A couple of weeks ago I had reason to reply to an email from an attendee at a course I had been teaching, concerning the definition of control in the context of consolidation of a subsidiary… answering on my mobile phone.  Like most of you, I expect, I have predictive text turned on, and I noticed that the phone offered the word “investment” after I had typed in “inv”.  Of course, in the context of consolidating a controlled investee, many of you will know that the correct word in the definition of control is “involvement”, rather than “investment”, although in the context of an investor that meets the definition of an investment entity, then the correct word is “investment” rather than “involvement”.  This got me thinking about these two words, and the deep implications that they have within IFRS 10 Consolidated Financial Statements.

A safe place to start my thought process was the Oxford English Dictionary. Amongst the descriptions of involve and involvement we find phrases such as “entangled, implicated, concerned, complicated affairs and (I like this) financial embarrassment…”.  Looking up invest and investment, we find phrases such as “Employ money for profit, put money into, expend money…”.  These two sets of phrases offer an insight into why “involvement” of an investor with an entity is such an important flavour of the understanding of control requiring consolidation; and why “investment” by an investment entity points towards not consolidating, but the use of an accounting model that focuses on the return on that investment activity, namely the fair value model.

Now if we consider the “involvement” of an investor in the affairs of the investee, the images that come to mind are of being entangled in those affairs – doing battle with suppliers, competitors, perhaps regulators, maybe employees and trades unions.  Complicated affairs!  With the potential for financial pain and even embarrassment!  Blood, sweat and tears! But also with great opportunities for strategic progress and possibly significant financial gain over many, many years (new products, new markets, new processes).  To be involved with such affairs implies the ability to influence the decision making over such “relevant activities”, and if the relationship of involvement provides for power over such decisions, with the consequent impact on the investees returns from their affairs, then we need only to ensure that the investor has a variable return from their involvement with the investee, and we have the three elements of control established – power, direction of relevant activities and variable return.  Only one accounting model adequately reflects that – consolidation.

Turning to “investment” in an investee by an investment entity, the images that come to mind are of a somewhat more detached arrangement.  No longer would we expect the investor to “get their hands dirty” by entanglement in complicated affairs.  Rather, the investor has made it clear to the investee that their interest is in making money from the investment, and that message has been communicated also to the investors owners.  The investor will be concerned about making the investee suitable for exit and making money from this.  So messages for the investee would include “put in place some quality corporate governance processes” and “make yourself lean and mean” and “smarten up your reporting”.  All because the investor has plans to make a highly profitable exit, quite likely within about 5 years.  Put in place the other elements of power and variable return from the investment, and we have the circumstance of an investment entity parent, where the only relevant accounting model would be fair value through profit and loss.

If you're interested in further information about EWI's IFRS offering please go to our IFRS Courses Page.





Ian Charles comments on the deep implications of the terms "investment" and "involvement" within IFRS 10 Consolidated Financial Statements.

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