In-house Banking: A Panacea for Efficiency or an Outdated Concept?
Once upon a time the function of an in-house bank (IHB) appeared to solve a number of issues for central treasury. Perhaps the most important of these was to bridge the gap between low investment return in one location and high borrowing costs in another. It also mitigated currency exposures resulting from different business units taking opposite positions in the same currency. Clearly, it was preferable to create an environment where only net borrowings/investments could be managed through an IHB and where central treasury would net internally and trade to hedge the company’s overall net global position in each currency.
It was also believed that combining group-wide surplus cash available for investment and pooling borrowing requirements would somehow put a company in a much stronger negotiating position in terms of investment return and borrowing costs. Moreover, reducing the number of external bank accounts would mean lower transactional banking charges, less time would be spent on account reconciliation activities and staff could be deployed on other, more value-added activities. This would, in turn, have a positive effect on individual career progression as well as headcount unit costs. A centralised in-house banking team with all the specialist skills required to operate like a bank was regarded as preferable to depending on local subsidiary staff operating in isolation and often with little involvement or control from central treasury.
An IHB thus quickly became the solution to solving issues associated with global working capital management and, subject to tax regulations, it evolved into an operation with responsibility for certain key activities:
Add to the mix the attraction of centralising treasury foreign exchange (FX) dealing in an IHB, net settlement of inter-company transactions and a payments factory, and the result is the creation of a treasury function responsible for more than just managing liquidity and risk. In addition, the IHB is expected to provide a browser-based balance and transaction reporting service (instead of business units taking a service from each bank used) and often elects to centralise management of all bank relationships and authorised signatories through an electronic bank account management (eBAM) style service.
Does an IHB Still Make Sense?
Treasury has become a focal point for all things banking. Accounts need to be opened and closed, transactions to be processed, borrowing and lending rates to be updated and circulated to remote business units, currency exchange rates to be made available, statements to be provided and queries to be handled. The list is seemingly endless.
All to what purpose? Control and visibility were the arguments in favour but does that necessarily require a traditional in-house banking model? The very concept of an IHB suggests people, processes, segregation of duties, regulation and compliance. As organisations grow – often through acquisition as well as organically, and frequently into new markets – it is difficult to sustain best market practice in the face of growing cash management complexity. The effect of having additional currency risk to manage, for example, as well as more bank relationships and counterparties, can have a significant impact on the existing IHB. So much so that unless properly planned and executed immediately after absorbing the new business, integration of the additional responsibilities into the IHB is often deferred or delayed resulting in a two-tier style treasury operation.
The cumulative effect of continued growth simply adds to the problem, with the risk that treasury and the IHB are unable to keep up with change. This often results in duplication of effort and a shift away from the efficiencies that an IHB would otherwise ensure. Treasury management consists of a centralised model, the in-house bank, and potentially different models elsewhere in the other newly-acquired or opened business units each with their own unique characteristics in relation to working capital management, probably additional bank relationships and almost certainly different compliance and reporting practices.
What Should it Look Like?
As organisations expand into new regions treasurers continue to face increased complexity in managing cash and risk. It used to be that the treasury function was primarily based on transaction management, reporting and regulatory compliance. Nowadays, treasurers are responsible for much more than just operational efficiency. Many are expected to make a strategic contribution to the management and day-to-day running of the company. The essence of an IHB is the centralisation of certain key functions in order to achieve better investment return, lower borrowing costs and economies of scale. Control and visibility are still required, but does the concept necessarily mean that the functions of an IHB all need to be located in the same place?
Improvements in treasury technology, particularly in the introduction of delivery via software-as-a-service (SaaS), have changed the landscape of the typical treasury and cash management model to such an extent that a ‘virtual’ IHB is more feasible than perhaps it ever was. Treasury functionality can now be deployed securely over the internet, while connectivity to dealing counterparties and banks is technically easier and there are multiple ways in which it can be achieved. Internal IT involvement is significantly less, reducing internal treasury overhead costs and access to critical data, which is stored centrally, is both faster and available to any authorised user irrespective of their location.
Creating internal ‘centres of excellence’ becomes less of a headache when the choice of location is not driven by the availability of the required treasury skills and where potential candidates are not required to relocate. Major market centres in Europe, the US and Asia-Pacific are more likely to be able to provide staff with advanced cash or risk management expertise but this is of little benefit to corporate treasury functions in the new emerging markets. There is no reason, for example, why global risk for a multinational corporate based in China cannot be managed out of London. Enabling technology to essentially bridge the resource gap makes acquiring the right skill sets easier and centralising treasury management as effectively as if the team were all located in the same corporate headquarters.
SWIFT, as well as other third party treasury management systems, are able to consolidate daily account balances held in bank accounts in different banks, which themselves are located in different countries. Data can easily be reported into central treasury for cash management purposes and combined with forecasts submitted by in-country corporate financial controllers so that informed decisions can be made in terms internal borrowing requirements, for example. Exposure to counterparties and currency fluctuations can be monitored automatically as positions are updated as soon as each transaction is entered into the system providing group treasury with the information necessary to determine an effective hedging strategy.