Custom Search

CONCENTRATION BANKING

System whereby customers make payments to a regional collection center which transfers funds to a principal bank.

Break-Even Wire Transfer Amount

Suppose the daily interest rate is .02 percent and that a wire transfer saves 2 days of float but costs $10 more than a depository transfer check. How large a transfer is necessary to justify the additional cost of a wire transfer? The interest savings are .02 percent per day 2 days funds to be transferred. So the break-even level of funds to be transferred is found by solving .0004 size of transfer = $10 Size of transfer = $10 = $25,000 .0004 The cost of the wire transfer can be justified for any transfer above this amount.

LOCK-BOX SYSTEM

System whereby customers send payments to a post office box and a local bank collects and processes checks.

Often concentration banking is combined with a lock-box system. In a lock-box system, you pay the local bank to take on the administrative chores. It works as follows. The company rents a locked post office box in each principal region. All customers within a region are instructed to send their payments to the post office box. The local bank empties the box at regular intervals (as often as several times per day) and deposits the checks in your company`s local account. Surplus funds are transferred periodically to one of the company`s principal banks.

How many collection points do you need if you use a lock-box system or concentration banking? The answer depends on where your customers are and on the speed of the United States mail.

Lock-Box Systems Suppose that you are thinking of opening a lock box. The local bank shows you a map of mail delivery times. From that and knowledge of your customers` locations, you come up with the following data:

Average number of daily payments to lock box = 150

Average size of payment = $1,200

Rate of interest per day = .02 percent

Saving in mailing time = 1.2 days

Saving in processing time = .8 day

On this basis, the lock box would reduce collection float by

150 items per day $1,200 per item (1.2 + .8) days saved = $360,000

Invested at .02 percent per day, that gives a daily return of

.0002 $360,000 = $72

The bank`s charge for operating the lock-box system depends on the number of checks processed. Suppose that the bank charges $.26 per check. That works out to 150 $.26 = $39.00 per day. You are ahead by $72.00 Ј $39.00 = $33.00 per day, plus whatever your firm saves from not having to process the checks itself.

Our example assumes that the company has only two choices. It can do nothing or it can operate the lock box. But maybe there is some other lock-box location, or some mixture of locations, that would be still more effective. Of course, you can always find this out by working through all possible combinations, but many banks have computer programs that find the best locations for lock boxes.2

How will the following conditions affect the price that a firm should be willing to pay for a lock-box service?

a. The average size of its payments increases.

b. The number of payments per day increases (with no change in average size of payments).

c. The interest rate increases.

d. The average mail time saved by the lock-box system increases.

e. The processing time saved by the lock-box system increases.