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IAS 28 — Associate or joint venture and common control

Date recorded:

Background

In 2013, the IC discussed how an entity accounts for the acquisition of an interest in an associate or joint venture from an entity under common control. The question centred on whether the entity could apply IFRS 3.2(c) by analogy, which excludes business combinations under common control (BCUCC) from its scope.

At the 2013 meetings, a majority of the IC members agreed that as IAS 28 does not provide a scope exception for such an acquisition, an entity should apply IAS 28 to account for the transaction. Some members were however concerned that this might not result in appropriate outcomes in all situations – see the Staff analysis below. In the end, the IC noted that the issue would be better dealt with as part of the BCUCC project and the equity method of accounting project. An agenda decision was published in May 2013 to that effect.

The IC is reconsidering this issue now because according to the Board’s latest work plan, neither of the projects above will address this matter as originally intended.

Staff analysis

Applying IFRS 3.2(c) by analogy

As mentioned above, IAS 28 does not provide a scope exception for the acquisition of an interest in an associate or joint venture from an entity under common control. Nowhere in IAS 28 does it distinguish between acquisitions from entities under common control and those from unrelated parties. Furthermore, the IAS 8.10-12 accounting policy development hierarchy applies only when there is no Standard that specifically applies to a particular transaction (IAS 28 applies in this case). In addition, interests in associates and joint ventures are not businesses as defined. In light of the above, the Staff believe that it would not be appropriate to apply IFRS 3.2(c) by analogy to the transaction under review.

Difference between fair value of the net identifiable assets and cost – goodwill, income or equity transaction?

IAS 28.32 requires an investor to recognise any difference between the cost and the entity’s share of the net fair value of the investee’s identifiable assets and liabilities as goodwill (if cost exceeds fair value) or as income (if cost is less than fair value). However, in a common control transaction, some or all of this difference could represent an equity transaction between owners, i.e. capital contribution from or distribution to the parent. This creates a conflict as to where the difference should be recognised.

IAS 28 does not define the cost of an investment. As such, the Staff believe that depending on specific facts and circumstances, the cost of the investment could include a capital contribution or be reduced by a distribution. In this way, the cost of the investment would equal the investor’s share of the fair value of the investee’s net identifiable assets.

The Staff believe that the key is to assess whether the acquisition of the interest includes a transaction with owners in their capacity as owners. If so, the entity should determine the cost of the investment taking into account the transaction with owners.

Anomalous outcomes in group restructurings and structuring opportunities

In the January 2013 IC meeting, some IC members were concerned that applying IAS 28 to account for such transactions could lead to:

  1. anomalous outcomes in group restructurings in which an entity creates a new entity (NewCo) and transfers interests in subsidiaries and associates to Newco. In this case, applying IAS 28.32 would lead to NewCo recognising the interest in associate at its share of the fair value of the associate’s identifiable assets and liabilities (or at cost, if higher). However, the assets and liabilities of subsidiaries could be recognised at their previous carrying amounts (if the entity applies predecessor accounting).
  2. structuring opportunities because an entity could apply a different accounting treatment depending on whether it acquires the interest in the associate directly, or indirectly by acquiring a subsidiary that holds the associate.

In respect of (1), the Staff believe that the difference in accounting treatment simply reflects the difference in nature of the investments.

In respect of (2), the Staff believe that any holding company structured to hold an associate as its sole or predominant investment would not qualify as a business. Accordingly, even if an entity acquires the holding company as a subsidiary and thus indirectly acquires the associate, as opposed to directly acquiring the associate, the transaction would not constitute a business combination. The entity would have effectively acquired an associate and so IAS 28, and not IFRS 3.2(c), applies.

Staff recommendation

The Staff recommend that the IC not add this issue to its agenda on grounds that the requirements in existing Standards provide an adequate basis for an entity to account for the acquisition of an interest in an associate or a joint venture from an entity under common control. Instead, the Staff recommend that the IC issue a tentative agenda decision outlining how an entity applies the applicable Standard to the transaction.

Discussion

The IC approved the Staff’s recommendation. Most of the IC members believed that there is nothing in IAS 28 that suggests that these transactions are outside its scope. Furthermore, they noted that scope exclusions are typically not intended to be applied by analogy because they are specific to the Standard in which it is included.

Some IC members still saw the possibility of applying IAS 28.26 which states that equity accounting procedures are similar to consolidation procedures as a means of applying the scope exclusion in IFRS 3.2(c) by analogy. Similar to their response in 2013, the Staff said that a transaction must first be within the scope of IAS 28 before any of the requirements of IAS 28 would apply.

A couple of IC members preferred to wait for the BCUCC project to unfold so that they can see how the decisions there would impact acquisitions of associates and joint ventures from an entity under common control. However, the other members rejected this suggestion as they would be in for a long wait to see the BCUCC or the equity accounting project finalised. A suggestion to amend IAS 28 to exclude such common control transactions from its scope or to provide specific guidance on its accounting was met with a similar fate for the same reason.

Other than the scope discussion, there was not much significant technical debate on the other aspects of the Staff analysis.

In the final agenda decision, the Staff will note that an entity should assess whether the acquisition includes a transaction with owners in their capacity as owners when assessing how the difference between the fair value of the investment and the transaction price should be accounted for. They will also note that the IC has considered the guidance in IAS 28.26 but rejected using it as a basis to apply IFRS 3.2(c) by analogy.

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