders. However. . and then use the investment bank to sell bonds to fund the debt. making loans with the goal of securitizing them. in the areas of commercial mortgage. Another development in recent years has been the vertical integration of debt securitization.In the US. a mortgage lender would make a house loan.

CHAPTER .5 POSSIBLE CONFLICTS OF INTEREST Possible conflicts of interest Potential conflicts of interest may arise between different parts of a bank. creating the potential for financial movements that could be market manipulation. Authorities that regulate investment banking (the FSA in the United Kingdom and the SEC in the United States) require that banks impose a .

settlements. many equity researchers allegedly traded positive stock ratings directly for investment banking business. Some of the conflicts of interest that can be found in investment banking are listed here: • Historically. Front running is the illegal practice of a stock broker executing orders on a security for their own account (and thus affecting prices) before filling orders previously submitted by their customers. • Many investment banks also own retail brokerage. Politicians acted regulator and a series of lawsuits. equity research firms were founded and owned by investment banks. Also during the 1990s. and prosecutions curbed this business to a large extent following the 2001 stock market tumble. This behaviour may have led to investment banking business or even sales of surplus shares during a public offering to keep public perception of the stock favourable. • Since investment banks engage heavily in trading for their own account. .Chinese wall which prohibits communication between investment banking on one side and research and equities on the other. On the flip side of the coin: companies would threaten to divert investment banking business to competitors unless their stock was rated favourably. One common practice is for equity analysts to initiate coverage on a company in order to develop relationships that lead to highly profitable investment banking business. some retail brokerages sold consumers securities which did not meet their stated risk profile. there is always the temptation of possibility that they might engage in some form of front running. In the 1990s.

6 LIST OF INVESTMENT BANKS List of the Investment Banks • • • • • ABN Amro Banc of America Securities Barclays Capital Bear Stearns BNP Paribus .CHAPTER .

7 CAST STUDY .• Citigroup • Credit Suisse • Deutsche Bank • Dresdner Kleinwort • Goldman Sachs • Greenhill • HSBC • JPMorgan Chase • JP Turner and Company • Lazard • Lehman Brothers • Macquarie Bank • Merrill Lynch • Morgan Stanley • Nomura Securities • Raymond James • Rothschild • RBC Capital Markets • Thomas Weisel Partners • UBS • Wachovia Corporate ranks within Investment Banks • • • • • • Partners Managing Director Executive Director Vice President Associate Analyst CHAPTER . THE THIRD MILLENNIUM Market Leaders identify the Key Strategic Issues Authoritatively researched by BRAXXON .INVESTMENT BANKING.

Chief Information Officers and Heads of Technology.Goldman Sachs. The distribution of participants by institution type and function is set out at Figure 1 below. such as the continued trend towards consolidation in the industry. External Challenges facing the Banking Industry a) Consolidation trend set to continue Consolidation in the investment banking business is by far the most widespread concern of the executives interviewed. Merrill Lynch and Morgan Stanley Dean Witter . The former group is led by the ‘Big Three’. Participants spanned a broad range of functions and included Chief Executive Officers. Whilst key areas of consensus emerge. Chief Operating Officers. while for many it dominates their strategic thinking. primarily US based. The handful of successful global firms in steadily winning market share. GRAPH 1 The primary objectives of the research was to explode the challenges facing the investment banking industry in the 3-5 years period following the millennium and the operational responses to which they are likely to give rise.with the latter included specialist advisory firms such as the Lazard Houses and NM Rothschild.and analyse their implication for the industry. on the other listed at Appendix 1. This involved interviews with 43 senior executives in around 30 investment banking organisations based in the UK. Managing Directors of specific business units. niche players. Virtually all mentioned it. The functional breakdown between those who rated this amongst their top 3 or 4 issues is shown below. A list of participating organisations .INTRODUCTION In Spring 1999 Braxxon Technology commissioned Davis International Banking Consultants (DIBS) to undertake a survey of issues facing the investment banking industry once EMU and Y2K are things of the whom we are extremely grateful for their enthusiastic co-operation and support . Unsurprisingly. it equally concerns executives across all aspects of the they between different types of institution or functional roles . especially in post-EMU . of the super-bulge firms and. they also tried to explore areas of dissonance . GRAPH 2 The universal view is that the current consolidation process will continue with the global market increasingly polarised in size between a handful.

European Investment Bank) “Technology is critical at the sales and trading end of the business.decisions being taken now will require a new level of seriousness. in large past at the expense of the traditional European universal banks. It was told by many competitors that the securities sector essentially debt and equity capital markets is becoming commoditised just as commercial banking businesses like global custody and syndicated lending during the 1980s.its domestic retail banking operation. In contrast. European Investment Bank) .” (Managing Director. Another dimension of this polarisation is the increasing distance between the leaders in the securities business . many executives feel that the universal banks in markets like Germany. “Origination is not a commodity business .” (Chief Technology Officer.” (Managing Director.largely the US competitors and those in the advisory sector. Thus the increased volume and pressure on profits described below is forcing the global securities houses to drive costs downward. small specialists can survive. On the one hand. US Investment Bank) Mixed views on the outlook for the “muddling middle” As for the competitors in the middle.people are the key resource. Spain and France would be unable to sustain what is essentially a geographic franchise based on local relationships in the face of the onslaught from the global competitors.including many of the latter believe that local loyalties.. we found a sharp difference in opinion. by providing the service which the larger competitors cannot. Others . US Investment Bank) “Investment banking is going to grow up.” (Managing Director.” (Chairman. if not even thrive. US Investment Bank) “The big losers will be the middle layer who still have the high fixed cost base but cannot attract the revenue required to support it. Even one of the firms positioned just below the top three competitors characterise their scope and size as “awesome”. in the corporate advisory (or M&A) sector. and the cost of servicing the mid-sized national client would ensure a continuing role for the European banks.. in which personal relationships and ‘good ideas from creative people’ are the critical success factors. Most of the universal banking strategy is indeed keyed to servicing the mid-sized client which could not be effectively served by the larger US firms.Europe. the ability to provide a better service. “The middle layer will either be acquired or will retreat to its core competence .

The only question is how virtual can the front office become. Many smaller competitors acknowledged the competitive advantage represented by the U...and even more for the niche players in the advisory sector . European Investment Bank) “In the same way that the back office has undergone centralisation. geographically dispersed infrastructure at a time when the front office is centralising and “virtualising” in exactly the same way as many back office operations have already.“Geography is no longer a defensible niche...” (Managing Director.” (Managing Director.” (Head of European Wholesale Financial Services Technology. US Investment Bank) “The European wannabes are in denial over their lost franchise.” (Managing Director. especially in Europe where deregulation and EMU have eroded national are the clearing mechanisms ..” (Deputy Chief Executive Officer.though possibly more far-sighted . US Investment Bank) For those competitors . more flexible environment. “The exchanges are linking up .how long will we need the bricks and mortar if we can just plug into a universal socket. where they have less profile and less authority.S. a minority . firm’s ability to invest massively in technology as well as other sectors.view. There is a widespread view that industry consolidation will spin off a number of highly talented individuals who prefer to work in a smaller. impersonal organisation.they have delusions of grandeur and are living well beyond their means.the quality of people is central to their survival. highly intelligent personal available who simply don’t want to be absorbed into a large. UK Investment Bank) The power of the US-based global bulge firm is universally agreed to be overwhelming. free-thinking. was expressed by one global competitor who questioned the ongoing need to build up a large. However. They have invested heavily over time in the European market at the cost of short term profits. the same is likely to happen over time to the front office. and their progress in gathering market share across Europe is impressive. “There are independent by minded.. International Investment Bank) Cultural compatibility A key dimension of the consolidation process is the issue of whether an investment banking activity can co-exist within a universal banking group along .The infrastructure we are investing in so heavily today may not be needed tomorrow. they are prepared to pay top dollar for the best staff as well as offer the prestige of working for a global leader.

US Investment Bank) “EMU will create phenomenal opportunities in Europe. most of who acknowledge that they would gain from a model which enabled them to compete on the basis of their home market strengths. Several interviewees noted that Euroland . The impact of Euroland Another key unknown for competitors active in the EU is the likely future shape of the European market post-EMU.not surprisingly propagated by the US firms . One view .specifically compensation structures and risk appetite . While admitting that these trends are clear.of the two businesses.based banks to date in 1999 had regained some market share based on their natural distribution capacity in the Euro. a market shift in European investor preferences and rapid restructuring of the corporate sector leading to booming IPO and private equity markets. It is of interest that COO’s and other executives responsible for Operations were the ones who focused most frequently on those issues.” (Managing Director. however. deeper. They suggest a Euroland with a much larger and deeper debt markets keyed to corporate credit differentials.” (Chief Operating Officer. US Investment Bank) . Warburg Dillon Read and Deutsche Bank. GRAPH 3 The outcome of this European restructuring is of central importance to the handful of European-based global aspirants such as CSFB. “The Euro will create that Europe will increasingly resemble the US market. This reflects the fact that they and their areas of responsibility have been the first to be seriously affected through the diversity of options available for settlement in the Euro. All of our sources agreed. more unified markets and plenty of opportunities. Most of our sources expressed serious reservations on the cultural compatibility . in particular mergers such as Deutsche Bank/Bankers Trust and Citigroup which involve blending different cultures.with a major commercial banking business. that Europe would be a very attractive market on a global scale for the reasons suggested above: corporate restructuring. and increased cross-border portfolio balancing. the growth in size and differentiation of the debt markets. many US and European banks feel that it is still possible that a unique ‘Euro-model’ would emerge somewhere between the US and the pre-EMU profile.

is a key strategic goal. which clearly implies a totally new approach to business processes.facing capability regardless of market conditions. In particular.largely at the expense of the national universal banks in Europe . by virtue of their global distribution and global.” (Managing Director. competitors losing market share and therefore transaction volume can suffer an even greater profit hit. One of the Big Three acknowledged that their strategy is to ‘grow fast by spending money’. debt and equity capital markets .. Niche players have low fixed costs and can survive on crumbs. and slash them by a wide margin. b) Intensifying competition depress profitability Competition and its impact on profits is another issue which preoccupies many of the executives interviewed.based research capability on a global scale. In a scale business such as investment banking.” (Managing Director. “In 1998 liquidity dried up. For many of the banks interviewed. as they institutional fund management sector is starting to undergo a similar consolidation process. US Investment Bank) “We can never be as local in our marketing as a well-positioned. The US majors are the focus of much of the concern over increased competition.continue to bear fruit. as fund managers feel the same cost pressures as their investment banking providers.” (Chairman. Another US major confirmed that attaining a higher market share in all major businesses . sectoral .advisory.customers atrophied. Its impact on investment banking suppliers is taking the form both of a reduction in the number of providers and the level of commissions paid. Their ‘full bore’ efforts to build market share . most costs are effectively fixed because of the need to provide a competitive customer ... banks like Deutsche Bank acknowledge that they are under pressure to provide such a sectoral .we had the same fixed costs and no income.based research.“The investment banking opportunities in Europe are outstanding. local investment bank. US Investment Bank) . Several executives referred to the need to cut costs in key processes by 50% or more. US Investment Bank) Consolidation on the buy-side Finally on consolidation. to win market share in this consolidating business. another dimension of this process is taking place on the buy-side. the challenge of lower profits means one thing: reduce costs. Several of the US majors expressed the view that they are particularly well placed. and the inevitable volatility of volumes can have a devastating impact on profitability. In contrast.. rather than the traditional 10%.

. European Investment Bank) “Models for assessing risks and their tolerance levels will have to change. netting and the introduction of CLS. UK Investment Bank) C) Risk in need of greater management control The increased impact of risk on both revenues and reputation is another preoccupation for many of our sources. and the setting up of new clearing systems for products such as Swaps and Repos becomes a necessity. it is widely acknowledged that a number of mergers have been triggered by exceptional trading losses. Strategy and Planning. One leading European investment bank spoke of the ‘death of the boffin’ referring to the loss of confidence in complex models on which management had previous relied.“Investment banking is an incredibly difficult business to make money in.” (Managing Director. “The events of 1998 have brought to the attention of senior managers and regulators alike the shortcomings of econometric models based on historical precedents. you’re nowhere. In those extreme market conditions. many interviewees pointed to the sharp difference in risk performance during the 1998 market particular the interaction of market price and liquidity. Another dimension of the risk issue is the desire to reduce settlement risk. The impact of the 1998 market turmoil continues to be felt in the form of concern over the real value and use of VAR market risk models. US Investment Bank) d) Globalisation creates the super-bulge elite .as well as the cost (estimated by one source at $600 million per annum) of fails . At the same time. they did not prevent serious trading losses. To achieve the long term goal of real time settlement.the major competitors have acknowledged that settlement risks must be reduced by such measures as straight through processing. Under heavy pressure from regulators .. the merger of clearing systems such as Euroclear and Cedel. US Investment Bank) “If you’re not in the top ten.” (Director of Information Technology. as well as national stock exchanges. The drying up of liquidity in key markets during the fall of 1998 highlighted the issue of co-variance .we are still suffering from the star culture and inflated remuneration levels of the late 80s and early 90s.” (Manager.” (Director of Information Technology. with some major players suffering substantial losses in Russia and other markets while others sailed through the crisis virtually untouched.

Many of our interviewees. while the super-bulge group has largely completed its global network. Digging behind the somewhat surprising findings displayed graphically below. The impact of globalisation is being felt even among national clients with no particular international dimension. their IT colleagues perceive as the necessity of systems integration. should such volumes remain high. Not surprisingly. What business executives describe as the challenge of globalisation. While the term is widely used for a variety of purposes. as the extra absolute costs have exceeded incremental revenues. In the advisory realm. those responsible for running operations see both as very significant issues! “Large customers will look for an integrated provider who will provide a full service and be capable of tailored solutions. as the ‘meat in the sandwich’. equity and debt trading and cross border transactions in general which are double or triple those prevalent before EMU.Globalisation is another key strategic issue. including the mid-sized universal banks. US Investment Bank) GRAPH 4 e) Capacity constraints and the challenge of doing more for less The recent surge in transaction volumes. largely attributable to EMU. The expense of establishing customer service. acknowledged the competitive attraction of bringing in a global house at least as co-manager for such critical transactions. the impact on overall profits in many cases has been negative. the business executive sees the issue as globalisation. the IT executive sees systems integration as a necessary pre-cursor to effective globalisation. systems must necessarily be integrated worldwide. While unit costs may have fallen as a result of this volume surge. these competitors have also been able to market their brand to these mid sized domestic clients seeking an advisor for a critical M&A or restructuring mandate.” (Director of Information Technology. Not only are the global majors able to promote their securities distribution strength across geographies. Several of the US-based as well as European majors point to volumes in early 1999 in FX. Moreover. the issue of adequate long-term capacity is being raised by a . for which. in the investment banking realm it refers primarily to the provision of a global service to corporate and institutional clients. research and distribution capabilities across the glove is clearly beyond the reach of many competitors. has posed a major issue of capacity and unit costs.

” (Head of European Equity Technology.will be much more reluctant to pay for advice. Another dimension of the disintermediation issue is the likely introduction of straight through processing. it is widely agreed that the dissemination of research and portfolio analytics on the Internet will further commoditise the securities business. several questioned whether the wholesale/institutional market would be equally impacted . Initiatives to tap this market segment. In addition. “There is much more information much more readily available. it has not escaped of the major firms that Internet and other new technology offers a unique opportunity for new. at least for the client segment which prefers low cost rather than advice. low cost niche competition to win market share. While this trend is particularly relevant in the US where Internet usage is surging.” (Head of Information Technology. It will reinforce the ability of fund managers to reduce the cost of execution by channelling orders to those investment banks able to provide the lowest cost processing capability. such as those by Merrill Lynch (the purchase of DE Shaw) and DLJ (DLJ Direct).except by accelerating the on-going process of commission attrition. Finally. The average client .concern to minimise operational risk and avoid consequential reputation damage.both on the sell-side and the busy-side . “US investment alone in Europe is likely to rise from 2-3% of the typical US institutional portfolio to 20-30% of Euroland securities. Japanese Investment Bank) . the process will be accelerated. most of our interviewees acknowledged that it was only a question of time before it impacted the European market. With the UK now likely to join. many investment banks are confronting the need to spend heavily on integrated systems able to handle much larger volumes at a profit. While all agreed that the retail market would be transformed by Internet technology. US Investment Bank) f) Disintermediation continues apace Disintermediation of broking and investment banking intermediaries is another issue mentioned by a significant number of our sources. Several of our sources expressed concern that smaller equity offering in the US are being made over the Internet without the help of an investment banking intermediary. are clearly forcing the hand of other major US investment banks to respond in kind. Coupled with the increased number of banks passing through a merger process and the overall need to reduce unit costs.

US Investment Bank) GRAPH 5 Of those who raised disintermediation as one of their top three or four issues..” (IT Director. Profitability 7. Cost management 6. Strategy and Planning.. Overall. European Investment Bank) “The availability of increased bandwidth will make the Internet truly usable . The principal topics raised are listed below.” (Manager. the more you fear the damage they can wreak for the traditional leaders in the Investment banking industry. Ranking of industry issues raised by all survey participants 1. UK Investment Bank) “The Internet will not have the same far reaching effects on investment banking as it has had in retail banking. Euroland lowers barrier to entry. but it does facilitate it. Straight through processing . business development or operations/IT executives .. Attracting and retaining quality staff 9. ranked in order of the frequency with which they were repeated. Systems integration 10. Quality of management 8. a marked predominance were those responsible for IT. provides open access and required transparency. all industries will come under pressure. Consolidation 2. g) And the winner is.once this happens.“The Internet does not actually cause’s not the way business is done.. It appears that the more you know about the power of Internet-related technologies. Globalisation 11. Disintermediation 4. Competition 12.on what they key issues facing the industry are. We asked our participants to identify just those three or four issues which were dominant for them into the next millennium. we found remarkable agreement across our interview universe whether top management.” (Chief Technology Officer. Risk management 5. Regulation/Deregulation 13.

The chart below shows the percentage of the total sample of participants who raised one of the ‘Top 10’ issues within their own list of three or four major concerns.implied by the integration of stock exchanges and clearing systems across Europe . with the flattering out of the above graph detailing other issues to be ranked with relatively lower but similar lower priority. For senior management the question was whether the franchise was being opened up or eroded. The issues prompted by consolidation for senior management concerned competitive positioning in the new landscape. This group as a whole seemed to be much more aware of the potential applications of technology and the implicit threat to established ways of doing things. Collateralisation This ranking shows the relative importance of each issue to the sample as a whole. a merger) were also important issues for senior management. Press image 18. E . Attracting and retaining quality staff and the challenge of managing change (in many cases. but it meant different things to each. Integration of stock exchanges/clearing mechanism 15. the “virtualisation of the front office” . For them. the top issue for IT executives was disintermediation. operational and IT executives focussed on the practical issues of handling increased volumes and the need for straight through processing with reduced rates of manual intervention. For those two groups of executives straight through processing was perceived as an industry issue in its own right The issue of profitability was noticeably higher up on the list for senior management than for other participants.commerce already apparent. After consolidation. GRAPH 6 Consolidation in the industry was the top issue mentioned by virtually all survey participants. . Risk management also was higher up on the list for IT directors than for senior management and operations executives.14. whilst the related area of cost management was an equally important issue for senior management and heads of the operations function. Similarly Euroland was very high up on the list for many participants irrespective of their responsibilities or business orientation. For operations and IT executives the issues prompted concerned the challenges of operational and system integration and the problem of legacy systems. Diversification / cultural compatibility 16.

THE OPERATIONAL RESPONSES a) Investment in technology is set to increase From an operational standpoint. with one interviewee remarking: “We don’t really get involved on the business side.” (Director Information Technology. US Investment Bank) Operations executives as a group seemed more able to comfortably straddle the two areas. Our role is to facilitate communication between investment bankers operating globally. Only a few interviewees provided an indication of their total absolute and relative technology spend. US Investment Bank) Key areas of IT investment include the following: .” (Chief Technology Officer. “Technology budgets never go down. One senior operations executive of a major US house noted that one third of his systems should be replaced each year. for virtually all the banks interviewed. For a handful of the larger global providers. this ratio is approaching the 20% mark. We found no bank forecasting lower technology costs.namely the alignment between business and technology together with the level of senior management involvement in operational and technology issues.” (Director of Information Technology. ‘continued changed and churn’. US Investment Bank) “Strategy is technologically obsolete the minute its implementation commences. The opposite was true in many cases with IT executives. Senior management were very comfortable when discussing business issues but often less at ease (and admittedly so) with operational and technology issues. ‘continued obsolescence’.There was also a perceptible difference in the comfort level with which different categories of participants addressed different areas of our survey. phrases such as the following were used: ‘the constant recurrence of non-recurring costs’. To describe their view on such costs. This dissonance tangibly demonstrates an issue openly discussed in the course of the research . but one fairly typical response indicated that IT costs are now about 15% of the total and are likely to increase both in absolute and relative terms. IT investment budgets will continue to increase . ‘spend to save’ ‘IT treadmill’.in some cases by a massive amount.

Several banks are spending heavily to standardise systems across a global network. While acknowledging the virtues of such a strategy. many of our sources feel it would considerably reduce their local operational flexibility. Even some of the largest competitors often have a number of different systems for different regions and products and. “One size fits all standardisation is fine as long as you are near the lowest common denominator. but the trend is clear. many European investment banks lad considerably behind their US peers in the centralisation of bank office operations. in some cases. no content and little use!” “Management information in the financial sector is worse than in any other sector. global basis their FX.with state-of-the-art straight through processing.all paper.invariably a patchwork of legacy systems . real time risk management reporting system covering all types of risk. especially after the events of 1998.” (Managing Director. A number of banks expressed concern that they could not dig down into their existing database to evaluate client and product profitability. This is a major preoccupation of the 5-10 global majors who feel they must make this investment themselves rather than. this is a massive investment in a consolidating market. One interviewee expressed a fairly commonly held view that his own bank’s MIS was “inept. regulators are well as top management are demanding a consolidated. custody and securities processing. European Investment Bank) Global Standardisation: Finally. European Investment Bank) .. For a global aspirant. One of these firms suggested that roughly $1 billion could easily be spent by each competitor in replacing the current transaction processing systems .. One major US bank uses as its maxim ‘Good is in the numbers’ to express its commitment to improving its management information.” (Head of Information Technology. Risk Management Systems: Another investment challenge for many banks is to improve and consolidate risk management systems. Management Information Systems: Management information systems thus need upgrading in many cases. Straight through processing is more appropriate for some products than others.. outsource or share/insource this function..If you’re not. One major European universal bank still has over 10 processing centres in Europe in contrast to banks like Citibank and Chase which have centralised on a regional and...investment decisions are made on a wing and a prayer. it’s a straightjacket. as discussed below.Straight Through Processing: A major driver of new investment will be the effort to achieve straight through processing from receipt of client instruction to final settlement.

however. however. and poor track record. disaster can strike. “Outsourcing basic processing can work in commercial banking where the downside is usually a misposting in a customer’s account. but when it occurs in the market environment of an investment bank. While most of the 8-10 largest investment banks are highly likely to build their major new systems in-house. it is clear that outsourcing discussions are taking place both with outside providers and between potential partners within the bulge group. There remains serious resistance. and the IT partner may not be able to handle the crisis. Most interviewees expressed a number of negative opinions about outsourcing. the question of performance overhands this extensive menu of technology investment. While major obligatory projects such as EMU and Y2K have (to date) met expectations. by technology executives in many of the major firms that such attitudes are changing in the face of the pressure to reduce costs and increase capacity as well as the massive investment cost involved in projects such as straight through processing. the succession of mergers through which many competitors are passing has reduced some of the institutional resistance to change. One executive noted that the track record of investment banks in successfully managing major IT projects has not been brilliant. to outsourcing transaction processing until industry protocols are agreed and technological change slows down arguably a highly unlikely event! “Major players in the midst of a merger phase with new heads of operations without commitments to past systems and behaviours are prepared to . concern was expressed at whether the same commitment and energy could be achieved in a discretionary project such as improved MIS without externally-imposed time deadlines. While outsourcing support and other services has become fairly widespread.” (Managing Director . outsourcing in various formats is rising on most banks’ agendas. European Investment Bank) We were told. These mainly centred around increased cost. some of these leaders may join least a partial solution To meet this investment challenge. have and would continue to consider outsourcing as a serious option and most predict the practice to rise. Being a hostage to a supplier remains a major concern to technology mangers. entrusting an outside provider with the core transaction processing business has met the entrenched resistance of in-house operations personnel who are reluctant to become dependent on a single supplier for such a central element of their business. however. In addition. Most interviewees.Global Operations.For several of the heads of technology interviewed. b) Outsourcing . increased risk. reduced flexibility and control.

b) Renewed focus on risk management Risk management systems are being re-examined in the light of the events of 1998. and efforts are being made to introduce a judgmental override to provide a more balanced risk assessment. Many banks have yet to install global risk management controls.consider solutions they would have rejected out of hand in years gone by. however. One mid-sized bank during the past year has already reduced its IT staff from 150 to 75 and plans to shrink it to provide an interface with external providers. US Investment Bank) For other functions. cost pressures and the willingness to offload functions which can be better executed by specialists should increase the overall proportion of outsourced technology. such increased ranged from a current 10-20% of the technology budget to 4090%. Three of our interviewees were willing to predict sharp increases in this percentage for their own operations.” (Head of Operations and Technology. there is considerable disillusionment with the reliance on market risk models. modelling and financial reporting. A number of contacts pointed out that outsourcing rarely reduces costs but does provide up-to-date technology and specialist expertise.” (Chief Operating Officer. US Investment Bank) “The main objective of outsourcing is to gain a level of technical proficiency that the bank cannot attain itself.” (Vice President . US Investment Bank) “It’s not about costs…it’s about losing the distraction. As indicated above.Infrastructure Service. with both positives and negatives present.” (Managing Director. By and large. the outcome has bee muted. but it’s possible to get a better service because staff specialise more and are competent at what they do. It also allows management to focus on objectives rather than the means of achieving them. US Investment Bank) “Over the last few years there has been much more readiness for competitors to co-operate on issues such as EMU and the development of industry standards and protocols for initiatives like straight through processing. MIS.” (Chief Operating Officer. One such bank reaffirms the distinction between “corporate technology” which should be outsourced as opposed to areas “close to the business” like risk management. UK Investment Bank) We interviewed several banks which have carried outsourcing to an extreme in the form of partnership with external IT providers. which now exist only on a regional or . “Outsourcing does not save money.

Achieving scale in a niche. quantitative approach. universal providers on the one hand and niche players on the other is just simplistic…most players will reappraise the business they are in and concentrate on those they can remain in profitably. as State Street has in global custody and Bear Stearns in securities clearing. balanced. European Investment Bank) On the product side. European Investment Bank) d) Redefining the business profile Revisiting the product and client profile is another strategic response. in many cases. specialist activities.” (Director . Many interviewees pointed to the UK clearers as an example of strategic refocusing on more profitable business such as the retail market. European Investment Bank) “We’ve become a control company. Aspirants for the global bulge group are making major efforts to broaden the product array to compete with the Big Three.” (Manager. that the top tier of clients is being replaced by smaller.Global Operations. points out: ‘we need more gold clubs in our caddy’. many investment banks outside the top tier are targeting business in which success is not tied to market share in such highly .product basis. will regain popularity again in one form or another. less sophisticated firms as the target market. “A more traditional. We found many competitors who have exited investment banking business in order to concentrate on defensible niches.” (Manager. Increased efforts are being made to control credit risk in view of the presumed increased use of credit derivatives and growth of a high yield market in Europe. “To say that the industry will be shared between global. Strategy and Planning. holistic approach (to risk management) which includes qualitative and intuitive factors is likely to replace the current narrow. Yet many executives acknowledge that the appetite for risk is cyclical and that sectors such as emerging markets. eschewed following the 1998 crisis. There is thus likely to be a trend towards increased specialisation. Thus several Japaneseowned banks have exited capital intensive and competitive segments in favour of fee earning. On the other hand. Several banks noted the transfer of highly regarded executives to the job of senior risk manager in leading investment banks. is a highly respected achievement. however. European universal banks and mid-sized firms with a geographic franchise are refocusing their product and client priorities with the result. Many banks interviewed have significantly reduced the volume and risk profile of proprietary trading. currently undergoing a merger for this purpose. Strategy and Planning. As one such bank.

cut 30% of its cost base as it introduces straight through processing for its corporate client base . Investment in transaction processing has already significantly reduced the level of clerical staff in the bank office functions.competitive segments as M&A equity and debt capital markets. they just become IT support staff. One major US bank will. a reduction in the commitment to proprietary trading for many banks means a cut in the dealing team. most interviewees noted that previously unfashionable merging markets would move up the strategic agenda. less visible players. Such individuals are increasingly interested in competing. who must rely heavily on outside contractors and providers for much of their technology talent. and industrial sectors such as high tech are being given a higher strategic priority. Several banks view credit derivatives as a major growth area. will be reinvested in systems. Successful IT staffs are being promoted to more senior operations functions.the savings from which. The problem is much more acute for the smaller. Thus private equity. Apart from the view that Europe offered unique restructuring potential. US Investment Bank) At the same time.” (Chief Operating Officer. many investment banks are concerned with their ability to attract and retain the best and brightest technology staff.” (Chief Operation Officer. and even the most prestigious global investment banks expressed their concern on this issue. “Credit will no longer be a “take and hold” product . however. high yield will become a highly liquid tradable instrument. . but there seems to be relatively little movement from the bank to the front office. we found little consensus on priorities for the future. US Investment Bank) As for geographic areas. “Technology has professionalized the support function. for example. for such banks there could be a net reduction in the numbers of staff needed for trading.” (Head of Operations. glamorous sectors like the software business. While many dealers can be redeployed in middle office functions. US Investment Bank) Overall. e) Reviewing the skills set Changes in skill set are another competitive response to the factors outlined above. One bank noted that their support staffs were currently all graduates as opposed to school leavers in the past. “The numbers of back office support staff don’t actually reduce.

major systems upgrades and consolidation. Goldman Sachs and Morgan Stanley Dean Witter. mould-breaking. Many of our interviewees acknowledged that investment banks are under managed in general and that the management of technology is not a core competence in this context. the leading US houses as a group were usually mentioned. Javabased. Specific positive comments were made with reference to JP Morgan.” (Managing Director. When asked to cite banks which were ahead of their peers in this domain. and MIS improvements. not manage the business and the bank doesn’t want to lose the revenue stream. will be implemented only after the Y2K program is successfully implemented. career-enhancing breakthroughs…and you need someone who understands COBOL-based loans processing!” (Head of Operations. “Y2K has been a huge distraction . Thus projects like straight through processing. We found that all but a handful of major global competitors have been obliged to postpone major technology projects . Strategy and Planning. elusive goal We found that relatively few investment banks are viewed as clear leaders in the realm of operations and has diverted management’s attention and blunted responses to the far reaching structural changes going on in this industry.and probably in some cases possible mergers and acquisitions . management had ring-fenced the Euro and Y2K programs with sufficient resources to enable other to continue of track. web-based.” (Manager.because of the pressure to meet the Y2K deadline in particular.” (Head of Operations. The business this ties itself to the need for skills which are becoming obsolete and are literally retiring. US Investment Bank) . there is a tendency to stick with the tried and tested solution and to jettison anything experimental and state of the art. g) Technology leadership . US Investment Bank) f) The Y2K backlog The Y2K and Euro projects have clearly held up other IT projects for most investment banks.“In a merger situation with all the other uncertainties.a successful investment banker wants to do deals. however. “Investment banks are inherently under managed . European Investment Bank) In the case of the handful of firms who were not obliged to defer such strategic projects. US Investment Bank) “The best and brightest want to work on front office.

deferral of major IT investment programs simply to keep the merged bank in operation.” (Managing Board Member . in microcosm. No specific solutions are on offer. consultants and insourcers with whom joint projects could be undertaken. outside technology suppliers will play a significant role. European Investment Bank) b) Meeting the merger challenges The current merger wave constitutes a particular challenge for the operations function. We met with representatives of both parties to a number of on-going mergers. Such talent is particularly vital in the smaller and mid-sized banks who are followers rather than leaders in the field. Further multiplication of legacy systems (‘legacy on legacy’). and differences in culture and approach to technology all preoccupy management thinking. With the merger wave in full force. “The major issue facing many players in the investment banking industry is managing the merger process and realising its benefits.Global Operations. US Investment Bank) . An almost universal view is that outside expertise in evaluating and selecting systems is critical to avoid the personal biases that may exist within a bank’s technology function.Global Administration. the percentage of outsourcing .particularly at senior levels. One senior executive spoke of having a ‘portfolio of sources’ including outsourcees.” (Director . because it becomes increasingly difficult to attract quality staff . as indicated above. vendors. assistance in the merger integration process is of critical importance to several banks interviewed. As indicated above. Operational integration will be the key challenge in the 2-3 years post millennium but cultural cohesion will probably take a new generation to achieve. virtually all of whom emphasised that the merger process represents.” (Director of Information Technology. there is a general need for skilled and available talent across the board.“All investment banks are pretty much in a mess in some parts of their operations and technology. European Investment Bank) In this least of support functions should increase for many banks. but the fact that ‘post merger integration’ was mentioned by over a quarter of survey participants as a primary area where investment banks need external assistance is some indication of the level of concern. the weakness of operational management in investment banking. On balance. “The position of a struggling investment bank becomes harder.

US Investment Bank) Several banks active in major mergers were quite sceptical of the savings to be made combining operational systems. “Some of the recent mergers are technologically pushing the boundaries…the size and complexity of the integration makes it difficult to see how the goal of achieving synergies and cost reduction can actually be achieved.Infrastructure Service. One of the driving forces behind the decision of several competitors to exit these business will be the cost and complexity of the investment needed to remain competitive. Many executives who have or are currently working for merging entities query whether senior management has the skills to shape and lead the massive and diverse organisations they have created. it is clear that external challenges. will over time reshape the global investment banking sector.“The consolidation process brings out the worst in management as senior staff jockey for position and play political games.” (Director of Information Technology. with some degree of confidence.” (Head of Operations. Thus one can. US Investment Bank) ISSUES FOR THE FUTURE From our research.” (Vice President . One institution which is highly regarded for its ‘serial acquirer’ skills acknowledged that it currently operated over 150 different systems and would be delighted to find an outside provider who would ‘come up within architecture which brings it altogether quickly.” (Chief Technology Officer. US Investment Bank) “There is a limited time horizon for management to integrate the business and realise the anticipated efficiencies and synergies…you have to hit the ground running. . Several predict a ‘disintegration’ phase in several years when these firms are broken up. • Other competitors will refocus on business segments where they feel they can be competitive. coupled with new technology. mid-sized corporate clients and high yield debt. US Investment Bank) “The problems with legacy systems are pretty intractable…they are like trees with extensive root systems. Achieving scale in these segments will be a strategic goal as banks struggle to replace the revenues lost to the global bulge group competition. such as private equity. comprehensively and tactically’. predict the following: • There will be significant attrition in the ranks of competitors in the core business of corporate advisory as well as debt and equity capital markets.

The criticism levelled in so many investment banks at a ‘start/stop culture’ is even more relevant with today’s massive and complex entities. • While the shape and extent of outsourcing will remain the subject of active debate. On the other hand. as well as exert further pressure on brokerage margins. the decision may be straightforward in view of their limited resources. • Commoditisation of many traditional investment banking businesses will continue. with low cost providers in such areas as brokerage winning market share. Comprehensive alliances have proven difficult to manage. whether at the clientfacing or operational level. improve risk and management information and slash costs by introducing straight through processing. sharing the responsibility for a major joint project could well complicate an already difficult task and produce failure rivalling the scale and scope of TAURUS in the early 90s. there is an increasing willingness to consider either outsourcing support activities or to combine forces. • Managing major investment projects remains a real challenge even for the investment banking leaders. Investment banks remain to a large extent deal-focused with little time for the complex and timeconsuming detail of project management. focused and consistent leadership is central to addressing this challenge. If billion-dollar projects such as straight-through processing are undertaken.• Banks will continue to spend heavily to upgrade and integrate their legacy systems. on common facilities such as straight through processing or clearing arrangements. In this context a real commitment by top management to understand and become involved in operational issues is a critical success factor. The need for clear. A future phase of ‘disintegration’ of today’s mergers expressed by several of our interviewees could well be a reaction to today’s merger mania. For the smaller players. • Disintermediation at the retail level and perhaps in the institutional sector will permit the entry of new competitors using the latest technology. either within the sector or with an outside supplier. high value added businesses such as corporate advice will remain in large part the province of smaller. and the availability of top IT talent is a serious constraint even for . a lower cost base and a targeted strategy to win market share. either alone of on join basis. In contrast. there are several unresolved issues which we believe management must address: • Managing the merger process and the resulting consolidated entity is becoming an increasingly challenging task. but for the major players it is not as simple. • Achieving a satisfactory balance between in-house and external resources will also continue to be a major management challenge. specialist firms.

8 .the majors. Lufkin & Jenrette European Bank for Reconstruction and Development (EBRD) Goldman Sachs International HSBC ING Barings JP Morgan Lazard Brothers Lehman Brothers Merrill Lynch International Moscow Narodny Bank National Australia Bank Nomura International Rabobank International Solomon Smith Barney Saudi International Bank Schroders Standard Bank Tokyo Mitsubishi International Warburg Dillon Read CHAPTER . as well as post-merger integration seems to be the key reason for employing outside assistance. particularly in the choice of technology. An independent view. SURVEY PARTICIPANTS Braxxon Technology would like to express their grateful appreciation to all 30 of the organisations who kindly participated in this research programme including the following institutions who have agreed to be named: • • • • • • • • • • • • • • • • • • • • • • • • • • • • ABN AMRO Bank Julius Baer Bank of Tokyo Mitsubishi Barclays Capital Chase Manhattan Bank Citibank Credit Suisse First Boston Daiwa Europe Bank Deutsche Bank Donaldson.

The act was initially created in the wake of the 1929 market crash and what is significant is that it basically prohibited banks from both accepting deposits and underwriting securities. they are very often copied quickly by other Investment Banks. However at this juncture it is worth being mentioned that by creating stock derivative contracts is now a very high margin business. It is imperative to mention here the Glass-Steagall Act of US. an increasing amount of investment bank profit has come from proprietary trading. however. new ones were constantly being invented. .CONCLUSION In today’s world taking investment decision is a vital activity and significantly the process of investment Banking is constantly evolving especially as far as the investment banking products are concerned. the role they have played throughout the evolution of modern capitalism is fairly straightforward. In the coming years however we notice that the Gramm-Leach-Bliley Act repealed the Glass-Steagall in 1999. This is simply as the contracts are difficult to evaluate and apart from that while many products have been commoditized. This basically causes a downslide and the margins are forced downward as the pricing approaches commodity pricing. It cannot be denied that for the first time investors or those not confident of the market the Investment banks have a vital role to play as they are basically the institutions that assist public and private corporations in raising funds apart from providing them strategic advisory services for various kinds financial transactions. Whatever be your choice of investment the basic rule remains the same and that’s you must go to a proper person for investment advice before you make a deposit. Thus while a commercial bank serve to directly take deposits and make commercial and retail loans the investment banks act more on an advisor capacity. which in now a commodity style business. The reason behind this is simple and while many products became commoditized. the lines between the two types of structures have blurred and now there is not much tangible difference between both kinds of banks. These institutions provide the financial means to enable Adam Smith’s invisible hand to function. and the concentration of power in the bulge bracket would be eliminated yet in real life it has failed to happen. Investment banks differ from commercial banks. In fact a survey in the market scene shows that these are the banks that are constantly inventing new products. In recent years. hence it can be said with conclusion that in the history of investment banking through many have theorized that all investment banking products and services would be commoditized. What is a major factor to be taken into account is that these products are usually accompanied by very high profit margins and this basically is mandatory as the buyers aren’t sure how to value them. The only negative point to this whole scenario is that as these products cannot be patented or copyrighted. Take for example the trading stocks for customers. This thus is a must as size creates a positive network benefit. “For all the mystery surrounding investment banks.

Gainesville Case Study by Braxxon Technology Limited .Jay R Ritter.” by Katrina Lamb. whose influence spans the glove.wikipedia. As long as there is a market economy.Investment banks have flourished in a variety of economies. from the merchant traders of 18th-century London and Amsterdam to the behemoths of today. CFA Reference: www. there are likely to be investment bankers coming up with new ways to make Investment Banking and Securities Issuance . University of Florida. while the rest of us marvel at how they manage to do it.

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