Upstream sale and Downstream

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Question:

Discuss the differences in upstream and downstream intracompany transfers. Why are they used and when are they used? What are the pros and cons of each method?

Answer : Upstream sale and Downstream

The main difference between an upstream sale and downstream sale is when the subsidiary of a company sells to the parent company is called the upstream sale and vice-versa; when the parent company is selling to the subsidiary company is called downstream. During the consolidation of the total income, intercompany profit is eliminated as the parent and subsidiary company are treated like one and there is no involvement of the outside party. Downstream and upstream intracompany transfers are in between the parent company and its subsidiary. Like the transfer of the employee from one subsidiary to the parent entity or from one subsidiary to another subsidiary. Similarly the sale of a product would be related to the parent to subsidiary and vice- versa. Total profit and loss of the parent company remain the same; no change.

Financially, generally dividends and interest flow upstream and it refer to loans. It is also used by securities analysts particularly oil analysts. Total earnings are at the end product stage. For example, in an integrated oil company retail gas pump is downstream whereas exploration is upstream (Johnson, 2016). In financial accounting, consolidation of the financial statement is where all the subsidiaries report to the parent company. Intercompany transactions may involve sale or purchase of inventory or fixed assets, declaration and payment of dividends and giving or receiving loans, etc. As a result of intercompany operations and transactions balance sheet balances and income, statement transactions may arise.Accounts receivable and payable, financial assets and liabilities, dividends payable and receivable are balance sheet balances whereas sales, purchases, interests expenses, etc are income statement transactions. Intercompany transactions have no effect on parent company as a whole and therefore eliminated in the consolidation process.

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The benefit of intercompany transactions is to minimize bank transactions fee, optimize liquidity and reduce risks and financial and currency costs. In a multinational company having a number of subsidiaries overseas may use central treasury for information on intercompany loans and debts. All is information is centralized at the main company and can settle accounts at the center and remaining clearly amounts are physically transferred. In the overall financial statement of the company, intercompany transactions and balances should be eliminated. Unrecorded transactions or balances are also identified in the process.

The negative and challenging task of reconciled and balanced account is to trace the lost invoices, sales recorded in the different financial year, cash in transit, exchange rate differences, etc. An accounting policy is established by the parent company for intercompany reconciliations. Reporting by the subsidiaries may be monthly, quarterly, half-yearly or yearly (Bradbur, 2018). It involves a large number of manual procedures which is time-consuming and risks prone also. Internal reviewing by the senior specialists is required to check for the financial discrepancies. Financial officers of the individual entities also prepare reconciliation spreadsheets of debt claims and liabilities, accounts receivable and payable, etc.

The intercompany  are related to the transactions includes  downstream transactions along with the upstream transactions, and lateral transactions.  To understand with the example of a downstream transaction is subjective the parent company selling towards the asset or inventory working in the subsidiary. It is also an upstream transaction tht would consequently subsidiary related parent entity.

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