How to reduce intercompany accounting stress
Bring up the subject of intercompany accounting and you’re unlikely to be met with an enthusiastic response. This is one area of finance that has a long-standing reputation for being a burden and regularly causes group finance department headaches. What is interesting is that much of the negativity is unwarranted when a large proportion of intercompany accounting problems can be easily resolved with software. Read on to find out how the latest software can reduce the stress of intercompany accounting and much of the hard work that goes with it.
Every year, businesses must prepare a consolidated (or combined) financial statement for tax and reporting purposes. Intercompany accounting is carried out by a parent company to remove transactions between its subsidiaries or other related entities. For example, if one subsidiary has sold goods to another subsidiary, this shouldn’t count as a sale transaction as it happened within the same group of companies. The ‘sale’ has to be removed from the books when the financial statements of the parent company are consolidated. This reconciliation is vital, as it prevents reporting inaccurate information on the income statement, and avoids misrepresentation of a company’s financial position.
Definition of intercompany accounting
“Intercompany accounting (ICA) refers to the processing and accounting for internal financial activities and events that impact multiple legal entities within a company. ICA can include sales of products and services, fee sharing, cost allocations, royalties, and financing activities. It’s a broad area that, while rooted in accounting, has extensions into various functions, including tax, treasury, and finance.”
Source: Deloitte
1. Understand the importance of intercompany accounting
Intercompany accounting is nothing new – however simply assuming that everything ‘nets out’ in the end actually allows problems to fester – and they don’t go away...
As today’s organisations become more complex, the intercompany accounting issues that arise can cause serious problems if not dealt with effectively. Increasingly global businesses operating in multiple countries, merger and acquisition activity, even the drive for more integrated supply chains have all added to the complexity of organisations from a financial perspective. And businesses going through a period of significant growth often introduce centralised finance functions which see an uptick in the number of intercompany transactions. All of this means that companies must look closer at their intercompany accounting practices and find ways to ensure compliance and accuracy is achieved consistently and with the least amount of stress.
Examples of intercompany accounting transactions
- The parent company incurs administrative expenses (e.g. additional payroll, computer equipment) which are not allocated to the related entities. This will prompt expense increases for the parent company, which then begins to show lower profits.
- The parent company purchases inventory which is transferred to related entities without any paperwork recorded in the parent company. This has the effect of overstating inventory for the parent company and understating inventory for the related entity. This issue may become more complex if the parent company sells inventory to the related entity. For example, does the parent company sell the inventory at cost or with a markup? How is the intercompany sales transaction ultimately eliminated in order to not inflate sales?
- The parent company purchases inventory from its existing vendors because the related entities may not be credit worthy and the parent company’s vendors may not want to take the credit risk of dealing with a new entity. In this instance, who then ultimately pays the vendors? How are the payables reflected on the balance sheets of both companies?
2. Reduce the risk of intercompany accounting mistakes
The transactions between businesses within a group need to be processed quickly and accurately so that the accounts reflect the group’s true position. If each business entity has its own accounting and inventory system, there can be delays in processing transactions between them – and that can give a false view of current operating results.
In an ideal world, accounting across all business operations would be carried out via a single system and transactions between the companies within a group would be posted simultaneously so that inventory, cash, payable, and receivable balances accurately reflect current levels, without duplicated transactions.
The most effective solution is software with a flagging feature which flags intercompany transactions as they take place. This highlights these transactions so they can be automatically ignored when consolidated financial statements are produced. As well as effectively eliminating duplicates or running the risk of missing transactions altogether, the added benefit is the valuable time saving gained which shouldn’t be underestimated.
If you are facing problems with multi-entity accounting consolidation, talk to Access. With our proven software solutions, we can help you generate single entity and consolidated group financial statements in just a few clicks, giving you up-to-date visibility and granular detail where you want it.
Why not arrange a quick online demonstration today?
