Controlled entities:

The consolidation
method
Understand the nature and various forms of
controlled entities

Explain how the consolidation method is applied

Explain the key components of the term control

Discuss which entities should prepare consolidated
financial statements

Understand the alternative concepts of
consolidation

Explain the differences in report format between
single entities and consolidated entities
Business combinations can take a
number of forms. Common examples
are:

Acquisition of shares in another entity

Formation of a new entity to acquire the
shares of another entity

Dual-listed entities eg BHP Billiton
Australian company : BHP Ltd
UK company : Billiton Plc
Consolidation process of preparing single set of
financial statements for group of entities under control
of one of those entities

Involves combining financial statements of individual
entities to show financial position and performance of
group as if it were single entity

Group a parent and all its subsidiaries

Parent an entity that has one or more subsidiaries

Subsidiary an entity that is controlled by another
entity

A Ltd
B Ltd
Parent
Subsidiary
control must exist
The economic entity is referred to
as the A Ltd Group
Consolidated financial statements are prepared by

(i) Aggregating (combining), line by line, like
items of assets, liabilities, equity, income and
expenses

(ii) Adjusting these combined figures for inter-
group transactions between entities within the
group (covered in following weeks)
AASB 10 Consolidated Financial Statements
Criterion for identifying parent-subsidiary relationship is
control

An investor controls an investee when
the investor :
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

Control
The following three elements are required in
order for an investor to have control:
1. Power over the investee
2. Exposure or rights to variable returns from its
involvement with the investee
3. The ability to use its power over the investee to
affect the amount of the investors returns

All three elements must be present for control to
exist

1. Passive versus active control entity having
capacity to control may not actually be
involved in management of controlled entity
2. Non-shared Control - Two or more entities
cannot share control
3. Level of Share Ownership - Control may be
unilateral or effective, depending on level of
share ownership

Control element 1 Power criterion
Requires CAPACITY to control - not ACTUAL control

Factors in determining the existence of capacity
include:
Unilateral control

Control is presumed to exist where the parent
owns (directly or indirectly) > 50% of the voting
power of an entity unless there is evidence to
the contrary

Unilateral control refers to the power to
appoint / remove > 50% of directors and
cast majority of votes at AGM


Control element 1 Power criterion
Effective control
< 50% can result in control.

The following factors need to be considered when
assessing effective control.
Existence of contracts (power by agreement with
other investors)
Size of voting interests (e.g. if only 60% of eligible
votes attend meeting, 31% can control meeting)
Dispersion of other shareholders (probability of
shareholders attending meeting lessened by
location and by size of share parcels)
Levels of disorganisation or apathy of other
shareholders (most shareholders do not
understand or care about day to day management)

Control element 1 Power criterion
Effective control cont.

Problems relating to effective control

Temporary control (eg 31% ownership can
control if only 60% of eligible votes in
attendance in Year 1, but not if 70% in
attendance in Year 2)

Friendly relationship can turn un-friendly
Control element 1 Power criterion
Who controls C Ltd?

Control element 1 Power criterion
A Ltd
C Ltd
48%
Even though A Ltd is currently running the day-to-day
operations of C Ltd, B Ltd is considered to have passive
control of C Ltd. At any time that B Ltd disagrees with
the management policies of A Ltd it can take control by
virtue of its majority voting interests.
B Ltd
52%
A Ltd currently actively
formulates the policies of
C Ltd
B Ltd currently plays no
part in the day-to-day
management of C Ltd
Does A Ltd control B Ltd?

Control element 1 Power criterion
A Ltd
B Ltd
45%
20 shareholders each
holding < 2% of the
voting power. These
shareholders rarely
attend meetings and
vote
Based on the size of voting interests and
dispersion of shareholders it appears that A
Ltd exerts effective control over B Ltd.
Does A Ltd control B Ltd?

Control element 1 Power criterion
A Ltd
B Ltd
44%
3 shareholders each
holding 22% of the
voting power. These
shareholders
regularly attend
meetings and vote
Based on the size of voting interests and
involvement of shareholders it appears that A
Ltd does NOT exert control over B Ltd.

Examples of returns include:
Dividends
Economies of scale
Cost savings
Sourcing scarce products
Gaining access to proprietary knowledge
Remuneration for servicing an investees assets or liabilities

Benefit criterion excludes parties such as trustees
and those with fiduciary relationship with the
subsidiary from having to consolidate
Benefits that can exist in parent-subsidiary
relationship

Dividends
Obtaining scarce raw materials on priority
basis
Gaining access to subsidiarys distribution
network, patents
Economies of scale
Denying or regulating access to subsidiarys
assets to competitors
Control element 3 Benefit criterion
AASB 10 applies only to groups that are required
to prepare general purpose financial reports

Required where there are users who rely on the
entitys general purpose financial statements for
information useful to them for making decisions
about the allocation of resources

Who are dependent users?
Resource providers
Recipients of goods and services
Parties having a review or oversight function
Users of consolidated financial statements
Factors to assist in identifying possible
dependent users

Separation of management from economic
interest
Economic or political importance/ influence
Financial characteristics

When a group is formed as a result of a business
combination, the group is considered a reporting
entity if users exist who require info about the
group.

Users of consolidated financial statements
Users of consolidated financial statements
A Ltd
B Ltd
Assume A Ltd is a reporting entity. Is the A Ltd group
also a reporting entity?

Shareholders of A Ltd would want a financial report on the
combined entity as their wealth is now dependent on the
combined performance of A and B. Therefore the group
would be reporting entity

100%
How many reporting entities could exist in the group below?
Users of consolidated financial statements
A Ltd
B Ltd
ANSWER = 5 ?
Each individual entity may be reporting
entity A Ltd, B Ltd and C Ltd
A Ltd group also probably reporting
entity - Shareholders of A Ltd
dependent on performance of all
companies
B Ltd group also probably reporting
entity - NCI shareholders of B have no
financial interest in A Ltd, but interested
in B+C
C Ltd
80%
100%
20%

NCI
AASB 10 provides exclusion for parent to present consolidated
financial statements if, and only if:

It is a wholly-owned subsidiary or is a partially-owned subsidiary of another entity
and all its other owners do not object to the parent not presenting consolidated
financial statements

Its debt or equity instruments are not traded in a public market

It is not required to file financial statements with a securities commission or other
organisation for the purpose of issuing instruments in a public market

Its ultimate or any intermediate parent produces consolidated financial statements
available for public use and comply with IFRSs

ALL the 4 conditions must be met
Presentation of consolidated
financial statements
Presentation of consolidated
financial statements
A Ltd
B Ltd
C Ltd
90%
80%
10%

NCI
No consolidation
required for B Ltd group
if 10% NCI shareholders
in B consented to no
consolidated financial
statements.
Assuming :
B Ltds debt or equity instruments are not traded in a public market

B Ltd is not required to file financial statements with a securities commission or
other organisation for the purpose of issuing instruments in a public market

A Ltd produces consolidated financial statements available for public use and
comply with IFRSs

An acquirer is the combining entity that obtains control of
the other combining entities in a business combination.

In most cases the parent will be the acquirer.

Exceptions arise when:
a) A new entity is formed, which acquires all the shares
of previously existing entities
b) A reverse acquisition occurs
a private company purchases a publicly traded company and
shifts its management into the latter
normally involves renaming the publicly traded company
allows private companies to become publicly traded while
avoiding the regulatory and financial requirements associated
with an IPO
Adopts entity concept of consolidation


Group consists of the assets and liabilities
of parent and all the assets and liabilities of
the subsidiary (ies)
Non Controlling Interest (NCI) is classified
as an equity holder
Transactions between group entities are
adjusted in full. They are not affected by
the % ownership interest
Concepts of Consolidation
Entity Concept