CPQ1.4 Question and Guidance for students
Clarke and Dean (1993) state that:
“In supporting a mandatory legislative requirement to prepare consolidated accounts, some of the judiciary and members of the accounting profession have claimed the operations of the group are best reflected as a single economic or business unit by consolidated accounting data. That is promoted to be the substance of the transactions… Yet, … the “group” of companies is neither a separate legal entity in law, or (usually) reasonably identifiable as either a separate business or economic unit…. In reality, consolidated financial statements are the product of relying on the form rather than the substance”.
Critically evaluate the above quotation. As part of your answer refer to the definition of control in AASB 10 and consider facts or evidence that a group (as defined in AASB 10 /IFRS 10) represents an economic or business unit.
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There a number of propositions used to arrive at the assertion that CFS are the product of relying on the form rather than the substance of a group.
The group is defined by AASB 10 as a parent together with subsidiary (or subsidiaries) and a parent as an entity that controls another entity. The concept of control in AASB 10 is based on power over the investee and an ability to use that power to affect returns. Underlying this is the concept of economic entity which can include a group of companies under common management and control.
Consider that this was written in 1993, before the advent of “closed groups”. As noted in Van de Laan and Dean, tax consolidation has been in place in Australia since 2002. Closed Groups have been in available in Australia since about the same date. Hence the consolidated group is recognized in law.
Turning to the economics of corporate groups, the CEO of parent is normally paid a bonus based on a combination of metrics that normally include EPS (or RoA) where earnings is group earnings. Further in the absence of a “closed group” borrowings of one entity in the group can be guaranteed by one or more other entities in the group, effectively removing the separate legal entity status, at least for that loan or group of loans.
Turning to contracting with customers and suppliers, in law when we buy from Woolworths (WOW) we are transacting with one of the companies that make up the WOW Group. However, the WOW Rewards Card is linked to other companies that make up the WOW Group (e.g. Petrol, Liquor) and can perhaps be redeemed at other stores. Even though the companies are legally distinct, they are operated together in this and other ways.
In some groups there are important intragroup transactions. For example, within the VW group, some motors are used in many cars. These cars are manufactured by different companies (e.g. Skoda, VW) indicating that the operations are highly integrated.
Students might also consider applying for a job at say NAB. The employment contract will be with one of the companies that make up the group. Consider, does it matter which one? Would you notice this?
There are lots of other things you could discuss including web pages. Go to the WOW web page and note how it links to
• Insurance
• Mobile phones
• Credit cards
What does this indicate? Additional reference AASB 10 BC Par 29, 30
Control as the basis for consolidation
BC29 The Board’s objective in issuing IFRS 10 is to improve the usefulness of consolidated financial statements by developing a single basis for consolidation and robust guidance for applying that basis to situations where it has proved difficult to assess control in practice and divergence has evolved (see paragraphsBC2–BC4). The basis for consolidation is control and it is applied irrespective of the nature of the investee.
BC30 Almost all respondents to ED 10 supported control as the basis for consolidation.
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