If intercompany transfers were a country, they’d be the largest economy in the world. Yet they are often given little thought and suffer from incompatible systems. Blockchain technology offers a way to bring needed rigor and transparency to these significant transactions.
Intercompany transfers are estimated to equal 30 – 40% of the global economy. They trigger legal requirements, accounting challenges, operational stresses, and tax responsibilities. They are often international as well as intercompany.
Despite the fact that they add up to 40 - 60 trillion dollars annually, these transactions — which include the sale of products, the licensing of technology, the performance of services, and the extension of credit — are often neglected and desultory. In many instances, they involve multiple ERP systems informed by manual and excel-based processes. They are reconciled weeks if not months after the actual transaction.
Mistakes on customs forms or VAT taxes can sometimes lead to penalties that double the original expense. In the worst-case scenario, mishandled intercompany transactions could result in a material misstatement of a company’s financial statements.
They often do not provide reliable information to decision-makers, and they are infrequently informed by the needs of corporate stakeholders.
Which companies benefit from attention to intercompany transfers?
Even a small manufacturer with dedicated facilities in two countries, contract manufacturers in another, and distribute through multiple distributors to dozens of countries needs to pay attention to its intercompany transfers.
But such transfers are of special concern to companies with more than 40 legal entities, which do business in more than 30+ countries—especially if intercompany transfers represent a significant portion of external revenue. (A good rule of thumb is more than 30% or $1b in external revenue.) The reliance on multiple legacy ERP systems, the assimilation of recent acquisitions, the adoption of a complex business model, and the proliferation of intercompany transactions and requirements further increase the need for a coherent intercompany policy.
Companies that check even a percentage of these boxes would benefit from intentional governance, defined and shared processes, and intelligent automation.
Blockchain is a distributed ledger system which empowers the movement of wealth and the sharing of information on a single source database.
The many benefits of enhanced intercompany transfers
By improving these processes, you can reduce costs, minimize material errors, reduce FASB 5 and FIN 48 reserves, increase sales revenue, better manage FX risk (which reduces hedging costs and increases income statement validity and financial statement accuracy). You accumulate better data, which facilitates better planning; you can manage inventory more precisely; you can make better strategic procurement decisions.
These benefits redound throughout your organization: to tax (reduced risk and cost for transfer pricing and indirect tax audits), treasury (reduced currency risk and increased global liquidity), finance (fewer accounting surprises), supply chain (better customs compliance and reduced logistics costs), legal (enhanced global liability planning), HR (more coherent global compensation plans), and manufacturing/distribution/sales (less disruption of operations).
The role of blockchain
The key to adding rigor, transparency, and coherence to your intercompany transactions may be blockchain technology. Per a review done by the International Data Corporation, 45% of industry leaders will use blockchain as the primary intercompany transaction management technology.
Developed as a way of facilitating Bitcoin transactions, blockchain has become a powerful tool in its own right. At its core, blockchain is a distributed ledger system which empowers the movement of wealth and the sharing of information on a single source database. While developed as a public shareware, private blockchains provide the benefits of a shared, immutable ledger within your company’s private digital environment.
Why use an intercompany blockchain?
• Error reduction
• Real-time validations
• Reduced audit costs
• Cut transfer costs
• Increased transaction transparency
• Centralized and standardized data
• Increased operational planning
Blockchain is an efficient way of providing transparency, auditability, and traceability. It serves to validate transfers and create a shared record. While any database can deliver information, blockchain is unique in its creation of an immutable record (while incidentally accumulating a useful database). If someone changes a period in a contract, it becomes visible.
It works like this:
- Blockchain stores individual transactions (“aka” blocks) in a chronological order to create a chain.
- Each transaction gets its own encrypted code known as a hash value. This hash value is part of the "cryptographic puzzle" that needs to be solved to add the block to the block chain.
- If any data gets changed, all subsequent blocks in the block chain will become invalid.
While transaction data cannot be changed without visibly disrupting the blockchain, one of the advantages of blockchain is that it can incorporate smart contracts – i.e. contracts which define variable terms such as foreign exchange rates at the time the contract is created. (In fact, it can make the creation of contracts contingent upon those variables falling within specified parameters.)
Blocks can consist of a broad range of relevant information: purchase orders, invoices, and transfer pricing as well as documentation of environmental compliance and fair labor practices.
Your private blockchain would be integrated into your organization’s ERP and business processes. Ideally, this would be done with minimal disruption to those processes and few, if any, added steps on the part of the employees conducting daily transactions. At the same time, the solution would reflect the needs of all stakeholders and deliver a clear line of site to the information they need. Audit and regulatory reports and planning data would be readily available.
A strong system will reflect your legacy — the purposes, gaps, and idiosyncrasies of existing processes— while accommodating future add-ons such as the IoT and optical recognition technology. Properly done, it promises to positively impact your costs, your risks, and your flow of information.
Managing Director, Tax Blockchain Leader
+1 703 847 7595