How to automate 'cash pooling'

Cash pooling is a highly beneficial tool for companies within their cash management practices. However, it often becomes a significant challenge for treasury departments due to its complex implementation, especially when done manually, which requires considerable human intervention.

Fortunately, modern technology provides effective solutions to automate cash pooling, making its management much more efficient and streamlined.

What is cash pooling and what is its purpose?

Cash pooling is a technique used by companies to optimise their treasury management, particularly in groups with subsidiaries or branches, whether domestically or abroad.

Essentially, it involves consolidating the balances of all the bank accounts belonging to the various entities of a company into a single master account. This provides a comprehensive view of cash flow, enabling more informed decisions regarding the use of available funds.

This procedure allows companies to maximise treasury efficiency, reduce the costs associated with banking operations, and improve financial risk management. Additionally, by centralising funds into a single account, companies can decrease the need for external financing and better seize investment opportunities.

In general, this technique is advantageous for companies that maintain multiple bank accounts across various institutions, and it becomes even more efficient when those branches are located in different countries.

Cash pooling: a practical example

To better understand how cash pooling works, let's look at a practical example.

Imagine a corporate group made up of three different companies, each with distinct business dynamics.

Company A, due to its operations, maintains negative balances. As a result, its account shows a debt of €200,000.

In contrast, companies B and C have positive balances in their bank accounts of €300,000 and €500,000, respectively. Therefore, the corporate group has a total positive bank balance of €600,000.

Thanks to cash pooling, the balances of the three companies are unified into a single bank account, resulting in a consolidated balance of €600,000. In effect, companies B and C have financed company A, allowing it to avoid resorting to external financing to achieve a positive balance.

Thus, company A will incur much lower interest rates than it would have if it had turned to external financing (and, of course, lower than what it would pay on the overdraft of its bank account), thanks to the financing provided by companies B and C.

Additionally, cash pooling allows companies B and C to obtain higher returns from company A than if they had simply deposited their funds into a bank account.

Types of cash pooling

Broadly speaking, there are three main types of cash pooling:

• ‍Physical: the balances from the company’s bank accounts are physically transferred to a centralised account. This allows for effective consolidation of funds and optimises cash movements. However, this method can be costly due to transfer fees and the need to comply with the tax and regulatory requirements of each country.‍
• Notional: in this case, the balances of the company’s bank accounts are not physically transferred to another account but are instead consolidated for accounting purposes. This enables the optimisation of interest and bank charges associated with cash movements.‍
• Internal: the company consolidates the balances of the bank accounts of its entities located in the same country to maximise the fiscal and regulatory advantages of each jurisdiction.‍
• Regional: the company consolidates the balances of the bank accounts of its entities located in the same geographic region. Similar to internal cash pooling, the goal is to leverage regional advantages.‍
• Global: the company consolidates the balances of all its entities’ bank accounts, regardless of their geographical location. This provides a global overview of cash flow and optimises the use of available funds.

Advantages and disadvantages of cash pooling

The primary benefits of utilising this technique include:

• Improved cash management: cash pooling enables the company to have a global view of the available cash in a single account, which facilitates decision-making and improves cash flow management.
• Optimisation of financial resources: by consolidating the balances of bank accounts into a single centralised account, the need for external financing is reduced, lowering financial costs and improving the company’s profitability.
• Simplification of accounting: cash pooling simplifies the recording of cash movements and reduces accounting complexity, as only one centralised account is required.
• Reduced interest and bank charges: by centralising cash management, unnecessary bank accounts are eliminated, reducing banking costs. At the same time, it enables better negotiation with banks due to having more information at hand.

On the downside, some of the disadvantages of cash pooling are:

• Requires strong financial planning: cash pooling demands careful planning and good coordination among the different branches or subsidiaries of the company, as it involves transferring funds between them.
• May generate additional costs: this technique can also incur additional costs, such as bank commissions or fees for transferring funds, as it remains an additional service offered by banks.
• Increased risk of default: if one of the company’s branches or subsidiaries experiences liquidity problems, cash pooling can increase the risk of default, as funds from other branches or subsidiaries are used to cover their cash needs.

How to automate cash pooling?

If you are wondering whether it’s possible to automate such a critical treasury process as cash pooling, we have good news.

Recent technological advances in enterprise resource planning (ERP) systems, combined with increasingly advanced digital capabilities from financial institutions, have made real-time communication between companies and banks possible, enabling the automation of certain processes.

Generally, these systems allow the company’s various branches or subsidiaries' bank accounts to be linked to a single centralised system, automatically consolidating the balances into one central account. As a result, bank reconciliation becomes much simpler.

Additionally, treasury software enables the scheduled sweeping of accounts according to the frequency set by the user. Whether daily, weekly, or monthly, cash pooling can be adjusted to meet the specific needs of each company.

Conclusions

In summary, automating cash pooling can significantly improve a company’s treasury management, offering greater visibility and control over cash flow, reducing banking costs, and enhancing financial decision-making. Various tools and technological solutions are available to automate cash pooling, tailored to the needs and budgets of each business.

Therefore, it is worth considering automating cash pooling as a viable and effective option for improving the financial management of the company, particularly regarding cash management.