The accounting for loss of significant influence over an associate is discussed at 7.12 below.
4.1
Lack of significant influence
The presumption of significant influence may sometimes be overcome in the following
circumstances:
• the investor has failed to obtain representation on the investee’s board of directors;
• the investee or other shareholders are opposing the investor’s attempts to exercise
significant influence;
• the investor is unable to obtain timely or adequate financial information required
to apply the equity method; or
• a group of shareholders that holds the majority ownership of the investee operates
without regard to the views of the investor.
Determining whether the presumption of significant influence has been overcome requires
considerable judgement. IFRS 12 requires that an entity must disclose significant judgements
and assumptions made in determining that it does not have significant influence even though
it holds 20% or more of the voting rights of another entity.2 This is discussed further in
Chapter 13 at 3. In our experience many regulators take a key interest in these decisions.
4.2
Holdings of less than 20% of the voting power
Although there is a presumption that an investor that holds less than 20% of the voting
power in an investee cannot exercise significant influence, [IAS 28.5], careful judgement
is needed to assess whether significant influence may still exist if one of the indicators
in IAS 28.6 (a)-(e) at 4 above, are present.
For example, an investor may still be able to exercise significant influence in the
following circumstances:
• the investor’s voting power is much larger than that of any other shareholder of
the investee;
• the corporate governance arrangements may be such that the investor is able to
appoint members to the board, supervisory board or significant committees of the
investee. The investor will need to apply judgement to the facts and circumstances
to determine whether representation on the respective boards or committees is
enough to provide significant influence; or
• the investor has the power to veto significant financial and operating decisions.
Investments in associates and joint ventures 755
Determining which policies are significant requires considerable judgement. IFRS 12
requires that an entity must disclose significant judgements and assumptions made in
determining that it does have significant influence where it holds less than 20% of the
voting rights of another entity.3 This is discussed further in Chapter 13 at 3. Extract 11.1
below shows how GlaxoSmithKline plc has disclosed how it has significant influence
when it has an ownership interest of less than 20%.
Extract 11.1: GlaxoSmithKline plc (2014)
Notes to the financial statements [extract]
20 Investments in associates and joint ventures [extract]
The Group held one significant associate at 31 December 2014, Aspen Pharmacare Holdings Limited. At
31 December 2014, the Group owned 56.5 million shares or 12.4% of Aspen. Aspen, listed on the Johannesburg
Stock Exchange, is Africa’s largest pharmaceutical manufacturer and a major supplier of branded and generic
pharmaceutical, healthcare and nutritional products to the southern African and selected international markets. The
investment had a market value of £1,274 million (2013 – £872 million). Although the Group holds less than 20% of
the ownership interest and voting control of Aspen, the Group has the ability to exercise significant influence through
both its shareholding and its nominated director’s active participation on the Aspen Board of Directors.
4.3
Potential voting rights
An entity may own share warrants, share call options, debt or equity instruments that
are convertible into ordinary shares, or other similar instruments that have the potential,
if exercised or converted, to give the entity voting power or reduce another party’s
voting power over the financial and operating policies of another entity (potential voting
rights). [IAS 28.7].
IAS 28 requires an entity to consider the existence and effect of potential voting rights
that are currently exercisable or convertible, including potential voting rights held by
another entity, when assessing whether an entity has significant influence over the
financial and operating policies of another entity.
Potential voting rights are not currently exercisable or convertible when they cannot be
exercised or converted until a future date or until the occurrence of a future event.
[IAS 28.7].
IAS 28 adds some further points of clarification. In assessing whether potential voting
rights contribute to significant influence, an entity must examine all facts and
circumstances (including the terms of exercise of the potential voting rights and any
other contractual arrangements whether considered individually or in combination) that
affect potential voting rights, except the intention of management and the financial
ability to exercise or convert those potential voting rights. [IAS 28.8].
IAS 28 does not include guidance on potential voting rights comparable to that included
in IFRS 10. In the amendments introduced to IAS 28 when IFRS 10, 11 and 12 were
issued, the IASB did not reconsider the definition of significant influence and concluded
that it would not be appropriate to address one element of the definition in isolation.
Any such consideration would be done as part of a wider review of accounting for
associates. [IAS 28.BC16].
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4.4
Voting rights held in a fiduciary capacity
Voting rights on shares held as security remain the rights of the provider of the security,
and are generally not taken into account if the rights are only exercisable in accordance
with instructions from the provider of the security or in his interest. Similarly, voting rights
that are held in a fiduciary capacity may not be those of the entity itself. However, if voting
rights are held by a nominee on behalf of the entity, they should be taken into account.
5
EXEMPTIONS FROM APPLYING THE EQUITY METHOD
Under IAS 28, an entity with joint control of, or significant influence over, an investee
accounts for its investment in an associate or a joint venture using the equity method,
except when that investment qualifies for exemption in accordance with paragraphs 17
to 19 of the standard. [IAS 28.16].
5.1
Parents exempt from preparing consolidated financial
statements
An entity need not apply the equity method to its investment in an associate or a joint
venture if the entity is a parent that is exempt from preparing consolidated financial
statements by the scope exception in paragraph 4(a) of IFRS 10 (see Chapter 6 at 2.2.1).
[IAS 28.17].
5.2
Subsidiaries meeting certain criteria
An entity need not apply the equity method to its investment in an associate or a joint
venture if all the following apply:
(a) the entity is a wholly-owned subsidiary, or is a partially-owned subsidiary of another
entity and its other owners, including those not otherwise entitled
to vote, have been
informed about, and do not object to, the entity not applying the equity method;
(b) the entity’s debt or equity instruments are not traded in a public market (a domestic
or foreign stock exchange or an over-the-counter market, including local and
regional markets);
(c) the entity did not file, nor is it in the process of filing, its financial statements with
a securities commission or other regulatory organisation, for the purpose of issuing
any class of instruments in a public market; and
(d) the ultimate or any intermediate parent of the entity produces financial statements
available for public use that comply with IFRSs, in which subsidiaries are
consolidated or are measured at fair value through profit or loss in accordance with
IFRS 10. [IAS 28.17].
This exemption will apply only where the investor in an associate or a joint venture is
not also a parent. If it is a parent, it must look to the similar exemption from preparation
of consolidated financial statements in IFRS 10, which also contains the conditions (a)
to (d) above for a parent to be exempt from preparing consolidated financial statements
under IFRS 10.
This exemption is available only to entities that are themselves either wholly-owned
subsidiaries or partially-owned subsidiaries whose non-controlling shareholders do not
Investments in associates and joint ventures 757
object to the presentation of financial statements that do not include associates or joint
ventures using the equity method. Some of these ‘intermediate’ entities will not be exempt,
for example if none of their parent companies prepares consolidated financial statements
in accordance with IFRS. A typical example is that of an entity that is a subsidiary of a US
group that prepares consolidated financial statements in accordance with US GAAP only.
In addition, any entity that has publicly traded debt or equity, or is in the process of
obtaining a listing for such instruments, will not satisfy the criteria for exemption.
Many jurisdictions apply a national GAAP that is based on IFRS but requires some form
of endorsement process. The question then arises as to whether the exemption in (d)
above can be applied when the ultimate or intermediate parent entity produces financial
statements available for public use that comply with a national GAAP that is based on
IFRS. In our view, the exemption in (d) can be applied if the parent entity:
• reported under a national GAAP that is identical to IFRS in all respects;
• applied the national GAAP equivalent of IFRS 1 – First-time Adoption of
International Financial Reporting Standards – when the entity adopted that
national GAAP;
• made an explicit and unreserved statement of compliance with that national GAAP
in its most recent financial statements; and
• could have made an explicit and unreserved statement of compliance with IFRS in
those financial statements.
The effect of the above requirements is that a reporting entity that has associates or
joint ventures, but no subsidiaries, and does not meet all the criteria in (a)-(d) above, is
required to apply equity accounting for its associates or joint ventures in its own (non-
consolidated) financial statements (not to be confused with its ‘separate financial
statements’ – see 9 below).
5.3
Investments in associates or joint ventures held by venture
capital organisations and similar organisations
When an investment in an associate or a joint venture is held by, or is held indirectly
through, an entity that is a venture capital organisation, a mutual fund, unit trust or
similar entity including an investment-linked insurance fund, the entity may elect to
measure investments in those associates and joint ventures at fair value through profit
or loss in accordance with IFRS 9 – Financial Instruments. [IAS 28.18].
This exemption is related to the fact that fair value measurement provides more useful
information for users of the financial statements than application of the equity method.
In the Basis for Conclusions to IAS 28, the IASB clarified that this is an exemption from
the requirement to measure interests in joint ventures and associates using the equity
method, rather than an exception to the scope of IAS 28 for the accounting for joint
ventures and associates held by these entities. [IAS 28.BC12, BC13].
This exemption raises the question of exactly which entities comprise ‘venture capital
organisations, or mutual funds, unit trusts and similar entities including investment-
linked insurance funds’, since they are not defined in IAS 28. This was a deliberate
decision by the IASB given the difficulty of crafting a definition. [IAS 28.BC12].
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Although IFRS 10 does not have an exemption from consolidation for ‘venture capital
organisations, or mutual funds, unit trusts and similar entities including investment-
linked insurance funds’, it does have a scope exclusion for entities that meet the
definition of an investment entity as discussed at 5.3.1 below.
5.3.1
Investment entities exception
IFRS 10 requires entities that meet the definition of an investment entity to measure
investments in subsidiaries at fair value through profit or loss in accordance with IFRS 9.
The investment entities exception is discussed further in Chapter 6 at 10.
The application of the investment entity exception is not an accounting policy choice.
If an entity meets the definition of an investment entity, it is required to measure its
subsidiaries at fair value through profit or loss. In order to meet this definition, an
investment entity must elect the exemption from applying the equity method in IAS 28
for its investments in associates and joint ventures. [IFRS 10.B85L(b)].
As discussed further at 7.8 below, if an entity that is not itself an investment entity has an
interest in an associate or joint venture that is an investment entity, the investor may retain
the fair value measurement applied by that investment entity associate or joint venture to
the investment entity associate’s or joint venture’s interests in subsidiaries. [IAS 28.36A].
5.3.2
Application of IFRS 9 to exempt investments in associates or joint
ventures
The reason that IAS 28 allows venture capital organisations, mutual funds, unit trusts
and similar entities to measure investments in associates and joint ventures at fair value
is because such entities often manage their investments on the basis of fair values and
so the application of IFRS 9 produces more relevant information. Furthermore, the
financial statements would be less useful if changes in the level of ownership in an
investment resulted in frequent changes in the method of accounting for the investment.
Where investments are measured at fair value, the fair value is determined in
accordance with IFRS 13 – Fair Value Measurement (see Chapter 14 at 5.1).
5.3.2.A
Entities with a mix of activities
The exemption clearly applies to venture capital organisations and other similar financial
institutions whose main activities consist of managing an investment portfolio comprising
investments unrelated to the i
nvestor’s business. Although the exemption is not intended
to apply to other entities that hold investments in a number of associates, there are cases
in which entities have significant venture capital activities as well as significant other
activities. In those cases, IAS 28 allows an entity to elect to measure the portion of an
investment which is held indirectly through a venture capital organisation at fair value
through profit or loss in accordance with IFRS 9. This is the case regardless of whether the
venture capital organisation has significant influence over that portion of the investment.
If an entity makes this election, it must apply equity accounting to the remaining portion
of the investment not held through the venture capital organisation. [IAS 28.19].
The entity should be able to demonstrate that it runs a venture capital business rather
than merely undertaking, on an ad hoc basis, transactions that a venture capital business
would undertake.
Investments in associates and joint ventures 759
Example 11.1: Entity owning a discrete venture capital organisation
Parent P operates a construction business and owns a venture capital organisation (subsidiary V) that invests
in the telecommunications industry. Even though P itself is not a venture capital organisation, subsidiary V
would be able to apply the exemption and account for its investments at fair value under IFRS 9. In the
consolidated financial statements of P, the investments held by V could also be accounted for at fair value
under IFRS 9, with changes in fair value recognised in profit or loss in the period of change.
Example 11.2: Entity with a venture capital organisation segment
Bank A has a number of separate activities. One segment’s business is to partner with third-party investors
to acquire all the shares of companies with high growth potential. The business segment also defines a clear
exit strategy when it will dispose of its investment. Bank A’s portion of the shares as a co-investor provides
it with significant influence, but not control.
Bank A considers these activities to be in the nature of venture capital. Even though Bank A is itself not a
venture capital organisation, it would be able to apply the exemption and account for its investments at fair
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 149
