Difference Between Investment Banking and Private Equity
Investment banking refers to the financial mechanism using which person receives financial as well as the advisory services from the investment banker in respect of the share capital in the market private equity funds refers to the investment funds that perform the task of pooling the funds from different investors that have high net worth with the aim of acquiring the stakes in different entities.
There is a huge difference between investment bankingInvestment BankingInvestment banking is a specialized banking stream that facilitates the business entities, government and other organizations in generating capital through debts and equity, reorganization, mergers and acquisition, etc. and private equity. We will bunk the myths here and will try to see from different angles how they are different from each other. Many people often think that there is not much difference between them as they both deal with raising capital for investment purposes, but they are entirely different if you give a closer look.
Investment banking is all about finding businesses and looking for ways of raising capital from the capital market. Whereas, private equity is all about finding high net worth funds and then finding investment opportunities in other businesses. It seems that both are coming from the opposite direction to reach the same goal.
We will dig deep and see in detail how these two different career paths ultimately impacted a lot of young professionals in a meaningful way. We will talk about industries, conceptual roles, what sort of cultures or lifestyles they offer, honorarium and various skill sets required to thrive in these paths.
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Think like this. A is a private equity firm. And B is an investment banking firm.
Most of the people who have little or no sense about this domain would equate the two as similar, but there is a significant difference. Firm A is a collected pool of investors who come together to invest in worthy businesses. How would they do it? They would use their personal funds, pension funds, collect money from insurance companies and wealthy individuals, and will invest that lump-sum money in the businesses that they think would generate a greater return on investments for them.
Now, firm B is completely different. What firm B does is a service of capital-raising for businesses. Firm B advises clients on different transactions like mergers and acquisitions, asset allocation, restructuring, and any service that facilitates capital-raising for its clients.
So what is the basic industry difference between firm A and firm B? The basic difference is firm A is an investment business; whereas firm B is a capital-raising service. Thus private equity is a lot different than investment banking. In investment banking, you don’t need to invest anything at your risk; your job as an investment banker is to facilitate and offer consulting services. But in private equity firm, your job is to invest, not to advise. These two paths often intersect and often the investment banker needs to pitch out ideas to convince the client to do the deal, but both are different industries and different pathways.
Investment Banking vs Private Equity – Job Profile
As we already mentioned both of these things are different, let’s look at what tasks you need to perform if you need to be part of each of these pathways.
#1 – Investment Banking
Let’s talk about investment banking first.
- In a typical scenario, an investment banking analysInvestment Banking AnalysInvestment Banking Analyst works with investment banking team and expertise in the area of Accounting, Financial Modeling, Project financing, Project Valuation, and Financial statement Analysis. These analyst has deep knowledge in Excel and they are good at VBA to analyze the market data and financial modeling. The analytic work consists of building a financial model for different projects like Infrastructure projects (i.e. Power projects, real estate, etc.).t has to perform these primary tasks – pitch book creation, modeling, and administrative work.
- A pitch-book simply means buy-side client presentation. As an analyst, you need to understand the market overview and you also need to take care of the graphical representation of possible exchange ratios.
- Other than that you need to handle multiple deals at the same time. How would you do that? You will simply prepare the merger (or any other) model for multiple deals and will look for errors and bugs because, on the basis of your preparation of the models, the decisions would be taken.
- You need to be aware of all scenarios and for that, you need to be able to handle sensitivity analysisSensitivity AnalysisSensitivity analysis is a type of analysis that is based on what-if analysis, which examines how independent factors influence the dependent aspect and predicts the outcome when an analysis is performed under certain conditions. at different levels.
- As an investment banker, your administrative tasks would be little or not much, but you need to tweak few things here and there to be able to concentration on two main things – pitch-book presentation and modeling on which the major decisions are being made.
#2 – Private Equity
Talking about private equity, there are basically four functions that private equity associates have to perform on a daily basis. They are – fundraising, screening for and making investments, managing investments and portfolio companies and exit strategy.
- Fundraising is typically done by senior professionals but often associates are asked to help with the presentation. All they need to do is to find out the past performance, past investors and what strategy was being used for the funds. Often associates need to do credit analysisCredit AnalysisCredit analysis is the process of drawing conclusions about an entity's creditworthiness based on available data (both quantitative and qualitative) and making recommendations about perceived needs and risks. Credit analysis also involves identifying, assessing, and mitigating risks associated with an entity's failure to meet financial commitments. on the fund itself.
- Screening is a very important part of private equity. Associates take pivotal roles in this regard. They look at all the investment opportunities and use financial models (like Discounted Cash FlowsDiscounted Cash FlowsDiscounted cash flow analysis is a method of analyzing the present value of a company, investment, or cash flow by adjusting future cash flows to the time value of money. This analysis assesses the present fair value of assets, projects, or companies by taking into account many factors such as inflation, risk, and cost of capital, as well as analyzing the company's future performance., Net Present Value Method, etc.) to understand whether investing in these projects is profitable or not.
There is a significant difference in creating models for private equity associates and investment bankers. Private equity associates do it to get to the thick and thin of the things; whereas, investment bankers build models to impress the clients.
- While managing investments and portfolio companies, associates help to turn around operations and try to increase operational efficiency (EBITDA, ROE, etc.).
- They also work on the exit strategy and this needs in-depth analysis. In a go, private equity associates have to be equipped with all the tools, valuation techniques, and finance knowledge to be able to crack the code for their investment portfolioInvestment PortfolioPortfolio investments are investments made in a group of assets (equity, debt, mutual funds, derivatives or even bitcoins) instead of a single asset with the objective of earning returns that are proportional to the investor's risk profile. and for their clients.
#1 – Investment Banking
If you are looking for work-life balance then it is better that you choose any other profession than investment banking. Investment banking is certainly not for those who want to work 8 hours a day. If you are ready to come to the office at 9 a.m. in the morning and leave at 2 a.m. at night for most of the days, then you can choose investment banking. It is a very high-pressured job and people need to put their heart and soul into the deals to be able to fetch them in. Of course, there are two major benefits of working 16-20 hours a day.
First of all, there is no limit on how much you can earn. You can earn as much as you want and you would also get a bonus for each deal along with the salary.
Secondly, you will always get the opportunity to know the best people in the business. Knowing them will help you crack more deals and become the center of attraction in the business world. But while discussing these two major benefits, most people don’t talk about one of the major things investment bankers often talk about. And it is friendship. If you ask any investment banker, he would tell you that after school or college, their best friends are their colleagues with whom they cram all night to fetch a major deal. And we think that’s one of the major benefits of this high-pressured job.
#2 – Private Equity
Private equity associates spend saner life than investment banking analysts. If things don’t go wrong (they don’t always), private equity associates spend around 8-12 hours a day in the office. Normally weekends are for them to enjoy with their personal hobbies or with family. That means if you are a private equity associate, you have a much better work-life balance than an investment banker. Yes, sometimes you need to work on weekends but that is not as much as an investment banker needs to do. Usually, the team is small (around 10-15) and you have the opportunity to discuss various matters with people who are senior to you.
The environment at the office is a kind of cube environment where everyone needs to work on a common goal to achieve the desired result. In private equity firms, associates have more impact on sales and trading as they are closer in taking action and investing; whereas the investment bankers have less impact on the sales and trading of the business.
In a sense, private equity associates enjoy better work-life balance than any investment banker.
If you compare the compensation for both the profession, surprisingly you would see that investment banking professional earns lesser than private equity associates. It is strange, but the reason private equity associates earn so much is that usually most private equity associates join private equity firms after being investment bankers for some time. So you can say that whatever hard work they already did in their career in the past, they are getting the benefit now as private equity associates.
Let’s look at the compensation of each of the pathways.
#1 – Investment Banking
As an investment banker, if you join right now, you would get around the US $130-$140k per annum in your first year. In the second year, you would get around the US $155=$165k per annum. In the second year, the increment is visible, but not as much as expected. In the third year, you can expect around the US $175-$195k per annum. The above statistics are for investment banking analysts. But if you join as an investment banking associate, your earning would be much more in the first year only than the compensation of investment banking analyst in the first year. Your compensation as an investment banking associate would be around the US $150-$185k per annum.
#2 – Private Equity
As private equity associates, your compensation is significantly more, but in firms that are just starting out, they don’t pay as much as the reputed private equity firmsPrivate Equity FirmsPrivate equity firms are investment managers who invest in many corporations' private equities using various strategies such as leveraged buyouts, growth capital, and venture capital. The top private equity firms include Apollo Global Management LLC, Blackstone Group LP, Carlyle Group, and KKR & Company LP.. In the first year, as an associate, you would be able to get around the US $100k-$220k per annum. In the second year, you would get around the US $120k-$250k per annum. And in the third year, as an associate, you would be able to get around the US $150k-$300k per annum.
Career Pros and cons
There are many pros and cons to both of these pathways. We will discuss them here so that you can get an idea of what to pick and what to let go of.
#1 – Investment Banking
- It is a job that prepares you for bigger opportunities and makes you the center of the business wherever you go.
- It teaches you the beauty of hard-work and how one thing focus can yield extraordinary results.
- It offers you extra-ordinary money. You will not only get the salary very few can earn in two-three years, but you will also earn a bonus which is quite hefty as well.
- You will be able to create a network that most influential people won’t have. And in this complex scenario of business, you know the value of a high-value network.
- You will create an extraordinary friendship with your colleagues with whom you will cram all days and nights to fetch deal after deal. Most people don’t see as a benefit, but if you meet any investment banker ask him about it.
- Investment banking career is not for the faint-hearted. You need to work at least 16 hours a day and even on the weekend. There won’t be any work-life balance and if you don’t know how to keep yourself sane, your health may get affected.
- An investment banking careerInvestment Banking CareerAn investment banking personnel is a motivated professional who aims to help their clients reach their financial goals and objectives. The top four investment banking careers are - Analyst, Associate, Vice president, Managing director. is more about business deals than going to an in-depth analysis of the models. An investment banker wants to convince the clients with building models, not to go to the depth of any modeling.
- Investment banking comes down to mainly two things which are not always under control – pitch-book presentation and model building. These both things are under the direct control of the clients and the investment bankers use the inputs after thinking over what clients want versus what they can build.
#2 – Private Equity
- If you want to be part of a great team and would like to facilitate in making businesses shine, you would be part of a private equity team. On the surface, it may seem that it is easy to achieve, but you need to understand that if you would like to be an associate in a private equity firm, you need to know a lot more than an investment banker.
- Even if you need to go for an in-depth analysis, your work-life balance would not be an issue. If something doesn’t go wrong, you will be able to enjoy your weekends and you need to work simply 10 hours a day.
- In the monetary sense also, being a private equity associate is beneficial. You will be paid handsomely at the end of the day.
- There are not many disadvantages to being a private equity associateBeing A Private Equity AssociateA Private Equity Associate assists other senior associates and partners in identifying a well-suited target to invest in and reaping the benefits by selling it at a profit, as well as overseeing due diligence, handling communication, and preparing financial models.. The only thing is that you need to know a lot more as you need to build models to go to the depth of things as you are on the buy-side of the business. Albeit you can’t call it a con.
- You will not get as much limelight as you get in the investment banking industry.
Investment Banking vs Private Equity Video
Why Pursue Investment Banking or Private Equity?
Investment banking is all about getting the limelight and being the center of attraction. If you are more interested in business selling, you should pick investment banking after doing an MBA from a reputed university.
Private equity is more about passion as it is more in-house than going out and stealing the deals. If you love to do an analysis in-depth and love investment, you should go for this. But remember most of the people who come in this private equity business come after pursuing their career in investment banking.
This has been a guide to Investment Banking vs Private Equity. Here we discuss the concepts, pre-requisites, employment, skills, work-life differences between investment banking and private equity. You may also have a look at the following articles –