Are intercompany payments the next frontier for B2B payments?

As companies become bigger, they establish legal entities in other jurisdictions, which can include distribution centers, sales offices, buying offices and so forth. Intercompany "due to" and "due from" balances are created through the natural course of business between these entities as they buy and sell to each other. Intercompany invoices must be settled in a timely fashion in accordance with intercompany payment terms and/or service agreements.

While intercompany payment data is not tracked, the U.S. Census Bureau and U.S. Department of Commerce collect information that reveals related-party trade accounts — in the latest census data available, 2018 saw 42.6% ($1,771.4 billion) of total goods trade ($4,162.3 billion).

Some source-to-pay suites have made tremendous strides in adding payment functionality to their toolkit (including digital payments, virtual card payments, cross-border payments, etc.), such as Coupa Pay and Tipalti. Additionally, many B2B payment solutions can manage sending money to subsidiaries to fund their local operations in local currency.

Payments across multiple entities

But what about a situation where you have 30 entities comprised of 25 sales offices, three distribution centers and two manufacturing facilities?

Having a high volume setting such as this incurs hefty transaction payment volumes, lots of bank transaction fees, settlement risk and foreign exchange (FX) payment costs as well. Settlement risk takes place because there are multiple invoices and payments going back and forth, and there is no scheduled system to manage the volume and ensure bank account liquidity. Risk to FX can occur as payments are made in different currencies, and if there are hundreds or thousands of payments, a centralized treasury office can manage these payments with the appropriate visibility.

Managing payments is hard enough on its own, but when you have multiple subsidiaries with different systems of record and manual workflows, it becomes a nightmare.

Companies in multiple jurisdictions turn to a netting system to reduce physical payments, lower bank fees and eliminate settlement risk. Many treasury management system (TMS) vendors offer netting modules in their TMS solution. Embedded in a netting system is an invoice matching and workflow system. These systems work much like traditional invoice matching systems in source-to-pay applications to manage the status of invoices from unconfirmed to confirmed (i.e., does the value, date, volume, invoice number, etc., match the records in my AP account). The intercompany matching is done in the TMS.

Netting doesn’t happen every day but can take place on a periodic schedule (monthly, every two months). All intercompany invoices ending on netting cycles convert at that time.

This solution not only eliminates bank settlements and corresponding settlement risk, but it can help consolidate and hedge FX exposures. Of course, auditors must be involved in setting up these structures to ensure proper tax treatment and compliance with any U.S. repatriation tax under Section 956.

As more treasurers invest in tools to ensure their cash positioning from a global perspective, managing intercompany payments is a big bang for your buck.

What to ask when considering an intercompany netting system:

  • What types of volumes, bank fees, liquidity issues and FX conversion costs does my business incur today?
  • Are my intercompany invoices settled in accordance with internal payment terms?
  • How can netting improve our FX hedging across the holding company?
  • How would multi-lateral netting provide certainty in cash planning for intercompany payments? Would it give better visibility into our corporate liquidity?
  • If our legal entities are short on cash, can they access liquidity through some internal banking structure?

Intercompany reconciliations can be challenging with multiple subsidiaries, transfer pricing issues, liquidity, etc. They also add further complications in banking relationships, loan covenants and staff sharing. However, having a systematic way to manage intercompany invoices and payments will continue to gain traction.

I don’t mean to oversimplify the complexity in setting up such structures. These projects require multiple constituents, including tax experts and treasury consultants who can help navigate roadmaps based on prior experiences with other clients. As cash management, cash positioning and cash forecasting become even more central to a business, having a system to alleviate the voluminous amount of intercompany transactions between legal entities and compliance with tax policies makes sense.

David Gustin runs Global Business Intelligence, a research and advisory practice focused on the intersection of payments, trade finance, trade credit and working capital. He can be reached at dgustin (at) globalbanking.com.

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