An Untenable Intercompany Position
The law of holes is an adage that states, “if you find yourself in a hole, stop digging.” Traditional intercompany processes often mean weeks or months of digging up information from multiple source systems, shared drives, and spreadsheets.
As finance professionals, we do not have the best record of managing transactions that occur within a company. It is rare to hear any joys with the regular ticking and tying of intercompany transactions every financial close.
As Kyle Cheney, partner at Deloitte’s finance transformation practice puts it, intercompany transactions represent the biggest consumer of cost and time during the month-end. This observation differs from the conventional ‘everything nets to zero’ view from finance leaders. Accounting professionals at the coalface would argue otherwise. It is a manual and painful ordeal.
The core of the issue is that some 80% of global trade is intercompany related. Many departments are also involved, including Accounting and Finance, Tax, Treasury, and Legal, each with their technologies, data pulls, and ways of working. With many systems and people, it can be challenging to coordinate tasks and track and resolve open items ahead of the consolidation process when the group prepares its summary statements.
After the books are closed, counterparty disputes often delay reporting due to after-the-fact corrections. The traditional accounting playbook uses a ‘plug account’ to fill in the imbalances, similar to a suspense account. By design, this account supports financial data before sufficient information is available to create an entry to the correct one. By the end of the period, this can lead to inaccurate financial results.
According to one of the world’s largest food and beverage companies, these plug accounts were enormous—over $25m. But there was no line of sight into this data until it was aggregated from SAP ERP systems in the US and Europe and several other ERPs, including Oracle and JD Edwards, into Oracle Hyperion Financial Management. At this point, it was five or more days after the close.
Intercompany is not just one flavor. Transactions are sometimes directly related to your business activity, before a final sale to a third-party, or indirect, service-related activity such as management fees and so-called “non-trade,” like cross-charges, payroll allocations, royalties, and intangibles.
These distinct types of business transactions require special attention, and many global businesses already strain to comply with complex rules governing cross-border transactions.
Here, finance and accounting staff must cope with local tax policies, currencies, and transfer pricing, as well as evolving global mandates requiring greater transparency and controls. Intercompany plugs can reduce confidence in the legal entity’s financial numbers and increase the effective tax rate.
A vital tenet of the Base Erosion and Profit Shifting (BEPS) is to make it easier for global tax administrations to conduct transfer-pricing risk assessments. Misclassified profit between countries can result in tax penalties, interest, and reputational damage.
If you get asked today to prove a non-trade transaction for tax-purposes, what steps would you take? Bear in mind the country-specific invoices, tax codes, and calculations used when booking it. Your ERP may be the expert in navigating the supply chain’s complexity, but it does not have all the information you need to substantiate it.
Besides, there is often more than one ERP. This fragmented landscape acts as a trigger point for cross-platform communication, resulting in friction between the initiator and receiver of transactions, a reliance on emails, manual data loads, and overall increased variability on month-end deliverables.
Settlements are not something you will find in your core ERP functionality, either. The bolt-on applications to handle this are great for specifics like bilateral and multilateral settling. The gap is in the downstream feed of intercompany activity to treasury management or the banking system for clearing.
Intercompany Duct Tape: Leaving You Exposed
There has generally been a lack of technology enablement in the area of intercompany accounting. The disparate technology landscape may involve one or more ERP, treasury, tax systems, and no connective tissue to control all the data flows and monitor work schedules.
I often talk with finance leaders who argue that they can handle intercompany accounting within their technology eco-system or, more specifically, within their ERP. But here’s the problem: ERP focuses on reconciling intercompany activity and balancing, which is a reactive control. ERPs do not manage the overall intercompany picture, with a proper audit trail encompassing both the different types of transactions specified earlier.
You might be able to post a cross-entity journal entry in your ERP, but where is all of that documentation that substantiates that particular transaction? What happens if the receiving entity does not agree and disputes the entry? How do you link transactions from an audit perspective when the entities are in different ERPs?
The problem is incredibly real in non-trade, such as corporate allocations, with the manual effort required to book both sides of the transactions in all affiliate ERPs. Usually, the double-entry ends up in the plug account.
Excel is the tool of choice for calculations, including driver-based allocations and mark-ups. The inherent risks of Excel in a geographically and organizationally dispersed team are already known.
Modern Intercompany Accounting Gives You a Competitive Advantage
Automation is an essential step in the evolution of the modern finance function. According to the 2020 research report by the FSN Modern Finance Forum, there are gaping holes in Finance’s core capabilities caused by insufficient automation. Automation leaders share a common strategy: it’s a holistic approach.
For intercompany, a unified system or ‘hub’ acts as a single subledger for all transactions and supporting details. It’s the glue that binds everything together, bridging gaps between ERP instances and with treasury management and tax systems.
Modern intercompany accounting is the roadmap to bring processes, people, and technology together to ensure a streamlined, standardized, highly accurate experience across all entities.
Integrated transaction-level reporting and analytics promote governance across tax, statutory, and finance teams and accountability through visibility. The final mile has fully automated matching, reconciliation, and elimination, leading to a higher first-time rate, lower errors, write-offs, and penalties.
Read this Digital Finance Transformation Playbook to learn how your organization can conquer the biggest intercompany accounting challenges, and become equipped with common best practices implemented by global enterprises.