Merchant Bank

Updated on April 11, 2024
Article byWallstreetmojo Team
Edited byWallstreetmojo Team
Reviewed byDheeraj Vaidya, CFA, FRM

What is a Merchant Bank?

A merchant bank is a financial institution that provides banking and financial solutions to High Net-worth Individuals (HNIs) and large corporations. They provide services like underwriting, fundraising, issue management, loan syndication, portfolio management, and financial advice.

Merchant banks don’t serve the general public; they facilitate multi-national companies in cross-border trade. A merchant banker plays varied roles for clients—banker, financial advisor, broker, lender, consultant, debenture trustee, underwriter, and portfolio managerPortfolio ManagerA portfolio manager is a financial market expert who strategically designs investment portfolios.read more. The banks do not provide regular banking services like a checking account.

Key Takeaways

  • A merchant bank is a financial institution that provides services like fund-raising, venture capital financing, underwriting, loan syndication, investment advice, portfolio management, and issue management.
  • They are often confused with investment banks, which serve bigger entities like huge corporations, institutional investors, and governments.
  • Merchant banks work with private corporate entities that are not big enough to release an initial public offering (IPO). They act as financial intermediaries to promote new enterprises.

Merchant Bank

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Merchant Banks Explained

Merchant banks offer financial services to wealthy individuals and mid-sized corporations. They underwrite securities, raise venture capitalVenture CapitalVenture capital (VC) refers to a type of long-term finance extended to startups with high-growth potential to help them succeed exponentially. read more, and raise funds. They do not provide basic banking services.

Among all the services, the focus is on financial advice. These banks primarily earn from the fee paid for advisory services. In addition, the bank invests depositors’ assets in financial portfolios—based on expected returns and risk-taking capacity.

Now, let us understand the brief history—merchant banking started in the 17th and 18th centuries—in France and Italy. By the end of18th century, these banks became popular in Europe; they facilitated distant payments, currency exchange, and issued bills of exchangeBills Of ExchangeBills of exchange are negotiable instruments that contain an order to pay a certain amount to a particular person within a stipulated period of time. The bill of exchange is issued by the creditor to the debtor when the debtor owes money for goods or services.read more. The US introduced such banks in the 19th century—JP Morgan and Citi Bank.

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Features

Following are characteristics that differentiate it from other financial institutionsFinancial InstitutionsFinancial institutions refer to those organizations which provide business services and products related to financial or monetary transactions to their clients. Some of these are banks, NBFCs, investment companies, brokerage firms, insurance companies and trust corporations. read more:

Merchant Bank Functions

The banks extend a variety of services and charge a fee. The services differ from those offered by regular banks.

Let us understand each service in detail:

  1. Project Counselling: Merchant bankers assist their clients at every stage of the project—idea generation, report creation, budgetingBudgetingBudgeting is a method used by businesses to make precise projections of revenues and expenditure for a future specific period of time while taking into account various internal and external factors prevailing at that time.read more, and financing. This is especially the case with new entrepreneurs.
  2. Leasing Services: The banks extend leasing facilities—clients leaseLeaseLeasing is an arrangement in which the asset's right is transferred to another person without transferring the ownership. In simple terms, it means giving the asset on hire or rent. The person who gives the asset is “Lessor,” the person who takes the asset on rent is “Lessee.”read more assets and equipment to generate rental income.
  3. Issue Management: High net-worth individuals employ merchant banks to issue equity shares, preference shares, and debenturesDebenturesDebentures refer to long-term debt instruments issued by a government or corporation to meet its financial requirements. In return, investors are compensated with an interest income for being a creditor to the issuer.read more to the general public.
  4. Underwriting: The banks also facilitate equity underwriting. They assess the price and risk involved in particular security and initiate public issue and distribution of stocks.
  5. Fund Raising: Through various facilities like underwriting and securities issuance, bankers help the private companies generate capital from international and domestic markets.
  6. Portfolio Management: On behalf of clients, these bankers invest in different kinds of financial instrumentsFinancial InstrumentsFinancial instruments are certain contracts or documents that act as financial assets such as debentures and bonds, receivables, cash deposits, bank balances, swaps, cap, futures, shares, bills of exchange, forwards, FRA or forward rate agreement, etc. to one organization and as a liability to another organization and are solely taken into use for trading purposes.read more.
  7. Loan Syndication: They finance term loans to back projects that need funding.
  8. Promotional Activities: Merchant banks are financial intermediariesFinancial IntermediariesA financial intermediary refers to a third-party, forming environment for conducting financial transactions between different parties.read more that promote new enterprises.

Examples

Some of the oldest banks offering merchant banking services include Citi Bank and JP Morgan. Other institutions include Bank of America, Merrill Lynch, Goldman Sachs, Morgan Stanley, Barclays Capital, Credit Suisse, Deutsche Bank AG, Evercore, Jefferies International Ltd, Lazard, RBC Capital Markets, SG CIB, Stifel, USBank, and UBS Investment Bank.

Merchant Bank Vs. Investment Bank

Both offer financial and advisory services to their clients, but their scope of operation is different. Merchant banks work with private corporate entities that are not big enough to release an initial public offering (IPO).

Merchant Bank Vs. Investment Bank

On the other hand, investment banks work with bigger clients to release IPOs. Investment banks are large enough to expend time, effort, and money to raise capital via traditional channels—they serve institutional investorsInstitutional InvestorsInstitutional investors are entities that pool money from a variety of investors and individuals to create a large sum that is then handed to investment managers who invest it in a variety of assets, shares, and securities. Banks, NBFCs, mutual funds, pension funds, and hedge funds are all examples.read more and the government. In addition, investment banks help companies with mergersMergersMerger refers to a strategic process whereby two or more companies mutually form a new single legal venture. For example, in 2015, ketchup maker H.J. Heinz Co and Kraft Foods Group Inc merged their business to become Kraft Heinz Company, a leading global food and beverage firm.read more, acquisitionsAcquisitionsAcquisition refers to the strategic move of one company buying another company by acquiring major stakes of the firm. Usually, companies acquire an existing business to share its customer base, operations and market presence. It is one of the popular ways of business expansion.read more, capital restructuring, and conducting investment researchInvestment ResearchInvestment research entails analyzing the performance of various financial instruments such as stocks, mutual funds, bonds, debentures, and so on in order to present an investor with a view of how the firm is performing. It also aids in predicting their future performance for price movements.read more.

Merchant bankers facilitate private equity investmentsEquity InvestmentsEquity investment is the amount pooled in by the investors in the shares of the companies listed on the stock exchange for trading. The shareholders make gain from such holdings in the form of returns or increase in stock value.read more—they ensure private placement of the corporate securities in front of a preferred group of investors or institutions.

Frequently Asked Questions (FAQs)

How to get a merchant account?

To open a merchant account, follow these instructions:
• Get a business license, open up a business bank account, and ascertain the firm’s business structure;
• Then, setup up compliant policies, refund policies, privacy policy, and other terms and conditions;
• Follow the Payment Card Industry (PCI) compliance, collect the necessary documents, and submit the merchant account application online;
• Initiate the underwriting process and check for the processing fee charged by the particular bank.

What are merchant banking services?

The banks offer a variety of facilities like underwriting, credit syndication, issue management, portfolio management, venture capital financing, corporate counseling, project counseling, international fund transfer, and promotional activities.

Is PayPal a merchant account?

Yes, PayPal is a merchant account—users can make international payments for a certain processing fee. Moreover, it provides a line of credit and business loans.

This has been a guide to what is Merchant Bank and its Meaning. Here we discuss merchant bank functions, examples, services, and features. You may also have a look at the following articles on Investment Banking –