'De facto' control
The staff introduced a topic that had emerged recently. The issue being whether one party that holds a substantial interest in another entity (but not a majority interest) and the remaining shares are held by a large number of other shareholders controls the investee. The other shareholders are typically dispersed, both demographically and geographically.
The question was whether the 'power to appoint' in paragraph 13(c) of IAS 27 requires that the entity has the legal power to exercise more than half the votes available or whether the 'power to appoint' is a matter of fact? That is to say, does the fact that an entity is able to dominate the voting because the remaining shares are held by parties who are not organised together and are unlikely to be able to be organised together, constitute the power to appoint?
It was noted, that most preparers do not consider the above to be a control relationship and hence were not consolidating. The majority of Board members indicated that their intention in IAS 27 was to include the notion of de facto control (that is, control in the above circumstances would exist and therefore consolidation would be required). Board members acknowledged how constituents had arrived at their understanding of IAS 27 given the wording of that Standard.
The Board decided to make a statement via the IASB Update and its website indicating that it is aware of this divergence in practice and acknowledge the different interpretations until such time that the Board clarifies the control notion in its broader project on this issue.
Autopilots - control versus risks and rewards
The Board has asked the staff to develop consistent control criteria and a single comprehensive IFRS (to replace IAS 27 and SIC-12) for all entities, including SPEs. The Board discussed at this meeting one characteristic common to many SPE's: the setting onto autopilot of its operating and financing policies.
The Board discussed some of the tensions between the control model in IAS 27 and the risk and reward emphasis implicit in SIC-12.
In discussing the objective of presenting group accounts, which was suggested to be the presentation of the results of the operations and the financial position as if any legal boundaries did not exist; some Board members questioned the focus on legalities, as trusts and partnerships are generally not considered to be legal entities in many jurisdictions. Consequently, the guidance in ARB 51 was offered as supplementary material in developing the objective.
It was suggested that consolidated financial statements should reflect the activities and position of an economic entity. The Board discussed the concept of an 'economic entity' in the context of single source supplier and customer relationships which invariably result in a close association between the reporting entity and the supplier / customer. Board members indicated that they did not envisage the control notion capturing such relationships. On the issue of autopilot mechanisms, the Board made the following points:
- If management decisions have to be made on an ongoing basis, it is not an autopilot mechanism (otherwise any entity could be put onto an 'autopilot' mechanism)
- In a pure autopilot mechanism, the power criteria can in most cases be assessed as immaterial in assessing whether an entity is a subsidiary of another entity (versus the notion that power has already been exercised by setting up the autopilot mechanism).
- In the context of an example presented to the Board (paragraph 37 of the Observer Notes), it was noted that generally, certain autopilot mechanisms will represent interests in undivided assets, consequently the Board may require legal assistance in order to explore that further, noting that global applicability of that legal guidance will be problematic. However, Board members indicated that the example did not have the full facts and did not explore whether the arrangement is in fact a joint venture.
The Board noted that given the tensions between the control model in IAS 27 and the risk and reward emphasis implicit in SIC-12 it was difficult to envisage moving away from a risks and rewards model.
Further observations on the accounting for potential voting rights
The Board was asked to provide input on additional examples of the accounting for the consequences of consolidating an entity on the basis of potential voting rights. The staff indicated that they had found these examples helpful in the development of the control project, because they reflect the application of the concepts agreed to by the Board to date. It is important that the accounting for effective control is intuitive and consistent with the Framework. Working through examples also highlights potential inconsistencies with other standards that may require decisions by the Board.
A dual purpose of tabling these examples was to place them in the public domain via the Observer notes. Board members indicated that comments had been sent to the staff.