What it means
A business with one location has one set of books. As soon as it opens a second shop, warehouse, office or clinic, it faces a choice: treat the new location as a cost centre within the same books, or account for it as a branch with its own records.
Branch accounting is the second choice, and it is usually made when the location has its own revenue, its own manager, and enough activity that its results matter to decisions. Two broad systems exist.
Under a dependent branch system, the branch keeps minimal records (a cash book, a sales record, stock counts) and head office keeps a branch account in its own ledger, recording goods sent to the branch, cash received from it, and expenses paid on its behalf. The branch's profit is worked out by head office.
Under an independent branch system, the branch keeps a full double-entry set of books, with a head office account in place of capital, and produces its own trial balance and profit and loss account. Head office holds a matching branch account, and the two must agree.
The connecting entries are where most of the work lies. Goods sent from head office to a branch are recorded as a transfer, not a sale, unless the business deliberately invoices branches at a marked-up transfer price to measure branch performance at market rates.
Cash remitted by the branch reduces the branch's balance owed to head office. Expenses paid centrally on the branch's behalf (rent, insurance, payroll) are charged to the branch.
Items in transit at the period end, such as goods dispatched but not yet received, or cash sent but not yet banked, must be reconciled or the two accounts will not agree. On consolidation, all these internal balances and transactions are eliminated.
The branch's head office account and the head office's branch account cancel; transfers at marked-up prices have the unrealised profit in closing branch stock removed; and the business reports only its dealings with the outside world. Branch accounting also serves external purposes.
Where a branch is in a different country, it is usually a taxable presence there, and the tax authority will want branch accounts showing the profit attributable to it, with arm's length pricing for goods and services supplied by head office. Banks lending against a particular site, franchisors and regulators of licensed premises may all require branch-level figures.
In practice
Real-world examples.
Example
A dental group with six clinics keeps a profit and loss account for each, charging central costs by patient numbers, and closes the one that has lost money for three years.
Example
A UK manufacturer's German sales branch files German accounts showing the profit attributable to it, with goods supplied by head office priced at arm's length.
Example
A bank reports the deposits, loans and staff costs of each of its 200 branches to decide which to merge.
Think of it
“Branch accounting keeps separate books for each location-tracking how each branch performs.
Formula
Calculation
Branch Profit = Branch sales minus Cost of goods transferred (at cost) minus Branch direct expenses minus Allocated head office costs
Head Office Branch Account balance = Opening balance + Goods sent + Expenses paid for branch minus Cash remitted minus Goods returned
Worked example. A clothing retailer opens a second shop and accounts for it as a dependent branch. For its first year:
- Goods sent to branch at cost: $310,000
- Goods returned to head office: $10,000
- Branch sales, all for cash: $520,000
- Cash remitted to head office: $470,000
- Branch expenses paid by head office: rent $48,000, wages $95,000, other $17,000 (total $160,000)
- Closing branch stock at cost: $45,000
- Branch cash in hand at year end: $50,000 (sales $520,000 minus remittances $470,000)
Branch profit:
- Cost of goods sold = $310,000 minus $10,000 minus $45,000 = $255,000
- Gross profit = $520,000 minus $255,000 = $265,000
- Net profit = $265,000 minus $160,000 = $105,000
Head office branch account: goods sent $310,000 + expenses $160,000 minus returns $10,000 minus cash $470,000 = $10,000 debit before profit; add branch profit $105,000 = $95,000 closing balance. This equals the assets the branch holds on head office's behalf: stock $45,000 + cash $50,000 = $95,000. The account balances, which confirms that every transfer has been recorded on both sides.
If head office had invoiced the goods at cost plus 25% ($387,500), the branch would show a lower profit of $105,000 minus the mark-up on goods sold ($255,000 x 25% = $63,750) = $41,250, and head office would show a $77,500 gross profit on transfers, of which $11,250 (the mark-up in closing stock) is unrealised and must be removed on consolidation. Total business profit is unchanged at $105,000.Case study
Seen in the real world.
A regional building supplies merchant had grown from one yard to seven and still ran a single set of books, with sales coded by yard but costs largely pooled. Management believed all seven were profitable because the business as a whole was. When a lender asked for site-level figures, the finance manager spent three months building branch accounts: allocating deliveries, staff, vehicles and rent to each yard, and setting up transfer records for the stock that moved between them constantly.
The results showed that two yards were losing money once their true delivery and staffing costs were counted, and that one of them existed mainly to hold stock that the others drew on, which made its own sales figure meaningless. The company closed one loss-making yard, redesignated the other as a central warehouse with no sales target, and gave each remaining manager a monthly branch profit statement with a bonus tied to it.
Group profit rose 15% the following year without any increase in sales. The finance manager's observation was that for years the business had known its total profit precisely and its sources of profit not at all.
Watch out
Common mistakes.
- Failing to reconcile head office and branch accounts at period end, so that goods or cash in transit make the two disagree and errors go undetected.
- Leaving the mark-up on internal transfers in closing stock on consolidation, which overstates group profit.
- Allocating head office costs to branches on arbitrary bases and then judging branch managers on the result.
Questions
People also ask.
Is a branch the same as a subsidiary?
No. A branch is part of the same legal entity; a subsidiary is a separate company. Branch accounting is internal division of one entity's books; subsidiaries require group consolidation.
Should goods be transferred to branches at cost or at a mark-up?
At cost is simpler. A mark-up measures the branch as if it bought at market prices, which is useful for performance comparison, but the unrealised profit must be removed on consolidation.
Do overseas branches need separate accounts?
Almost always, for local tax and often for local regulation, prepared under local rules and in local currency.
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