Private Equity vs. Investment Banking
Investment banking and private equity firms are both involved in investing and business, but they are extremely different.
Though the end-game is profit, investment banking is a capital raising service to help mergers and acquisitions, while private equity makes a profit over a span of a few years through the buying and selling of companies. This is just one of the biggest differences between these two capital raising methods.
Sell and Buy
Investment bankers sell investment opportunities to potential investors, and their primary clients are corporations or private companies. The main duty of investment banks is to raise money from other investors by using financial markets to finance transactions for customers. For example, when a company wants to go public or is participating in a merger or acquisition, it must contact an investment bank to increase capital.
Alternatively, a private equity firm collects money from investors in the form of money and leverage to acquire parts or an entire business that have experienced financial distress in the past. The firm does not retain ownership but instead acts as a manager to improve the financial situation of the acquisition before it’s sold for a sizeable profit. In this way, it’s similar to a hedge fund manager keeping track of securities for investors.
Investment bankers spend a significant amount of hours at work. It isn’t rare for someone in investment banking to spend around 90 hours a week on projects. Clients submit a request, the banker works on a proposal, and it’s turned over to the customer. Investment banks do not stay with or manage the investments through cultivation.
Private equity firms are much smaller and also more selective about their employees. The hours are much more flexible, and it’s a long-term relationship with the client. Private equity firms manage investments until capital begins to grow. Once companies are at peak profit, it’s sold and money is paid out to investors.
No matter what type of investing someone is participating in, there will always be a certain amount of risk. Comparatively, investment banking has a lot lower risk factor when compared to private equity firms. Investment bankers make money on each trade by purchasing investments low and selling them when the security grows in value. Banks have risk departments that are dedicated to reducing the amount of risk for traders and clients.
Private equity is much riskier for a number of reasons. First, many private equity firms use leverage, or debt, to purchase parts of businesses or entire businesses that are doing poorly. If investors call on the debt, private equity firms are required to pay the balance. This can cause them to go out of business and all the other investors lose money. The second way it’s risky is that it’s up to the manager to improve the financial situation of the acquired business. To make a profit, the statements of the distressed company must improve. Otherwise, the firm and investors lose capital.