How virtual can bank accounts be?

How virtual could the bank accounts be?

Virtual accounts are a concept often proposed by cash management banks. However, behind the concept there is a need to give more clarity on the terminology. We would like to differentiate “real “virtual accounts from the Virtual IBAN Accounts. The “real” virtual account concept offers broad functionalities and opportunities to increase efficiency and to reduce costs of cash management. Let’s discover how.

Value of Virtual Accounts

Virtual Accounts have been a fashionable topic among corporate treasurers for couple of years. We have though the impression they are more popular at bank level than at corporate level. What they are and how they can improve reconciliation, cash liquidity and payments are frequent questions addressed.

Often, we can hear that Treasurers can use virtual accounts to increase the efficiency of the working capital processes. Virtual accounts have the potential to deliver benefits to help reconcile and allocate client monies. It is useful for large collections businesses such as utilities, insurance, etc.… that can use virtual accounts to improve their heavy reconciliation processes and accelerate account reconciliations to “free” credit lines of customers. Of course, that helps treasurers with high volumes of domestic cash flows coming in from different legal entities, in disparate locations and denominated in several currencies. The virtual accounts can streamline cash management processes and even reduce the drain on staff. Broadly speaking virtual accounts are mostly used as a synonym for Virtual IBANs, what is most of the time what some Banks offer. Yet many Virtual IBAN schemes do not provide all the benefits claimed for virtual accounts.

Definitions of what we consider as Virtualized Bank Accounts and Virtual IBAN Accounts

We would suggest the following definitions to separate Virtual IBANs form real Virtual Accounts:

Virtual IBAN Accounts or Payer ID. (i.e., V-IBAN): a range of account numbers (IBANs) offered by the Bank to the Corporate. The Corporate then assigns an IBAN to a subsidiary, business line or counterparty to identify transactions relevant to that entity on a single bank account.

Virtualized Bank Accounts (i.e., VBA): the comprehensive concept, a true Digital Cash Ledger overlaying a few masters or settlements accounts maintained with Banks, all working exactly in the same way as a real bank account. In this scenario, the Virtualized Bank Account can book any type of transaction and maintain a cash balance for the entity “holding” the VBA.  What you call “Real Virtual Accounts”

 Advantages of VBA over V-IBANs

It is important to make this distinction between the different types or definition of “virtual accounts”. Of course, the second category (V-IBAN) has its benefits and present strengths. However, the first one offers a more holistic solution and is the sole true and comprehensive virtualization of bank account.

Let’s dig more into the subject:

A V-IBAN (or Payer ID), is a list of bank account numbers or references all linked to the same real bank account (i.e., one per customers even if millions of customers). You can immediately identify who paid. It may be useful for B2C businesses, to identify payments without references. It is indeed a sort of key helping corporates to sort and filter transactions to reconcile and book them correctly, job they still must do themselves. It is important to highlight here that the offers may greatly vary from one bank to another (assuming they have such an offer), but also you may face unexpected limitations like EURO only, or payments only and not direct debits, or ACH only and not urgent payments.

On the other hand, and to make it simpler, Virtualized Bank Accounts are sub accounts that effectively replace physical current accounts, with payments and collections routed instantaneously through these virtual counterparts to a linked master account. Like normal bank accounts they maintain a balance and can be managed following a set of credit and limits rules and do not present some of the V-IBAN limitations we have seen above.

Not to make it more complicated, it is possible to combine both offers that indeed may be more complementary than it initially looks. A Treasurer can overlay with one single virtualization process several real bank accounts maintained with several Banks and benefit in a harmonized way from the various V-IBANs / payer ID solutions.

The real value of Virtual Bank Accounts

The advantage with all type of virtual accounts is that banks can keep in control of the physical account, while treasurers create and administrate themselves as many shadow accounts as possible that they need, increasing efficiency by reducing complexity. In simple terms, as a Treasurer you can dramatically reduce the number of bank accounts to a handful, while allowing the businesses to open as many as they need.

VBA’s present advantages and benefits despite the need of appropriate tools. They can be an alternative to traditional cash management solutions, help centralizing treasury functions, be a substitute to liquidity management tools, reduce costs while increasing efficiency, enhance Straight-Through Processing (STP) reconciliation, and simplify bank relationships by reducing number of accounts at minimum. More importantly they allow a treasurer to harmonize the virtualization of all its accounts irrespective of the Banks and their capabilities (as we have seen not all V-IBANs are equal). What matters is simplicity: one process whatever the Bank, the country, or the currency, isn’t it? Something you cannot get directly with the various offerings from Banks.

It is worth mentioning that virtual accounts are not a new concept. In fact, products that bear a striking resemblance to modern virtual accounts have been around for the last two decades, providing corporate treasurers and SMEs solutions for specific purposes. In a regulatory landscape becoming more stringent and with higher customer demands, combined with cost cutting focus and in a fast-changing world, the interest in virtual accounts has intensified. Operating bank accounts become an issue as the related costs keep increasing. KYC checks increasingly require more effort and disclosure.

Virtualized Bank Accounts for an effective In-House Bank (IHB)

While not a new concept, only a few MNCs have today managed to build and run a comprehensive IHB. That has taken them years, significant investments, and has proven to be not particularly cheap so far. Some even applied for a Bank license to do so, in the pre-PSD era.

Virtualized Bank accounts may eventually become the backbone of a company in-house bank system. Typically, companies look for key banks serving multiple products in multiple markets. With virtualized bank accounts, they can rationalize and get full control on their own bank account management. Have you ever dreamt of opening, amending, managing, or closing yourself your bank accounts, in a matter of seconds without having to fill tons of paper forms?

The idea is to rationalize bank accounts in two ways. First within a single legal entity by closing all bank accounts that have been opened over the years for accounting or segregation purposes, and second at a higher level within a group of companies by the virtualization and use of payments and collections on behalf of (POBO/COBO).

Not only very useful to manage and sort payables and receivables, reconcile and allocate them as we have already seen, but such a technology is also very appropriate to build a new type of liquidity management that we call “native cash pooling” Instead of managing daily sweepings between several bank accounts to centralize liquidity on a master account, in that case all liquidity is natively held on that master account, and the virtual accounts represent the various balances related to subsidiaries or businesses. No need to sweep cash physically anymore, you only need to daily track and book intercompany loans and borrowing positions. Virtualized Bank Accounts allow now to manage segregation of funds, intercompany loans, and borrowings management properly and automatically, booking, interest calculation and distribution, but also thin capitalization monitoring and risk and credit control.

Also, with such a structure, you can avoid complicated and useless processes and benefit from better trading conditions. Imagine your affiliate in Honk-Kong must pay USD. It will buy USD from the HQ treasury center (or from the local bank). Then it will instruct the bank to pay USD to the supplier in USA. Conditions aren’t always maximized and optimized locally, as volumes are lower. The treasury fully controls payment timing and related costs. With the IHB, the payment is directly transferred by the HQ on behalf of its affiliates and generates intragroup transactions and potentially current account movements. With virtual accounts, treasurers could even imagine one single bank account per currency to manage 100% of their treasury into a complete IHB. Companies like Fennech Financial Ltd offer now all of components and services required to run a highly automated In-House Bank. The price is much lower than you can think, in such a way that return-on-investment counts in months, not years.

Virtualization of the organization for efficiency increase

 Clearly, one issue in processing incoming payments across any type of Virtual Account is the difference in naming between the beneficiary (who holds a Virtual Account) and the legal entity holding the actual bank account. This issue should be considered on the compliance and legal angle. While current European regulation and practice manages this reasonably well, this may not be the case for all the accounts and entities everywhere else in the world. But even in that case, virtualization of bank accounts at legal entity level still provides significant benefits, overlayed by the usual traditional tools you already use. Obviously, the power and size of the system and its smooth integration with your ERP must be appropriate. It requires organization, discipline, and new support processes. If you take out the small local bank, treasury becomes the only contact and can be inundated by local affiliates with questions. What we mean is that it is not only a question of IT, but also to revisit the organization and the processes.

Take-aways

In conclusion, it is possible to leverage virtualized bank accounts to enable a ‘payments and collections on behalf of’ structure, a native cash pooling, internal short-term loans, centralized FX management, or netting, all leading to a comprehensive in-house bank. Virtual account concept has been certainly mispresented or wrongly named by banks. Virtual accounts promise corporate treasurers many benefits in terms of enhanced cash management as well as providing a clearer overview on company’s accounts, allowing treasuries to have a largely more influential role within organizations. interest in Virtualized Bank Accounts will rise significantly now virtual account management (VAM) platforms offer treasurers a simple out-the-box solution. These give them ability to reinvent treasury management. That is not the future but the reality you should consider.

François Masquelier, CEO of Simply Treasury

Luxembourg

Disclaimer: This article was prepared by François Masquelier in his personal capacity. The opinion expressed in this article are the author’s own and do not necessarily reflect the view of the European Association of Corporate Treasurers (i.e., EACT).

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