Investment banks and economic development

Financial Institutions play a critical role in promoting economic growth by acting as intermediaries between those with excess money (surplus units) and those in need of money (deficit units). To achieve this, Financial Institutions accept deposits from surplus units and lend them out to deficit units in the form of loans, a process commonly referred to as Commercial Banking. However, Investment Banks go beyond this by offering additional financial intermediation services such as capital raising, facilitating mergers and acquisitions, portfolio management, and research consultancy to individuals, organizations, and governments.

The economic development facilitated by Investment Banks is closely tied to the survival and growth of businesses in the economy. By channeling funds from surplus units to productive economic agents such as businesses and governments, investment bankers increase economic output (GDP), leading to economic growth and development. Therefore, Investment Banks play a crucial role in the growth and survival of business organizations. Ultimately, these banks contribute to the overall economic development of countries.

Core functions of investment banks

Investment Banks have a primary role in raising financing for businesses and governments. However, as mentioned earlier, they also perform additional functions such as facilitating mergers and acquisitions, asset management, and securities trading.

Capital Raising: Capital raising is a crucial service offered by investment banks to assist businesses in obtaining the necessary capital for growth and sustainability. They provide consultancy services to structure securities and connect businesses with investors who will provide the required capital either through debt, equity, or hybrid instruments.

Mergers and acquisitions: Investment Banks facilitate mergers and acquisitions to ensure the growth and survival of businesses. The collapse of businesses can have negative impacts on stakeholders including customers, employees, and government tax revenue. Investment Banks help struggling businesses restructure and properly value them to ensure their stable growth and profitability. Additionally, Investment banks also assist in merging businesses to benefit from Economies of Scale (thus reducing average costs).

Asset Management: Asset management is another service provided by investment banks which involves managing the portfolios of both individual and corporate investors. They invest in equity, fixed income, and money market securities, while managing hedge funds, private equity, and other funds to ensure that investors receive value for money. Investment banks also move funds from less profitable investments to more profitable ones to optimize returns for clients.

Securities Trading: Finally, investment banks are active in the secondary market, helping investors buy and sell investment securities. They also buy and sell financial assets for themselves to generate capital gains on investments.

The SME industry in Ghana

According to data from the Registrar General of Ghana, Small and Medium-sized Enterprises (SMEs) make up over 90% of businesses in Ghana. These SMEs are responsible for about 80% of total employment in the country and contribute about 60% to the nation’s GDP, making them a crucial sector. As shown by several academic studies, access to financing is a major challenge for these businesses. Most SMEs in Ghana are limited in their growth and expansion due to their inability to raise sufficient capital. Even those who can access financial assistance from universal banks or microfinance institutions face high interest rates that can lead to bankruptcy and eventual collapse.

The potential benefits of Economies of Scale are also not fully realized by most SMEs in Ghana due to their inability to grow and expand through mergers and acquisitions. Such business combinations are rare among SMEs in Ghana, limiting their ability to take full advantage of Economies of Scale. This lack of expansion opportunities also limits their ability to penetrate markets outside Ghana. SMEs in Ghana could do well in other African countries, but they are unable to expand to those markets due to their limited access to investment banks. The expansion of Ghanaian businesses outside Ghana could significantly improve the country’s exchange rate situation.

Investment banks and SMEs growth

Investment banks typically work with multinational corporations and governments to raise capital and facilitate mergers and acquisitions. However, Ghana’s developing economy has a greater number of SMEs than multinational corporations, which can also greatly be of benefit to the nation when focused on by Investment Banks. Investment banks have the potential to help SMEs raise capital, facilitate mergers and acquisitions, and provide access to investors who can offer both capital and expertise to help SMEs grow and expand within and outside Ghana.

Capital Raising for SMEs: Capital raising for SMEs has been a challenge in Ghana, despite the establishment of the Ghana Alternative Stock Market (GAX) in 2013. Only eight (8) companies have been listed on the Exchange in ten (10) years, and SMEs are hesitant to list due to concerns about sharing ownership, motivation, and confidence in the Exchange. Investment banks can improve SMEs’ confidence in the Exchange and offer the option of Private Placements and debt securities. Investment banks can structure securities to ensure that both SME owners and investors achieve their goals and have confidence in the transactions.

Mergers and Acquisition of SMEs: The inability of SMEs to merge or be acquired limits their ability to expand and take advantage of economies of scale. Investment banks can help multiple SMEs merge to become stronger and more significant or assist medium-sized enterprises in acquiring small enterprises to achieve growth. Struggling SMEs can be acquired by more profitable ones, and investment banks can help turn them around instead of letting them collapse.

Penetration of External Markets by SMEs: Investment banks can also play a vital role in assisting SMEs to penetrate external markets. Researching new economies where SMEs in Ghana can expand and raise funds within or outside the target economies are two areas where investment banks can be helpful. SMEs’ survival and growth outside Ghana will bring foreign exchange to the country, which is essential for the nation’s development. SMEs require assistance from investment banks to go international.

Outlook for investment banks and SMEs

Entrepreneurship is widely promoted among Ghanaian youth, resulting in the establishment of numerous new businesses. However, SMEs in Ghana face financial challenges despite the efforts of government institutions like the Ministry of Trade, MASLOC, and the Association of Ghana Industries to provide loans. Universal banks with investment bank departments prefer to focus on securities and currency trading and charge high-interest rates on SME loans. To facilitate the growth and expansion of SMEs, the following initiatives should be considered:

• The government and developmental organizations like IFC should invest in establishing investment banks in each region of the country, led by experienced investment bankers with deep knowledge of SME businesses.
• A legislation should be passed to separate investment banking from universal banks, to avoid conflicts of interest and reduce the negative impact of banking crises on SMEs.
• Investment banks in Ghana should refocus their efforts to provide capital raising and mergers and acquisition services to SMEs.
• Ghanaian business schools should offer investment banking specialization in their MBA programs and provide experiential learning opportunities to prepare students to support SME growth and expansion.
• The Association of Ghana Industries, in collaboration with the Ministry of Trade, should organize regional tours and TV programs featuring seasoned investment bankers to educate SMEs on the services investment banks can provide for their growth and expansion.

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The author is an MPhil Finance graduate of the University of Ghana Business School and a member of the Institute of Chartered Accountants, Ghana.