Cash Concentration – Definition and Methods

Cash concentration refers to a treasury term that involves the pooling of cash funds from different accounts into a single centralized account. The term is often used together as concentration and disbursement. The cash concentration and disbursement take place to and from a single centralized treasury account of a company.

It is also an important concept in modern ACH where online transactions are executed overnight through a centralized linked account. Small businesses, in particular, can take advantage of ACH and cash concentration services to reduce dependence on bank loans.

What is Cash Concentration?

Cash concentration is a treasury management method that involves the transfer of all funds from different accounts to a single centralized account.

In the modern banking system, cash concentration refers to an electronic funds transfer system that transfers funds to and from different accounts into a centralized account. Such Electronic funds transfers are used to facilitate online banking and transactions.

How Does it Work?

Cash concentration and disbursement are important treasury management methods. A business may generate cash flow from different sources and keep the cash balances in different accounts. Centralized treasury management will pool the cash funds from different accounts into a single centralized account.

The business can use the centralized cash balance to fund different investing activities. It helps treasury management to easily disburse funds to sub-accounts when and wherever needed.

It is also an important method in modern online banking. The National Automated Clearing House Association (NACHA) developed the cash concentration method to facilitate online banking clearances. The cash concentration method helps in electronic funds transfers in real-time. It can be used for electronic invoicing and funds clearance overnight.

READ:  Internal Vs External Sources of Finance - Key Differences

Cash Concentration for Businesses

Banks offer cash concentration services to corporate clients. Businesses can use the cash concentration method to ease the working capital requirements. Businesses can use the facility to make payments, invoicing, funds collection, and funds pooling. Its main use is to consolidate cash balances from different accounts to a single account.

Consolidated funds into a single account can help businesses manage their working capital efficiently. It reduced the dependency on bank loans for short-term financing. Businesses can use the cash concentration method to clear payments in real-time. It can also help in cash disbursement quickly to different accounts as funds are concentrated in a single account.

Cash Concentration in Online Banking

Automated Clearing Houses use the cash concentration concept to clear online payments overnight. It helps businesses manage invoicing, payments, and collections through online methods. Businesses can collect and pay in real-time using concentrated cash accounts overnight as well.

It is used among the banking channels as a means of electronic funds transfers. It helps banking channels to clear transactions rapidly without overnight disbursements. Centralization of cash funds helps banks manage electronic funds transfers to and from different accounts.

Methods of Cash Concentration

When a business has several cash accounts, it can pool the funds into a centralized account. The cash consolidation can be performed in various ways.

The Automated Clearing Houses and Online Banking Channels can also use these methods for their clients.

Zero Balance Method

Cash balances from all accounts of a company or group will be transferred to the main treasury account in this method. The cash consolidation can be performed daily. Each sub-account will have zero balance at the day end.

READ:  Bill of Exchange Vs Letter of Credit

Fixed Sweep Method

In this method, a fixed amount is transferred from all sub-accounts to the main treasury account. If there is insufficient balance in any sub-account, the transaction takes place when cash is available.

Target Balance

It is also called the minimum balance method in which sub-accounts keep a target balance and transfer the funds above that target to the main account.

Percentage Method

A fixed percentage of total cash available in each account is transferred to the main account.

Investment Sweep Method

Businesses can use the investment sweeps to transfer cash balances to investment instruments such as term deposits. However, this method requires special arrangements with banks or investment funds management companies.

Advantages of Cash Concentration

It is an important treasury management concept that helps businesses and online banking channels in several ways.

Here are some key advantages of cash concentration:

  • It reduces dependency on short-term financing and improves liquidity.
  • Businesses can use consolidated funds for large investments.
  • It helps businesses in quick funds disbursements.
  • Businesses can use larger cash funds to obtain better financing facilities.
  • It helps ACHs to clear funds and electronic transfers rapidly.

Disadvantages of Cash Concentration

Despite several advantages of pooling cash funds and centralization, it can come with a few disadvantages as well.

  • Centralization of cash funds can be costly.
  • Funds disbursements to different sub-accounts can delay group payments.
  • Centralized cash means less autonomy and economic stability to sub-accounts (held by subsidiaries or departments).
  • It may pose a liquidity risk at the sub-account level.

Conclusion

Cash concentration is an important treasury management tool. It helps in centralized cash management for quick pooling and disbursement of funds. It reduces the dependency on short-term financing.

Scroll to Top