The financial close process can easily become the bane of everyone’s existence in a multinational company.
Traditionally, many companies leverage their consolidation and elimination processes as a detective control to identify where they have intercompany issues. At that point in time, they’re looking at rolling up trading partner balances, analyzing for out-of-balance situations. Very often, there are disconnects that will appear at that level indicative of upstream problems that are causing an imbalance.
This causes three major problems as a ripple effect during the close process. First, it becomes a never-ending close process. Secondly, it is a large distraction for your finance and accounting teams. Third, your very frustrated governance team must then struggle to pull this all together without being familiar with the underlying activity. Each problem will be examined separately.
Understanding the never-ending close
The first issue really comes down to the never-ending close process. It happens because you’re often leveraging that consolidation process to identify issues, but those issues typically cannot be resolved during the close process. They usually end up in a queue of issues to be investigated. These investigations will require input from finance and accounting teams globally. Some will take several weeks, if not an entire month to identify, work through, and do the root cause analysis before coming up with a resolution between the parties and booking all the necessary adjustments.
Very often, those adjustments aren’t even done in the appropriate period. You end up doing them in the subsequent period to make sure you’re able to finally adjust those records to be in balance. What you’re seeing from a balance perspective is you’re having balances that are lingering for 15-plus days. That exceeds well beyond the close process, and companies have realized that they can’t come to resolution. What they do is book a plug adjustment. But this is a false sense of security that everything is in balance, and it can be explained away as timing, when we’ll know that it’s not always the case. There are underlying issues that could result in a financial statement adjustment down the road once it's unwound and adjusted.
Another area that makes it a never-ending close happens during the final mile of how you have to deal with these balances during the close process. You have got to go through consolidations and eliminations. Everything’s got to tie out. Oftentimes, companies are resorting to that plug, but then there's also the downstream of tying up the documentation for that close process. They have to do account reconciliations. And account reconciliations will, therefore, have numerous outstanding items that need to be identified, analyzed, and agreed upon.
Account reconciliations could take up to day 15 or day 16 of the subsequent month. That means you're still continuing to deal with that from the close period, all the way up to days 15 to 20. At that point in time, you're worried about the next close.
The other main area is around documentation. Many transactions involving intercompany need to be documented - especially from a tax perspective. You need to make sure you have a tax-compliant invoice and that the appropriate taxes are applied.
Very often, we’ll see tax organizations needing to go back and revisit all the periodic activity that took place during the month. At the same time, they also have to circle back to produce the necessary documentation after the fact. This often just results in a revolving set of activities that are always subsequent to the recordings.
Coping with distraction
Distraction is the next problem to look at, and it's a big one - especially when you think through what’s taking place during those six main days of the close process. You have issues coming up through the consolidation process, where you realize that trading partner A is not aligned with the balance from trading partner B, who is identifying those as a governance party. This would involve someone in corporate consolidations or an intercompany governance team, or a shared service center.
Consider how they involve others because they’re not the ones who own the activity. They’re often done by a transaction by the business themselves, which could be hundreds of entities represented by what could be hundreds of different representatives who know what’s going on and own the details of those transactions. Those hundreds of people quite often need to get involved to be able to come to a resolution, to investigate and narrow down on the transactions that are driving the difference and then make those adjustments.
That is what the industry refers to as the fire fight. These hundreds of individuals are now impacted during a very critical time in their close process when they should be doing analysis and supporting their business partners on providing commentary as well as forward-looking information. Instead, they’re researching through thousands of lines of intercompany transactions, going back to source documentation, emailing back and forth, and trying to figure out why the two systems are disconnected. It really comes down to the fact that it's a very big distraction for a key set of stakeholders that really need to have their focus elsewhere supporting the broader partner base to proper analysis that really drives the value.
Understanding why the governance team get frustrated
The role of the governance team is to make sure that all the intercompany activity is identified, properly recorded, and documented, and they're meeting all the necessary requirements, both internally as a company, as well as all of the external requirements. Often, these processes are done manually so there are a lot of disconnects and issues that come up.
It commonly falls into the lap of the governance team to really manage these activities on a revolving, ongoing basis. They’re never really able to get ahead of it. It’s all about playing detective rather than being proactive. A lot of the leading practice companies are focused on making sure that they’ve got the right processes, and the right structures in place. So, this team becomes truly a governance function. They’re focused on process excellence and only a small portion of time dealing with exceptions, versus having to spend a majority of the time governing the issue identification and resolution status of hundreds of exceptions.
Additionally, when you ask the team about their comfort level that intercompany transactions are compliant, accurate, and there are no issues, the answer is “no.” Fighting fires doesn’t allow much time for being proactive to ensure strong practices are in place. The response you often get is while they are focused on those out-of-balance issues, what about the rest of the population. By chance, trading partner balances could have fell below certain threshold, however, issues could have netted out. These will never hit the radar and could be never caught or identified too late, making investigations difficult and often increasing the risk for write-offs.
Therefore, with all their hard work on high-pressure investigations and lack of confidence in intercompany, it impacts their job satisfaction. This can result in a lot of turnover, as well as many individuals who are seeking to move out of the function rather quickly.
Why intercompany causes issues with never-ending close
A big reason intercompany causes these issues with the never-ending close comes down to the fact that intercompany processes are often an oversight when companies are setting up their ERP. They will very often have well-structured environments to handle third party transactions, but they often neglect to structure their processes and their systems to be able to support their own internal processes.
What ends up happening is they have each of the teams, businesses, and system owners all developing their own version of the process. It’s very isolated to their own business, entity, or system. Those silos are really what caused the issue for the company as a whole because what you end up having is a non-standardized, disconnected process.
As these transactions are moving between teams, entities, and systems, they are not moving in a concerted fashion. You end up with disconnects in the process where maybe party A is recording something at a different time or maybe for a different amount than party B is. Those disconnects end up really culminating during that close process, because only at that point in time, a lot of these traditional companies are only taking the time to gauge if they are aligned from a balanced perspective and, of course, realizing that they're not.
When they do that root cause analysis, they find that there's often dozens of root causes leading back to the fact that they don't have well-connected, standardized processes across all of these businesses and systems. The manifestation of that is two transactions that don’t balance out. They’re varying amounts recorded at different times, and perhaps at even different periods. There could be different currency conversions, and even if the transactions do match, did they meet all the standards? Do they have a legal invoice? Did they apply the appropriate taxes? Is it applied in the appropriate accounts? Even if they balance, there are still some issues. You have people who are going behind the scenes and having to check every single transaction and shore up documentation against every transaction as well.
As soon as you start doing this volume, you just start to crumble. It's not sustainable and it is why companies reach out looking for solutions. What can you do? It's all about creating a structured process when you’re dealing with an environment that has multiple systems. The solution comes down to how to prevent the mess. It can be prevented by recording these transactions with the right automation and structure to begin with across an entire financial ecosystem.
Advice for organizations struggling with their financial close because of intercompany issues
The first thing companies need to do to correct intercompany issues is to take the time to not only focus on getting the balances corrected, but reflecting on why those balances are occurring. This typically uncovers multiple root causes for those issues that need to be addressed. It is important to take the time to document them and put a plan in place on how you could prevent or detect them in a timely manner to mitigate some of the issues they're having around the close process.
This strategy doesn't necessarily revolve around technology itself, but technology will help you prevent that. You'll get a good gauge at what point in time of where the cost benefit is and where you should focus your time, because you might find that there are multiple issues as a result of doing that analysis over time.
You are also, at that point in time, very limited as far as your options go. While you can make individual ERP customizations, they’re very costly and the customization will need to be rebuilt and tested with each new version of the software. They’re also time-consuming to put in place and they only solve a portion of the issue as it’s only solved for that particular ERP. When a transaction crosses multiple ERPs, that’s where you can’t have an ERP only solution unless it’s done in all ERP—which means, then you’re also building interfaces between each of the ERPs.
That’s often not an option for large companies. What they’re looking for are solutions that are ERP agnostic, that are nimble execution and where you can structure a standardized process across your entire ecosystem. Making sure you’ve got that structure enforcing all internal and external posting requirements while at the same time too, making sure that structured process is efficient and you’re automating a lot of the processes. What ends up happening is that you have these transactions, which are posting appropriately to begin with for the right period, for the right amount with the right parties, with the right taxes, with all the appropriate regulatory requirements in mind.
This way, when you post the transaction, you’re assured that everything is done right the first time and accurately, and you’re not dealing with any issues at all during the month-end close process. If you apply intercompany for the month-end close process right, it should be a non-process. It should be balanced, with no issues, and there should be no documentation or requirements to catch up on. You’re just doing a quick double check to make sure that from a management level, that it all balances and every expectation is that it would balance at that point in time. What that means is your leaders are now able to focus on what really matters to the business.
Interested in learning how your organization can automate the management of intercompany transactions across disparate systems and put an end to the never-ending close? Explore BlackLine Intercompany solutions to learn more.