Better understanding needed to launch in-house banks
In-house banks are becoming another weapon in the arsenal of the corporate treasurer, but require substantial groundwork before implementation.
In-house banks provide corporate treasurers with another method of centralizing and consolidating their business, but the growth of this form of corporate-treasury infrastructure has resulted in some confusion over its purpose and remit.
Creating an in-house bank is not the same as a corporate purchasing a bank and obtaining a banking licence. Some large MNCs, including Airbus, have done this and established their own bank, which can provide guarantees and loans to its supply chain.
For the majority of corporates, this is not a viable option or even necessary.
Establishing an in-house bank for most corporates means gaining some autonomy by pulling away services from the banks and completing them internally. This gives the treasury team a greater degree of control and oversight to the business.
The benefits of centralization are cost efficiency and control
“The primary benefits of centralization are cost efficiency and control,” says Bruce Meuli, global business solutions executive, GTS, at Bank of America Merrill Lynch. "Standardization and automation can bring together processes and people to achieve these two objectives.”
Siemens, for example, established an in-house bank to centralize its cash into one location, and integrated a company clearing system. This allowed for funds to be moved between the company’s different locations.
It also helped the treasury department to redefine its position within the company by providing risk advisory, made possible by greater oversight over all accounts.
By adopting this process, corporates can reduce the fees and costs that would normally be paid to the bank for completing these transactions. The corporate can make payments between its organizations without needing to involve its bank.
“Intercompany payments can require corporates to pass the payment via an ERP system and into the external banking system, for which they would be charged bank transaction fees,” says Meuli. "By bringing intercompany payments in-house, they circumvent that process. The in-house bank is managing all intercompany payments internally.”
Setting up the in-house bank can bring benefits, but the process to make decisions cannot be made quickly, as many considerations come into play.
Whether the in-house bank will be a standalone service or be used with other treasury operations also needs to be taken into account. They are regularly used alongside cash-pooling structures. Payments factories, the centralization of the payments process within the organization, bring in another layer of control to process and execute payments.
“Corporates often want to fully understand the benefits of an in-house bank before they make a decision, which can take time,” says Meuli. "However, once agreed upon, implementation often is desired to be fast-tracked.”
Lothar Meenen, head of cash management and trade finance for corporates, Germany, at Deutsche Bank, says: “Transaction banking and cash management goes hand in hand with consolidation and concentration, which ultimately creates efficiencies for both the bank and the customer.
"Of course, an in-house bank and payment factory requires a proper internal rule book and a system where this will be handled. The handling of cash pools is in many cases already handled within the in-house banking function of the ERP system. This in-house bank system can then be enhanced into payment factory services.”
As it significantly cuts the cost of the fees paid on individual transactions, it is often the corporates with high volumes of payments that find it to be the most beneficial. The potential for international companies can be marked.
BAML's Meuli says: “The benefits of an in-house bank are driven from the control perspective as much as they do from reduced costs. It creates the opportunity to rationalize banking structures, as operations that may be spread across 20 banks can be pulled in, and potentially only a small group of core banking partners are needed globally.”
Deutsche's Meenen says there is also scope for companies of different sizes to see the potential, adding: “In-house banks for cash pooling are also spread across the medium-sized corporate sector.
"MNCs are currently most active on payment factories, but we see also more and more medium-sized companies starting to look into the advantages of a payment factory. This comes with the availability of software solutions as well as with lower costs for communication systems like EBICS or Swift.”
The move to an in-house bank structure does not eradicate the need to have external banking partners.
“In-house banks can manage securities and risk-management functions internally, but they still need their banks for expert advice and to be able to complete transactions,” says Meuli.
Lothar Meenen, Deutsche
Rather than removing the need for the banking partner, it can help to make it stronger. “An in-house bank and payment factory set-up definitely deepens the bank-client relationship,” says Meenen. “Since an in-house bank and payment factory is often built with only one or two banks, those banks are more likely to handle a majority of flows for the client.
"However, a set-up needs time. File formats and communication need to be tested and the legal framework must be agreed.”
Bringing in the banking structures internally places more considerations on the corporate, which the bank might have dealt with previously. Legal and tax issues both need to be taken into account. Tax agencies will be looking for clear and transparent information on corporate activities, and it is down to the treasures to be able to provide it.
“The banks will typically be established in countries with a beneficial tax environment, with the Netherlands and Luxembourg both common locations,” adds Meuli.
Staffing issues need to be taken into consideration. Treasurers currently employed by the corporate might not have the skills needed to run the bank, so additional personnel might be required. This added cost needs to be factored in to the decision-making process. In an ideal environment, the treasury team responsible for running the bank operations should be involved with its implementation.
Meuli says: “The people who will run it should ideally be involved in designing and setting it up too – that way they’ll have a deep understanding of the design objectives, constraints and nuances enabling them to manage it effectively.”