The power to govern the financial and operating policies of a company in order to obtain benefits from its activities is control, which determines whether the entity should be included in a company group for the purposes of consolidation. The usual condition for the control of a company is majority ownership of its voting rights. However, even when a majority of voting rights is not held by an investor, the investor’s control over another entity may be evidenced by power:
- Over more than one half of the voting rights by virtue of an agreement with other investors;
- To govern the financial and operating policies of the other entity under a statute or an agreement;
- To appoint or remove the majority of the members of the entity’s board of directors; or
- To cast the majority of votes at a meeting of the board of directors.
| Consolidation – US GAAP vs. IFRS | |
| US GAAP | IFRS |
| Consolidation is based on the controlling financial interest of the reporting entity in nonvariable interest entities and variable interest entities (VIEs). | Consolidation is based on the reporting entity’s “power-to-direct”, where the investor has rights to variable returns from the investee and the ability to affect those returns through its power over the investee. |
A change of control occurs when the power to govern the financial and operating policies of a company is obtained by one or more other parties, which is generally evidenced by control of more than 50% of the company’s voting rights. Instead of being an event of default, a change of control may be deemed a “mandatory prepayment event”, requiring the loan to be repaid early.
A related party relationship is an individual having direct or indirect control, joint control or significant influence over a company, including key management personnel and their close family members. Generally, there are no special recognition or measurement requirements for related party transactions.