Legal entity rationalisation and beyond: Optimising your organisation

It’s not uncommon for an organisation to lose track of all its legal entities, which can be scattered in various countries around the world. This lack of insight and control can lead to major inefficiencies and compliance risks.

The power of legal entity rationalisations

To optimise their structures and reduce risks, multinationals must regularly take stock of their entities. Conducting these evaluations and taking subsequent action — a process commonly called legal entity rationalisation — is critical in part because maintaining entities can be costly and administratively burdensome. Each country has its own entity types and related compliance requirements — such as those related to tax and accounting — that are subject to change. Non-compliance with these requirements can lead to fines, reputational damage and even restrictions on operating in the relevant country.

Essentially, rationalisations account for an organisation’s entities and help determine if they’re all necessary. Rationalisations can identify potential cost savings that may be realised through consolidation and/or winding down certain entities.

Most CFOs of multinationals are aware of the benefits of legal entity rationalisations. In a CFO Research-Vistra survey, for example, a full 61 percent of respondents said their companies were at the time considering or engaged in legal entity rationalisations. The top two reasons they gave were cost savings related to entity maintenance and the simplification of their corporate structures.

Given rises in interest rates, trade tensions and other global economic pressures, it’s reasonable to assume legal entity rationalisations will become even more widespread in the future. Organisations that undertake them will achieve cost savings and structural efficiencies that will better position them to thrive in a volatile global economy.

“Our clients have told us repeatedly they want to promote operational and structural efficiencies while lowering risk,” says Andrew Jacobs, head of commercial for Vistra’s global entity platform. “We’re investing heavily in our technology and people to meet these demands. Our new unified platform supports clients throughout the entity lifecycle, from establishment through winding down. Our team of global advisors work alongside the platform, providing guidance and support through the legal entity rationalisation process.”

A holistic view of rationalisations: Other areas to rationalise

While the steps involved in conducting a legal entity rationalisation are varied and occasionally complex, the concept of examining a legal structure for potential inefficiencies and compliance risks is a simple one that can be applied to all areas of an organisation. The rest of this article provides brief summaries of areas other than legal structures that may benefit from rationalisations. In some cases, these other types of “rationalisations” may be more commonly referred to as reviews, audits, health checks or by other terms.

Whatever terms you use, multinationals looking to take a holistic approach to optimising their organisations should consider undertaking rationalisations in the departments and practice areas below. These — and the related review areas listed by bullets — are not intended to be exhaustive. (For example, we don’t address such important subjects as accounting or intellectual property.) They are rather intended to highlight the kinds of business areas and functions executives should consider when developing an organisation-wide rationalisation or optimisation strategy.

You should consider each rationalisation area in light of any new organisational goals and strategies, and in light of each country of operation. For example, in the area of HR, each country has its own regulations, cultural expectations and norms related to salaries, benefits, office behaviours and more. As a result, there can be no such thing as a “global HR policy.”

Consider also that political trends, public health challenges and other factors can change regulations and cultural expectations overnight, which can in turn expose organisations to new risks and liabilities. As a result, rationalisations should be conducted on a regular basis. Read through all the brief summaries below in this section or click on a link to go directly to that area.

• Corporate governance rationalisation
• Vendor rationalisation
• Supply chain rationalisation, including transfer pricing and VAT
• Data protection controls rationalisation
• HR rationalisation
• Global mobility controls rationalisation
• Legal affairs rationalisation

Corporate governance rationalisation

Sound corporate governance reduces risk and promotes regulatory compliance, and assures investors and other stakeholders of a business’ integrity. A corporate governance rationalisation will in fact typically involve a legal entity rationalisation, in part to ensure that each entity is compliant with applicable laws and regulations. Here are some other areas to review when conducting a corporate governance rationalisation:

• Corporate governance frameworks and relevant adopted codes
• Registered offices and locations
• Company secretaries and locations
• Annual compliance obligations for each office, including required filings
• Entity management policies and practices
• Board and committee practices and effectiveness
• Terms of reference (TOR)

Vendor rationalisation

No matter what its size or global footprint, an organisation must rely on third-party vendors to deliver certain critical services and technologies. As an organisation expands across borders, its vendors tend to proliferate, creating inefficiencies, administrative burdens and compliance risks. When reviewing a multinational organisation’s vendors, leadership should look for opportunities to consolidate technologies to promote efficiencies and transparency, for example by using a single global payroll provider or by using a single platform to establish and track legal entities and related compliance obligations in each country of operation. Here are some areas to review during a vendor rationalisation:

• Internal procurement policies and practices
• Vendor-area prioritisation
• Existing vendor network
• Vendor assessments, including satisfaction, reputation and price
• Vendor compliance, including data protection controls
• Vendor technology capabilities and scalability
• Vendor footprint and ability to service across jurisdictions and regions

Supply chain rationalisation, including transfer pricing and VAT

Supply chain management has always been a complex and essential part of running any multinational organisation. The importance of supply chains has been thrown into relief by trade wars, the pandemic and other factors. Scrutinising the many regulatory areas related to supply chains is more important than ever. A supply chain rationalisation should include a review of the following:

• Vendor contracts
• Vendor controls
• Indirect tax (VAT/GST) obligations
• Transfer pricing rules, including country-by-country reporting obligations
• Immigration policies and practices related to supply chain maintenance
• Updated tax laws, including those that might provide reliefs, incentives and benefits

Data protection controls rationalisation

The EU’s General Data Protection Regulation — widely considered the gold standard of data privacy regulations — has been in effect since 2016, and compliance with it and other country-specific data protection laws is more important than ever. Penalties for non-compliance can be steep — the greater of up to 20 million euros or 4 percent of annual global turnover in the case of the GDPR — and reputational damage is a major concern. Few areas of negative publicity can rival that of a data breach. Here are some areas to consider when conducting a data protection controls rationalisation:

• Data protection policies and handbooks
• Cybersecurity controls
• Data management
• Data transfers, including cross-border transfers
• Data breach procedures
• Data controller registrations
• Vendor data controls and agreements
• E-commerce activity

HR rationalisation

For most organisations, labour expenses are the biggest cost of doing business, comprising salaries and other rewards, benefits, social security and income taxes, and more. Managing a global workforce is particularly costly and challenging. Each country (and in some cases each jurisdiction within a country) has its own evolving regulations related to hiring, termination, vacation time, benefits and more. Here are some common areas to review during an HR rationalisation:

• Employee handbooks and other policies
• Recruitment practices
• Orientation and training practices
• Practices related to collecting and maintaining employee information
• Employment contracts
• Compensation and benefits, including benchmarking
• Benefits management
• Termination practices

Global mobility controls rationalisation

With the rise of remote work and a general trend of tightening immigration controls, managing employee global mobility is an increasingly complex and risky business area. Expat assignments don’t just involve visas and work permits. They can also trigger tax presences, social security and payroll tax obligations for the employer and employee, the need to establish shadow payrolls, and more. Here are some areas to consider when conducting a global mobility rationalisation:

• Global mobility policies
• Expat compensation schemes, such as tax equalisation policies
• Systems to track workers’ cross-border assignments
• Locations of expat employees and related tax and social security obligations
• Shadow payrolls
• Visa sponsorships and work permits
• Third party expat services, including moving and repatriation services

Legal affairs rationalisation

Just as legal structures can get extended and complicated, so can the rights and obligations — and the assets and liabilities — that lie within those structures. For example, a company or private equity firm that performs adequate legal due diligence on a major acquisition may be inclined to relax those procedures when vetting future deals. This tendency is particularly common when later acquisitions are part of a buy-and-build strategy involving small companies that are consolidated. When the buy-and-build phase ends, the acquirer is often left with a tangle of legal questions, such as: Which entities own what assets, and what are the outstanding debts of each entity? The acquirer is faced with an increased risk of defaults, a lack of clarity on title to assets, and doubts about what intercompany trading arrangements can lawfully be put in place. In other words, a thorough legal rationalisation covers not just the entities within the group, but what lies within each entity. Here are some areas to consider when conducting a legal affairs rationalisation:

• Group assets, rights, legal obligations, and ownership within the group structure
• Known problems, such as any ring-fenced liabilities or toxic assets
• Intercompany legal arrangements, such as loans, licences, trading and services
• Local requirements in all jurisdictions where the company owns assets and/or carries on operations
• Approvals required under any major agreements to which the group companies are directly or indirectly party, such as finance agreements and securitisation arrangements

This is an updated version of a previously published article.