Question

Why is it important for an international firm to develop and maintain an effective accounting system? What accounting issues are faced by firms with subsidiaries in multiple countries? How can these problems be addressed?

Answer 1

ANSWER:

GIVEN THAT:

A. Why is it important for an international firm to develop and maintain an effective accounting system:

1. An international firm operating in different countries have unique business environment in in each such countries.

2. The firms are required to comply with local corporate and tax laws, local accounting standards and adapt to local business culture.

3. For example, in certain countries follow IFRS while many other countries have local accounting standards. Further, the transfer of goods and services between subsidiaries and parent company are reulated by trasfer pricing laws, whereas other counries are yet to regulate trasfer pricing.

4. In certain countries tax laws a simple and in others, there are multiple tax laws and compliance mechanism. Another complexity is the multiple currency management and exchange rate accounting.

5. Therefore, it is important to control these business complexities by developing and maintaining effective accounting systems.   

B. What accounting issues are faced by firms with subsidiaries in multiple countries? How can these problems be addressed:

A. Local currency vs. Reporting currency:

1. When a parent company has a subsidiary outside of its home country, the financial statements of that subsidiary may be prepared in the "local" currency of the country in which it operates. But, the parent's financials are prepared in the "reporting" currency of the country in which it is registered.

2. Thus, to consolidate the parent and subsidiary, first we require converting the subsidiary’s financial statement into the reporting currency.

3. This challenge has far been resolved with wide use of ERP systems which manages multiple currencies and takes care of currency conversions.

B. Local accounting standards Vs. IFRS:

1. The accounting standards followed by each country may differ.

2. In that case the financial statements of parent and subidiary are not uniform. Hence, unless the financial statement of the subsidiary redrafted in accordance with the accounting standard followed by parent, the consolidation of accounts becomes meaningless.

3. Therefore, the foreign subsidiary has to mainatin its accounting system in two sets, i.e. once in compliance with local accounting standard and again as per the standards followed by parent.

C. Complex Tax laws:

1. The transfer of products between Parent and subsidiary is regulated by transfer pricing laws which restricts the firm to plan and strategise the intercompany pricing.

2. Further the tax rates as well as tax rules keeps on changing from time to time. The subsidiaries have to keep pace with such changes and update their accounting systems to fully comply with such changes.

D. Change in Government policies:

1. Sometimes the government policy changes can affect the foreign subsidiary.

2. For example, the government may withdraw incentives to the product, where the subsidiary has to cut down on certain expenditure to manage its margin.

3. Hence accounting for cost of production taking into account all such factors keeps the subsidaiary sustainable.