Constructing a Payment System on the Run for Intercompany Payments

Technological progress enables us to simplify many transactions and processes. Take for example multilateral netting, which is a process that simplifies and reduces the costs of settlement of intercompany transactions. It reduces credit and liquidity risks, but it can increase legal risks.

Invoices are generated when companies provide services or sell goods; they represent payables to the purchaser and receivables to the seller. At some point in time these invoices have to be settled, and then a company can use external banks, or apply multilateral netting in order to reduce bank fees, currency conversion costs, increase liquidity and improve operating efficiency.

Normally multilateral netting is described as a centre-driven process that consists of seven to 10 steps. It begins with participants informing the treasury centre about their intercompany obligations, either driven by receivables or payables, and requires a calculation of net settlement amounts using preliminary rates. They must then contact the banks to purchase or sell net currency exposure, and the process ends with a net payment via the banking system.

Notional netting does not require an actual transfer of net amounts, but only net credit or debit on the centre’s account. In the system of notional netting, actual payments through the banking system occur independently of netting, not to settle the invoices but according to liquidity requirements and availability.

Using netting to steer and manage intercompany payments is completely unnecessary in the world of convertible currencies. It was necessary in the past when cross-border payments could only be made when invoices were presented to a central bank for payment approval or assignment of convertible currency. With free convertible currencies, these invoices are not needed to purchase or sell foreign exchange (FX). FX transactions should be triggered by liquidity needs or availability. This is assured when a company is applying the notional netting procedure.1

Although multilateral netting improves efficiency, it can still be seen as a burden, as a strict and rigid procedure has to be followed. This procedure is either imposed by the outsourcer, who is executing the netting, or by the software used to execute the netting. However, if a company develops a netting procedure that reflects its internal requirements, then it will enjoy the advantages of netting without suffering additional administrative requirements. In particular, this applies to notional netting procedure.

It is quite easy to implement netting with the help of a dynamic website, which is connected to the database that stores netting transactions. With notional netting, obtained information is used to generate credits and debits on internal accounts. To restate this point: multinational netting, in its basic form, requires only a structure of accounts with treasury or a dedicated netting centre. Treasury, or a designated netting centre, opens accounts for all participating units. These units do not have to be only intercompany.

An account structure is needed to execute netting. With an account structure in place, multilateral netting can be processed without any additional software. Without a dynamic website, the treasury or netting centre has to first obtain information from participating units about settlement amounts and then enter netting transactions into various accounts.

This can lead to errors in inputting data, which means long and potentially difficult reconciliations. However, when using a dynamic website, every unit is entering directly netting transactions into the database and if any entry is wrong it can be corrected by the same unit.

It is possible to make the netting procedure more complicated/sophisticated by introducing rules, for example that netting can be only executed on particular dates. Many individual transactions could be grouped together according to agreed criteria and credited or debited to the account as one entry, etc.

At some point the accounts structure alone will not be sufficient and the company will need to develop or purchase an additional netting module. However, this step is not to enable netting but to improve the netting procedure, which can be executed just with the simple account structure.

Netting module normally summarises the transactions and only the net transaction is entered into the account, or is used to execute net payment. Someone still has to review all the individual transactions and reconcile them with the net amount.

Entering all individual transactions directly into the account can make even the reconciliation process easier. If a netting module is viewed as the enabler to improve the netting procedure, then it has to reflect optimal procedure for the particular company, which can be different from another company.

When treasury implements accounts for every unit in the group and willing/approved third parties, netting can be executed just by crediting/debiting individual accounts. It is possible to reflect all entries on the individual accounts, or use a netting module to summarise, in an agreed form, the netting transactions. Then the accounts will be credited/debited with aggregated numbers.

It is also possible to combine the two procedures: enter ad-hoc payments directly into the accounts and use the netting module for monthly settlement cycle, where hundreds or thousands of transactions are settled. As long the communication was based on emails and faxes, direct credits and debits to the accounts would not be an efficient procedure, however with dynamic webpages it can be the most efficient procedure.

To simplify the procedure, use as the account name an email address or mobile phone number. Mobile phone numbers would enable the centre to send automatic text messages to the mobile number holders, or enable mobile phone owners to initiate payment with their phone number. Again, additional software is not needed, but can combine features of MS Outlook and MS Access, which are present everywhere.

A payment initiation website (see Figure 1) allows a company to initiate a payment to any user with a valid phone or email address. Only the identification of the recipient, amount and some description about reason of the payment is needed. After the payment initiation button is pressed, the webpage connects to the database and the amount is credited to the account of the recipient and debited from the account of the payer. Now both can see the changes to their accounts.

If there are any discrepancies or disagreements, the counterparties can clarify this directly and treasury does not need to be involved. Only a webpage, where information is entered and which displays the account statements, is needed. If participants prefer to enter more than one payment at once, or instead of entering information just download them from their accounting system, then a webpage is needed for multiple payments with the possibility to attach files in agreed format (see Figure 2). Transactions are immediately reflected on the account statement, which can be instantly obtained accessing the account statement webpage.

Of course, this describes only a very basic structure and can require substantial modification to adapt properly processes of each individual company. However, the purpose of this description is not to show all aspects of multinational netting or a treasury workstation, but to point out that with today’s technology treasurers gain tremendous amount of flexibility to run effectively treasury operations and do not need to apply processes that are imposed by a software vendor.

The dynamic webpage technology, based on Microsoft products such as ASP.NET and Access, or SQL Server Express as the database, can revolutionise treasury operations. A treasury can easily implement any ideas into own webpages executing intercompany payments, third party payments, loans, deposits, FX transactions, and instant communication is assured, whether treasury is located in one office or at various locations around the globe.

A key factor behind successful treasury operations is availability of information. In every treasury, technology can be used to improve services and efficiency. The effective use of technology requires vision, the treasurer has to define their needs because if they don’t then someone else will and then they might not be satisfied with the results. The ease with which internet applications can be developed today allows treasurers to create state-of-the-art treasury operations on the go. We just need the right vision.

Figure 1: Payment Initiation Webpage

Source: Treasury Management Services
Figure 2: Multiple Payments Initiation Webpage

Source: Treasury Management Services
Figure 3: Account Statement

Source: Treasury Management Services


1For further reading about notional netting procedure, see: Walter Ochynski, Foreign Exchange Management Your key to success in volatile markets, Charleston 2006. John C Hull, Options, Futures and Other Derivatives, fifth edition, Upper Saddle River 2003.



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