Liquidity Management
Techniques
Pooling and Cash Concentration
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Liquidity Management
Having funds available to meet all known
and unknown commitments
- In the right currency
- In the right place
- At the right time
Minimise cost of funds and debit interest
Maximise use of surplus funds and interest
earnings
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Liquidity Management
As always a balance between
the costs and benefits of having liquidity and
the costs and benefits of lacking liquidity
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Liquidity Management
How may a company improve liquidity?
• External
- Through borrowing
- Through suppliers
• Internal
- Better practices on inventory, receivables
short term investment
- Better control of cash resources around
the group
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Liquidity Management
• Focusing on maximising Internal liquidity
utilising existing but wasted resources
Pooling / Cash Concentration
First: Notional Pooling
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Notional Pooling
• With Notional Pooling there is no actual
movement of funds.
• With Notional Pooling there is no comingling of funds
• Credit balances are offset against debit
balances and the net is used to work out
the debit or credit interest paid or received
• Also referred to as ‘interest offset pooling’
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Notional Pooling
Position prior to pooling
Average Balance
+ 900,000
Sub 1
Average Balance
- 300,000
Sub 3
Average Balance
+ 350,000
Sub 2
Average Balance
- 550,000
Sub 4
Credit interest at 4 % = 1,250,000 x .04 = 50,000
Debit interest at 6 % = 850,000 x .06 = 51,000
Net cost to group
=
- 1,000
But if notionally pooled
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Notional Pooling
Position if pooled
Average Balance
+ 900
Sub 1
Average Balance
- 300
Sub 3
Average Balance
+ 350
Sub 2
Average Balance
- 550
Sub 4
Net position = + 400,000
So 400,000 x .04 = 16,000 an improvement of 17,000
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Notional Pooling
Benefits
• Maximise interest earned
• Minimise interest paid by
As much as possible, for as long as possible, in
one place
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Notional Pooling
Taking Advantage
Tiered Interest Rate Structure
Interest
Rates
8
7
6
5
4
3
0
50
100
200
Balance in 000’s
300
400
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Stepped versus Banded
Amount in GBP
Interest Rate
1
to 250,000
0.10
251,000 to 500,000
0.20
500,001 to 1,000,000
0.50
Over
Company
A
B
C
1,000,000
0.90
Balance
355,000
400,000
250,000
Tier
Interest rate
250,000
.001
250
105,000
.002
210
250,000
.001
250
150,000
.002
300
250,000
.001
250
Total
Pooled
Benefit
Interest
1,260
1,005,000
.009
9,045
7,785
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Notional Pooling
Benefits
• Improves the balance sheet by offsetting
surplus balances against group debt
• Reduces and may eliminate short term
borrowing (will probably still need credit
lines as back up with limits on individual
subs)
• Reduces overall exposure to banks
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Notional Pooling
Benefits
• May improve internal discipline and control
• Do not have to move funds
- reduce costs of transfers
- reduce management time
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Notional Pooling
Requirements
•
•
•
•
•
Pooling agreement
Cross guarantees
Legal right of set off
Tax indemnity
Ability to link accounts for interest
calculations. Obvious, but not every bank
will have the capability
• Interest apportionment
• Board resolutions
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Notional Pooling
Issues
•
•
•
•
Bank charges
Resident non-resident issues
Tax issues (arms length)
May be treated as a form of lending with
no transfer of funds ownership
• Interest offered may be low / or charged
high, so Treasury may wish to actively
place funds or borrow
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Notional Pooling
Active Management
Sub 1 + 800
Sub 2 + 700
Sub 3 - 200
Sub 4 - 900
T
+ 400
Investment of 400,000
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Types of notional Pooling
•
•
•
•
Single currency, single country
Single currency, cross border
Multi-currency, single country
Multi-currency, cross border
• What is possible?
• What is offered?
• What does it cost the bank?
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How Banks Charge for Pooling
•
•
•
•
•
•
•
•
•
Interest rate spread
Reserve asset charge (cost recovery)
Set up fee
Management fee (monthly per account)
Interest apportionment fee
Account maintenance fees
Electronic reporting fee
Money movements, receipts/payments
FX if involved
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Pooling
Due diligence
• Is pooling permitted?
• Tax issues
– Withholding tax – Res/non Res issues
– Arms length rule
– Is debit interest an allowable deduction?
– Is thin capitalisation an issue?
– Location?
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Pooling
Due diligence
• How do laws of offset relate to
– Multi entities?
– Multi currencies?
– Cross border aspects?
– How does the bank cover?
– Are cross–guarantees necessary?
– Are Central Bank reserve ratios calculated
gross or net?
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Pooling
Due Diligence
• Impact on group of using one bank
• Should all operational accounts be
included in the pool?
• Impact of cut-off times for movement in
and out of pools
• Value dating practices for cross border
movements into and out of the pool.
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Cash concentration
Sometimes Notional Pooling is not possible or not
wanted
– Rules and regulations
– Structure of banking industry
– Legal issues
Then we may have to cash concentrate i.e. physically
move the funds to attain the same benefits.
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Cash concentration
Example of Zero Balance Cash concentration
Sub 1 + 350
Sub 2 +500
Sub 3 +550
Sub 4 - 650
Concentration
a/c
End of day 750 invested
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Cash Concentration
• There are various forms of cash
concentration
• Zero balance, as illustrated
• Target balance, to keep a specific amount
in each account
• Threshold, to move funds only when an
account moves in excess of a figure
• Collar, when a threshold is reached, funds
are moved but a balance is left
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Cash Concentration
• All will depend on the costs involved
versus the needs of the group elsewhere,
the sums involved and the overall treasury
objective
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Cash Concentration
Issues
Drawbacks
– Transfers may have to be done manually
– Will involve transfer fees
– Transfers to/from non resident ac’s may add
to central bank reporting and to cost
– Local rules and regulations may
prohibit/complicate cross border movements
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Cash Concentration
Using MT101 to concentrate
Customer
Advice
Instruction
Lead Bank
Debit sending
bank nostro
Credit customer
concentration
account
MT101
MT101
MT103
SWIFT
Network
MT103
Sending bank
Debit customer
ac
Credit vostro ac
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Liquidity Management
Interest Enhancement
• As mentioned earlier, sometimes rules and
regulations make cash concentration and
cash pooling difficult, uneconomic or illegal
• Nonetheless, Banks have developed ways
to enable companies to gain some benefit
from their balances
• The banks recognise that the balances
they hold, even where blocked, are
reflected on their balance sheet and
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therefore of value
Liquidity Management
Interest Enhancement
• Suppose that the bank will normally
charge interest on deficits at LIBOR plus
½ and pay on surpluses at LIBID – ½
• To the extent that balances offset each
other the bank will adjust these rates
• E.g.
Account No 1 has a surplus balance of
GBP 100 and account No 2 a deficit of
GBP 50.
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Liquidity Management
Interest Enhancement
• There is an offset of 50% so
• They would charge interest at, say, Libor
plus1/4
• And pay interest at LIBID – 1/4
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