The stricter liquidity requirements imposed by Basel III are having an impact on banks that offer notional pooling and, as a result, on businesses that utilise and acquire notional pooling from banks. Companies opt for notional pooling to gain an insight into their global financial position and to optimise interest revenue on their bank accounts. Basel III makes it less attractive to offer notional pooling, so companies may have to seek alternatives. This article looks at 3 alternatives to notional pooling.

The future of notional pooling is uncertain because Basel III no longer permits banks to calculate their liquidity ratios by ‘netting’ outstanding account balances that form part of a notional pool. Banks must therefore calculate their ratios based on the gross value of each individual participating account. Banks must maintain additional liquidity for negative positions in the notional pool, because debit balances result in an unattractive Risk Weighted Asset (RWA) for the bank. By means of an enforceable statutory right of compensation, companies can demonstrate to banks that the overarching parent company bears any debts that have arisen. This right of compensation is unfeasible for many companies, because it requires the necessary time, funds and (local) legal and tax knowledge.

Basel III could therefore lead to banks only allowing entities in the pool if an enforceable right of compensation exists. Another option is for banks to pass on the higher costs and risks of their notional pooling offering to companies. Banks can also take the creditworthiness of the company into account in their decision to offer notional pooling (selectively). In short, reason enough for companies to reconsider the option of notional pooling and to monitor alternatives in the area of cash management and cash flow forecasting closely.

Alternative 1 – Physical pooling

Like notional pooling, physical pooling (or zero balancing) is a cash management technique for combining the debit and credit balances of participating accounts to optimise interest yields. The difference between the two is that with notional pooling, no physical transfer of funds takes place, because banks calculate the interest yield across the total virtual balance. With physical pooling, entities pay one another, as a result of which internal debit balances arise. The business must therefore monitor the individual balances of the underlying accounts itself. The advantage that physical pooling has over notional pooling is the more flexible legislation and regulations that apply to physical pooling in most countries.

Alternative 2 – In-house bank

An in-house bank is a structure within a company that carries out financial services as a commercial bank would. Amongst others, managing intercompany loans, carrying out FX transactions, managing deposits and managing liquidity processes form part of this range of services. With an in-house bank model, company entities hold an account with the in-house bank. That way, the (treasury department of a) business has a better insight into its financial position as a whole and more control over the opening and closing of bank accounts, as well as the transactions taking place on these bank accounts. Other obvious benefits of an in-house bank are better management of working capital, a greater concentration of cash, fewer bank accounts, better control and more efficient processes. A payment factory can form part of an in-house bank and carry out activities such as initiating, authorising, concentrating, sending and reconciliation of payments. A collection factory can carry out the same activities in terms of revenue.

Alternative 3 – Virtual IBAN account

A virtual IBAN account is a model in which a hierarchy of ‘virtual IBAN accounts’ is connected to a single physical (parent) IBAN account. The virtual accounts are entirely under the control of the company and can be used for external payment traffic. No entries are made on these accounts within the banking environment and reports are only visible via the physical account. Debtors use the virtual IBAN they have been allocated when making a payment, which provides the business with accurate matching and automatic reconciliation. Companies that utilise virtual IBAN accounts in their payment traffic can transform their cash management by initiating and receiving payments and the reconciliation thereof. It therefore supports the concept of an in-house bank (payment/collection factory), because it is immediately clear to the receiver of the payment from whom the funds originate. Besides, a company can simplify its cash management (and costs) considerably, because fewer physical accounts are required.

Bas Kolenburg
Bas Kolenburg
Senior Consultant

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