Financial Services Industry: Investment Banking Matt Leahy & John Veltri

Financial Services Industry: Investment Banking

Industry Overview Definition: "This industry comprises establishments primarily engaged in underwriting, originating, and/or maintaining markets for issues of securities. Investment bankers act as principals (i.e., investors who buy or sell on their own account) in firm commitment transactions or act as agents in best effort and standby commitments. This industry also includes establishments acting as principals in buying or selling securities generally on a spread basis, such as securities dealers or stock option dealers" (NAICS 2007). Products: Investment banking services are very similar across each bank. While each bank either acts as a principal or an agent in the securities markets, their ability to evaluate risk and influence interest payments on behalf of their clients differentiates the individual banks. Some other key services the corporate banking industry sells, in addition to investment banking, include insurance, retail banking, private equity, mortgages, credit cards, and wealth management. Suppliers: While none of these service offerings require the raw materials and supporting supply chain that a productproducing industry would, there is a major requirement for the supporting infrastructure for these services. Banks purchase or outsource assets such as hardware, software, databases, IT consultants, and internet service providers to support their value-creating activities. Furthermore, banks must often carry high capital reserves or have an insurer backing up their investing activities to participate in investing transactions. Given the massive switching costs associated with switching software providers, supplier power in this industry is considered strong. Growth & Size: The global commercial banks industry registered total assets of $90.8 trillion in 2008, representing a compound annual growth rate (CAGR) of 16.4% for the period spanning 200408. Markets in the Americas and Europe reached respective values of $16.9 trillion and $49.2 trillion in 2008. The performance of the industry is forecast to decelerate, with an anticipated CAGR of 9.7% for the five-year period 20082013, which is expected to drive the industry to an assets value of over $144 trillion by the end of 2013.

Financial Services Industry: Investment Banking Matt Leahy & John Veltri Risk: Risk is measured in this industry by the capital adequacy ratio (CAR). This ratio compares a bank's capital with respect to its risk weighted credit exposures. While the highest (Citigroup at 15.7% in 2008) and the lowest (UniCredit Group at 6.96% in 2008) CAR's represent a wide range, the top ten investment banks typically fall at about 11-14%. Industry Trends & Developments Global / Domestic Patterns: Both globally and domestically, commercial banks have been struggling recently due to the bearish economy. The housing and real-estate market and jobless rate have led the decline as companies have been less likely to borrow or invest during this uncertain time. Although growth has been limited for these institutions, they have remained fairly stable during the past months with only a small amount of infrastructural loss. This trend leads us to believe that, although these banks have appeared to be struggling publically, they have enough capital to stay strong during this troublesome time. Current Trends / Development: Today, the commercial banking industry is expanding their services in the world of mobile devices. Almost every business has begun to seriously invest funds in developing mobile applications capable of a vast array of banking tasks. For example, banks are using mobile to make payments, transfers, locate ATMs via GPS, utilize NFC (Near-Field Communication), and implement higher bit security. The trend towards more flexible and constant internet-based service offerings will likely continue into the future. This development also presents a growth opportunity for new entrants as the past requirements of a large branch network can be lowered by an effective wireless platform. Marketing Best Practices: Successful marketing within the investment banking industry is built around enhancing brand name recognition and reputation. Given similar service offerings between rivals, marketing is rarely geared towards promoting a specific new service. Marketing instead serves to highlight the strength and efficacy of the company itself. Particularly within companies with credit card offerings (i.e. Bank of America), affinity marketing offers large inroads for brand promotion. Marketing is much more important for companies looking to build brand recognition and gain market share than for those who already have it. Macroeconomic Factors and Issues: The banking system is greatly affected by macroeconomic factors including, but not limited to, individual company stock prices, weather disasters, foreign economic crisis, and even rumors in the media can be influential enough to have an impact. A recent example of this trend was the impact of the credit downgrade of US bonds, highlighted in the Chicago Tribune. According to Paul Newsome, managing director for investment bank Sandler O'Neill + Partners, "with the downgrading of U.S. government bonds, virtually all insurers will see the average credit rating fall and, with it, potentially higher capital requirements" (Yerak 2011). Industry Distribution and Company Overviews

Financial Services Industry: Investment Banking Matt Leahy & John Veltri Market Segmentation: The investment banking industry is highly fragmented. Given the similarities in service offerings, rivalry amongst competing banks is moderately strong. Illustrations of this market segmentation by share and geography are shown below:

Threats to Market: While entering this market is difficult due to high capital requirements and brand building spend, the high potential for market growth and huge potential profits make it an attractive market to attempt to enter. The difficulties in entering the market, also including the personnel training requirements and ATM distribution network advantages, make the threat of entry in this industry moderate. There is also a moderate threat from substitutes in the investment banking industry. As saving and loans from friends may substitute as investment loans, companies could seek alternative means of financing their operations if investment banks prove too expensive. Given current economic instability and shaken faith in investment bank's security, these alternatives are looking increasingly more appealing. These breakdowns are highlighted below:

Royal Bank of Scotland: Headquartered in Edinburgh, the Royal Bank of Scotland employees nearly 200,000 people and brought in over $37 billion in revenues during 2008 but netted a loss of over $58 billion due to market volatility. The Group's investment banking activities are carried out by its Global Markets division and focuses on debt and equity financing, risk management, and transaction banking services. Strengths: The UK governments strong support for the Royal Bank of Scotland includes acquiring 58% of ordinary shares for RBS. Their support is important because RBSs success is crucial to the UKs economic health, and therefore cannot fail. They also own hundreds of franchises across the world, giving it geographical diversification as well. Weaknesses: Large losses on loans caused by troubled assets, mortgages, etc.; issues where increased loans hurt the companys liquidity, and lost efficiency coupled with difficulty reducing costs hurt the companys margins.

Financial Services Industry: Investment Banking Matt Leahy & John Veltri Opportunities: Commodity trading in North America and London should return large profits in the future. They have a drastic restructuring plan in progress as well, so the company should reposition RBS as an even stronger financial services provider. Finally, RBSs partnership with the Bank of China is likely to help capitalize on growth in Asia. Threats: Because their loan book is of poor quality, RBS is likely to default on future loans. An SEC Investigation in 2008 is continuing to cause damage to the firms reputation. Also, the increased number of issues with online banking fraud is likely to present even greater challenges for the business in the future.

Barclays: One of the global leaders in the banking and financial services industry, Barclays is based out of London. It serves clients primarily in countries from the United States, Europe, and Africa, and employs about 123,000 people. In the year 2008, Barclays brought in over $33 billion in revenues, only the slightest decrease from 2007. The investment banking division, Barclays Capital, primarily gives services such as consul for mergers and acquisitions, investing, corporate loans, and risk management for a wide array of businesses. Strengths: Because of Barclays global footprint and diverse services, it has diversified its business risk and increased its financial sustainability. Its credit card business has also helped to keep Barclays afloat, as the use of paper money disappears at a staggering rate. Weaknesses: Because of the large amount of assets Barclays is invested in from an investment banking perspective and a real estate perspective, they have been hit particularly hard by the current recession. Opportunities: The retail banking industry in India and the United Arab Emirates could possibly propel the business into new markets for 2011 and 2012. Threats: As the economic security in the United Kingdom continues to not look promising, Barclays must either devote its cash and resources into fixing the issue or look into other markets. HSBC Holdings plc: A banking and financial institution primarily based in Europe and Hong Kong, HSBC Holdings employees over 300,000 people and posted revenues of over $88 billion in 2008 with profits of $5.5 billion in 2008. HSBC Holdings provides investment banking, commercial banking, and wealth management services to its clients. Its investment services include bonds, equities, derivatives, options, futures, structured products, mutual funds, hedge funds, and fund of funds. Strengths: At a 12.5% annual growth rate, the firm leads as Europes biggest bank according to assets and market share. HSBC was also ranked as the Top World Bank by The Banker. Weaknesses: Strong dependence on the North American housing market, poor performance in the personal financial services' market segment. Opportunities: Because of HSBCs grown presence in emerging markets such as China, Indonesia, and Vietnam, the firm is likely to increase its profitability. Threats: Because of M&As in this industry we can expect an increase competition levels. The economic decline in the US and Europe is also likely to hurt revenue for HSBC. JP Morgan Chase: JPMorgan Chase is a New York-based company, specializing in investment banking, hedge funds, and asset management. It does business in the US, Africa, Europe, and the United Arab Emirates, while employing nearly 220,000 people worldwide. In 2008, its revenues were over $67 billion, only a slight loss from 2007 at 5.8%; however, its net profit decreased at 67%. A financial holding company, JP Morgan has over $1.56 trillion in assets and is an industry leader in its respective services. Strengths: Very strong across all divisions (IB, commercial banking, asset management, credit cards) and position of strong liquidity Weaknesses: Too dependent on the United States, therefore likely to correlate to the markets Opportunities: Growth in the credit card marketplace in the United States, Obamas changing of mortgage laws in favor of the homeowners 4

Financial Services Industry: Investment Banking Matt Leahy & John Veltri Threats: Slow down of IB projects, economy heavily influences business

ING Group: An Amsterdam-based international financial institution with over 120,000 employees, this company recorded revenues of over $93 billion in 2008 but netted a loss of over $1 billion during 2008. ING Group's investment banking activities span over 40 countries worldwide. ING Real Estate, ING Group's real estate investment management branch, is one of the world's largest. Strengths: The emphasis on insurance is positioning ING as one of the worlds largest financial services group. The firms strong liquidity position is very helpful with meeting short-term obligations, yet ING still makes sure its insurance operations are well-capitalized. Weaknesses: Like the Bank of Scotland, INGs lost cost efficiencies are also negatively affecting margins. INGs declining capital strength will also most likely lead to a downgrade in credit rating and decrease the available financial capital for future growth and funding. Opportunities: Long-term growth opportunities are available in North and South America, especially Latin America and Peru. This coupled with acquisitions and diversification worldwide will improve INGs business portfolio. Threats: As more people buy life insurance, the demand for new people to buy is diminishing. This is also affected by people and businesses financial health as they are influenced by the current global economy. In addition, 2008 was one of the worst years in terms of natural disasters, so INGs costs have greatly appreciated, causing net income growth to slow. Industry Outlook This is an attractive, albeit highly fragmented, industry with players clearly positioned for future economic expansion due to the high forecasted growth in demand for their services and difficulties in brand building, developing distribution networks, and high capital requirements for new entrants. The investment banking is industry is highly competitive and effected by many external economic factors. As the current economic downturn has sent major shockwaves through the global financial system, this industry has seen a greater amount of volatility than it had seen in the past. However, as the existing and surviving firms will hold the keys to the global recovery, their services will come into increasing demand as company's need capital to fully recover from the contracted economy. The difficulty with this reality is that it's impossible to know when that turnaround will occur. Until that time comes, investment banking companies will continue to have to carefully navigate their uncertain futures.