IFRS 10 Consolidated Financial

This briefing document provides a detailed review of the main themes and important ideas or facts related to IFRS 10 Consolidated Financial Statements, as derived from the provided sources.

1. Core Principle: Control

The central tenet of IFRS 10 is the concept of control. An investor controls an investee when it meets all three of the following elements:

• Power over the investee: This involves having existing rights that give the current ability to direct the relevant activities.
• “An investor has power over an investee if it has existing rights that give it the current ability to direct the relevant activities.” (IFRS-in-Practice-IFRS-10-Consolidated-Financial-Statements.pdf)
• “‘Power’ is defined as ‘existing rights that give the current ability to direct the relevant activities’” (ifrs-10-consolidated-financial-statements-summary.pdf)
• Exposure, or rights, to variable returns from its involvement with the investee: The investor must be exposed to the potential gains or losses from the investee’s performance.
• “IFRS 10 states that an investor controls an investee when the investor is exposed, or has rights, to variable returns from its involvement with the investee…” (IFRS10_BC_1-22.pdf)
• The ability to use its power over the investee to affect the amount of the investor’s returns: The investor’s decisions can influence the variability of its returns.
• “…and has the ability to affect those returns through its power over the investee.” (rfi2020-pir10-11-12.pdf)

2. Key Definitions

• Parent: “An entity that controls one or more entities” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf)
• Subsidiary: “An entity that is controlled by another entity.” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf)
• Power: “Existing rights that give the current ability to direct the relevant activities.” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf)
• Relevant Activities: “For the purpose of this IFRS, relevant activities are activities of the investee that significantly affect the investee’s returns.” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf) These can include:
• “Selling and purchasing of goods or services” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Managing financial assets during their life” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Selecting, acquiring and disposing of assets” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Researching and developing new products or processes” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Determining a funding structure or obtaining funding” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Establishing operating and capital decisions & budgets” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)
• “Appointing, remunerating, and terminating an investee’s key management personnel (KMP) or service providers.” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)

3. Assessing Power: Rights and Substance

Determining whether an investor has power requires a careful assessment of the rights it holds (and the rights held by others) in relation to the investee.

• Substantive Rights: Only substantive rights are considered when assessing power. A right is substantive when the holder has the practical ability to exercise that right.
• “Only substantive rights (see 3.3.4) are considered, with protective rights (see 3.3.3) being disregarded.” (IFRS-in-Practice-IFRS-10-Consolidated-Financial-Statements.pdf)
• “For a right to be substantive, the holder must have the practical ability to exercise the right.” (ifrs-10-consolidated-financial-statements.pdf)
• Factors to consider when assessing if a right is substantive include:
• “Whether there are any barriers (economic or otherwise) that prevent the holder (or holders) from exercising the rights.” (ifrs-10-consolidated-financial-statements.pdf) Examples include penalties, financial disincentives, terms making exercise unlikely, lack of mechanisms for exercise, lack of information, operational barriers, and legal/regulatory barriers. (IFRS 10.B23, grant-thornton—ifrs-10-financial-statements.pdf)
• “Whether exercise requires the agreement of more than one party or, when rights are held by various parties, whether a mechanism exists to enable collective action” (grant-thornton—ifrs-10-financial-statements.pdf) Rights exercisable collectively by a large number of investors are less likely to be substantive individually. (ifrs-10-consolidated-financial-statements.pdf)
• “Whether the party or parties that hold the rights would benefit from the exercise of those rights.” (ifrs-10-consolidated-financial-statements.pdf)
• Protective Rights: These rights are designed to protect the interests of the holder without giving that party power over the investee. They are disregarded when assessing control.
• “Protective rights relate to fundamental changes to the activities of an investee or apply in exceptional circumstances.” (rfi2020-pir10-11-12.pdf)
• “Because protective rights are designed to protect the interests of their holder without giving that party power over the investee to which those rights relate, an investor that holds only protective rights cannot have power or prevent another party from having power over an investee …” (rfi2020-pir10-11-12.pdf)
• Examples of protective rights include:
• “Right of NCI to approve capital expenditure greater than that required in ordinary course of business or approve the issue of debt or equity” (ca-en-audit-clearly-ifrs-consolidated-financial-statements-ifrs-10.pdf)
• “Right of the lender to seize assets of a borrower if the borrower defaults” (ca-en-audit-clearly-ifrs-consolidated-financial-statements-ifrs-10.pdf)
• “Blocking rights over matters such as foreign takeovers or changes to an investee’s founding charter held by a governments or founding party via a ‘golden share’” (grant-thornton—ifrs-10-financial-statements.pdf)
• “Rights held by a franchisor to protect the franchise brand against adverse actions by a franchisee.” (grant-thornton—ifrs-10-financial-statements.pdf)
• Potential Voting Rights: These arise from instruments like options or convertible instruments. They are only considered if they are substantive. The assessment includes considering the purpose and design of the instrument. (ifrs-10-consolidated-financial-statements-summary.pdf, IFRS10_BC_1-22.pdf) A key factor is whether the instrument is “in the money” or if the investor would benefit from exercise for other reasons (e.g., synergies). (ifrs-10-consolidated-financial-statements.pdf)

4. Control Without a Majority of Voting Rights

Control can exist even when an investor holds less than a majority of the voting rights. This can occur through:

• “Contractual arrangements with other vote holders” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “Rights to appoint, reassign, or remove members of an investee’s key management personnel or any other entity that has the ability to direct the relevant activities” (ifrs-10-consolidated-financial-statements-summary.pdf)
• “To direct the investee to enter into or veto any changes to transactions for the benefit of the investor” (ifrs-10-consolidated-financial-statements-summary.pdf)

5. Agency Relationships

An investor needs to determine whether it is acting as a principal or an agent. An agent is a party that primarily acts on behalf and for the benefit of another party or parties.

• A decision maker is an agent if another party holds substantive removal rights and can remove the decision maker without cause. This is a conclusive indicator in isolation. (ifrs-10-consolidated-financial-statements.pdf)
• When assessing if a decision maker is an agent, consider:
• “the scope of its decision-making authority over the investee” (ifrs-10-consolidated-financial-statements.pdf)
• “the rights held by other parties” (ifrs-10-consolidated-financial-statements.pdf), including removal or restrictive rights.
• “the remuneration to which it is entitled” (ifrs-10-consolidated-financial-statements.pdf) The more the remuneration is fixed, the more likely it is an agent.
• “the decision maker’s exposure to variability of returns from other interests that it holds in the investee” (ifrs-10-consolidated-financial-statements.pdf) Higher exposure suggests acting as a principal.
• The purpose and design of the investee and the decision maker’s involvement in its design are also relevant. Significant involvement might indicate an opportunity to obtain principal-like rights. (ifrs-10-consolidated-financial-statements.pdf)

6. Investment Entities: Exception to Consolidation

IFRS 10 provides an exception to consolidation for investment entities. An investment entity:

• “obtains funds from one or more investors for the purpose of providing those investor(s) with investment management services” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf)
• “commits to its investor(s) that its business purpose is to invest funds solely for returns from capital appreciation, investment income, or both” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf, grant-thornton—ifrs-10-financial-statements.pdf)
• “measures and evaluates the performance of substantially all of its investments on a fair value basis.” (2015 02 IFRS 10 Guide Investment Entities Exception to Consolidation.pdf)

Typical characteristics of an investment entity include:

• “it has more than one investment” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)
• “it has more than one investor” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)
• “it has investors that are not related parties of the entity” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)
• “it has ownership interests in the form of equity or similar interests.” (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf)

However, the absence of these characteristics does not necessarily disqualify an entity from being an investment entity if it meets the three elements of the definition. Conversely, possessing these characteristics does not automatically classify an entity as an investment entity if it doesn’t meet the core definition. (Pocket-guide-to-IFRS-10-Consolidated-Financial-Statements.pdf, ap8a-investment-entities-incl-cls.pdf)

Investment entities typically dispose of their investments through events like IPOs, trade sales, placements, distributions to investors, liquidation, or sales in an active market. (grant-thornton—ifrs-10-financial-statements.pdf)

A key distinction is that a non-investment holding company typically seeks a wider range of benefits from its subsidiaries and operates more as an integrated business, often having more involvement in their operations and the subsidiaries having more interaction with each other. Benefits obtained by a non-investment parent that are “unavailable to parties unrelated to the investee” indicate that the business purpose component of the investment entity definition is not met. (grant-thornton—ifrs-10-financial-statements.pdf)

7. Control Over Specified Assets (“Silos”)

In specific circumstances, an investor may control a portion of an investee, which is treated as a deemed separate entity or “silo.” This occurs only if the following strict conditions are met:

• “Specified assets of the investee (and related credit enhancements) are the only source of payment for specified liabilities” (grant-thornton—ifrs-10-financial-statements.pdf, ifrs-10-consolidated-financial-statements-summary.pdf, ifrs-10-consolidated-financial-statements.pdf)
• “parties other than those with the specified liability do not have rights or obligations related to the specified assets or to residual cash flows from those assets” (grant-thornton—ifrs-10-financial-statements.pdf, ifrs-10-consolidated-financial-statements-summary.pdf, ifrs-10-consolidated-financial-statements.pdf)
• “in substance, none of the returns from the specified assets can be used by the remaining investee and none of the liabilities of the deemed separate entity are payable from the assets of the remaining investee.” (grant-thornton—ifrs-10-financial-statements.pdf, ifrs-10-consolidated-financial-statements-summary.pdf, ifrs-10-consolidated-financial-statements.pdf)

Essentially, all the assets, liabilities, and equity of the silo are ring-fenced from the rest of the investee. Silos are more likely to arise in structured entities within the finance, real estate, and insurance industries (e.g., multi-seller conduits, captive insurance entities). (IFRS-in-Practice-IFRS-10-Consolidated-Financial-Statements.pdf, grant-thornton—ifrs-10-financial-statements.pdf)

8. Post-Implementation Review Considerations (from IASB-113.pdf)

The International Organization of Securities Commissions (IOSCO) provided feedback on the post-implementation review of IFRS 10, 11, and 12, highlighting several areas of concern and seeking clarification from the IASB. Key themes include:

• Application Challenges: The principles within IFRS 10, 11, and 12 often require significant judgment in their application, particularly in determining control, joint control, and significant influence.
• “Since their issuance, we believe IFRS 10, IFRS 11 and IFRS 12 have provided entities with an appropriate, principles-based framework through which to determine whether an investor controls another entity or has entered into a joint arrangement, and how to account for those arrangements and what relevant information an entity that has interests held in other entities is held to disclose. We acknowledge that in some fact patterns, applying the principles of these standards requires preparers to apply significant judgment, which can be challenging or difficult.” (IASB-113.pdf)
• Clarity on Specific Scenarios: There are instances where the application of the standards to specific fact patterns remains unclear or leads to diversity in practice. This includes:
• The exception to consolidation for investment entities, particularly when there is a single, related-party investor. (IASB-113.pdf, ap8a-investment-entities-incl-cls.pdf)
• Determining relevant activities and how they are directed. (IASB-113.pdf)
• Distinguishing between substantive and protective rights. (IASB-113.pdf, rfi2020-pir10-11-12.pdf)
• Assessing control in complex ownership structures and contractual arrangements. (IASB-113.pdf)
• Accounting for transactions involving the loss of control of a subsidiary that does not constitute a business. (IASB-113.pdf, IFRS10_BC_1-22.pdf)
• The definition and accounting for “joint arrangements.” (IASB-113.pdf)
• Need for Further Guidance/Examples: Stakeholders have suggested that additional guidance and illustrative examples in certain areas could enhance consistent application of the standards. (IASB-113.pdf)

9. Impact of IFRS 10 (from paper-4-the-impact-of-ifrs-10-on-consolidated-financial-reporting.pdf)

An academic study examined the impact of IFRS 10 adoption on consolidated financial reporting and found:

• A statistically significant decrease in the number of reported subsidiaries after the adoption of IFRS 10, suggesting that the new definition of control led some entities to deconsolidate previously consolidated entities.
• Evidence that IFRS 10 adoption was associated with an increase in the value relevance of financial statements, implying that the changes in consolidation practices provided more useful information to investors.
• The impact of IFRS 10 on the number of subsidiaries and value relevance varied depending on whether firms reported an increase, decrease, or no change in their number of subsidiaries.

10. Example Financial Statements (from example-financial-statements-report-2019-upd.pdf and ifrs-2024-example-financial-statements.pdf)

These documents provide illustrative examples of how IFRS standards, including IFRS 10 (although not explicitly detailed within the excerpts provided), are applied in the preparation of consolidated financial statements. They cover various aspects such as revenue recognition, leases, financial instruments, employee benefits, and segment reporting, which are presented within the context of a consolidated group.

Conclusion:

IFRS 10 provides a comprehensive principles-based framework for determining when an entity should consolidate its investments. The central concept of control, based on power, exposure to variable returns, and the ability to affect those returns, requires careful judgment considering substantive rights and the purpose and design of the investee. Exceptions exist for investment entities meeting specific criteria. The post-implementation review has highlighted areas where application can be challenging, and stakeholders have called for further clarity in certain situations. Empirical evidence suggests that IFRS 10 has impacted consolidation practices and the value relevance of financial reporting. Understanding these principles and their nuances is crucial for accurate and consistent application of IFRS 10.