How to Get Your Intercompany Accounts Reconciled

Definition

Intercompany accounts are accounts in a business’s accounting system that represent a balance of obligations due to, or from, organizations connected through common ownership or control. For example, If business “A” makes widgets and sells them for $100 to company “B”, a related company, an intercompany relationship exists, or should exist, in the accounting system where Organization “B” has an Intercompany Payable to Organization “A” and, conversely, Organization “A” carries an Intercompany Receivable from Company “B”.

At the end of each month, the consolidated Intercompany Accounts Receivable and Intercompany Accounts Payable must have the corresponding account balances, a debit in the Intercompany A/R and a credit for Intercompany A/P.

Problem

Many organizations encounter reconciliation difficulties in connection with intercompany accounts. For many, this problem may cause the books to be held open for days or weeks longer than necessary. We know of an organization where it was not uncommon to have the intercompany accounts out of balance by a few million dollars every month. Unless a business implements the correct controls to keep the balances in check, the problem will continue growing and as it multiplies, it will become utterly unmanageable.

The reasons for these out-of-balance situations commonly start out very small – If Company “A” from the earlier section sells a widget to Company “B” for $100 and charges $10 shipping, but the Purchasing Department for Company “B” tells their Accounts Payable Department that it’s not on the Purchase Order, so the company isn’t paying it, the firm will have an out-of-balance situation if the issue is not remedied by the end of the month. Many businesses also pass an intercompany fee to their subsidiaries based on their Working Capital as an encouragement to keep Working Capital as low as possible to avoid excessive intercompany charges. If there is a disagreement in the calculation, this might also result in an discrepancy in the Intercompany Accounts. Any absence of clarity on the part of the organization passing the charge, or a lack of acceptance on the part of the entity receiving the charge, has the potential to result in an out-of-balance scenario.

Experience

Our experience ranges from firms with just a few entities and enormous problems with balancing the accounts, to huge companies with thousands of entities which have very few issues in getting the accounts to balance.

There are seven principal reasons for out-of-balance conditions with Intercompany Accounts:

Lack of clarity in what the charges are for Absence of clarity in the calculation of an intercompany charge Lack of communication by the entity passing on an intercompany charge Lack of communication by the entity receiving the intercompany charge Absence of consideration by the entity passing the intercompany charge Ineffective policies and/or procedures for handling intercompany charges Lack of effective course for settlement of disagreements

You can obviously reorganize these into four categories:

Lack of clarity Lack of communication Absence of consideration Lack of guidance from Corporate

but I sought to show that the responsibility for both communication and clarity resides upon both the receiving entity and the passing entity; and Corporate headquarters can fail to support the reconciliation process in several ways, of which, policies, procedures and dispute resolution are the most typical.

In exploring this issue, we have seen a lot of technology-related solutions on the market and, no offence to the programmers, tend to be significantly more cumbersome than the processes that they replaced. Such solutions won’t cause your accounts to balance, they give you the cabability to enforce the process from a higher level. Enforcing the process without addressing clarity, communications, and additional corporate support, is only going to yield nominal, if any, success and cause an even greater level of frustration because of the investment in systems without the expected Return on Investment.

Responsibility

By definition, the responsibility for making certain that Intercompany Accounts (or any accounts, for that matter) rests firmly with the Controller of the firm. Many firms may not have a person with the title of Controller, but it is generally evident who the person is who performs the controllership functions. In almost all organizations, the Controller must have ownership of the Balance Sheet of the organization and be the guardian of the financial policies and procedures. By extension, as the Controller must have ownership of the Balance Sheet and support the reconciliation process, senior management i.e. CFO, CEO, Vice Presidents, etc.. must support the Controllers’ authority to enforce the timely reconciliation of the Intercompany Accounts.

The majority of companies that develop intercompany issues have a matrix or semi-matrixed reporting structure. This situation comes with the nasty habit of splitting allegiances. It must be clear that the Corporate Controller with the parent company is the final arbiter in the reconciliation of Intercompany Account disputes with and between subsidiaries, unless the resolution is in violation of a law.

Just as the Corporate Controller has ownership of the Balance Sheet of the organization, Division Controllers have the same responsibilities within their divisions and have to be accountable to the Controller at the next level up in the organization. This responsibility chain continues to flow down to the Plant Controllers (or equivalent), who must also be accountable to the Controller(s) above them in the corporate food chain.

Resolution

Creating an environment that has an effective intercompany reconciliation process depends on education. The education, however, must be preceded by top-down policies. These must include, but not limited to:

Responsibility for internal control Responsibility for reconciliation General process for reconciliation Specific format for reconciliation Transfer pricing policies Foreign currency policies Intercompany cut-off policies Formal confirmation policy & procedure Dispute resolution policy & procedure

After policies are established (and controlled), the appropriate staff members will require training, from the top of the financial hierarchy to the bottom. Especially when first put in place, the policies and procedures should be evaluated frequently to make sure that they deal with common company-specific challenges that arise during the first few months of implementation. Great care ought to be exercised, however, to make sure that policies aren’t changed simply to ensure compliance. Every time the policies are examined due to an issue, the question should be asked as to whether the problem lies in the policy, the procedures or the process. After effective policies are established and implemented organization-wide, the issues that arise will typically deal with process or procedure issues. Bear in mind, the policies are in place as a shield for the organization and the basis for processes and procedures that are in compliance with the policy.

What if you already have a large reconciliation mess to resolve? The same laws of intercompany reconciliation still hold true. Policies, education, procedures and processes must be put into place to end the hemorrhaging and the existing mess must be cleaned up. This should be attempted first with current staff members with the explicit statement that if the accounts do not balance per company policy by a given date, that a “fire team” will be set up to support the entities in the reconciliation process. This will normally be enough encouragement to get the accounts in order for most of entities, because no one wants Corporate to show up and begin helping – that is most likely second only to the IRS showing up to help.

Earlier in this paper, it was mentioned that many of the technology-based solutions are often more cumbersome than a company’s current processes. We are not saying that technology can’t help, technology can aid or enhance if you have effective policies, but the policies must be in place, have to be effective, and must be enforced or the technology-based solution will just be more ingredients added to a spoiled soup.

Often, in this lean world, Corporate doesn’t really have the time to sacrifice to address these reconciliation issues among the operating entities. In this scenario, a third party can aid in the reconciliation process or in troubleshooting the policies, procedures and processes to ensure a reliable process for intercompany reconciliation is successfully established and implemented.

For more information regarding balancing of your intercompany accounts, check out the article by John Leonard on getting your interco accounts balanced or visit Instant Controller. Check here for free reprint license: How to Get Your Intercompany Accounts Reconciled.

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