subsidiaries at fair value through profit or loss in accordance with IFRS 9 with
limited exceptions. This amendment applied for annual periods beginning on or
after 1 January 2014. [IFRS 10.C1B].
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This exception is intended to address what many in the asset management and private
equity industries, and users of their financial statements, believe is a significant issue
with the consolidation requirements in IFRS 10. As a part of the deliberations ultimately
leading to the issuance of IFRS 10, the IASB received many letters noting that for
‘investment entities’, rather than enhancing decision-useful information, consolidating
the controlled investment actually obscures such information. This feedback was
persuasive and consequently the IASB decided to issue the investment entity exception.
The Board considers that the entities most likely to be affected by the investment entity
exception are:
• private equity or venture capital funds;
• master-feeder or fund of funds structures where an investment entity parent has
controlling interests in investment entity subsidiaries;
• some pension funds and sovereign wealth funds which may meet the definition of
an investment entity and may hold controlling investments in other entities; and
• other types of entities such as mutual funds and other regulated investment funds,
although the Board considers that they tend to hold lower levels of investments in
a wider range of entities and therefore the exception from consolidation is less
likely to affect them. [IFRS 10.BC298-BC300].
In December 2014, the IASB issued Investment Entities: Applying the Consolidation
Exception (Amendments to IFRS 10, IFRS 12 and IAS 28) which clarifies two aspects of
the investment entity exception. This amendment applied for annual periods beginning
on or after 1 January 2016 but could be adopted earlier. [IFRS 10.C1D]. This amendment is
discussed at 10.2.1.A below.
10.1 Definition of an investment entity
IFRS 10 requires that a parent must determine whether it is an investment entity.
An investment entity is an entity that:
(a) obtains funds from one or more investors for the purpose of providing those
investors with investment management services;
(b) commits to its investors that its business purpose is to invest funds solely for returns
from capital appreciation, investment income, or both; and
(c) measures and evaluates the performance of substantially all of its investments on a
fair value basis. [IFRS 10.27].
An entity shall consider all facts and circumstances when assessing whether it is an
investment entity, including its purpose and design. An entity that possesses (all of) the
three elements (a) to (c) above is an investment entity. [IFRS 10.B85A].
In addition, when considering the investment entity definition, an entity shall consider
whether it has the following typical characteristics:
• it has more than one investment;
• it has more than one investor;
• it has investors that are not related parties of the entity; and
• it has ownership interests in the form of equity or similar interests. [IFRS 10.28].
Consolidated financial statements 445
The absence of any of these typical characteristics does not necessarily disqualify an entity
from being classified as an investment entity. However, it indicates that additional judgement
is required in determining whether the entity is an investment entity and therefore, where
any of these characteristics are absent, disclosure is required by IFRS 12 of the reasons for
the entity concluding that it is nonetheless, an investment entity. [IFRS 10.28, B85N, IFRS 12.9A].
In November 2016, the Interpretations Committee discussed a number of questions
regarding the investment entity requirements in IFRS 10, including whether an entity
qualifies as an investment entity if it does not have one or more of the typical characteristics
of an investment entity listed in paragraph 28 of IFRS 10. In its March 2017 agenda decision
not to add this question to its standard-setting agenda, the Committee concluded that an
entity that possesses all three elements of the definition of an investment entity in
paragraph 27 of IFRS 10 is an investment entity, even if that entity does not have one or
more of the typical characteristics of an investment entity listed in paragraph 28 of IFRS 10.8
If facts and circumstances indicate that there are changes to one or more of the three
elements (a) to (c) above, that make up the definition of an investment entity, or changes
to the typical characteristics of an investment entity, a parent shall reassess whether it
is an investment entity. [IFRS 10.29].
A parent that either ceases to be an investment entity or becomes an investment entity
shall account for the change in its status prospectively from the date at which the change
in status occurred. [IFRS 10.30].
10.2 Determining whether an entity is an investment entity
The first part of the definition of an investment entity in paragraph 27 of IFRS 10 is the
requirement that an investment entity provide investors with investment management
services. IFRS 10 does not specify how the investment entity must provide these
services. In March 2017 (see 10.1 above), the Interpretations Committee noted that
IFRS 10 does not preclude an investment entity from outsourcing the performance of
these services to a third party and therefore concluded that an investment entity
responsible for providing investment management services to its investors can engage
another party to perform some or all of the services on its behalf.
Application guidance is provided in respect of the definition (b) in 10.1 above, as follows:
• Business purpose (see 10.2.1 below);
• Exit strategies (see 10.2.2 below); and
• Earnings from investments (see 10.2.3 below).
Application guidance is provided in respect of definition (c) in 10.1 above, as follows:
• Fair value measurement (see 10.2.4 below).
Application guidance is provided in respect of the four typical characteristics described
in 10.1 above, as follows:
• more than one investment (see 10.2.5 below);
• more than one investor (see 10.2.6 below);
• unrelated investors (see 10.2.7 below); and
• ownership interests (see 10.2.8 below).
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10.2.1 Business
purpose
The definition of an investment entity requires that the purpose of the entity is to invest
solely for capital appreciation, investment income (such as dividends, interest or rental
income), or both. [IFRS 10.B85B].
Documents that include a discussion of an entity’s investment objectives, such as
offering memoranda, publications distributed by the entity and other corporate or
partnership documents, typically provide evidence of an entity’s business purpose.
Further evidence may include the manner in which an entity presents itself to other
parties (such as potential investors or potential investees). [IFRS 10.B85B].
However, an entity that presents itself as an investor whose objective is to jointly
develop, produce or market products with its investees,
has a business purpose that is
inconsistent with the business purpose of an investment entity. This is because the
entity will earn returns from the development, production and marketing activity as well
as from its investments. [IFRS 10.B85B].
10.2.1.A Entities
that
provide
investment-related services
An investment entity may provide investment-related services (e.g. investment advisory
services, investment management, investment support and administrative services),
either directly or through a subsidiary, to third parties as well as its investors and not
lose its investment entity status. This applies even if those activities are substantial to
the entity, subject to the entity continuing to meet the definition of an investment entity.
[IFRS 10.B85C]. In March 2017, the Interpretations Committee confirmed that an
investment entity may provide investment-related services to third parties, either
directly or through a subsidiary, as long as those services are ancillary to its core
investment activities and thus do not change the business purpose of the investment
entity (see 10.1 above).
An investment entity may also participate in the following investment-related activities
either directly or through a subsidiary, if these activities are undertaken to maximise the
investment return (capital appreciation or investment income) from its investees and do
not represent a separate substantial business activity or a separate substantial source of
income to the investment entity:
• providing management services and strategic advice to an investee; and
• providing financial support to an investee such as a loan, capital commitment or
guarantee. [IFRS 10.B85D].
The rationale for these provisions is that investment-related services to third parties are
simply an extension of the investment entity’s investing activities and should not
prohibit an entity from qualifying as an investment entity. [IFRS 10.BC239].
An investment entity must consolidate a subsidiary that is itself not an investment entity
and whose main purpose and activities are providing services that relate to the
investment entity’s investment activities. [IFRS 10.32]. If the subsidiary that provides the
investment-related services or activities is itself an investment entity, the investment
entity parent must measure that subsidiary at fair value through profit or loss.
[IFRS 10.B85E].
Consolidated financial statements 447
This means that only those entities that are not investment entities that provide
investment related services are consolidated. See 10.3 below for further discussion of
the accounting consequences resulting from this requirement.
The requirement to consolidate particular subsidiaries of an investment entity is intended
to be a limited exception, capturing only operating subsidiaries that support the investment
entity’s investing activities as an extension of the operations of the investment entity
parent. [IFRS 10.BC240E]. When an entity assesses whether it qualifies as an investment entity,
it considers whether providing services to third parties is ancillary to its core investing
services. However, the definition of an investment entity requires that the purpose of the
entity is to invest solely for capital appreciation, investment income or both (see 10.1
above). Consequently, an entity whose main purpose is to provide investment-related
services in exchange for consideration from third parties has a business purpose that is
different from the business purpose of an investment entity. This is because the entity’s
main activity is earning fee income in exchange for its services in contrast to an investment
entity whose fee income will be derived from its core activities, which are designed for
earning capital appreciation, investment income or both. [IFRS 10.BC240F].
If the subsidiary is not an investment entity, the investment entity parent must assess
whether the main activities undertaken by the subsidiary support the core investment
activities of the parent. If so, the subsidiary’s activities are considered to be an extension
of the parent’s core investing activities and the subsidiary must be consolidated. These
support services provided to the parent and other members of the group could include
administration, treasury, payroll and accounting services. [IFRS 10.BC240H].
In November 2016, the Interpretations Committee received a question as to whether a
subsidiary provides services that relate to its parent investment entity’s investment
activities by holding an investment portfolio as beneficial owner. In its agenda decision
in March 2017, the Committee concluded that an investment entity does not consider
the holding of investments by a subsidiary as beneficial owner (and recognised in the
subsidiary’s financial statements) to be a service that relates to the parent investment
entity’s investment activities (see 10.1 above), and observed that it had previously
discussed a similar question in March 2014 (see 10.2.1.B below).
The requirement that an investment entity measures at fair value through profit or loss
all of its subsidiaries that are themselves investment entities is consistent with the
decision not to distinguish between investment entity subsidiaries established for
different reasons. [IFRS 10.BC240B]. See 10.2.1.B below.
10.2.1.B
Entities that are intermediate holding companies established for tax
optimisation purposes
It is explained in the Basis for Conclusion that some respondents to the original
Investment Entities ED suggested that at least some investment entity subsidiaries
should be consolidated (for example, wholly-owned investment entity subsidiaries that
are created for legal, tax or regulatory purposes). However, the Board considers that fair
value measurement of all of an investment entity’s subsidiaries (except for subsidiaries
providing investment-related services or activities) would provide the most useful
information and therefore decided to require fair value management for all investment
entity subsidiaries. [IFRS 10.BC272].
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Some investment entities establish wholly-owned intermediate subsidiaries in some
jurisdictions which own all or part of the portfolio of investments in the group structure.
The sole purpose of the intermediate subsidiaries is to minimise the tax paid in the ‘parent’
investment entity. There is no activity within the subsidiaries and the tax advantage arises
from returns being channelled through the jurisdiction of the intermediate subsidiary. In
March 2014, the Interpretations Committee discussed a request to clarify whether the ‘tax
optimisation’ described above should be considered investment-related services or
activities. The Interpretations Committee noted that the IASB believes that fair value
measurement of all of an investment entity’s subsidiaries would provide the most useful
information, except for subsidiaries providing investment-related services or activities and
that the IASB had decided against requiring an investment entity to consolidate investment
entity subsidiaries that are formed for tax purposes. The Interpretations Committee further
noted that one of
the characteristics of the ‘tax optimisation’ subsidiaries described is ‘that
there is no activity within the subsidiary’. Accordingly, the Interpretations Committee
concluded that the parent should not consolidate such subsidiaries and should account for
such intermediate subsidiaries at fair value because they do not provide investment-related
services or activities and therefore do not meet the requirements for consolidation.
Consequently, the Interpretations Committee considered that sufficient guidance already
exists and it decided not to add the issue to its agenda.9
10.2.2 Exit
strategies
One feature that differentiates an investment entity from other entities is that an
investment entity does not plan to hold its investments indefinitely; it holds them for a
limited period. [IFRS 10.B85F].
For investments that have the potential to be held indefinitely (typically equity investments
and non-financial asset investments), the investment entity must have a documented exit
strategy. This documented exit strategy must state how the entity plans to realise capital
appreciation from substantially all of these potentially indefinite life investments. An
investment entity should also have an exit strategy for any debt instruments that have the
potential to be held indefinitely (e.g. perpetual debt instruments). [IFRS 10.B85F].
The investment entity need not document specific exit strategies for each individual
investment but should identify different potential strategies for different types or
portfolios of investments, including a substantive time frame for exiting the investments.
Exit mechanisms that are only put in place for default events, such as breach of contract
or non-performance, are not considered exit strategies. [IFRS 10.B85F].
Exit strategies can vary by type of investment. Examples of such strategies for
investments in equity securities include an initial public offering, selling the investment
in a public market, a private placement, a trade sale of a business, distributions (to
investors) of ownership interests in investees and sales of assets (including the sale of an
investee’s assets followed by a liquidation of an investee). For real estate investments,
an example of an exit strategy includes the sale of the real estate through specialised
property dealers or the open market. [IFRS 10.B85G].
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