IFRS 10 Notes BA 119 (AY 19-20 FS)

Figure 1. Interaction between IFRS 10, IFRS 11, IFRS 12 and IAS 28

* This would be the case, for example, if an entity has control over (or simply rights to) assets and obligations for liabilities, but not control of an
entity. In this case, the entity would account for these assets and obligations in accordance with the relevant IFRS.

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IFRS 10 Notes BA 119 (AY 19-20 FS)

IFRS 10 requires that a parent shall present consolidated financial statements.

• This means that the assets, liabilities, equity, income, expenses, and cash flows of the parent and
its subsidiaries are presented in a single financial statement, and the group is taken as one.
• Exceptions (Parent need not present consolidated financial statements if all of the following
conditions are met):
o The entity is (1) a wholly owned subsidiary of another entity; or (2) a partially-owned
subsidiary of another entity, and the non-controlling owners, including those not otherwise
entitled to vote (e.g., holders of preference shares), have been informed about, and do
not object to, the parent not presenting consolidated financial statements.
o The entity’s debt or equity instruments are not traded in a public market.
o The entity is not in the process of filing financial statements for listing its securities.
o The entity’s intermediate or ultimate parent publishes IFRS-compliant financial statements
and are available for public use.

An entity is a subsidiary of a parent entity if the latter has control over the former.
An investor controls an investee when it is exposed, or has rights, to variable returns from its involvement
with the investee and has the ability to affect those returns through its power over the investee.
• 3 essential elements of investor’s control:
o Power over the investee
o Exposure or rights to variable returns from its involvement with the investee.
o Ability to use its power over the investee to affect the amount of the investor’s returns.

Assessing control:

Figure 2. Process for assessing control over an investee.

When assessing control of an investee, an investor considers the purpose and design of the investee in
order to identify the relevant activities, how decisions about the relevant activities are made, who has the
current ability to direct those activities and who receives returns from those activities.

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Activities
Examples of relevant activities:
• Determining or changing operating and financing policies.
• Selling and purchasing goods and/or services.
• Managing financial assets during their life and/or upon default.
• Selecting, acquiring or disposing of assets.
• Researching and developing new products or processes.
• Determining a funding structure or obtaining funding.
• Establishing operating and capital decisions of the investee, including budgets.
• Appointing, remunerating and terminating employment of service providers or key management
personnel.

If two investors both direct different relevant activities, one has to identify which investor can most
significantly affect returns.

Power
Main aspects of power:
• Power arises from rights.
o Examples are:
▪ Rights in the form of voting rights.
▪ Rights to appoint, reassign or remove members of an investee’s key
management personnel who have the ability to direct the relevant activities.
▪ Rights to appoint or remove another entity that directs the relevant activities.
▪ Rights to direct the investee to enter into, or veto any changes to, transactions
for the investor.
▪ Other rights that give the holder the ability to direct the relevant activities.
o Rights can either be substantive or protective.
▪ An investor, in assessing whether it has power, considers only substantive rights
relating to the investee. For a right to be substantive, the holder must have the
practical ability to exercise the right.
▪ Factors to be considered in assessing whether a right is substantive:
• Are there barriers that would prevent the holder from exercising their
rights?
• Do the holders have the practical ability to exercise the rights when
exercise requires agreement by more than one investor?
• Would the investor that holds the rights benefit from their exercise of
conversion?
• Are the rights currently exercisable or convertible?
▪ An investor who hold only protective rights cannot have power over an investee.
• Protective rights are rights designed to protect the interest of the party
holding those rights without giving the party power over the entity to
which those rights relate.
• Power is the current ability to direct and need not be exercised.
• Power related to direction of the relevant activities.
Other considerations:
• Evidence that the investor directed activities in the past is an indicator of power, but is not
conclusive.
• An investor may have the power to direct the relevant activities with less than half of the voting
rights.
o All facts and circumstances must be considered:
▪ Contractual arrangements with other shareholders
▪ Contractual rights arising from other arrangements

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IFRS 10 Notes BA 119 (AY 19-20 FS)

▪ The investor’s voting rights – size of the investor’s holding of voting rights
relative to the size and dispersion of other vote holders (de facto control)
▪ Potential voting rights held by the investor and other parties.
o If it is not clear from considering these factors that the investor has power, the investor
does not control the investee.
• Potential voting rights are only considered in assessment of power if they are substantive.

Depends on facts
Evaluation Non-substantive Substantive
and circumstances
Exercise price Deeply-out-of-the- Out-of-the-money or In-the-money
money at market
Financial ability to Holder has no Holder would have to Holder has cash or
exercise financial ability raise financing financing readily
available.
Exercise period Not exercisable Exercisable before Currently exercisable
decisions need to be
made

Returns
Returns can be only positive, only negative, or both, but must have the potential to vary as a result of
the investee’s performance.

Examples:
• Dividends, distributions of economic benefits, changes in value
• Remuneration, fees, residual interests, tax benefits
• Synergistic returns, saving costs, economies of scale

Returns that appear “fixed” may actually be “variable”:

• Bond with “fixed” interest payments – exposed to credit risk
• Fixed fee for managing investment – exposed to performance risk

Exposure to returns is an indicator of control. The greater the exposure, the greater is the incentive to
obtain power.

Delegated Rights

An agent is a party engaged to act on behalf of another party or parties (the principal/s).
A principal may delegate some or all decision-making authority to the agent.
An agent does not control an investee.

Link between power and returns:

More likely principal Criteria More likely agent
Broad Scope of decision- Narrow
making powers over
the investee
Large number of parties Removal rights held by Single party or small
other parties number of parties
Not commensurate with Remuneration to which Commensurate with
services provided it is entitled in services provided
accordance with
remuneration
agreement

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IFRS 10 Notes BA 119 (AY 19-20 FS)

More likely principal Criteria More likely agent

Greater exposure Decision maker’s Little exposure
exposure to variability
of returns from all
interests

Control over specified assets (silo)

An investor treats a portion of an investee as a deemed separate entity (silo) if and only if the following
conditions are satisfied:
• Specified assets of the investee are the only source of payment for specified liabilities of or
specified other interest in the investee.
• 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.
• None of the returns from the specified assets can be used by the remaining investee and none of
the liabilities of the silo are payable from the assets of the remaining investee.
• In substance, all the assets, liabilities and equity of the silo are ring-fenced from the investee.

Example:
A, B and C each lease separate buildings (buildings A, B and C, respectively) that are owned by an
investee (the host/lessor). A has a fixed price option that allows it to purchase building A for CU120. No
such option exists for B and C. The investee’s balance sheet is as follows (recorded on a fair value basis,
in CU):

Assets Liabilities and Equity

Cash 20 Debt (recourse only to Building A) 120
Building A 120 Debt (recourse only to Building B) 50
Building B 100 Debt (recourse only to Building C) 50
Building C 100 Equity 120
Total Assets 340 Total liabilities and equity 340

A silo exists for Building A.

• The lender A is the only investor with an exposure to variable returns created by the decrease in
value of Building A, because it has been wholly financed with nonrecourse debt (i.e., none of the
liabilities of the silo are payable from the other assets of the investee).
• Also, A is the only investor with an exposure to variable returns created by an increase in the
value of Building A because of the fixed price purchase option (i.e., if Building A appreciated in
value, only A will receive this benefit).
No silo exists for Building B or C.
• Although there is debt that is recourse to the building, the debt is only 50% of the fair values of
the Buildings B and C. The remaining fair value is supported by equity that also supports the
investee’s other assets.
• In addition, other investors have exposure to variable returns from an increase in the values of
Buildings B and C, because there are no fixed price options related to these buildings.

Structured entities

A structured entity is an entity that has been designed so that voting or similar rights are not the
dominant factor in deciding who controls the entity, such as when any voting rights relate to
administrative tasks only and the relevant activities are directed by means of contractual arrangements.

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Common features or attributes:

• Restricted activities
• Narrow and well-defined objective
• Cannot finance activities without subordinated support
• Financing through multiple contractually-linked instruments to investors that create
concentrations of credit or other risks.

Example:
Entity A’s only business activity, as specified in its articles of incorporation, is to purchase receivables and
service them on a day-to-day basis for its investor, Company B. The servicing includes collecting the
principal and interest payments as they fall due and passing them on to the Company B. For any
receivable in default, Entity A is required to automatically put the receivable in default to the Company B,
as contractually agreed in the put agreement between the two entities.

The relevant activity is managing the receivables in default, because it is the activity that significantly
affects the Entity A’s returns. The purpose and design of the investee gives the Company B decision-
making authority over the relevant activity. The terms of the put agreement are integral to the overall
transaction and the establishment of the Entity A. Therefore, the put agreement, together with the
articles of incorporation, gives the Company B power over the Entity A. This is the case, even though:
• Company B takes ownership of the receivables only in the event of a default
• Company B’s exposures to variable returns are not technically derived from Entity A (because the
default receivables are no longer owned by the Entity A)

Consolidation procedures
• Line-by-line combination of financial statements
• Restatement of investee’s net assets to fair value at acquisition date
• Adjustments to align accounting policies
• Elimination of the parent’s investment in subsidiaries and its portion of their equity
• Elimination in full of intragroup balances, transactions and unrealized profits and losses
• Separate presentation of NCI in profit or loss and net assets of group (NCI classified as equity)

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