Order Order Sale Payment Sent Cash Placed Received Received Accounts Collection ID: 639247
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Chapter 10Cash Concentration
Order Order Sale Payment Sent Cash Placed Received Received Accounts Collection < Inventory > < Receivable > < Float > Time ==> Accounts Disbursement < Payable > < Float > Invoice Received Payment Sent Cash DisbursedSlide2
Learning Objectives
Understand the need for a cash concentration system.Formulate a cash transfer decision model.Understand the advantages and disadvantages of the different cash transfer tools.Slide3
Cash Concentration System
Move funds from dispersed bank accounts to firm’s primary bank (Concentration bank)Cash concentration increase firm value by reducing opportunity cost of idle fund.Improves treasury department’s control over excess cash.Slide4
The Cash Flow Timeline
Original deposit at field bank Deposit reported Collected funds at the field bank Transfer initiatedBalance available at the
concentration bank
Debit field bank
account
T1
T2 T3 T4 T5 T6
The concentration system affects cash at points T3, T5 and T6. Slide5
Exhibit 10.2:
Cash Concentration SystemRegionalConcentrationBank 1RegionalConcentrationBank nGatheringBank 1GatheringBank 2GatheringBank n
Gathering
Bank 1
Gathering
Bank 2
Gathering
Bank n
Central
Concentration
Bank
Customers...
Customers...
Wire or ACH (Automated Clearing House
Wire
or
ACH
Lockbox
LockboxSlide6
Initiation of the Transfer
Decentralized Transfer Initiation– field office or collection endpoint manager initiates a transferThe transfer amount is generally the amount of depositCentralized Transfer Initiation– initiated by the concentration bank, this bank chooses the timing and dollar amount of the transfer.Advantage: managers at corporate headquarters have better control.Slide7
Concentration Transfer Tools
Depository transfer checks (DTC) – non-negotiable, usually unsigned, check payable to a single bank account at a particular bank. - beneficial for concentrating relatively small transfer - now obsolete because of growth in electronic paymentsACH (Automated clearing house) or EDT (Electronic depository transfers) –settlement usually occurs one day later; not very expensiveWire transfer – real time transfer; expensiveSlide8
Costs of Concentration System
Transfer costsWire transfer costs between $15 to $20EDT costs roughly $0.25Administrative costsSlide9
Benefits of Concentration System
Opportunity cost of idle balancesEconomies of scaleEnhanced visibility and control over balancesSlide10
Complicating Factors
Minimum transfer balanceIncremental Benefit= TBAL {DS/365} {i – [ECR (1-rrr)]}Here,DS= the number of days saved with the faster transfer methodi= annual opportunity costECR= the earnings credit raterrr= the required reserve ratioTBAL= the balance to be transferred Tbal = ______Incremental cost_______ {DS/365} x {i – [ECR(1-rrr)]}Slide11
Objective: Minimize Transfer Costs
Total Cost = Fee + {(i/365) x (ACB - RCB)}Where:Required Collected Balance = (SC - Fee)/ECR(1-rrr) Here, Fee= total service charge paid through fees i= annual opportunity cost ACB= Average Collected Balance SC= Service Charge ECR= the earning credit rate rrr= the required reserve ratioSlide12
Cash Transfer Scheduling
Daily transfer: simplest and most common rule, transfer the daily deposit to concentration bankManaging about a target: set a target transfer levelone-time transfer out to earn interestreduces the number of transfers thus reduces transfer costWeekend Timing