What is Intercompany Reconciliation (ICR) and why is it required?

Intercompany Reconciliation (ICR) stands for the reconciling of figures among two consecutive branches or legal entities under the same parent institute when a transaction takes place. Out of the two branches, one acts as a seller, while the other acts as the purchaser. This means the transaction results in one legal entity paying the other under the same company. In order to have accurate data on the financial records/statement, the amount or figure that is transferred needs to be reconciled as well as eliminated, since it neither acts as revenue or a cost for the company.

An example of intercompany reconciliation

Imagine there is a parent company that has extended its business and now has two subsidiaries. An example of this is Facebook is the parent company and Instagram and Whatsapp are the subsidiaries. If there was a transaction made between Instagram and Whatsapp, there is a need for reconciliation of data so it neither shows as revenue or cost for the company. The intercompany reconciliation reduces the chances of inaccuracies in the company’s financial statements since the money is simply moving around not spent or gained. So when they’ll create the consolidated financial statements at the end of the financial year, there will be no issues because the balance of both accounts will match.

The procedure of intercompany reconciliation generally takes place every month or every quarter with various general ledgers of both branches, which would eliminate these transactions.

The operations under intercompany reconciliation might include trading operations, selling/purchasing the inventory or fixed assets, declaration and paying dividends, paying/receiving loans, guarantees or other engagements, and so forth. A major consequence for all these transactions would guarantee an increase in balance sheet balances or income statement transactions, which may include accounts receivable/payable, dividends receivable/payable, financial assets or liabilities, sales/purchases, and interest expenses, to name a few.

What is intercompany reconciliation?

There are three different types of transactions:

1. Downstream Transaction: The transaction from the parent company to its subsidiary
2. Upstream Transaction: The transaction from the subsidiary to its parent company
3. Lateral Transaction: The transaction between two subsidiaries under a parent company

In spite of the direction of the transaction, the intercompany transaction would mean nothing to the group as a whole unless it ensures the elimination process.

How Reconciliation Works

What is intercompany reconciliation? Can’t we just use an excel document?

The intercompany reconciliation of its trading balances proves to be a growing challenge, with an increase in the number of its subsidiaries. If the number of subsidiaries is less, they can be managed manually as well, based on spreadsheet tools. However, with the growth of an institute, the solution to the problem needs to be robust. With institutes that have multiple subsidiaries, having a daily or monthly routine for reconciliation, to eliminate and settle balances, is essential. They include the following:

1. Cash planning and treasury operations
2. Financial covenants and regulatory reporting
3. Liquidity report
4. Currency management and optimisation
5. Optimise resources and processes

The reconciliation method is used to ensure that general ledgers of subsidiaries and various bank accounts match together. It involves eliminating the intercompany transactions that will no longer be a part of financial statements. The reports should be clean of the transactions that are submitted externally. The accounting team may go through each transaction manually for a lesser number of accounts, specifically by sorting through the records and removing transactions that are unnecessary or flagged from the system. This will help to capture and minus those accounts receivable or accounts payable, specifically when the accountants need to prepare for the external reports. The lengthier process includes eliminating and balancing out the intercompany transactions by going to each of them and would work well for a smaller institute.

Accountants who are knowledgeable about daily operations can work through this manually. They are faster than others who are unfamiliar with the logistics and consequently unable to find and flag the transactions that need to be eliminated.

Intercompany reconciliation can work on either of the three processes:

1. G/L Open Items Reconciliation (Process 001): This process works for the reconciliation of open items (items that remain open on the Open Item after the posting process) if the account receivable and payables are posted to the G/L accounts
2. G/L Account Reconciliation (Process 002): This process is used for reconciling documents on accounts without open time management and is used for profit/loss accounts
3. Customer/Vendor Open Items Reconciliation (Process 003): This process is used for the reconciliation of open items (items that need to be reconciled manually) and can be engaged with for most account receivables or payables attached to accounts of customers/vendors

Intercompany Accounts Reconciliation

Intercompany Accounts Reconciliation: Intercompany accounts represent those accounts that are part of the company’s general ledger for the balance of transactions that may be due from/to companies in relation to common control. For instance, out of two companies – A and B, both of which are under the same parent company – Company A may act as a seller and sell a certain product worth $200 to the other subsidiary, Company B. Here, between this intercompany relationship, there will be a general ledger that will hold Company B as the Payable Account and Company A as the receivable account. At the end of the month, both intercompany account payables or receivables will have the same balances – debited from account receivable and credited to account payable.

How reconciliation works? How do intercompany accounts reconciliation help?

• It provides financial institutions consistency and precision in data sources, which can be used as an advantage during the decision-making process. With reconciling, the workflow is guaranteed to be skilled and efficient with no time expenditure.
• The subsidiaries are able to spend less time and effort in sorting the data over its collection
• Sorting and storing all of the accounts payable and receivable for prior months
• Institutes that practice account reconciliation can have a significant cost reduction and receive a maximum return of interest
• The work is benefited, as it is high-quality and fits the needs of the institute at reasonable rates
• Along with the above, reconciliation promises uniformity, major and rapid growth in services, and customer satisfaction, with an effective and secure environment in the office space and the backend team

Intercompany accounts reconciling a large number of accounts with volumes of data, as well as mitigating risk, can be both taxing and costly. Institutes may even be on the verge of financial risk due to the large use of spreadsheets, written/virtual approvals, or methods of manual work, all of which may lower the accountability. According to a 2016 survey by Deloitte, which included 4,000 accounting professionals, nearly 80% of them had faced intercompany accounting issues related to differing software systems for various units, processes for intercompany settlement, managing complex legal agreements, transfer pricing compliance, and Foreign Exchange exposure. With all these issues of handling large volumes of transactions, having complicated entity agreements, and high regulatory scrutiny, the intercompany accounting reconciliation needs to be a complete functional solution.

Intercompany Payables and Receivables

Intercompany Payables and Receivables: Financial institutes that make financial transactions to their subsidiaries under the same parent company need to make routine reports of the intercompany balances, either daily or by the end of each month. These reports are based on specific accounts that may have an intercompany relationship with one another. For the intercompany balances, transactions must be eliminated, which may be done manually for smaller entities. The journals are stored with the institute as a company journal. Once the accountant runs the conciliation report, the intercompany account receivables are matched with the intercompany account payables, interest incomes are matched with interest expenditure, and so forth. In case the values differ, it can be categorised as a difference in currency translation, or as a real difference.

The intercompany payables or receivables accounts need to be tracked in the accounting journals for external reports. The accounts payable are payments to another subsidiary with which they have an intercompany relationship. They are important to keep track of, for operational purposes, even though it may not be accounted as a real transaction and will be eliminated from both subsidiaries.

How to Improve Intercompany Reconciliation

With the growth of the number of entities and subsidiaries, intercompany reconciliation becomes a real challenge in terms of efficiency, resource, accuracy and managing risk.

There are many factors that reduce the accountability of data and make the process inconvenient. Here are 3 ways you can improve your intercompany reconciliation to suit teams across the board.

Automate your process with an intelligent software

Tookitaki’s Reconciliation Suite (RS) is a futuristic software that harnesses the power of Artificial Intelligence to:

• Perform high-speed data matching at any scale
• Create matching schemes automatically from historical activities
• Automatically improve matching schemes based on daily activity
• Automatically find the resolution to a problem
• Automatically classify breaks according to business reason

Improve visibility of the process to teams

Using a solution that is compatible across all mainstream data sources is an important factor. Our dashboard enables you to manage data flows from one place to another

Fine-tune your experience

Our Exceptions Handling engine leverages semi-supervised learning to learn from past reconciliation cases and then predicts both known and unknown exception cases without human intervention.

• Resolves exceptions by improving break classification according to client requirements.
• Provides an interactive tool to devise proprietary protocols to automate the management of known exception cases
• Builds exception models from historical data
• Detects new exceptions that are difficult for officers to handle manually
• Explainability framework to articulate the reasons for each exception prediction
• Complete audit trail and efficient exception handling process

To know more about our Reconciliation software, get in touch here.