3.4 Management of Working Capital 77Netting
Netting is a further form of cash management (for the legal aspects of netting and
set-off, see also Volume II). A group of companies can rationalise its production
on a global basis. This involves highly coordinated physical flows of material,
parts, and finished products. Physical flows are accompanied by a heavy volume
of intercompany fund flows. The firm can reduce costs by minimising the total
volume of intercorporate fund flows. This can be achieved by payments netting.^205
Like cash pooling, the use of netting may reduce the group’s working capital
needs.
Without netting, the group tends to make a large number of intra-group pay-
ments and payments between group companies and external business partners.
With netting, payment flows are reduced as only net amounts are settled with each
participant.
Netting can be bilateral or multilateral. Bilateral netting can be used between
two parties. However, bilateral netting would be of little use where there is a com-
plex structure of internal sales. For example, bilateral netting is of no use if sub-
sidiary A sells €1 million worth of goods to subsidiary B which in turn sells €1
million worth of goods to subsidiary C while C has €1 million in sales to A. On a
multilateral basis, however, total transfers would net out to zero.^206
Definition. In Community law, netting has been defined as “the conversion into
one net claim or one net obligation of claims and obligations resulting from trans-
fer orders which a participant or participants either issue to, or receive from, one
or more other participants with the result that only a net claim can be demanded or
a net obligation be owed”.^207
Netting center, central counterparty and settlement account. Netting requires a
settlement account.^208 Netting also requires a netting center that consists of one or
more entities. Somebody – that is, the netting center – must coordinate informa-
tion flows to and from the participating companies (collect information about
payments from the companies and pass information about netting to them), calcu-
late the net positions of the participating companies,^209 act as the central counter-
party,^210 and act as a clearing-house for payments.^211 There can also be other par-
ties such as a party extending credit to the participating companies.^212
The netting cycle. The netting procedure follows a pre-defined schedule. One
can distinguish between the information day, the confirmation day, the business
day, the settlement day, and the third party day. The participating companies send
information about their payables or receivables to the netting centre on the infor-
(^205) Shapiro AC, Payments Netting in International Cash Management, J Int Bus Studies
9(2) (1978) p 51.
(^206) Ibid, pp 51–52.
(^207) Article 2(k) of Directive 98/26/EC (Settlement Finality Directive).
(^208) For the definition of “settlement account”, see Article 2(l) of Directive 98/26/EC.
(^209) For the definition of “clearing house”, see Article 2(e) of Directive 98/26/EC.
(^210) For the definition of “central counterparty”, see Article 2(c) of Directive 98/26/EC.
(^211) For the definition of “clearing house”, see Article 2(e) of Directive 98/26/EC.
(^212) For the definition of “settlement agent”, see Article 2(d) of Directive 98/26/EC.