Financial Reconciliation - what, why & how
In the world of finance & accounting, where numbers & data rule, the importance of accuracy & precision cannot be overstated. And in order to ensure that a company’s financial statements are always correct & reflect reality, Finance teams, across the globe, adopt several internal controls.
Failure to have strong internal controls in place could have serious consequences for businesses such as failure to comply with regulations leading to penalties, risk of fraud, financial mismanagement, impact on investor confidence, and significant business consequences such as:
Cost & Revenue leakages
Poor Vendor/Customer experience leading to churn
Cashflow inefficiencies
Write-offs
Wasted resources
Reputation damage
Loss of competitive advantage
One of the key internal controls Finance teams use to ensure the integrity of their Financial records is - Financial Reconciliation. Let’s talk about this in detail.
According to Deloitte, Consistent, effective reconciliations are a bedrock to allow accounting departments to produce effective variance analysis, prepare judgements, and post accurate journals. Without effective reconciliations, performance of these activities may be hindered by a lack of trust in the underlying numbers.
What is Financial Reconciliation?
Reconciliation is the process of comparing any two discrete data sets to ensure accuracy and consistency.
Financial Reconciliation, similarly, is the practice of comparing two sets of financial records and ensuring there isn’t any disparity or inaccuracy of data between them. It is the process of verifying that the financial records of a business are accurate and consistent with the external sources of information, such as bank statements, invoices, receipts, etc. & helps to ensure that the transactions and balances in the accounts are correct and complete, and that there are no errors, discrepancies, frauds, or misstatements in the financial reports.
Why is Financial Reconciliation necessary?
Financial reconciliation is important to surface issues that could have a significant impact on business later. Finance teams, globally, perform reconciliation periodically to ensure not just - that the transactions being maintained by companies internally are accurate, but also that any potential financial or other impact on the company is identified and minimized/mitigated in time.
Therefore, some of the key reasons why Finance teams perform reconciliation are to ensure:
Data accuracy: to make informed decisions, analyze the financial health of the company, and plan for the future.
Regulatory compliance: as non-compliance with regulations can lead to serious consequences including legal, fines & penalties, and reputational damage
Fraud detection & prevention: by regularly comparing financial records, businesses can identify unusual or unauthorized transactions, uncover discrepancies, and flag potential fraudulent activities
Effective budgeting & resource allocation: by gaining accurate insights into the company’s cashflows, expenses, and revenue sources, and empowering them to make data-driven decisions about budget allocations & investments
High investor confidence: as demonstrating a commitment to financial transparency through effective reconciliation instills confidence in investors and maintains positive relationships with stakeholders.
Proactive issue resolution: when discrepancies are detected, accounting teams can investigate, rectify, and document the necessary adjustments.
Overcharges by Vendors/Marketplaces & undercharges to Customers
Types of Financial Reconciliation
Some of the key types of Financial Reconciliations Finance teams perform to ensure the above are:
Bank reconciliation
General Ledger (Customer/Vendor) Reconciliation
Inventory Reconciliation
Marketplace Settlement Reconciliation
Payment Gateway Reconciliation
Purchase Reconciliation
Tax-related Reconciliation
Returns Reconciliation
Shipment Reconciliation
Other Business-specific Reconciliations
According to a survey by EY, 95% of a Finance team’s efforts are wasted on transactions that already match, rather than spending that time on problem entries that actually require attention.
How is Reconciliation performed today?
While it is firmly established that Reconciliation is a business-critical activity for Finance teams which ensures that any errors or gaps are identified and rectified in time, it continues to be a manual-intensive activity requiring the following steps:
Gathering data from multiple data sources
Aggregating gathered in Excel Sheets
Cross-referencing the data gathered from different data sources
Identifing any errors and discrepancies in the data compared such as missing records, data mismatch etc and investigate the reason
Resolving issues that caused these discrepancies and update respective financial records
According to a report by PwC, Finance teams spend 30% of their time on collecting & reconciling data. Moreover, even those companies that are in the top quartile of performance spend around 40% of their time in gathering data, not analyzing it. And according to EY, 59% of a financial department’s resources are spent on managing transaction-intensive processes. However, manual reconciliation isn’t just a process that takes time, but also is one of the biggest roadblocks to continuous finance as distributed & fragmented data presents a crucial challenge towards ensuring data accuracy & availability.
Challenges with the manual Reconciliation process
Manual Reconciliation, which still continues to be the norm at most companies, poses several challenges for the Finance teams:
Human errors: It is prone to human errors incl in data gathering, handling & aggregations, which can lead to inaccurate outcomes.
Scalability: Manual Reconciliation process is difficult to scale as a company’s transactions volume increases with growth, needing more team members to complete the process.
Time consuming: It requires individuals to painstakingly review and compare large volumes of financial data, which can lead to delays in Closing & Reporting.
Lack of real-time visibility: It lacks real-time visibility into financial data & can hinder decision-making.
Risk of fraud: Frauds can go undetected as teams focus on data matching, potentially missing out on trends
Lack of audit trail: It becomes difficult for Finance teams to identify discrepancies, make changes & track them while maintaining an audit trail at the same time given the high volume of transactions
Impact of incorrect Reconciliation on business
As we saw above, the manual Reconciliation process is rife with human errors. Incorrect Reconciliation can have a significant & pervasive impact on a company's business metrics & operations:
Financial Accuracy:
Revenue and Expenses: can lead to discrepancies in revenue recognition and expense tracking, affecting metrics such as net income, profitability ratios, and cash flow.
Balance Sheet: errors in reconciling assets, liabilities, and equity can result in inaccuracies on the balance sheet, impacting metrics like total assets, debt-to-equity ratios, and liquidity ratios.
Compliance and Risk Management:
Regulatory Compliance: can result in non-compliance with regulatory requirements, potentially leading to fines and legal issues.
Risk Assessment: can obscure risks, making it difficult to assess and mitigate them effectively.
Inventory Management:
Inventory Costs: incorrect reconciliation of inventory can affect cost of goods sold (COGS), profit margins, and inventory turnover ratios.
Customer Satisfaction and Retention:
Billing Errors: billing inaccuracies due to incorrect reconciliation can result in overcharging or undercharging customers, impacting customer satisfaction and retention rates
Supplier relations:
Payment Errors: may lead to delayed or inaccurate payments to suppliers, affecting supplier relationships and potentially causing supply chain disruptions.
Cash Flow Management:
Cash Balances: may result in misjudging actual cash balances, affecting the ability to meet financial obligations and invest in growth opportunities.
Operational Efficiency:
Resource Allocation: may lead to misallocation of resources, affecting operational efficiency and cost management.
How automated Reconciliation helps
Automated Reconciliation helps companies mitigate the above challenges & risks faced by finance teams in manual reconciliation. Automated Reconciliation won’t just accelerate the process and help companies Close their books faster, but also improve the accuracy of the process and help Finance teams focus on more strategic finance activities. Some of key reasons why companies are making the transition from manual to automated reconciliation are:
Accuracy: It eliminates errors by automatically comparing and matching data & improves data accuracy.
Saves time: It saves a significant amount of time spent by Finance teams in reconciling data manually, and fastens closing, reporting & decision-making.
Cost efficiency: It offers significant cost savings, which become a lot more pronounced as a company grows.
Scalability: Scales easily to process increasing transaction volumes as company grows, elimination the need to hire additional resources to manage reconciliations.
Real-time visibility: Provides real-time visibility into financial data, enabling companies to make faster data-driven decisions.
Reduced risk of fraud: They come with built-in controls and audit trails that help detect and prevent fraudulent activities.
Audit preparedness: Simplify the audit process by providing an audit-trail of all the financial transactions & reconciliations.
FinanzOS Reconciliation
FinanzOS offers a comprehensive AI-powered Reconciliation platform that fully automates Financial Reconciliations for companies.
FinanzOS integrates with 100+ most used data sources by Finance teams to perform reconciliations & other Finance Management processes, including ERP/Accounting Software, CRM, Banks, WMS, OMS, Marketplaces, Payment Gateways and leverages AI, ML & Distributed Computing to highlight any discrepancies in data in real-time, saving upto 80% of the time spent by Finance teams. It end-to-end automates data gathering, aggregation and data matching & cross-referencing, and offers actionable insights into discrepancies including overcharges by Marketplaces, Shipment partners, & Payment Gateways.
Some of the Reconciliations FinanzOS helps companies automate are:
Settlement Reconciliation (Amazon, Flipkart, Myntra, AJIO, and more)
Payment Gateway Reconciliation (Razorpay, Cashfree, PayU, PhonePe, and more)
Inventory Reconciliation
Shipment Reconciliation
Returns Reconciliation
GST Reconciliation
To know more about how FinanzOS’ Reconciliations platform is helping companies streamline & automate their reconciliation processes, please reach out to us at sales@finanzos.com or sales@thoughtle.com or click here.