German chemical and pharmaceutical company Merck KGaA sought to overhaul its cash management processes because it faced an onerous daily cash management reconciliation workload and managed redundant cash pool structures.
Through Merck’s global cash management restructuring programme, which took nine months to execute, the company managed to streamline its cash pool structure, reducing the number of cash pools by five. In addition, Merck set clear principles for its banking partners for four currencies: euro (EUR), US dollar (USD), British pound (GBP) and Swiss franc (CHF).
An important aspect of the project was to enhance the company’s technical set-up. As a result, treasury established back-up solutions, increased flexibility through additional payment banks for EUR and USD, and automated booking of account statements at a shared services centre (SSC). It also took the first step towards fee transparency through The Transaction Workflow Innovation Standards Team (TWIST).
Merck vastly improved its cash management processes: earlier delivery of MT940 (customer account messages) led to more reliable month-end closing and fast daily cash management reconciliation. With its banks now all providing business transaction codes (BTCs) in MT940, Merck is able to automatically book 100% of its account statements.
By investing in a one-time implementation cost of €51,000 and 440 internal man-days, Merck is expected to save €500,000 per year in banking fees. The company is able to attain more favourable interest rates, and its lockbox value date is now D+1 instead of D+2.
Organisation Prior to Restructuring
Before the project began in January 2011, Merck had multiple EUR, USD, GBP and CHF cash pooling structures, mainly inherited from acquisitions in 2006 and 2010. Equal to 70% of its business, treasury could not use its liquidity efficiently due to the number of cash pools and limited access to non-participating subsidiaries. The company was subject to unfavourable local bank commissions, mainly agreed on by non-participating subsidiaries. Merck treasury was determined that its cash pool structure in the future would no longer be determined by subsidiaries’ banking partners.
The cash management structure was highly complex and time-consuming, with a heavy workload and additional documentation for each cash pool (daily cash management reconciliation, bank confirmations, reporting, etc). Treasury’s time was taken up with reconciling account statement due to missing transaction type identifier (BTC). In addition, the different delivery deadlines of account statements caused treasury to repeat processes.
Transaction volume was spread over several banking partners, so economies of scale could not be taken advantage of. There was no clear bank-country-currency allocation.
In developing its restructuring plan, Merck identified six difficulties and/or obstacles that it needed to overcome for the project to be successful. First, treasury had a small dedicated project team, which consisted of four full-time equivalents (FTEs). Second, the team had to roll out the programme in addition to the daily workload. Third, no external consultants or any other external resources were made available to them throughout the project. Fourth, cash concentration is subject to local regulations and therefore many different legal requirements had to be taken into account when creating a global standardised process. Fifth, the agreements needed to be reviewed by corporate treasury, corporate legal and corporate tax. Finally, different documentation was needed for subsidiaries depending on country-specific requirements, such as board resolution, tax identification number, etc.
Merck’s treasury team identified five key objectives before beginning the project:
- Optimise group-wide cash pool structure.
- Increase concentrated liquidity volume.
- Increase efficiency of cash management processes.
- Increase flexibility for choosing payment executing bank.
- Execute within nine months.
In order to adhere to the tight timeframe, the project plan was structured in seven phases with the principle of guaranteeing a transparent selection process:
- Data collection and analysis.
- Market screening.
- Request for proposal (RFP).
- Beauty contest.
- Selection of banking partner.
- Project implementation.
(This methodology helped Merck win the Supply Chain/Trade Finance Project of the Year Award and Gold Award, see Case Study: Merck KGaA Global Guarantee Management – L/C Management.)
1. Data collection and analysis
The project team surveyed all 250 subsidiaries to collect payment volumes in order to prepare the RFP. The analysis scope covered major payment currencies EUR, USD, GBP and CHF, representing 70% of the total transaction volume. The company has 174 subsidiaries, of which 111 (covering 27 countries) were already participating in the cash pool. However, 36 subsidiaries in Europe and 27 subsidiaries outside of Europe were not yet participating. Merck operated 11 cash pools with six banking partners for the four currencies. Bank fees totalled more than €1m per year for the scope currencies. Treasury realised that it had a significant potential to further increase liquidity concentration at a group level and to reduce overall banking fees.
2. Market screening
Ten out of the 17 relationship banks Merck dealt with have international cash management capabilities with different services and technologies. The next step the project team undertook was an intensive market screening of possible solutions to optimise the current set-up. They entered into deep dialogue with all affected parties within the company to define business needs and process improvement possibilities. These were incorporated into the RFP. After this process, the project team was convinced that an efficient cash pool structure could be set up and current processes could be improved to meet Merck’s business requirements.
The project team structured and designed the RFP to be the basis for a transparent evaluation. The RFP focused on increasing process efficiency in accounts receivable (A/R), bank processing, IT services and treasury processes. It consisted of 128 detailed questions and examples and 19 pages, which were structured in eight clusters.
The team designed the response procedure to allow answers to be analysed and evaluated. They also set a challenging response time in just three weeks.
Merck treasury asked the top 10 international cash management banks to submit a proposal. There were four minimum technical requirements, which were identified as essential for Merck‘s internal processes:
- MT940 receipt time.
- Capability to provide BTCs.
- Cut-off time for payments.
- Interface with existing payment factory.
The results were: three banks did not fulfil the minimal technical requirements; one bank did not meet the expected country scope; and one bank was not invited due to the pricing. In the final analysis, five banks met the requirements and were invited to the ‘beauty contest’.
5. Beauty contest
The five shortlisted banks had to present their solution. They had to answer an additional 55 questions and submit case studies. After the beauty contest, the banks answered follow-up questions. This procedure was necessary as bank services differ significantly from bank to bank and the objective was to find the service that best fits Merck‘s processes and business needs.
6. Selection of a banking partner
The final decision was based on the following criteria:
- Technical requirements: Does the bank fulfil Merck’s technical requirements?
- Soft facts: Is the bank committed to this project?
- Annual fees: By how much can Merck reduce its banking fees?
- Interest rates: By how much can Merck improve its interest result?
- Implementation: How complex is the implementation?
All shortlisted banks received an extensive feedback on their performance. No one bank was able to fulfil all requirements.
7. Project implementation
The project team then spent time negotiating on terms and conditions for cash concentration, e-banking and payment factory/service agreements. They had to collect documents from all participating subsidiaries, particularly power of attorney documentation for account opening. The team organised training for 105 users in several WebEx sessions to accommodate the different time zones, as well as on-site bank training sessions in Darmstadt, Molsheim and Geneva. The team participated in weekly status calls with each bank to keep the project on schedule and delays were reported immediately to the project head for further escalation.
Merck’s diligent and well-planned programme meant that it successfully re-engineered its global cash management processes to make them more efficient. For example:
- The early delivery of MT940 led to an earlier completion of the daily cash management reconciliation from 5.5 hours to 3 hours (-45%).
- Having BTCs on account statements allowed automatic booking of all transactions. Before the project began only one bank could provide BTCs as required; now all selected banking partners provide this service.
- A reduced number of master accounts led to fast cash management reconciliation.
Treasury also managed to reduce the complexity of its operations. With fewer banking partners (reduced from six banks to three) there are fewer documents and a smaller daily workload in banking communication.
With clear bank-country-currency allocation the cash pool structure is much simpler and gives clear guidance for further account openings, as well as improved liquidity concentration. By including an additional 36 subsidiaries in the cash concentration structure, treasury can further use idle cash at corporate finance level. The company can also take advantage of more favourable interest and improved value dates on lockbox clearing.
Merck also measured quantitative benefits to the new structure, particularly reduced expenditure. On average banking fees were reduced by 50 % per annum.
In addition, Merck achieved two benefits beyond the original scope of the project:
- Self-administration of bank applications reduces documentation work and increases speed of user entitlements.
- Selected banks will support TWIST bank fee analysis and transparency.
In only nine months, Merck successfully restructured its global cash management, effectively streamlining its cash pool structure by reducing the number of cash pools by five; reducing the number of banks it dealt with by half and gaining significant cost savings in bank fees of 50% per annum; and enhancing the company’s technical set-up.
The short timeframe was crucial in keeping the treasury team focused on the project objectives. If attention is lost, then the project has the potential to become a never ending story. Merck found that a short and hard implementation was key to its success.
- This case study is based upon an entry into the gtnews Awards for Global Corporate Treasury 2012, sponsored by Bank of America Merrill Lynch (BofA Merrill). The winners of this year’s annual awards, now in its third staging, were only revealed at a gala dinner on 24 May at the Sofitel Grand Hotel in Amsterdam, the Netherlands, after the opening of the two-day gtnews Forum for Global Corporate Treasury. To see a full report on all the Awards winners and the gala dinner on 24 May please click here.
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