With the $1.1 billion initial public offering of Cobalt International Energy Inc., Goldman Sachs is well-situated to profit from the IPO as a lead underwriter on the oil exploration company's share issuance. But the Wall Street powerhouse stands to realize more than just fees from serving as an equity underwriter.

Goldman is an investor in Cobalt alongside private-equity firms Carlyle Group and Riverstone Holdings through its GS Capital Partners unit. GS Capital, the buyout investment arm of Goldman, participated in the Houston company's $500 million capital raise four years ago and acquired a 33.3% stake with its investment, according to regulatory filings.

For that reason, Goldman stands to earn multiple streams of income from the offering. (The other managers on the Cobalt IPO are Credit Suisse and JPMorgan.)

The IPO, one of several recent private-equity backed offering registrations of late, illustrates how banks with private-equity businesses could realize a boon on rebounding capital markets and possibly have the upper hand on their peers without principal investment businesses in coming years.

Moreover, considering that the chance to buy assets at deeply discounted valuations is the best it's been for the last several years, banks without buyout businesses could be missing a golden acquisition opportunity.

Of course, the cyclical nature of private equity means that any financial sponsor will rack up some losses, and recording investments on a mark-to-market basis doesn't help when the capital markets turn south. But, the opportunity to generate returns potentially 500 basis points or more above broad market indexes should offer a compelling avenue of growth for banks once cyclical issues subside.

It's what led many Wall Street banks to originally begin building up their private-equity franchises as early as the 1980s, say veteran industry participants like Greg Peterson, a partner in PricewaterhouseCoopers' transaction services group. "One reason people liked them was because the returns were phenomenal," he says.

Bulge brackets with buyout funds, for example, can garner as much as 7% to 10% of buyout fund's 20% of profits that come from exiting investments through corporate sales, IPOs or secondary offerings, industry insiders say.

In addition, aside from receiving part of the carry, private-equity investors typically reap a plethora of fees that begin when a company is acquired to when an investment is realized.

If the size of GS Capital's last fund offers any indication of the appeal of private capital, institutional investors certainly showed their support for the investment bank's private investment operation two years ago. That's when the Goldman unit raised $20.3 billion for its sixth private-equity fund, or more than twice the size of its $8.5 billion fund in 2005.

Goldman's buyout group also helped to bolster its parent's earnings in the second quarter. The bank reported a $343 million gain from its corporate principal-investment business in the second quarter on net revenue of $811 million.

These days, though, few large Wall Street banks run direct private-equity businesses using their own balance sheet or external funds. Aside from Goldman, Credit Suisse oversees DLJ Merchant Banking Partners, while Citigroup has the successor to Morgan Stanley's former private-equity unit: Metalmark Capital.

"The issue with respect to investment banks was that earnings were lumpy. A lot of banks wanted to see more consistent earnings," PwC's Peterson says about the decline in popularity in bank-backed buyout operations.

Another reason investment-bank buyout units largely went out of fashion over the past decade was because of a potential perceived conflict of interest. When the heyday of dealmaking took hold, executives at independent private-equity groups got into a lather over the notion that private investment groups within big banks might receive preferential treatment in M&A auctions.

However, Peterson says a different view that values private equity is emerging among the bulge-bracket banks.

"A lot of the banks are now taking a longer view and understand that some aspects of their business are going to be up and down," he says.

So, too, is the business of raising capital. Having a deep-pocketed corporate bank parent that can serve as an anchor investor could be equally appealing for financial buyers seeking capital, says Scott Berman, head of financial sponsor coverage at Morgan Joseph. "Now it might be better to be part of a big investment bank," he says.

Meanwhile, Bear Stearns Merchant Banking and Lehman Brothers Merchant Banking was one pair of bank investor groups forced to pursue independence as their parents collapsed during the credit crunch. BSMB has re-emerged as Irving Place Capital and LBMB as Trilantic Capital Partners.

"We're quite energized after having survived the worst of 2008 and 2009 and achieved our independence with strong support from our LPs and a lot of dry powder for new investments," says Doug Korn, a senior managing director at Irving Place.

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