Intercompany accounting comprises a large proportion of the global economy. Grant Thornton estimates it to be between 30% and 40% – at $40 trillion a year. But it can be fraught with difficulty. In recent years, accounting irregularities have led to companies having to restate their financial accounts. This can be damaging to a company’s reputation, lead to caution from investors and likely bring you to the attention of regulatory authorities.
Due to increased globalisation, mergers and acquisitions, more intercompany accounting is needed these days. But doing it wrongly or inadequately increases corporate risk. To avoid any issues, it’s important therefore for businesses to successfully address intercompany accounting.
What is Intercompany Accounting?
Intercompany accounting refers to financial transactions between business entities within a company or group of companies. Sales made between two subsidiaries are internal and therefore not valid as far as the parent company is concerned, meaning the profit or loss from the sales cannot be included in consolidated financial statements. For that reason, these transactions need to be reconciled and accounted for.
Intercompany transactions might be due to companies buying goods or services from each other, or they might share the fees, royalties or costs associated with purchases and sales.
The Problems with Intercompany Accounting
Even if you have finance teams within each of your entities, they may be using different IT systems and procedures. If one subsidiary is using spreadsheets to manage its accounting, and others are using an ERP, then there is an inconsistency that can cause issues. Here, the reconciliation process would need to be manual, requiring some lengthy and laborious effort to balance the intercompany accounts.
This could lead to a finance team not prioritising the task. Without the necessary focus, it could end up only being done at the last minute, provoking errors, which can ultimately be the cause of financial restatements.
Or worse still, the intercompany reconciliation might not get done at all, leading to compliance issues.
A Three-Step Approach to Mastering Intercompany Accounting
For accurate reporting, intercompany accounting of business transactions between your subsidiaries is essential. This three-step approach can help you easily manage it.
1. Set Up Consistent Processes and Policies
It’s vital to start out by establishing some standard procedures. You should set out a consistent approach by which you’re the company in your group should identify, approve and clear intercompany transactions.
You should document which products and services can be sold within the group, at what pricing, and with whose approval. You might also wish to set out guidelines on how transactions are identified and finalised, along with deadlines for when monthly intercompany balances should be cleared.
2. Introduce Automation
Automation is vital in reducing the amount of time your staff spend on manual accounting tasks. Tracking, identifying and matching hundreds – or maybe thousands – of transactions via spreadsheets is onerous and prone to mistakes and miscalculations.
This situation is complicated further if you have subsidiaries in different territories, each dealing with different currencies, taxes and financial regulations.
Not all accounting systems have the capability to manage multiple business entities. So, if you are looking for new software, this will be a priority. Any software you purchase should at least be able to tag intercompany transactions when they are originated. In this way, if you raise a purchase order, for example, this can be tagged as an intercompany transaction so that it can be automatically matched, making it easier to track.
Introducing automation also helps during the closing process. Systems can automatically remove the revenue and costs associated with intercompany transactions from the consolidated financial accounts. An ideal system would also automate intercompany netting, whereby most internal payments are eliminated. This saves time and money as it leads to fewer invoices and payments being created.
3. Centralise Your Finance Operations
It is ultimately the responsibility of the parent company to ensure accurate reporting of financial statements. However, this means added pressure in the closing periods. Often, closing cycles are lengthened as the elimination process – especially if it’s manually-led – can add several days to the cycle. This burden to close out quickly can also lead to mistakes.
Centralising the process, perhaps with responsibility lying just with one person, or a small team if your operation is large enough, can significantly improve the whole process. This comes with a heightened degree of oversight and visibility into the finances of the group and its constituent entities. For the central resource to achieve this, and for optimum performance, it is best if all the companies in the group are using the same accounting system.
Intercompany Accounting with NetSuite
Intercompany accounting within NetSuite is automated, allowing you to reconcile and eliminate transactions more efficiently and with fewer errors.
Purchase orders and sales orders are tagged as intercompany transactions at the point of creation. This links them, allowing them to easily be tracked. At the point of invoicing, NetSuite also identifies the transactions that need to be eliminated and automatically makes the requisite journal entries for you.
Intercompany netting for accounts receivable and accounts payable lets you combine balances and automatically settle transactions. Advanced intercompany journal entries are used in a NetSuite One World environment when you need to adjust the balances of general ledger accounts between subsidiaries, and you are not using transactions like invoices or vendor bills. Select the originating subsidiary and you can have multiple receiving subsidiaries. The currency defaults to the base currency for the originating subsidiary but can be changed to any currency that is in your environment. The first line of the journal entry always starts with the originating subsidiary and after that they can be to any of the other receiving subsidiaries. The net amount of the debits and credits from the originating subsidiary must equal the net amount of the debits and credits of the other subsidiaries combined.
Settling intercompany accounts with NetSuite is accomplished with far less manual effort and greater financial control, saving you time and money.