Intercompany Transactions and Their QoE Treatment

When a business operates as part of a larger group — or when a private owner routes transactions through related entities — intercompany transactions can materially distort the standalone earnings profile. Identifying and adjusting for these is a key part of any quality of earnings analysis.

Why Intercompany Transactions Matter in FDD

A buyer is typically acquiring a standalone business (or carve-out) and needs to understand what the normalised earnings of that entity look like on an arm's length basis. Intercompany transactions create distortions in several directions:

• Revenue inflated by sales to related parties at above-market prices
• Costs understated because services provided by the group are shared or subsidised
• Costs overstated because management fees or allocations charged by the parent exceed market rates
• Balance sheet items affected by intercompany loans or deferred balances

None of these automatically represent fraud — many are entirely normal business practices within a group structure. But they must be unwound for the buyer to understand what they are actually buying.

Common Types of Intercompany Adjustments

Management Fees and Group Charges

Parent companies frequently charge subsidiaries for shared services — IT, HR, finance, legal, procurement. In FDD, the questions are:

• Are these charges at arm's length?
• Will the target continue to need these services post-deal?
• If the services were previously provided by the parent and will now need to be sourced externally, what is the true cost?

The result is typically a pro-forma adjustment to reflect a realistic standalone cost base.

Intercompany Sales

Where the target sells goods or services to other group entities, the pricing may not reflect what an external customer would pay. A seller-side team may argue the revenue is real and recurring; a buyer will test whether the volume and pricing are genuinely arm's length.

The opposite is also possible: a target may receive goods or services from group entities at preferential pricing. Post-acquisition, these terms may change.

Related-Party Loans

Intercompany loans between group entities are typically removed from the working capital and net debt analysis, as they will be repaid or forgiven at completion. However, associated interest income or expense in the P&L needs to be adjusted out.

Owner Remuneration

In owner-managed businesses, remuneration drawn by the owner (salary, dividends structured as salary, benefits) is a form of intercompany or related-party transaction. Normalising owner remuneration to a market-rate management salary is one of the most common QoE adjustments.

Rental and Property Arrangements

It is common for owners or parent companies to own property that the target rents at below-market or above-market rates. The FDD team will obtain a market rent estimate and adjust accordingly.

How to Identify Intercompany Transactions

• Review the related-party note in the statutory accounts
• Examine the management accounts for intragroup income and expense line items
• Cross-reference the cash flow statement for intercompany loan movements
• Request a schedule of all transactions with connected parties during the review period
• Review the SPA disclosure schedule for connected-party arrangements

Presenting the Adjustments

In the QoE section of the FDD report, intercompany adjustments are typically presented as pro-forma items — reflecting what the normalised cost or revenue base would look like on a standalone basis. Each adjustment should be supported by evidence of the market-rate equivalent and, where possible, confirmed by third-party data.

Pro-forma adjustments, including intercompany and related-party items, are among the trickier adjustment categories in a real transaction. Our programme works through 8+ realistic case studies with over 150 EBITDA adjustment examples so you can handle them confidently. One payment of €119.99.