Merchant Banking

 

1.0. INTRODUCTION

In the last note (3), we have learned about the commercial bank and its functions in an economy.

It was very clear that the commercial bank is primarily concern about advancing short-term loans

to its customers. The question therefore is, who meets the needs of those who are in need of

long-term loans? In this note, you shall learn about the Merchant Bank and at the end of the note,

you shall appreciate its role in the economy as a provider of long-term funds for development.

2.0. OBJECTIVES

At the end of this note, you should be able to;

Explain the concept of Merchant bank

State and explain the functions of a Merchant Bank

Differentiate between the banking services and the corporate services of the

Merchant Bank

Differentiate between Merchant bank and Commercial bank

3.0. MERCHANT BANKING

3.1. The Concept of Merchant Banking

Merchant banks could be defined in terms of the functions they perform in an economy.

Merchant banks in different countries perform various functions but there are some

activities that are basic to all of these functions. These are “deposit banking, underwriting,

and the management of clients”. Talking of “deposit- banking”, the merchant banks do not

mean the same thing as did the commercial banks. Merchant banks are involved in

wholesale banking whereas commercial banking is simply involved in retail banking.

A Merchant Bank is a financial institution specialized in the provision of certain services such as

acceptance of bills of exchange, corporate finance, portfolio, management, equipment leasing,

etc. Merchant Banks, unlike commercial banks, concentrate on wholesale banking. They carter

for the need of corporate institutional customers and as such, accept only relatively large deposits

of N25,000 and above. Since commercial banks concentrate more on short – term lending,

merchant banks are expected to bridge this gap by providing medium and long- term loans. In

other words, the principal function of a merchant bank is the provision of medium and long –

term lending as against short – term lending which is regarded as the sacred domain of

commercial banking.

In Nigeria, the Bank and other financial institutions Decree No. 25 of 1991, legally defines a

merchant bank as “a bank whose business includes receiving deposits on deposit account,

provision of finance, consultancy and advisory services relating to corporate and investment

matters, making or managing investments on behalf of any person”. Merchant Banks are best

known in the U. K as “acceptance houses” and as “investment banks in the U.S.A”.

3.2. Functions of Merchant Banks

Merchant banking services comprise primarily corporate finance services and banking

services. Corporate finance services range from the management of the issue of private and

public equity shares to corporate debt securities. Merchant banks provide expertise in the

arrangement of syndicated loans for the financing of large-scale industrial projects, general

financial and investment advisory services, company floatation, mergers and reconstructions,

financial planning and portfolio management.

Banking services are essentially loans and advances, deposits, acceptances, foreign

exchange transactions, international trade and equipment leasing.

3.2.1. Banking Services

Loans and advances: Merchant banks provide loans and advances to industry and commerce.

The merchant banks like commercial banks, provided loans and advances of short-medium and

long-term nature. The central bank directs that a minimum of 4% of merchant banks’ total loans

and advances shall be of a medium and long-term nature while a maximum of 20% shall be of

short-term nature.

Deposits: Merchant bank’s deposits are provided in the forum of fixed term deposits, usually

form corporate and non-corporate customers. The deposits are only in large blocks with a

minimum of N50,000 at present. The deposits are not withdrawable with cheques. Certificates of

deposits are used for inter-banks transactions.

Acceptances: Merchant banks accept bills of exchange from importers and exporters which are

easily rediscountable.

Foreign exchange services: Merchant banks as authorized dealers perform foreign exchange

services. This include the provision of service for opening letters of credit and handling direct

remittances for both importers and exporters, arrangement of confirming lines for the letter of

credit of clients, and liaising with the Central Bank on behalf of client. They also sell foreign

exchange to customers obtained from bidding sessions at the Foreign Exchange Market (FEM).

Equipment Leasing: Leasing is a method of financing which enables a company to “rent”

industrial equipment instead of buying it out rightly. Leasing involves the purchase of an

equipment by a bank for a client who is unable to pay for the cost of the equipment at a time, but

takes the possession of the equipment in installmental basis over a period of time. The equipment

becomes that of the client on the completion of the payment for its cost. In this way, merchant

banks help to promote the activities of their clients. Merchant banks lease equipments to farmers

and industrialist.

Portfolio management: Most merchant banks in Nigeria have investment departments set up to

manage the portfolios of customers. This includes arranging purchases and sales of securities

(and offering advice on when and what to buy and sell) as well as attending to registrations,

rights or bonus issues.

3.2.2. Corporate Finance Services

Issuing House Services: Merchant Bank acts as issuing House in the capital market. In

this role they provide financial services to corporate entities including governments, government

parastatals and companies seeking to raise long-term or permanent finance for their operations.

They do this by sponsoring their capital issues and sales of their securities to the public. They

provide advice on the current type of capital structure and determine the most appropriate time to

make an issue. In addition, they advise on relevant government regulations, legislation and

policies and in preparing all the necessary documents (e.g. the prospectus required for an

application for quotation on the stock exchange) and give backing to an issue in the form of

underwriting.

Project financing: “Project financing” (or project loans) are terms which describe the

method that banks, especially merchant banks and other institutional lenders in Nigeria, use to

finance the construction of new projects on a basis whereby repayment is anticipated from the

revenue stream generated by the project. Project financing often involves a loan to a new entity

formed specifically to own or operate the project. Merchant Banks are deeply involved in the

provision of this service to both government and corporate organizations in Nigeria.

Investment and financial advisory services: Merchant banks assist trustees of staff pension,

endowment and note trust funds and institutional fund managers in developing overall

investment, strategies; they also provide advisory services with respect to privatization, mergers

and acquisitions; and debt rescheduling.

3.3. Major Differences between Merchant Banks and Commercial Banks

Some of the major differences between the merchant banks and the commercial banks

include the following:-

i. Merchant banks are wholesale bankers accepting deposits only in large blocks with a

minimum of N50,000 while commercial banks act primarily as retail bankers. Thus,

while commercial banks do business with individuals and companies, merchant banks

concentrate on corporate customers.

ii. Merchant banks operate as wholesale bankers with only a few branches, while

commercial banks, as retailers, need a wide network of branches.

iii. Merchant banks provide mainly medium and long-term finance, while commercial

banks grant short-term loans and advances.

iv. While commercial banks accept deposits from all and sundry, merchant banks depend

on public and private corporations. In their lending activities, commercial banks deal

with a wide variety of customers, while merchant banks deal mainly in the acceptance

and discounting of commercial bills to finance trade and corporate customers.

4.0. CONCLUSION

Though merchant banks are primarily concerned with the provision of medium and long –

term loans in the economy, they are not a substitute to commercial banks in any way, but

they compliment the efforts of the commercial banks in an economy. This note highlights

the functions of merchant banks. It also shows the difference between merchant banks and

commercial banks terms of operations.

5.0. SUMMARY

You have learned that Merchant banking is any person who is engaged in wholesale banking,

medium and long-term financing, equipment leasing, debt factoring, investment management,

issue and acceptance of bills and the management of note trust. In this note, you have also

learned about the major differences between the Merchant bank and the commercial bank.

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