Date recorded:

Investment Companies

The Boards discussed possible guidance for investment companies that would exempt them from the requirement to consolidate entities they control. The aim of the discussion was to consider the implications on accounting for an investment company (fund) that holds various investees. The discussion did not consider accounting by a fund manager for its interest in the investment company (fund). That issue is planned to be discussed by the Board at the March joint meeting.

The Boards received feedback from constituents that in a great majority disagreed with the requirement to apply the control principle in ED 10 Consolidated Financial Statements to investment companies. The industry organisations argued for an amendment to ED 10 that would require an investment company to account for all of its investments at fair value even if controlling interest is held. The industry representatives argued that the consolidation view is often ignored in practice as it does not provide useful information for users, particularly in cases when the investment is held only to receive income and capital appreciation (such as investments held by a mutual fund or unit trust).

The Boards argued that even if special requirements for investment companies are agreed, all entities should apply the requirements of the consolidation standard to assess control of an entity. Only if the control exists, the entity shall determine if it meets the criteria for an investment company and, therefore, is required to measure its investments using fair value with changes in fair value recognised in profit or loss.

Given the arguments of the industry, the majority of the IASB was prepared to consider that fair value measurement could be the appropriate measurement for all investments held by investment companies. Nonetheless, some IASB members argued that conditions for this exception should be extremely tight to avoid possible structuring opportunities. In addition, some IASB members thought that consolidation would be more appropriate when control exists despite the existence of self-imposed restrictions on the ability to direct assets and liabilities. Such restrictions could, in many cases, be revoked by the reporting entity.

The IASB then considered two possible criteria for investment companies: one based on the US GAAP requirements (ASC Topic 946, formerly the AICPA Investment Company Guide), or a second based on a new set of criteria that would capture the proposals by the industry.

Most of the Board members agreed that the US GAAP guidance is an established base that works in the practice. Some Board members were concerned with the US-specific requirements and definitions and how those could be carried forward in a standard in the international context. Finally, the IASB and the FASB agreed to develop a generic international guidance based on the current US GAAP requirements that would exclude US specific references (for example, to the Investment Company Act).

The Boards discussed also the application of this guidance by venture capital companies and some private equity funds, as those entities are within the scope of ASC Topic 946 by direct reference to Investment Company Act of 1940. The Boards discussed a set of potential criteria and directed the staff to provide additional analysis for the next joint meeting. The Boards noted that a possible solution could include a specific reference to genuine external investors.

Some Board members raised the possibility of structuring opportunities by creating an 'internal' venture capital structure to avoid consolidation. A way to prevent those structuring opportunities was a consideration that such fair value accounting would be reversed by the parent of the investment company, unless the parent is Investment Company itself. The staff would provide additional analysis of the issue at the next meeting.

Finally, the Boards agreed that investment companies required to report investments at fair value should provide additional disclosures. One Board member suggested that in addition to an overview of all individual investments, separate financial statements of the investees might be provided. The Boards agreed that such disclosures should be developed in the context of the overall disclosure package for consolidation. Nonetheless, the Boards noted that the focus should be on disclosures about the relationship between the investment company and the investee that are different from disclosures required for in a normal parent-subsidiary relationship.

One IASB member noted that the changes proposed to ED 10 are fundamental and therefore, in his opinion, would require re-exposure of ED 10. The IASB Chairman agreed.

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