Difference between Investment Banking and Private Equity

Investment Banking and Private Equity are not the same. End of story. We will unfold all the myths and confusion related to the IB and PE industries. One of the common beliefs that people have is- IB and PE are the same. However, the structure and the way both businesses operate are entirely different. Here we will try to see the different angles of both the practices and understand the differences.

Broadly, to differentiate both of them, Investment Banking is a service-based industry where an Investment Banker help companies raise funds, execute deals (both buy-side vs sell-side), and also advice on the capital structure of companies. Live example to make you understand: The recent USD 300Mn transaction of Byju’s and White Hat Jr, where DC Advisory acted as an exclusive advisor to White Hat Jr.

On the other hand, private equity is an investment business. Private equity firms look for investment opportunities in the private market space. It raises funds from Limited Partners and deploys them into companies that fit their investment thesis. A typical role of an Associate at a private equity firm involves fundraising, screening companies for investment opportunities, managing investments in portfolio companies, and lastly, crafting an exit strategy. Recent private equity deal: KKR invests in Reliance Jio for a 2.32% stake.

This was a broader difference in Investment Banking and Private Equity. Now, let’s take a deep dive into the differences of both the businesses.

1. Definition

Investment Banking can be defined as a specific division in banking that helps accredited Investors, entities, and governments to raise capital and also offers financial advisory services.

Private equity is a structure where capital is raised from high net worth individuals and corporations which invests directly into private companies.

2. Purpose

The main basis for an Investment Bank is essentially bridging the gap between a great idea and people having capital. It networks with potential clients like Private Equity fund managers, Hedge Fund Managers, Corporations, and HNI’s in order to strengthen the relationship. Investment Bankers are very good at networking.

The purpose of private equity is to create a fund and find private companies that can be a great investment opportunity.

3. Work Culture

If you are looking for a comfortable life, then Investment Banking is not for you. Investment Banking has long hours almost 15-20 hrs a day. It is a high pressured job and you need to sell your soul into the deals to be able to fetch them in. On a lighter note, people say it is more difficult to leave Investment Banking than getting into one.

However, there is a positive side to long working hours. One, you can mint a lot of money in the form of a bonus. Second, you get to know the best people in the business. Third, you learn a lot of things at a much faster rate than anyone else as you are putting that extra time every day.

Private equity employees comparatively live a saner life. Mostly, if everything is going fine and things do not go wrong, private equity associates spend around 10-12 hours in the office. Normally, weekends are free for them to chill, unlike Investment Bankers. They enjoy better work-life balance than Investment Banker. However, the timings of a Private Equity stretches around deal closure. It can go as high as 18-20 hrs. Here the team size is slim, generally 6-8 people.

In a nutshell, a private equity professional enjoys a better work-life balance than any Investment Banker.

4. Job Roles

An Analyst or an associate in an Investment bank needs to accomplish these tasks- Pitch deck/ Pitch book creation, creating financial models, responding to emails, and doing some administrative work.

An associate in private equity would work in areas like fundraising for a new fund, management of portfolio companies, screening investments, initiating investments, and building strategies to exit prior investments.

5. Compensation

Surprisingly you would notice that the compensation for Private equity associates is on the higher side than Investment Banking Associates. It is strange, but the general reason for this is, most of the private equity professionals are Investment bankers in the past. Therefore, all the hard work and all-nighter the Investment bankers have done in the past, they are getting the benefit now.

Compensation for Investment banks is highly skewed in relation to geographies and the type of Investment banks. Like for example, Investment banks in the US tend to pay higher than most of the other Investment banks in the world. Also, the compensation structure of an Investment bank depends upon whether it is a bulge bracket bank, elite boutique bank, regional banks, and middle-market banks. Generally, the Bulge bracket bank pays around USD 110K- 200K (first-year salary including bonus). Boutique banks pay a higher base salary and lower bonus compensation. So, the compensation depends upon a lot of variables but definitely you would earn a lot higher than your peers in other industries

In the private equity side too, the firms that are new in the market don’t pay as much as the reputed names. However, the compensation is better than Investment banks for the same level of roles. The big players in the private equity market would pay around USD 130K- 250K (first-year salary including bonus).

If you make it to the MD/Partner position in an Investment bank or private equity, the amount of compensation is huge. But the compensation structure and variables are different in both Investment Banks and private equity, we will cover it in a separate article.

6. Analysis

Both worlds are similar in this area to a greater extent. Investment banks and private equity analyses companies and try to connect the dots. However, Investment banking is very client facing and execution heavy. You might be working on 20-30 accounts simultaneously as an analyst/associate. It’s like a factory. You get an account, work on it, and then deliver the model/presentation to the client. Due to the extra reps every day, you get great at what you do. Be it financial analysis, models, pitch books, and what not.

In the private equity world, you need the same skills, but it is not that client-facing. Yes, it does have clients like LPs and all but it is not a client-facing business like Investment banking. The traditional job of a private equity professional is to screen great investment opportunities and generate superior returns for LPs. Private equity looks into a few companies, sometimes even a single sector. It goes deep into the business model. It tries to understand whether the business model has an inherent competitive advantage. There is a lot of thinking and judgment that goes on because private equity puts their own money into companies. To put it in a way, Investment banks start from the top-line and how the company is growing over the years. On the private equity side, it starts way deeper than that. It might look into how much money needs to be spent to acquire one customer or how do I acquire one customer, what would be the strategy to acquire a customer. After assessing various layers then it gets into the annual revenue, typically the starting point for an Investment bank.

Conclusion:

These are the traditional differences between an Investment bank and private equity. However, one might argue that they have seen Investment banks have private equity practices too. Well, that’s true. Never denied that. When organizations grow bigger and have dominated in a single business line, they look for expansion. Large investment banks like (JP, Goldman) sets up fund to invest in companies.

Lastly, if someone has a doubt- which industry is better ? We don’t have an answer for them. A lot of it depends upon the personality and what an individual really wants to do. That said, both careers are highly rewarding and can open up wonderful opportunities in the future.