How Corporates Can Improve Intercompany Reconciliation.
If a company has mismatched intercompany transactions, how can it
trust its financial statements? This article explores some discussion points
for the treasurer, finance director and, ultimately, the chief financial
officer (CFO).
Consider a company whose ‘goods’ are
physical products or services that are bought and sold. Oone party is the
producer and the other - the counterparty - is the consumer. The producer
will know what was purchased, shipped, to whom, how much it cost and the
currency billed. The consumer also knows what was ordered and how much it
should have cost, when it is due to pay and in what currency. Each party and
counterparty keeps a record of these transactions.
Much of this buy and sell activity can occur
between subsidiaries of the same company and hence a great deal of time and
effort is spent invoicing, settling and accounting within the group. Where
group companies have intercompany loans or deposits, this leads to more
transactions and records. These transactions have a financial impact on the
subsidiary and, as they are rolled up to group level, the consolidated profit
and loss (P&L) and balance sheet. Auditors, management and the
subsidiaries will want to be assured that the numbers are correct, so at some
point these two versions of records needs to be reconciled.
Mismatches on A/P and A/R
Below are some examples illustrating the use of
invoices on accounts payable (A/P) and accounts receivable (A/R), as these
ledgers are likely to have many transactions and give rise to most of the
mismatches. There is potentially considerable activity in A/P and A/R for a
manufacturing company, for example, but many financial companies and those
involved in intellectual property (IP) will face similar issues with fees and
royalties. Treasury bookings, such as intercompany interest, which may be
rolled forward and have market interest rates applied, can be quite
cumbersome to reconcile. Loans and deposits are not likely to change as
frequently and are hence easier to reconcile, but the same considerations
apply.
Some A/P and A/R mismatches will be because the receivable
is booked in the A/R of the supplier, but not in the A/P of the counterparty,
simply because it hasn’t yet reached the A/P. Other mismatches will be
due to errors in the booking of the details mentioned above: party,
counterparty, currency, amount, references, etc. The challenge is to identify
and track mismatches due to timing and make sure they are reconciled in the
next period.
How to Resolve Mismatched Items
Solution one
Simply ignore mismatched items and enforce the
rule that the receiver is always correct. To reconcile the books at close,
the A/P probably books a dummy invoice (e.g. work in progress versus A/P).
After the closing, they make the opposite booking and mismatched items go
forward to the next period. The problem is that old outstanding disputes
never get cleared. By the time it gets to year end, a lot of time is wasted
working out what was wrong way back when the item was booked.
Surely most companies would rather have a process
that removes and identifies mismatches rather than let them remain disputed
and, if so, how can they achieve this?
Solution two
Some companies use spreadsheets and email these
to each other to agree items, or perhaps headquarters (whether treasury or
finance) has to take on the consolidation. This is a long and tedious task to
complete at a detailed level, such as an invoice, so, unsurprisingly, this
process happens infrequently, perhaps every six months.
Solution three
A better solution would be to agree within the
enterprise resource planning (ERP) system, except many companies have
multiple ERPs, or within the treasury management system (TMS), but the TMS
may not handle dialoguing and disputes or large invoice volumes particularly
well.
Another Way
What many companies would value, therefore, is a
method of automating the process using a platform that provides visibility
for both party and counterparty at the detailed level, whether an invoice,
balance or transaction. It would provide a mechanism to discuss these items
and reach a consensus, or at least make mismatches visible, identify
outstanding invoices yet to be booked and mark items as disputed if there
cannot be agreement. The number of such items would be small and, in the case
of invoices, could be tracked through the monthly settlement periods with
possibility of resolution in the month after closing or at the next
management meeting.
One possible dispute process is shown in Figure
1. It is possible to use the same process of dispute flagging in a netting
system where settlement takes place at the end of the process and for
month-end reconciliation where discrepancy flagging is used to tell the
counterparty about the disagreement and the reason for it.
Figure
1. Possible Dispute Process
Source: Coprocess
In order to provide a flexible, uniform platform
available to all, as perhaps agents would like to be involved in this
process, the system would be made available via the internet and accessed by
a browser. Data could be secured by 128-bit encryption and strong passwords,
which is the level of security appropriate for data of this sensitivity, yet
consistent with maintaining usability. The system would give a real-time
picture of matched and mismatched items, as well as provide tools such as a
high level, or summary, ledger difference analysis on a consolidated
group-wide basis, plus each subsidiary, displayed by business unit and
currency to quickly identify where attention is needed. This tool would allow
drill-down to the underlying detail to allow a simple way of identifying and
flagging items for discussion (see Figure 2).
Figure 2. Drill Down to Detail
Source: Coprocess
For companies with business units with a high
volume of transactions, automation could be best achieved by bulk uploading
from the A/R and the counterparty uploading from their A/P. The items would
be automatically matched based on specific criteria - five fields might be
sufficient, such as invoice number, payer, payee, currency, amount, document
number, reference, etc, as appropriate for the company’s business.
Such a platform could clearly show which items
are matched, mismatched (four of the five items agree, but perhaps the
currency is incorrect either on the A/P or the A/R), or one side is missing,
perhaps because the counterparty is yet to upload the information or because
of genuine problems receiving invoices or supporting documentation (see
Figure 3).
Figure 3. Uploading Ledger
Receivables
Source: Coprocess
Perhaps as an added feature, where the item is
missing, a link to the image of the invoice or transaction could appear
alongside the items. The system would provide dialoguing and dispute
resolution features that tie into the normal business workflow. Flagging an
item in the system will send an email containing a reference and reason
directly to the owner of the queried item, which can be used to find the item
quickly. Items would then be reconciled at a particular date. A
company-defined dispute cut-off date would be enforced within the agreed
calendar that drives the process.
Figure 4 shows a schematic diagram of the
matching process with optional netting process (in red) and subsequent
activities that are optional but desirable.
Figure 4. Matching Process
Source: Coprocess
Conclusion
An automated process such as this could feasibly
be run on a monthly basis with little overhead, and could also be combined
with settlement of matched items via a netting system for items due. The
reconciliation is complete. The parties have updated their systems
automatically by exporting matched and unmatched items, which allow the
intercompany accountants to generate reports of mismatched items and track
how many periods these have been outstanding. Otherwise the data is archived
and the system is ready for the following period.
If this process is combined with
receivable-driven netting, companies will benefit from improved liquidity, a
more responsive intercompany performance and, with reconciliation, better
numbers reported to auditors and management.
Article by Keith
Harris graduated with a joint honours degree in Computer Science and
Economics, and was briefly a programmer with Imperial Cancer Research Fund
before joining Chase Manhattan, now JP Morgan Chase, in 1985. He spent 17
years in the cash management division of JP Morgan, 10 of those years providing
electronic banking products to international clients, the remainder in
product management, responsible for development and profit and loss (P&L)
of the bank's multilateral netting and other client access systems. Harris
spent nearly seven years working as European agent for EuroNetting before
joining Coprocess in January 2010. He looks after sales, marketing and
support requirements for clients based in the US,
the UK, Ireland and Benelux.
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