How to Start an Investment Bank – and Why It Might Actually Be a Decent Idea

You may have noticed that I’ve previously covered how to start a hedge fund, a private equity firm, and a venture capital firm, but not an investment bank.

This is quite ironic because when M&I launched a few decades ago, it focused 100% on investment banking.

But students and professionals seem to be far more interested in starting investment firms, likely because it seems “easier” or “more lucrative.”

This is quite a shame because starting an investment bank makes more sense in a lot of cases than raising the vast capital required for your own investment fund.

As with starting a VC firm, there are two main pathways:

1. The Spinoff – Reach the senior level at an established bank (Managing Director, Group Head, etc.) and then take your team with you to start a new boutique bank focused on one vertical or deal type.
2. The Disruptor – Leave banking at the junior-to-mid levels and start a “tech-enabled” bank that focuses on very small deals and makes up for lower fees with volume.

This article will focus on “The Spinoff” case because that is the more common and appealing approach.

If you’re reading this site, you probably have ambitions beyond selling dozens of $1 million EBITDA nail salons owned by retiring boomers in Arizona:

What is Investment Banking?

I am assuming that you already know what investment banking is, what bankers do, and how groups such as Mergers & Acquisitions work if you’re reading this article.

If not, please see our previous coverage because I’m not going to re-explain all these points.

Why Start an Investment Bank? Who Would Be Crazy Enough to Do This?

The motivations for launching a new investment bank normally fall into one of these categories:

1. Culture – For example, Ken Moelis famously cited the “bureaucracy” and committee-driven thinking at UBS when he quit to launch Moelis & Co. in 2007.
2. Compensation and the Work / Pay Ratio – Many bankers believe they can earn more by going independent or that they can improve their “hourly rate” by continuing to earn in the same range while working less.
3. Underserved / Ignored Markets – Senior bankers often believe there are market opportunities in certain industries or deal types that the existing firms ignore. If they act quickly, they can exploit them to become leaders in high-growth sectors.

Who Can Actually Start an Investment Bank?

Traditionally, only established senior bankers with long client lists and relationships spanning multiple decades could start new investment banks.

Remember that investment banking is a high-end sales business; companies pay high fees largely to access senior bankers’ relationships.

People like to obsess over pitch books, financial models, CIMs, and sales team memos, but these are mostly commodities (even before AI tools existed!).

Companies pay for closed deals, and closing deals depends on longstanding relationships with important executives.

Outside of senior bankers, buy-side professionals in fields like private equity could potentially start investment banks as well, but it would be highly questionable to do so.

If they’re good at investing, their compensation ceiling is higher on the buy-side, and if they do want to go independent, why not start an investment firm instead?

Sometimes, junior and mid-level bankers attempt to start investment banks, but they usually turn into “business broker”-type firms, focusing on companies worth $5 – $10 million (or less).

Beyond a long track record of closed deals and an extensive relationship list, good timing is also essential.

Going back to the Moelis example, he hired aggressively in 2008 – 2009 when virtually all other firms were cutting back.

By launching his firm near the bottom of the market, he picked up a lot of cheap talent that he used to win deals as the finance industry rebounded.

How to Start an Investment Bank, Part 1: Economics, Capital, and People

Unlike starting a PE firm or hedge fund, you don’t need to raise hundreds of millions of dollars to start an investment bank.

You earn fees from clients, and you mostly need human labor for that.

But… deals also take years to win and close, and few clients want to pay for a retainer or commitment fee.

Therefore, you will often raise some initial capital for operating expenses, including marketing costs, office space, accounting/audit/legal services, technology/tools, and, most importantly, the salaries of all the bankers at your new firm.

Moelis did it when he started his own firm and, more recently, so did Barrenjoey in Australia, raising initial funds from Barclays and Magellan to support ~60 employees.

Let’s say that you’re going to launch a consumer/retail-focused bank that does M&A and restructuring deals.

You take inspiration from LionTree and call it “Giraffe Geyser Partners” in an attempt to one-up them with a terrible version of their name.

You plan to focus on deals in the $50 to $250 million range, with an average fee of $2 – $3 million.

You’re currently an MD at a middle-market bank and plan to take your team of 15 with you to your new bank.

This team consists of 6 Analysts, 4 Associates, 2 VPs, and 2 other MDs.

For just the base salaries, including your own, you will need over $3.5 million at current market rates.

Add on benefits, office space, other tools/services, and year-end bonuses, and you’re probably looking ~$10 million per year in operating expenses.

There is some wiggle room here because you might pay lower salaries and bonuses and defer some compensation, but as a reference, Evercore’s OpEx per Employee is currently ~$1.2 million.

You’re quite aggressively assuming it’s about half that level at your new, lean, startup bank.

It could take almost a year to start generating real advisory fees, so you’ll need around $5 – $10 million in cash to pay for the Year 1 operating expenses of Giraffe Geyser.

You and the other MDs might be able to pay for this amount upfront, but it might still be wise to bring in outside capital to fund at least a minority stake.

How to Start an Investment Bank, Part 2: Paperwork and Legal Structure

The legal structure and regulatory requirements depend on what you’re doing and whether your firm is raising outside capital.

For example, if you advise on M&A deals but do not do capital markets deals, the requirements tend to be easier.

Also, if you’re advising small firms, with EBITDA under $25 million or gross revenue under $250 million, you may be exempt from FINRA and SEC registration in the U.S.

If you work on larger deals, you’ll almost certainly have to register as a “broker-dealer” with the regulatory authority in your country and go through the full compliance process.

Your firm could be a partnership, LLC, S-corporation, or C-corporation, depending on the capital raised and leadership structure.

If you raise outside capital at all, you will probably have to be a C-corporation that pays corporate-level taxes (or the equivalent in other countries, such as a PLC in the U.K.).

If not, any of the other structures could work; many boutique banks were traditionally partnerships, under the logic that profit-share percentages are appropriate for a small group of MDs in charge of deal sourcing and execution.

How to Start an Investment Bank, Part 3: Marketing Your Firm, Winning Deals, and Growing the Team

Continuing with the example above, let’s say that you have your team of 15, and Giraffe Geyser now generates $15 – $20 million per year in fees.

It’s a good start, but you want to expand.

This is where it gets tricky because you need to hire the right team and develop your marketing angle and overall sourcing approach.

You need to think about issues such as:

• How many employees would it take to reach $50 million in fees? How many MDs would you hire, and what would their average deal flow have to be?
• Do you focus more on sourcing or execution for these hires? It might seem tempting to hire solid execution MDs since closed deals result in fees, but since your firm is new, sourcing is probably more important.
• How do you win new deals? For example, do you focus on “bake-offs” and compete against established firms, or do you develop your own proprietary deal flow through networking and relationships?
• When do you pass on deals or “fire” clients? Is there a minimum transaction size, or do you base it more on the closing probability? Or both?
• Do you focus on winning clients who are willing to pay retainer/commitment fees (lower risk) or ones who only want to pay success fees (higher risk but higher reward)?
• Do you double down on the message that has worked so far (“independent, unconflicted advice for middle-market retailers”), specialize in certain verticals, or try to move up-market?

There are no “correct” answers to these questions because each market is different.

The point is that you need to think through your hiring decisions, your sourcing process, and the resources required for deal execution as you scale from $20 million in fees to $50 million and beyond.

How to Start an Investment Bank, Part 4: Expanding Your Mandate

Let’s say that you think through all the issues above and successfully grow Giraffe Geyser Partners to $50 million in advisory fees, still focusing on consumer/retail companies, but you’ve moved up-market to larger deals.

You’ve also expanded the team to 30 bankers, including 6 MDs.

However, certain areas are performing better than others, and you need to decide where to focus your time and resources:

• E-commerce advisory is growing quickly, as several companies have been bulking up with bolt-on acquisitions to prepare for IPOs.
• Restructuring is also doing well, as plenty of small-to-mid-sized retailers have taken on too much Debt and need rescues or turnarounds.
• But standard consolidation-type M&A deals among established companies are trending downward, reducing the fee potential.

You could potentially hire more MDs to focus on e-commerce and Restructuring, reassign current MDs to these areas, or hire MDs in other promising areas within consumer/retail.

Or you could expand your mandate and move into related industries, such as real estate.

Again, there’s no “right” answer; these are just points you must consider as you plan to grow to $100+ million in revenue.

One big issue at this stage is the bonus/compensation structure and how much you reward bankers for individual vs. firm-wide contributions.

For example, if one MD spends the year developing deep relationships in a new vertical but doesn’t close any deals, should they get a $0 bonus?

That might happen at large/established banks, but if your firm is structured as a partnership, it might be in your interest to compensate them if they’re building your long-term client base.

Of course, once the other MDs find out – and they will – you might start getting some disgruntled employees wondering about the incentive structure.

This stage is all about balancing firm-wide growth with individual satisfaction, so that your top people keep building your bank even if they don’t get an immediate payout.

How to Start an Investment Bank, Part 5: Exit Opportunities

Let’s say that you do everything above, and Giraffe Geyser initially goes well, but it fizzles out after a few years – and not just due to the ridiculous name.

Your deal flow dries up, your advisory fees fall, and you must lay off a few teams. Sensing a sinking ship, the other employees also quit.

Most likely, you will go back to an established bank as an MD, perhaps with slightly worse economics than before.

Starting your own bank and failing is perceived as less “severe” than starting your own PE fund or hedge fund and failing.

One key difference is that if your own bank fails, you probably haven’t lost outside investors (much) capital.

You could potentially also move to a buy-side role after this, but it’s not that likely unless you came from a buy-side role before launching your own bank.

If you were attempting to start a tech-enabled “Disruptor” bank, you might be able to join a startup, fintech, or related firm as well.

Why I Don’t Recommend Going the “Business Broker” Route to Start a Bank

You have probably seen news stories about various tech-enabled banks that are attempting to disrupt the “business broker” market by automating the M&A process for small businesses.

Even before the current AI wave, companies were trying this strategy in the 2010s.

While this could work – you can charge fees even on very small deals – I don’t think it’s especially rewarding for an experienced banker.

This approach depends on automating a high volume of boring, cookie-cutter sales processes, which is the least interesting part of investment banking.

The most rewarding part of the job is building client relationships over the years, and you don’t get that when you’re building workflow automations to sell random HVAC businesses in The Middle of Nowhere, Kansas.

These banks are more like tech plays, which is fine for Y Combinator startups, but completely different from what the average senior banker wants.

Also, I’m skeptical of how much of the hard work can be “automated,” even with these smaller deals. As an experienced banker once told me:

“Small deals and big deals both take the same amount of work, so focus on the big deals to get paid.”

Sure, you can use AI platforms to churn out CIMs and deal documents and hope no one notices the mistakes, but nearly all deals require some level of human involvement in the negotiations stage.

Final Thoughts on Starting an Investment Bank

The success rate of starting new investment banks is not great, but it’s lower risk and requires less capital than starting a PE or VC firm.

With those, your key problem will be raising enough capital in the beginning and rapidly proving yourself with deals so you can start the next fundraising process in a few years.

When you start a new bank, you often get the opposite problem: The early years go well because you bring in your existing clients and relationships, but then your deal flow dries up because it’s quite difficult to win completely new clients as an independent firm.

While this is a challenge, I would argue that it’s easier to overcome than the “cannot raise capital” one because you can always poach bankers from established firms.

If you consider MD A at a Large Bank and MD B at a PE Mega-Fund, it likely makes more sense for MD A to spin off his existing team to launch a new bank than it does for MD B to spin off his team and raise hundreds of millions to launch a new PE fund.

Not only is it more difficult to raise the capital, but MD B is giving up a lot more compensation over multiple years due to the carried interest in senior-level PE roles.

But since we’re in the Upside Down these days, everyone still wants to start their own PE firm or hedge fund – when they really shouldn’t.

How to Start an Investment Bank: Additional Reading and Resources

If you want to learn more about this topic, here are a few articles and books about the launches of new banks over the years (some are pay-walled):

• Moelis – Moelis Makes It to the Big League | Old-Fashioned Dealmaker: Ken Moelis, CEO, Moelis & Company
• Barrenjoey – How to Build an Investment Bank After a False Start
• Liontree – Aryeh Bourkof’s Account and Reflections | Boutique Bank LionTree Roars Back into Contention
• Qatalyst – Frank Quattrone’s Comeback in New Tech Era
• Steve Schwarzman and Blackstone (initially an M&A boutique bank) – King of Capital and What It Takes