Consolidation under IFRS

The purpose of consolidated financial statements is to give a true and fair view of the net assets, financial position and profit of the set of entities included in the scope. They are prepared by treating the group as a single economic entity, distinct from the legal entities that make it up.

In practice, consolidating means working through four main stages:

• Define the scope: identify the entities to include and the level of control or influence exercised over each.
• Align and adjust: align accounting policies with the group framework, compute deferred taxes, translate foreign entities, deal with differences in reporting dates.
• Aggregate and eliminate: aggregate the adjusted accounts, then eliminate internal transactions (reciprocal receivables/payables, reciprocal income/expenses, internal profits).
• Allocate and present: split equity and profit between the group share and non-controlling interests (NCI, that is, the share of the minority shareholders of subsidiaries), then prepare the consolidated statements and the notes.

Under IFRS, consolidation relies mainly on IFRS 10 (control), IFRS 11 (partnerships, that is, joint control), IAS 28 (equity method for associates), IFRS 3 (business combinations, that is, acquisitions) and IAS 21 (translation of foreign currencies).

The three levels of relationship

• Exclusive control (IFRS 10): the cumulative combination of power, exposure to variable returns and the ability to use that power to affect those returns. A single definition applicable to majority-owned subsidiaries as well as structured entities.
• Joint control (IFRS 11): contractually agreed sharing of control, with decisions about the relevant activities requiring unanimous consent.
• Significant influence (IAS 28): the power to participate in decisions without control; presumed from 20% of voting rights (rebuttable presumption).

Percentage of control vs percentage of interest

• the % of control (voting rights) determines the nature of the relationship, and therefore the method;
• the % of interest (share in capital, accumulated along ownership chains) allocates equity and profit between the group share and non-controlling interests.

Control can exist with a low % of interest (a structured entity controlled without significant ownership): its assets and liabilities are consolidated in full, with almost all of the equity classified as non-controlling interests.

Entities to exclude

Under IFRS, exclusions are very restrictive: a controlled entity cannot be excluded solely on the grounds of severe, long-term restrictions on the transfer of funds. As long as control exists, the entity is consolidated.

France / IFRS divergence. Under French rules (ANC regulation 2020-01, the French accounting standards authority), there is a mandatory exclusion for severe, long-term restrictions, and optional exclusions (shares held for sale, negligible interest, information not obtainable without excessive cost or delay): grounds that are all absent under IFRS. IFRS 10 takes into account substantive potential voting rights, unlike the French framework, which by contrast applies a presumption of de facto control (more than 40% of voting rights over two financial years, with no other shareholder holding more), absent under IFRS. This sensitive point deserves to be documented entity by entity.

Full consolidation

For entities under exclusive control: recognition of all assets, liabilities, income and expenses, then separation of the non-controlling interests share. Internal transactions eliminated in full.

Equity method

For associates (IAS 28) and joint ventures under IFRS: the cost of the investment is replaced by the group's share in equity and profit. A "single-line" method in the balance sheet and the income statement.

Partnerships under IFRS 11

• Joint ventures: rights to the net assets → equity method;
• Joint operations: direct rights to the assets and obligations for the liabilities → recognition of the share of assets, liabilities, income and expenses.

France / IFRS divergence. The French framework does not distinguish joint ventures from joint operations: any entity under joint control is consolidated by proportionate consolidation. That method no longer exists for partnerships under IFRS since IFRS 11.

1. Alignment of accounting policies

Consolidated financial statements must be prepared using uniform policies for similar transactions, regardless of where the entities are located. When an entity locally applies a different policy, its accounts are adjusted to align with the group (useful lives and depreciation methods, purely tax-driven depreciation, pensions, inventories, leases, and so on). Uniformity prevails over keeping a local policy.

2. Deferred taxes

Balance-sheet approach: deferred taxes arise from temporary differences between carrying amount and tax base, including those generated by consolidation adjustments.

• Deferred tax liabilities: recognised in principle systematically (subject to limited exceptions);
• Deferred tax assets (deductible differences, tax losses): recognised only if their recovery is probable.

3. Translation of foreign entities

Translation rests on the functional currency (the primary economic environment). The move to the consolidated accounts takes place, where applicable, in two steps:

• from the local currency to the functional currency (if they differ): the historical rate method;
• from the functional currency to the presentation currency: the closing rate method (assets/liabilities at the closing rate, income/expenses at the average rate), with the translation difference taken to equity and not to profit or loss.

Exchange differences on a monetary item that forms part of the net investment in a foreign entity are also taken to equity. In a hyperinflationary economy, the accounts are restated under IAS 29 (financial reporting in hyperinflationary economies) before translation.

4. Reporting dates

The accounts of consolidated entities must in principle be drawn up at the same date as the consolidated financial statements. Failing that: interim accounts if the gap is significant, otherwise local accounts adjusted for significant transactions in the intervening period.

France / IFRS divergences. Pension obligations must be provisioned under IFRS (the projected unit credit method, actuarial gains and losses in OCI, other comprehensive income, outside profit or loss) against a benchmark method that is not mandatory in France; goodwill is not amortised but tested every year under IFRS, whereas in France it is amortised when its useful life is finite; capitalisation of borrowing costs is mandatory under IFRS. On the reporting-date gap, France sets an explicit threshold of three months; IFRS works on the basis of the "same" date with adjustments. On translation, by contrast, the principles remain very close to IAS 21.

Reciprocal transactions

Between two fully consolidated entities, receivables/payables and reciprocal income/expenses are eliminated in full; reciprocal off-balance-sheet commitments too. Entities accounted for under the equity method are not concerned by this line-by-line elimination. Points to watch: discounted bills not yet matured drawn within the group, and reciprocal receivables/payables in foreign currency (translation differences may remain, as the currency exposure can persist).

Internal profits

• internal margins on inventories: neutralised as long as the goods have not been sold outside;
• gains/losses on internal disposals of assets: eliminated, with adjustment of depreciation;
• intragroup dividends: eliminated (already included in the original consolidated profits);
• internal impairments and provisions: neutralised.

The elimination of internal profits generates deferred taxes. The amount eliminated depends on the method (in full between two fully consolidated entities; limited to the percentage under proportionate consolidation), subject to the principle of materiality.

First consolidation and goodwill

At the date control is obtained, the acquisition method (IFRS 3) is applied: determination of the cost of acquisition, identification and measurement of the identifiable assets and liabilities (including intangibles), then goodwill = the difference between the cost and the share in the fair value of the identifiable assets and liabilities. Measurement period: 12 months under IFRS.

Positive goodwill is not amortised under IFRS (impairment test at least annually); negative goodwill is recognised immediately in profit or loss.

Changes in percentage

• Increase without a change of control (buyout of minorities): a transaction between shareholders under IFRS, with no profit and no new goodwill;
• Step acquisition resulting in control: the previously held interest is remeasured at fair value, with the difference in profit or loss;
• Disposal without loss of control: a transaction between shareholders (difference in equity);
• Disposal resulting in loss of control: the retained interest is remeasured at fair value, with profit recognised on the whole of the previously held investment;
• Dilutions / accretions: treated as acquisitions or disposals of an interest.

France / IFRS divergences. Under IFRS: goodwill not amortised (tested), choice of partial / full goodwill, acquisition costs expensed, puts on minorities recognised as liabilities, remeasurement of the retained interest on loss of control, changes without loss of control in equity. In France: goodwill amortised if its useful life is finite (10 years by default if it cannot be reliably estimated), but not amortised and only tested every year if the life is indefinite; partial goodwill mandatory, acquisition costs included in cost, gain or loss only on the interest disposed of. These differences justify keeping separate track of the two frameworks during external-growth transactions.

• Assessment of control. Structured entities require an analysis in substance (power, exposure, link). Potential voting rights and contractual arrangements to be examined: one of the judgements most exposed to the risk of a scope error.
• Functional currency. Classifying an entity as autonomous / non-autonomous drives the whole translation; an error distorts the translated balance sheet and the translation difference.
• Completeness of intragroup transactions. Elimination differences often reflect cut-off gaps, exchange differences or omitted transactions. A reliable intragroup reconciliation is decisive.
• Purchase price allocation (PPA). Identifying and measuring intangibles, recognising deferred taxes and determining goodwill takes method and documentation, within the measurement period.
• Deferred taxes. Tracking temporary differences by entity, the probability of recovering deferred tax assets, deferred taxes arising from adjustments.
• Running France and IFRS in parallel. Goodwill, pensions, leases, financial instruments, business combinations: documented tracking of the differences is necessary for groups with two frameworks.

• Document the scope: a table justifying, for each entity, the level of control/influence, the % of control, the % of interest and the method.
• Formalise a group consolidation manual: accounting options, alignment methods, consolidation chart of accounts, closing rules.
• Structure the reporting packages and reporting: standardised packages, statements of reciprocal accounts, to make aggregation and reconciliations reliable.
• Trace each consolidation entry: adjustments, translations, eliminations, deferred taxes justified and reproducible (the basis of the auditors' review).
• Anticipate exceptional transactions: acquisitions of control, disposals, restructurings, scope changes, prepared ahead of the closing.

On the sensitive topics, namely the assessment of control, translation, PPA, the first preparation of IFRS accounts or de-risking a method in the eyes of the auditors, specialist support secures both the production and the validation of the accounts.