Historically, asset-based businesses have relied on secured financing to fund and capitalize asset purchases. Under secured financing arrangements, bank accounts for SPVs are often pledged to a financing party to obtain a security interest in the asset in case of a change in control. With SPV bank accounts so encumbered by third-party pledges, asset-based businesses have been limited in their ability to reduce bank accounts, yet they still comply with secured financing covenants. Moreover, traditional liquidity products, such as cash concentration or notional pooling, are often also unavailable, because they require transaction banks to waive their traditional set-off rights.

In recent years, however, financing models for asset-based businesses have undergone change, thereby presenting an opportunity to streamline bank account structures by introducing in-house banking techniques like on-behalf-of centralization. In-house banking represents a central method for organizations to simplify their banking structures. In-house banking, widely understood to be the centralization of financial value chain activities within the group treasury, includes key financial functions like managing transactions, the balance sheet, liquidity and risk. Sophisticated enterprises establish in-house banks to benefit from liquidity centralization, working capital optimization, process efficiency, risk mitigation, centralized control and reduced bank account management through adoption of the centralized operating model.

In-house banking frequently includes establishing payment and collection factories to improve control and reduce the number of bank accounts—a key objective of many firms, but especially for asset-based business models. A “collection factory” refers to the implementation of a receipts-on-behalf-of collection model, whereby a dedicated treasury entity processes all group collections on-behalf-of subsidiaries (SPVs) through one group bank account per currency. Similarly, a “payment factory” refers to the implementation of a pay-on-behalf-of (POBO) payment model, whereby a dedicated treasury entity processes all group payments on-behalf-of subsidiaries through one group bank account per currency.

Firms face a multi-year project with significant capital expenditure to select, license, implement and integrate vendor-based in-house banking software, frequently requiring considerable professional services consultancy, to implement infrastructure to enable on-behalf-of (OBO) operations. The change management impacts should not be underestimated.

However, in recent years financial institutions have made the significant investments in systems that enable organizations to realize treasury transformation and achieve on-behalf-of operations without the capital expenditure seen in traditional centralization projects. At the core of these bank-offered in-house bank platforms are clearing-routable virtual bank accounts.

Clearing-addressable reference accounts have been offered by banks for decades to assist with reconciliation of collections. However, virtual account solutions can now be applied to enable centralization of payables as well. This innovation offers an alternative method for achieving the holy grail of cash management for many treasuries—reducing bank accounts—through implementing on-behalf-of virtual account structures.

What makes in-house banking and on-behalf-of operations especially powerful with virtual accounts is that the treasury organization achieves real-time cash centralization without fracturing cash or requiring sweeping, whilst operational companies use decentralized and separate virtual account reporting for managing their collection and payment activity. This model enables treasury to devolve bookkeeping to the respective group companies and avoid costly TMS-to-ERP integration thanks to standard bank format reporting. This is not something that can be achieved with traditional vendor-based in-house bank platforms.

Difficulty funding and executing change management inhibits many asset- based businesses from realizing treasury transformation. A firm’s workforce, processes and systems are geared towards the status quo of legacy systems and legacy account structures. Traditionally the investment and project efforts required to unwind such setups understandably creates reluctance to implementing new operating models.

It is in partnership with a strategic and global banking partner, who is experienced in designing and implementing treasury transformation projects, that asset-based businesses can identify and execute an adoption approach that is right for its enterprise. J.P. Morgan works closely with our clients to provide such guidance using expert consultancy and a project-based methodology to achieve a dual mandate of realizing treasury’s objectives around funding optimization and the use of cash along with ensuring the highest levels of automation for local entities’ daily operations with the lowest cost. 

From the perspective of reconciliation and bookkeeping, for example, an on-behalf-of operation powered with virtual accounts more closely resembles a decentralized physical account structure. With the standard bank format reporting of virtual accounts, each operating company applies separate balance and transaction reporting within their own accounting platform. This differs from traditional on-behalf-of solutions that require a centralized treasury management system or in-house banking platform to be integrated across the enterprise—a massive effort in project effort and cost.

Simultaneously delivering real-time cash concentration in a single bank account per currency and decentralized operations represents a breakthrough for many asset-based businesses.