What is Netting?
Netting balances obligations or payments among multiple parties, helping to identify who has a net claim in a complex agreement. It's widely used in financial markets.
How does netting work?
Netting reduces risk and cost in financial transactions by consolidating multiple obligations into one net amount. It's utilized in trading, bankruptcy, and inter-company transactions, and it balances losses and gains in various positions or currencies.
For example, if an investor owns 200 shares but owes 80 of the same shares, the net position is owning 120 shares. Netting is also used in bankruptcy to determine the net amount owed by or to the defaulting party, and it simplifies invoicing between parties with multiple transactions.
Companies use netting to lower the money they owe or are owed, especially in bankruptcy. This is also called a set-off clause or set-off law. A company can subtract its debt to a defaulting company from the amount the defaulting company owes to it. The remaining amount is the net debt or net receivable claimable in bankruptcy.
Netting simplifies company invoices from third parties by combining multiple invoices. For instance, a transport company buying paper supplies from a supplier, who in turn uses the transport service for deliveries, can net the owed amounts. This results in a single invoice for the party that has to pay the difference. This method works well when transferring funds between subsidiaries.