Settlement (financial management)
As a settlement (or english Back Office ) is defined as the departments in banks and in the financial management of industrial companies , with the documentation and implementation of by the trade or the front office are busy completed financial transactions.
General
An essential task is the control of the transactions concluded by the trading or the market side through a timely coordination with the settlement of the counterparty (business partner). This is usually done through the exchange of confirmations. Fulfillment departments initiate all payments and deliveries related to the business.
For banks, the clear functional and organizational separation of the processing of trading and the market side is mandatory through the minimum requirements for risk management (MaRisk) of the Federal Financial Supervisory Authority (BaFin). For industrial companies it is considered " best practice ".
development
Processing departments of the credit institutions
At least the separation of business processes between trading and processing has long been guaranteed at banks. Today, the structural and organizational separation of trading and processing up to and including the management level is one of the so-called “ minimum requirements ” that the German banking supervisory authorities place on credit institutions. It must also be ensured within the respective functional areas that incompatible activities are carried out by different people when processing business transactions.
Minimum requirements are an instrument of banking supervision with which the proper organization of business operations in certain areas of the credit institutions is to be ensured in order to avoid possible conflicts of interest . The minimum requirements were last published by BaFin on December 20, 2005 in the statement on the minimum requirements for risk management (MaRisk). The requirements for the settlement process largely correspond to the minimum requirements published in 1995 for the operation of commercial transactions (MaH) . Among other things, these took into account the lessons learned from the collapse of Barings Bank in February 1995. Here, among other things, the poor separation between the areas of trading, settlement and monitoring enabled the activities of the Barings dealer Nick Leeson , which ultimately resulted in the bank's ruin .
At large credit institutions, the processing areas are usually divided into several specialized departments, since the processing of different product types (e.g. exchange-traded products, OTC derivatives, foreign exchange) each requires its own processes.
Processing departments at industrial companies
For companies that are not part of the financial institutions, it has long been customary for the departments that concluded money market transactions to also carry out the associated payment transactions. The organizational division into trading and processing that is customary today has only been established since the 1980s. In large companies, it is now usually supplemented by a financial risk control system that monitors compliance with the company's risk policy. There are two reasons for this development: On the one hand, companies have increasingly begun to use complex financial instruments such as interest rate swaps or currency options as part of their risk management since the 1980s . The increased number of completed transactions made the creation of appropriate organizational units sensible and necessary. In many companies, however, it was cases of fraud that made the need for action clear. At the beginning of 1986 a case of fraud became known at Volkswagen AG in which securities dealers working for the company defrauded their employer and this fraud was facilitated by a non-selective division of tasks in financial management. This fraud case has led companies around the world to become aware of their operational risks and to reorganize as a countermeasure.
According to today's understanding, it is one of the general duties of care of a management to ensure a sufficient separation between trading and processing by means of an appropriate organizational structure. Both internal auditors and auditors ensure that this separation is fully implemented. The law on control and transparency in the corporate sector (KonTraG), which came into force on May 1, 1998, did not stipulate this separation, as the legislature was guided by the principle that further regulation of corporate law should be avoided as far as possible. The legislature left it to the self-organization of the company to react to the very general requirements of the KonTraG. This law requires: " The board of directors has to take suitable measures, in particular to set up a monitoring system, so that developments threatening the continued existence of the company are recognized early " (Section 91 (2) AktG). In fact, after the adoption of the KonTraG, a number of publications appeared on the structure and process organization of financial management at non-financial institutions. The most important publications include the theses on the minimum standards, which were developed by the “KonTraG” working group of the Association of German Treasurers V. - they were published in the book The Control and Transparency Act edited by Bernd Saitz and Frank Braun . As a minimum requirement, it was stipulated that trading, settlement and booking must be carried out by different people. The separation of financial management into the three separate organizational areas of trading, processing and risk controlling was described as desirable in this publication. At the same time, however, the working group also pointed out that such a separation is not feasible in many companies due to the typical size and the lack of human resources in finance departments. The separation is now considered " best practice " and has been implemented in large companies.
tasks
In Section BTO 2.2.2, MaRisk defines the processing tasks in a credit institution. Substantial parts of this definition of tasks also apply to companies.
Confirmation, control and execution - central tasks of processing
In a credit institution, one can distinguish between the following central processing tasks:
- Confirmation procedure, contract execution and documentation,
- Control and coordination tasks,
- Arranging payment and delivery.
Control and coordination tasks
The details of the trade for each trade concluded by it must, as far as possible, be checked by the settlement. This can e.g. B. done on the basis of broker confirmations.
Due to the separation of functions, trading and back office are not allowed to access the respective inventory management (i.e. information about the concluded transactions) of the other offices (independent position or inventory management). This requires regular, trade-independent coordination of the inventory management of trade and settlement, which is normally carried out by settlement.
Confirmation procedure, contract execution and documentation
Every transaction has to be confirmed to the counterparty when it is processed. In interbank transactions, for most types of transactions, it is common for both sides to confirm the transaction (the counterparty's confirmation is called a counter-confirmation). The receipt of a counter-confirmation must be monitored, missing counter-confirmations must be reminded. The confirmation procedure is intended to ensure that all concluded transactions (and only these) are correctly recorded in the company's own systems.
If the processing staff discovers a discrepancy between their own business documents and the confirmation from the counterparty, they must react immediately. In the case of simple errors, this is often done first by contacting the dealer who concluded the transaction or by processing the counterparty. However, in the event of major deviations or suspected fraud, information from the relevant management level is required.
The scope of the confirmation depends on the deal concluded. By archiving the confirmations, the completed transactions are also documented.
Transactions that are settled using an automated processing system (“matching system”) represent a special case. These include, for example, about the settlement systems of Deutsche Börse train to train unsettled securities transactions. The settlement units of the counterparties enter the information required for payment and delivery of the transaction (“settlement instruction”) in the matching system. These also fulfill the function of a confirmation. The monitoring of the settlement process by the processing department serves the same purpose as monitoring the receipt of a counter-confirmation.
Arranging payment and delivery
One of the central tasks of a settlement is also to meet the payment and delivery obligations entered into with the completed financial transactions. These include, for example, the payment of premiums from the conclusion of options, the payment of interest in interest rate transactions or the delivery of securities that have been sold. Closely linked to this is the deadline monitoring of the transactions.
Extended area of responsibility
The implementation of bulk payment transactions to settle accounts payable obligations is not one of the classic core competencies of the back office. In many companies, however, processing is also responsible for forwarding the payment transaction files prepared in accounting to banks, negotiating the payment transaction conditions and checking that they are being adhered to. However, these tasks are just as often part of a company's cash management .
The check of whether only approved transactions have been made by trading and whether the counterparty and trader limits granted have been adhered to is also occasionally assigned to settlement. Risk controlling is often responsible for this.
MaRisk have also defined the control of the market conformity of concluded transactions as the task of settlement. In banks, this task is performed either by processing or by risk controlling. Regardless of the assignment, however, the implementation of this requirement sometimes caused problems in the past. In highly standardized and highly liquid transactions, such as foreign exchange spot transactions or short-dated foreign exchange swaps in major currencies is very possible implementation by about market data systems such as Reuters or Bloomberg , the market prices are determined at closing date. The less liquid a financial market instrument is, the more difficult it is to determine a prompt comparison price. For this reason, MaRisk provides for procedures for market compliance monitoring that are graded according to type and risk content.
The extended area of responsibility of a settlement also includes the preparation of data from financial transactions for accounting and the balance sheet area of a company.
Processes
Well-functioning processing works on the basis of established and carefully organized processes. This is necessary because the employees sometimes only have a very short time window to carry out certain tasks. If the trade one example, at 12 am US dollar - Overnight completed with which it's available liquidity in USD on the money market investing, the back office only until 14:00 Time to Unwind belonging to this business payments. The work process must ensure that the conclusion of this transaction is noticed immediately in the settlement and that the execution - in this case the transfer of the amount of money to the bank accounts of the contract partner, usually a large commercial bank - is timely and in compliance with safety precautions such as the four -Eye principle , is carried out. If such a payment is not made on time, a one-day delay in the transaction sizes customary for large companies and banks can result in penalty interest that significantly exceeds the value of a small car.
In large companies, such as the in DAX -listed corporations , the processes between trading and settlement are largely automated and by a so-called treasury system supports. Entering a financial transaction then automatically notifies the back office that another transaction has been made. In large credit institutions, the process is comparable, but here the IT systems that manage the position of the trade and processing are usually referred to as front office or back office systems. These either access the same database (integrated front / back office systems) or are connected to one another via automated IT interfaces. Only in the case of smaller credit institutions and a low level of trading activity are transactions transferred from trading to processing on paper.
The design of the confirmation process in particular depends on the type of transaction. In the case of highly standardized transactions such as money market transactions or foreign exchange spot transactions, confirmation is usually given on the trade day. Electronic media such as SWIFT are often used here. This also allows an automated comparison of confirmation and counter-confirmation.
Largely standardized transactions such as interest rate swaps are often confirmed by fax, with the confirmation process taking a few days. The more complex derivative transactions traded over the counter are structured, the more extensive the transaction confirmations and the longer the confirmation process takes. Here it has become common practice that only one party issues the full confirmation - which then has the scope of a contract. The processing departments of both parties then exchange brief confirmations promptly after the transaction is concluded.
The back office systems have interfaces to downstream processes, especially when there is extensive trading activity. In particular, the generation of payment instructions for payment transactions and posting records for the accounting system should be mentioned here.
Personnel equipment
Minimum personnel
A large number of processes in the back office require the four-eyes principle. For example, payment transaction data is entered by one person or, in a largely automated process, authorized for the first time and released by a second person. Six-eye processes are the exception.
The minimum size for the staffing of a processing is therefore a number of employees of four people, if the security precautions for all processes provide for a maximum of four-eyes control. With this size of staff, one employee can go on vacation at a time. If another person is absent due to illness, the processes can still be carried out properly. In order to ensure a smooth process even in the event of a further illness, appropriate passwords and, if necessary, work instructions are stored for another group of people in the event of an emergency, which are stored in sealed envelopes in a safe or other largely secured location.
These staffing requirements make it clear why medium-sized companies in particular find it difficult to implement the separation between trading and processing that is necessary for a proper financial management process. Medium-sized companies usually make do by locating the tasks in departments whose core tasks are in a different area. For example, day money and time money trading are performed by employees in controlling as a secondary task, while the tasks of the back office are assigned to accounts receivable .
Problems
At most companies and banks, there is a clear gap in payment between the employees in a processing department and those in a commercial department. In addition, trade employees are often closer to the markets and products. Despite the personnel separation between trading and processing, close cooperation between the two departments is necessary. H. the employees in processing and trading are in close contact with each other every working day. Back office employees must react to suspicious transactions and, if necessary, initiate escalation measures. The first measure is usually a check between the processing employee and the dealer, because anomalies are often based on incorrect entries and thus simple work errors. However, if it is not a matter of simple input errors, there is a risk that the colleagues in the front office, who are closer to the market, convince their colleagues to ignore the deviation as typical of the business. This risk increases when a trader deals with complex products.
Handling support process or core process
From a business point of view, the tasks performed by a processing are among the support processes that must be performed, but are not part of the company's core tasks , as they do not represent any direct customer benefit or secure a competitive advantage. In the case of financial institutions, the assignment of the tasks of the back office to the core processes makes sense , since a well-functioning back office can both contribute to customer satisfaction and mean a competitive advantage. Customers here would be other financial institutions as well as companies that conclude financial transactions with the financial institution. Frequently poorly executed confirmations or the late fulfillment of payment obligations can result in counterparties of this financial institution being removed from the list of counterparties with whom they would conclude such transactions.
As a support process, the back office tasks at companies are occasionally checked to determine whether they represent an outsourcing potential. So far, however, no company is known to have implemented this. The reason is likely to be both the sensitive data that a back office handles - completed financial transactions allow conclusions to be drawn about the financial risk profile of a company - as well as the tight chronological sequence of the processes between the front office and back office, which makes it difficult to outsource some of the processes.
At financial institutions, however, some steps have been taken in recent years to merge settlement functions. Some major international banks have their processing tasks concentrated in one location each in Europe (mostly London or Dublin ), North America and Asia (mostly Singapore ). A trading department of a financial institution based in Frankfurt am Main , which, for example, concludes financial instruments with German-speaking companies to hedge the exchange rate risk, would then work with a processing department located in London or Dublin, which, in addition to the trading department in Frankfurt, also looks after a trading department based in London, for example.
literature
- Bernd Saitz, Frank Braun (Ed.): The Control and Transparency Act - Challenges and opportunities for risk management. Gabler, Wiesbaden 1999, ISBN 3-409-19018-X
- Henner Schierenbeck (Ed.): Risk Controlling in Practice - Legal Framework Conditions and Business Policy Concepts in Banks, Insurance Companies and Industry. Schäfer-Poeschel, Stuttgart 2000, ISBN 3-7910-1682-2
