IFRS 10 provides that 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.
The Three Elements of Control
The Standard provides that an investor controls an investee if, and only if, the investor has all of the following elements:
- power over the investee;
- exposure, or rights, to variable returns from its involvement with the investee; and
- the ability to use its power over the investee to affect the amount of the investor's returns.
What Is Meant by "Power" Over the Investee?
The Standard provides that an investor has power over an investee when the investor has existing rights that give it the current ability to direct the relevant activities, that is, the activities that significantly affect the investee's returns.
What Is Meant by Exposure to Variable Returns?
The Standard provides that an investor is exposed, or has rights, to variable returns from its involvement with the investee when the investor's returns from its involvement have the potential to vary as a result of the investee's performance, and such returns can be only positive, only negative, or both.
Why Must All Three Elements Be Present Together?
The Standard clarifies that having only one or two of the three elements is not sufficient to establish control. A party might hold voting rights that give it influence but without the actual ability to direct the relevant activities, or it might be exposed to variable returns (as a non-controlling interest holder) without holding power to direct those activities. Consolidation therefore requires all three elements to be present together.
Illustrative Example
Suppose an entity holds 55% of the voting ordinary shares of another entity, and this holding gives it the current ability to direct the other entity's significant operating and financial decisions (the power element); it benefits from dividend distributions and bears the risk of changes in the value of its investment (the exposure-to-variable-returns element); and its operating decisions directly affect the amount of those returns (the ability-to-affect-returns element). In this case, all three elements are present together, and the first entity controls the second and is required to consolidate its financial statements with it. This is a purely illustrative example with an assumed ownership percentage.
What If Control Is Shared Between More Than One Party?
The Standard clarifies that sole control differs from joint control: when directing the relevant activities requires the cooperation of more than one investor, such that no single investor can direct them alone, none of those investors individually controls the investee in the sense that would require full consolidation under this Standard. Instead, each investor's interest is accounted for differently depending on the nature of the arrangement, such as a joint arrangement or an investment in an associate. Determining whether a single party holds all three elements of control alone, or whether control is shared among more than one party, is therefore the critical first step before deciding on the appropriate accounting treatment for the investment. An entity should therefore reassess its conclusion on control whenever the facts or circumstances surrounding its relationship with the investee change, rather than relying on a single assessment made only at the time of the initial investment.
Legal References
- IFRS 10 — Consolidated Financial Statements — Paragraphs 6, 7, 8, 10 and 15.
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