Controllers for organizations with multiple subsidiaries know the pain of intercompany accounting. Unbalanced intercompany accounts can lead to inaccurate financial reporting and difficulties with financial statement consolidation.
Thus, if you see areas in your company books that point to potentially inaccurate intercompany accounts, it’s essential to take action now to eliminate potential pain later.
Overview of Intercompany Accounting
It’s pretty standard for companies to have various subsidiaries or departments that perform transactions with each other.
For example, a newly formed subsidiary will require an investment by the parent company to come into existence. At the same time, some departments will exchange products or services to avoid purchasing them from outside vendors.
Intercompany accounting was designed to track these transactions. Any time a transaction occurs between subsidiaries, an entry must be made to record activity in both entities. Proper intercompany accounting ensures accurate consolidated and subsidiary accounting and financial reporting.
Challenges of Intercompany Accounting
While intercompany accounting can sound simplistic, it can become quite complex. This reality is especially true when there are numerous intercompany transactions or many subsidiaries. Special care must be taken to ensure the continued accuracy of the books for each entity. Common difficulties experienced with intercompany accounting include:
1. Not Having Appropriate Software for Intercompany Transactions
The accounting software that you use can significantly impact your ability to record and track intercompany transactions.
Suppose that you’re using software that doesn’t automatically require an offsetting intercompany transaction to be recorded. In that case, you’ll likely find yourself and your accounting team chasing intercompany transactions every month, trying to ensure that everything aligns properly.
2. Manual Processes
In this day and age, there is no excuse for old manual processes that should have been left in the 1990s. If you’re still performing your intercompany checks in Excel, the company is well behind the times — and may require some significant assistance to get back on track.
Numerous options allow companies to gain control over their intercompany transactions. Take some time to examine the options available and move away from complicated spreadsheets that can lead to mistakes in intercompany accounting.
3. Differences in Exchange Rates
Companies that operate in different countries often have transactions recorded in various foreign currencies. Varying exchange rates can cause revaluation problems when intercompany transactions are settled at different rates, often resulting in a need for additional entries to control the issue.
In other cases, transactions may be settled in opposing periods for two different entities, causing an imbalance upon consolidation.
4. Extensive Legal Agreements
In some cases, intercompany transactions are recorded based on extensive legal agreements. These agreements can be complex for accountants to comprehend, especially those developed without the accountant’s participation.
Misunderstandings can lead to incorrect intercompany transactions that reveal themselves during inopportune times — such as when the company handles its subsidiary financial reporting or taxes.
Ensuring that the accounting team fully understands the aspects of any legal agreements between subsidiaries is imperative to good financial controls over intercompany accounting.
5. Ineffective Intercompany Reconciliations
Every intercompany account should have its reconciliation. Creating separate intercompany reconciliations can be difficult when numerous intercompany accounts across the organization are combined with multiple entities.
Even if reconciliations are kept for intercompany accounts, it can be challenging to match transactions and ensure proper balancing when multiple team members handle the reconciliations.
To develop more robust controls over intercompany reconciliations, it’s best to have a few key individuals involved in the intercompany management process. Accountants can check with one another to ensure an offsetting transaction appears in other entities, helping mitigate the intercompany issues at the month-end close.
6. Vendor Payment Management
It’s common for companies that operate in various countries to handle their payables with many bank accounts. In some cases, vendors may expect payment from one entity even though another provides services.
To mitigate problems with multiple bank accounts in various entities, it’s best to adopt centralized purchasing and invoicing that allows for automatic intercompany transactions across entities. This approach can reduce the risk of missed intercompany entries and make the month-end close a bit more palatable.
The Challenges of Intercompany Accounting Can Be Overcome
Intercompany accounting can be one of the toughest nuts in accounting to crack, but it doesn’t have to be. To reduce the potential for intercompany errors, take steps to make the process easier. Introduce rules-based software that prevents intercompany transactions from being recorded without a partner.
Establish an effective intercompany reconciliation process. If the company has transactions in multiple currencies, ensure that a settlement process is implemented across the board to eliminate imbalances upon valuation.
With the appropriate systems to reduce your risk of intercompany errors, you’ll have everything you need for a smooth, mistake-free monthly close.