Inventory purchased by head office and sent to branches for them to sell can be invoiced to the branch at cost price or at an amount above cost (usually a fixed retail selling price). Invoicing the goods sent by head office to the branches at cost reduces head office inventory by the same amount as that at which the inventory was originally recorded in its accounting books. The transfer is not considered to constitute sales and therefore does not result in gross profit for the head office. Branches receive goods at cost price and earn gross profit when goods are sold.
Where branch accounting records are kept by head office the information from head office’s own documentation is supplemented by the information obtained from branch returns. In practice the branch returns will be summarised monthly and recorded in the relevant branch account in head office’s accounting books.
Where various branches exist, a separate account should be kept for each, although in a manual system this can be done in columnar form for the sake of simplicity. In head office’s books, the sales and various other accounts will be distinguished by the name of the branch.
The following are typical accounts provided in a centralised accounting system: (1) Branch inventory account, (2) Branch debtors account (if the branch sells goods on credit), (3) Branch bank and petty cash or cash accounts and (4) Branch profit and loss account.
When the head office trading account is prepared the cost of the goods sent to the branches is deducted from head office purchases. If this is not done, head office purchases will comprise head office and branch purchases. This overstatement of purchase will result in an overstatement of head office’s cost of sales and consequently and understatement of the head office’s gross profit percentage.
Since inventory is usually valued at cost in the financial accounting statements of an enterprise, the method of invoicing goods to the branches at cost is the easiest to apply, as both head office and branch inventory are shown at cost. Therefore, no further adjustments are required.
In the decentralised accounting system, transactions between head office and the branch are recorded in the books of both. Where the branch keeps it own books, the accounting entries will be similar in many respects to those made by a sole trader. However, the branch capital is provided by head office and therefore usually recorded by the branch as a credit to the ‘head office account’, with a corresponding debit in head office’s books to “XX branch account’.
The head office account in the branch’s accounting books and the ‘branch account’ in the head office’s books are therefore reciprocal accounts, that is equivalent accounts that are maintained in different sets of accounting books and that have identical, but opposite, balances.
After all transactions, adjustments and closing entries have been recorded in both sets of books, the head office account balance in the branch’s accounting books should be the same as the branch account in the head office’s accounting books (unless any transactions between the head office and the branch have not been recorded in one set of accounting books).