Are Investment Banks Special Too? Evidence on Relationship-Specific Capital in Investment Bank Services

We examine whether investment bank-client relationships create valuable relationship-specific capital, using stock market evidence from the period surrounding the collapse of Lehman Brothers. Specifically, we study the impact of the Lehman collapse on firms that employed Lehman for (1) underwriting equity offerings; (2) underwriting debt offerings; (3) providing advice on mergers and acquisitions; (4) providing analyst research services; and (5) providing market-making services. We address two questions: First, which investment bank services, if any, are associated with the creation of relationship-specific capital, and second, what are the value drivers of this relationship capital? These questions are central to understanding whether investment bank services are relationship-based or transactional and, more broadly, how financial intermediaries create value for their clients. We find that firms that used Lehman as lead underwriter for public equity offerings experienced significantly negative abnormal stock returns in the days surrounding Lehman's bankruptcy announcement. In contrast, we find no significant reaction to the bankruptcy announcement among Lehman's debt underwriting clients or any of the other client categories that we examine. While most of the investment bank services we study have potential to create relationship-specific capital, our findings suggest that except for equity underwriting, all the other investment bank services appear to be transactional rather than relationship-based. Indeed, even across Lehman's equity underwriting clients, we observe significant differences. Our cross-sectional analysis shows that an equity underwriting relationship with Lehman was especially valuable for firms that had a high degree of dependence on Lehman to access the capital market, especially smaller, younger, and more financially constrained firms. This finding also implies that larger and financially stronger firms (who typically generate the highest volume of business for investment banks) adopt a relatively more transactional stance toward investment banks, even when they seek equity underwriting services