Corporate Finance

Banks such as UBS have lost billions in the subprime mortgage crisis. This business was done out of the investment banking departments of such banks. It is questioned again whether it could make sense to spin off investment banking from large banking conglomerates as they might have a negative impact on overall risk-adjusted value of such conglomerates.

It is argued that the break up value of a bank such as UBS might be substantially bigger than the current market capitalization of the bank. When thinking about such scenarios it is also important to look at the nature of todays large investment banking operations. They are not homogenous at all within themselves. The investment banking business is a combination of highly computerized, scaleable businesses and businesses where tacit skills are highly important (e.g. M&A deal making). When discussing possible investment banking spin offs from banking conglomerates a differentitated view, looking at the various risk profiles of investment banking businesses should be taken.

Attached article provides a valuable overview of the current nature of investment banking operations:

Investment Banking: past, present and future, by Alan D. Morrison, Saïd Business School, University of Oxford and William J. Wilhelm, Jr., McIntire School of Commerce, University of Virginia, 2007

Key conclusions are:

• Investment banks emerged as intermediaries in informationally sensitive transactions.
• The banks established long-term profi table relationships with key information providers and used this information, together with a valuable reputation for probity,
  to attract security issuers.
• The traditional investment banker had a largely tacit skill set. He learned his trade during a long on-the-job apprenticeship in a firm that could provide the close relationships, the mentoring, and the peer-group monitoring upon which tacit skills rely.
• Due to the information technology revolution of the late 20th century many traditionally tacit skills were codified, and massive economies of scale became possible.
• Investment bankers jettisoned the partnership form that had fostered their creation and use of tacit skill in favor of joint stock incorporation, which gave them access to the
  capital required to harness the new economies of scale.
• Tacit skill did not become irrelevant but it became more difficult to reconcile it with the formal reporting lines and the increased scale of the older investment banks.
• An industry reorganization was perhaps inevitable. Using new communications
  technologies, investment banks have started to spin off their most human capital-intensive activities into boutique investment houses.
• Settlement, trading, and analysis tasks were retained

Author's guess about the future:

• Further technical advances, coupled with an increasingly strident regulatory state, will likely result in more codification, more systematization, and more consolidation in the largest investment banks.
• This trend will take the biggest players farther from their origins in tacit human capital businesses.
• But tacit skill andinformal contracts based upon reputation will remain central
  features of informationally intensive security market trades.
• The challenge for the large investment banks will be to reconcile their large scale operations with the operations where tacit skills are a key success factor.