Implementing a fully-automated cross-border cash pooling structure is an extremely challenging task at the best of times, but more so in Korea, due to the strict cross-border inter-company lending requirements and related FX regulations. Such cross-border cash pooling solutions, especially automated ones, are uncommon in the Korean market.
These strict requirements and regulations don’t allow intraday or overnight FCY loans (overdraft) as FCY bank loans are restricted to import-related overseas payments, whereas under a normal automated cash pooling structure an intraday overdraft position will trigger a ‘repayment’ transaction at end of business. This made it difficult to find a suitable bank product to fit Merck’s requirements, which also adhered to local regulations.
Tax inefficiency between the treatment of interest rates in Germany and Korea was another challenge that needed to be navigated. Foreign currency (FCY) cross-border cash pooling had to be set up on the US$50m Consolidated Management of Fund (CMF) regulation scheme, which requires prior approval from the Bank of Korea.
In partnership with Deutsche Bank, Merck implemented a fully-automated cross-border USD cash pooling solution between Korea and Germany, in line with all applicable local regulations under the US$50m CMF scheme.
The solution established an efficient and fully-automated cross-border liquidity solution between Merck Performance Materials Korea and the in-house bank (IHB), Merck Financial Services. By achieving this, Merck minimised the amount of trapped cash in South Korea (which has local USD collections and payment flows, resulting in in-country USD exposure). This increased financial savings and process efficiencies, whilst consolidating liquidity to the global cash pool header and IHB entity.
The solution uses a ‘cover and reversal’ model, otherwise known as a ‘Cinderella sweep’, whereby the cover sweep at the end of each day from Korea to Germany is offset the next morning Seoul time, by the reversal sweep from Germany to Korea for the same amount. This solution acts to both centralise end of day liquidity at the headquarter level, whilst also providing intraday liquidity for Korean domestic business requirements.
Best practice and innovation
The close collaboration between Merck and Deutsche Bank’s project teams demonstrated a deep understanding of the business requirements, and local regulations, in order to define the characteristics of an innovative cash pooling product which is unique in the Korean market.
Merck’s willingness to go the extra mile demonstrated its leading competencies and its willingness to implement efficient and automated processes, even in restricted markets. The company also worked closely with a legal advisor regarding applicable interest rates for cash pooling and other operating transactions, in order to implement a tax-efficient solution accepted by the tax authorities in both Germany and Korea.
This demonstrates the strong expertise of all parties in understanding the implications of local regulation with respect to Merck’s business requirements, and the competency to be able to craft and implement an innovative solution to account for these.
Under the innovative structure, made possible through the comprehensive cash pool engine of Deutsche Bank:
- Funds are automatically swept from Korea at end-of-day to the cash pool header in Germany.
- Funds are automatically swept back to Merck Korea at the start of the business day for operational use.
- Intelligent transaction monitoring keeps lending/borrowing amount within approved inter-company loan amount by the central bank.
- Automatically generated a quarterly regulatory report to the central bank.
- Supports steering of FX risk via simple measures such as spot transactions.
- The elimination of trapped cash has led to financial savings of more than €0.5m per year.