Intercompany accounting is typically downplayed, oversimplified and hastily brushed under the bed so you can “deal with it on another day”. While this may have been acceptable back in the day, today’s consequences are becoming harsher and companies need to realize that it’s finally time to tidy up the situation.
Here’s why insufficient intercompany accounting practices are increasing corporate risk and what companies can do to rectify the situation.
An Overview of the Current Intercompany Situation
For any company that has ever consolidated, merged or expanded globally, intercompany relationship management is key. When companies significantly evolve and expand their global reach, the number of intercompany transactions that are generated spirals upwards.
These are usually complicated further by local tax policies, regulations, currencies, transfer pricing and different systems that the different companies within one entity might use.
Intercompany reconciliation is required to eliminate any out-of-balance accounts and rogue transactions that could have a serious impact on financial statements. This can then catch the attention of auditors and regulators, which will lead to compliance problems, fines, lawsuits and more.
So, that’s why companies need proper intercompany accounting practices in place. But that’s not to say all companies follow these precise rules. As companies evolve, the amount of intercompany transactions also increase. That means there are more spreadsheets, invoices, journals, emails and verbal approvals to keep track of.
Intercompany accounting and management then becomes so complex, the mere task of reconciliation also becomes complex, laborious and incredibly time consuming.
In those cases, it’s very tempting to put off intercompany tasks or complete them to a substandard quality. This denial and neglect is one of the biggest issues that surrounds intercompany accounting and a main reason why companies are exposing themselves to increased financial, compliance and reputational risk.
What are the Risks of Improper Intercompany Accounting?
There are three main company functions that are affected by improper intercompany accounting (ICA) practices:
In terms of accounting, the main risk of improper ICA practices are incorrect figures and reports in financial statements. This can significantly affect the company’s reputation, stock price and shareholder value, not to mention the increase in risk of serious penalties like fines and jail time.
Improper ICA practices can also reduce transparency as unscrupulous professionals can be given the opportunity to illegally re-distribute business assets. For example, they may affect the flow of assets coming out of the organization, hiding them in fictitious accounts instead of where they’re supposed to be.
Different countries have different tax laws. Accurate IC reporting will highlight any discrepancies and allow companies to reconcile these entries. But inaccurate reporting will lead to misclassified profits between countries and ultimately, result in tax penalties, increased interest and damage to reputation.
The treasury receives the details of all of the intercompany transactions and is responsible for managing and settling the invoices. Improper ICA will lead to an incomplete, inaccurate list of intercompany balances that are due to be settled.
This leads to trade imbalances as companies will struggle to settle all of their liabilities by period close if they have gaps in their reports.
Unresolved liabilities will impact intercompany liquidity because they can cause financial gains and losses that are unaccounted for.
How Can Companies Rectify These Issues?
The most common challenges of proper ICA practices are the non-standardized procedures and difficulties in matching transactions and settling liabilities during reconciliation.
Many companies are unaware that they can use specialized technology to help them with ICA or if they do know of its existence, they aren’t using it properly or are using the wrong one for their requirements.
So, when you’re looking for the right software to aid you with your intercompany practices, you should be considering the following functionalities:
Clearly outlines and automates according to local governance and policies - software that can automate intercompany transactions according to local rules and regulations means you can easily eliminate the risks of inaccurate tax reports.
Automated transfer pricing - the right software can automatically use the natural price for an intercompany transaction, altering it according to different scenarios and requirements.
Keeping data in one centralized location - typically, companies rely on a mixture of spreadsheets, loose invoices, emails and even verbal exchanges. This might be convenient at the time but it will only serve to overcomplicate reconciliation. Software can help by keeping all of this data in a single location, reducing the risk of lost invoices and reporting inaccuracies.
Managing transactions and workflows - software can simplify the workflow approval process between sender and receiver by sending approvals to both parties. This means both parties can take action on the request as soon as it appears, which is useful for companies in different time zones. It also helps to systematically control who is responsible for the current task and what will be coming next.
Aging analysis - unless companies are able to settle their balances in full, it often leaves partially unpaid invoices. These invoices can easily become buried under new invoices and they might reach their expiration date before you remember them. Software that provides aging analysis helps to prevent this by automatically ordering the invoices with the oldest first so companies can always be aware of these unpaid balances.
Matching payables and receivables - payables and receivables can easily be raised at different times by different companies who are using different systems. Companies will then struggle to match these invoices up with each other. Software can help eliminate this issue by producing payables with receivables at the same time and linking them so changes in one will automatically be made in the other.
Compatible with all sources of data - not all corporate systems are compatible with every type of data. This then requires companies to convert their data into the appropriate format before they import it into their systems. The right software will be able to handle any type of data so you no longer need to convert. You can just import immediately which reduces the risk of manual error.
It’s Important You Choose the Right Intercompany Accounting Software
Half of the battle is knowing that ICA technology exists. The other half is knowing which type of software to use because there’s certainly more than one and not all will be suited to your company’s IC requirements.
The most common types are outsourcing an expert team to develop a customized software for you, developing the software in-house, Oracle AGIS or Virtual Trader. Want to read more on these popular IC softwares and how they compare against each other? Download our ultimate comparison guide below.