Chapter 7 — Determining the Primary Beneficiary
Chapter 7 — Determining the Primary Beneficiary
7.1 Introduction
ASC 810-10
25-38 A reporting entity shall
consolidate a VIE when that reporting entity has a variable
interest (or combination of variable interests) that
provides the reporting entity with a controlling financial
interest on the basis of the provisions in paragraphs
810-10-25-38A through 25-38J. The reporting entity that
consolidates a VIE is called the primary beneficiary of that
VIE.
25-38A A reporting entity with
a variable interest in a VIE shall assess whether the
reporting entity has a controlling financial interest in the
VIE and, thus, is the VIE’s primary beneficiary. This shall
include an assessment of the characteristics of the
reporting entity’s variable interest(s) and other
involvements (including involvement of related parties and
de facto agents), if any, in the VIE, as well as the
involvement of other variable interest holders. Paragraph
810-10-25-43 provides guidance on related parties and de
facto agents. Additionally, the assessment shall consider
the VIE’s purpose and design, including the risks that the
VIE was designed to create and pass through to its variable
interest holders. A reporting entity shall be deemed to have
a controlling financial interest in a VIE if it has both of
the following characteristics:
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The power to direct the activities of a VIE that most significantly impact the VIE’s economic performance
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The obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The quantitative approach described in the definitions of the terms expected losses, expected residual returns, and expected variability is not required and shall not be the sole determinant as to whether a reporting entity has these obligations or rights.
Only one reporting entity, if any, is expected to be identified as the primary beneficiary of a VIE. Although more than one reporting entity could have the characteristic in (b) of this paragraph, only one reporting entity if any, will have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance.
The primary beneficiary of a VIE is the party required to consolidate the VIE
(i.e., the party with a controlling financial
interest in the VIE). The analysis for identifying the primary
beneficiary is consistent for all VIEs. Specifically, ASC 810-10-25-38A requires the
reporting entity to perform a qualitative
assessment that focuses on whether the reporting entity has both of the following
characteristics of a controlling financial interest in a VIE:
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Power — The power to direct the activities that most significantly affect the VIE’s economic performance (see Section 7.2).
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Economics — The obligation to absorb losses or the right to receive benefits of the VIE that could potentially be significant to the VIE (see Section 7.3).
Throughout this Roadmap, we refer to these characteristics individually as the “power criterion” and the “economics criterion.” This chapter discusses the two characteristics as well as the related-party implications associated with the primary-beneficiary analysis. In addition, Appendix E contains implementation guidance from ASC 810-10-55, which provides sample cases illustrating evaluations of the primary beneficiary.
7.1.1 Requirement to Perform the VIE Primary-Beneficiary Assessment
A reporting entity must evaluate whether it is the primary beneficiary of a VIE
if (1) the legal entity (or reporting
entity) does not qualify for a consolidation scope exception or a scope
exception related to application of the VIE model (see Chapter 3), (2) it has a
variable interest in a legal entity
(see Chapter 4),
and (3) the legal entity is a VIE (see Chapter 5).
A reporting entity that does not have a variable interest in a VIE (e.g., the
entity’s only involvement in the VIE is limited to a fee arrangement that has
been determined not to be a variable interest) would never be the VIE’s primary
beneficiary. ASC 810-10-25-38A states, in part, “A reporting entity with a variable interest in a VIE shall assess whether the reporting entity has a controlling financial interest in the VIE and, thus, is the VIE’s primary beneficiary” (emphasis added). In addition, paragraph A42 in the Background Information and Basis for Conclusions of FASB Statement 167
states, in part:
[I]f an enterprise concludes that its
involvement in a variable interest entity does not represent a variable
interest, further analysis of whether the enterprise’s obligation to absorb
losses or its right to receive benefits could potentially be significant
would not be required because a party cannot be the primary beneficiary of
an entity if that party does not hold a variable interest in the
entity.
Further, the decision tree in ASC 810-10-05-6 instructs the reporting entity to
stop the consolidation analysis and consider other relevant GAAP if the
reporting entity does not have a variable interest in the VIE. See Chapter 4 for further
discussion of identifying variable interests.
In addition, if a legal entity is not a VIE, a reporting entity is not required
to evaluate whether it is the primary beneficiary of the legal entity under the
VIE model. Instead, the reporting entity may need to evaluate whether it should
consolidate the legal entity under the voting
interest entity model (see Appendix D). Although the consolidation
analysis under the VIE and voting interest entity models both focus on whether a
reporting entity has a controlling financial interest over the legal entity
being evaluated, the evaluations are not identical. See Table 1-1 in Section 1.4 for
differences between the voting interest entity model and the VIE model.
7.1.2 Multiple Primary Beneficiaries
It is inappropriate for more than one reporting entity to consolidate the same
VIE. However, each reporting entity holding an interest in a legal entity
independently determines (often on the basis of significant judgment) whether
the entity is a VIE and, if so, whether the reporting entity is the VIE’s
primary beneficiary. Therefore, if the reporting entities do not reach a
consistent conclusion, it is possible for more than one reporting entity to
conclude that it should consolidate the same legal entity.
Note that despite this principle, a reporting entity may not conclude that it should not consolidate a VIE solely because another reporting entity has concluded that it should consolidate the VIE. Each reporting entity must independently analyze its involvement with a legal entity, including whether the entity is a VIE and whether it should consolidate the VIE.
7.1.3 No Primary Beneficiary
The VIE primary-beneficiary assessment is not intended to result in more than
one primary beneficiary for a VIE, nor does it require that every VIE have a
primary beneficiary. There may be situations in which a reporting entity
determines that neither it nor any of the other interest holders are the VIE’s
primary beneficiary. This could occur under ASC 810-10-25-38D if, for example,
power is “shared among multiple unrelated parties such that no one party has the
power to direct the activities of a VIE that most significantly impact the VIE’s
economic performance.” See Section 7.2.7.1 for further discussion of shared power.
7.1.4 Application of the VIE Model When an Entity Is Not the Primary Beneficiary
A reporting entity that has a variable interest in a VIE but does not appear to
be the VIE’s primary beneficiary must still apply the VIE requirements because
the reporting entity must still disclose certain information about the VIE in
accordance with ASC 810-10-50-4. See Sections
11.2.1 and 11.2.3 for
further discussion of disclosure requirements for VIEs when a reporting entity
is not the primary beneficiary. Thus, even when it appears that an investor
would not be the primary beneficiary of a legal entity, the legal entity is
still within the scope of the VIE model unless it is determined that:
7.1.5 Initial Assessment and Reconsideration of the Primary Beneficiary of a VIE
The initial assessment of whether a reporting entity is the primary beneficiary
of a VIE should be performed on the date the reporting entity first becomes
involved with a VIE. The reporting entity must then continually reassess whether
it is the primary beneficiary of the VIE throughout the entire period the
reporting entity is involved with the VIE (i.e., not only at the end of each
reporting period). The requirement to perform a continual reassessment is
consistent with that for voting interest entities — see Appendix D). A reporting
entity may become involved with a VIE as of the date of its design or another
date (e.g., when the reporting entity initially became involved with a non-VIE
that later became a VIE because of a reconsideration event; see Chapter 9).
Although a continual assessment of the primary beneficiary is required, because
consolidation of a VIE is based on the party with the power to direct the
activities of the VIE that most significantly affect the VIE’s economic
performance and the obligation (right) to absorb losses (benefits) that could
potentially be significant to the VIE, it is unlikely that the
primary-beneficiary conclusion will change periodically in the absence of
specific transactions or events that have an impact on the controlling financial
interest in a VIE. Paragraph A19 in the Basis for Conclusions of FASB Statement
167 states:
On the basis of the amendments to the guidance
in [ASC 810-10-25-38] for determining the primary beneficiary of a variable
interest entity, the Board expected that the ongoing assessment of which
[reporting entity], if any, is the primary beneficiary would require less
effort and be less costly than the quantitative assessment of expected
losses and residual returns previously required by [the VIE model in ASC
810-10]. Furthermore, the Board expected that the amendments to [ASC
810-10-25-38] would reduce the frequency in which the [reporting entity]
with the controlling financial interest changes.
A change in the determination of whether a reporting entity has both of the characteristics of a controlling financial interest could occur as a result of any of the following events or circumstances:
- There is a change in the design of a VIE (e.g., a change in the governance structure or management of the VIE, a change in the activities or purpose of a VIE, or a change in the primary risks that the VIE was designed to create and pass through to variable interest holders).
- A VIE issues additional variable interests, retires existing variable interests, or modifies the terms of existing variable interests (e.g., a VIE modifies the terms of existing variable interests, and the modification affects the power of the variable interest holder to influence the activities of the VIE).
- There is a change in the counterparties to the variable interests of a VIE (e.g., a reporting entity acquires or disposes of variable interests in a VIE, and the acquired [disposed-of] interest, in conjunction with the reporting entity’s other involvement with the VIE, causes the reporting entity to gain [lose] the power to direct the activities that most significantly affect the VIE’s economic performance).
- A significant change in the anticipated economic performance of a VIE (e.g., as a result of losses significantly in excess of those originally expected for the VIE) or other events (including the commencement of new activities by a VIE) result in a change in the reporting entity that has the power to direct the activities that most significantly affect the VIE’s economic performance.
- Two or more variable interest holders become related parties under common control or are no longer considered related parties under common control, and such a related-party group has (had) both the power to direct the activities of the VIE and the obligation (right) to absorb losses (benefits) that could potentially be significant to the VIE, but neither related party individually possesses (possessed) both characteristics.
- A contingent event occurs that transfers the power to direct the activities of the entity that most significantly affect a VIE’s economic performance from one reporting entity to another reporting entity (see Section 7.2.9.2 for a discussion of contingencies in the power analysis).
- A troubled debt restructuring.
Note that a reporting entity’s analysis of whether the primary beneficiary of a VIE has changed should not be limited to the list of factors above. A reporting entity should consider all facts and circumstances when determining whether the primary beneficiary has changed. Paragraph A14 in the Basis for Conclusions of Statement 167 notes that the FASB believed that indicators (such as the ones listed above) could be important in the analysis of whether there has been a change in the primary beneficiary, but the Board did not want any such factors to limit a reporting entity’s analysis of whether the primary beneficiary has changed.
7.2 Power Criterion
ASC 810-10
25-38B A reporting entity must identify which activities most significantly impact the VIE’s economic performance and determine whether it has the power to direct those activities. A reporting entity’s ability to direct the activities of an entity when circumstances arise or events happen constitutes power if that ability relates to the activities that most significantly impact the economic performance of the VIE. A reporting entity does not have to exercise its power in order to have power to direct the activities of a VIE.
25-38F Although a reporting entity may be significantly involved with the design of a VIE, that involvement does not, in isolation, establish that reporting entity as the entity with the power to direct the activities that most significantly impact the economic performance of the VIE. However, that involvement may indicate that the reporting entity had the opportunity and the incentive to establish arrangements that result in the reporting entity being the variable interest holder with that power. For example, if a sponsor has an explicit or implicit financial responsibility to ensure that the VIE operates as designed, the sponsor may have established arrangements that result in the sponsor being the entity with the power to direct the activities that most significantly impact the economic performance of the VIE.
25-38G Consideration shall be given to situations in which a reporting entity’s economic interest in a VIE, including its obligation to absorb losses or its right to receive benefits, is disproportionately greater than its stated power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Although this factor is not intended to be determinative in identifying a primary beneficiary, the level of a reporting entity’s economic interest may be indicative of the amount of power that reporting entity holds.
7.2.1 General Framework
Although identification of the primary beneficiary requires an evaluation of both characteristics of a controlling financial interest in a VIE, the determination is often based on which variable interest holder satisfies the power criterion since generally more than one variable interest holder meets the economics criterion.
To determine whether it meets the power criterion, the reporting entity must
identify the activities that most significantly affect the VIE’s economic performance and
then determine which variable interest holder has the power to direct those activities.
The reporting entity would take the following steps to identify the party with the power
to direct the activities that most significantly affect the VIE’s economic performance:
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Step 1 — Evaluate the purpose and design of the VIE and the risks the VIE was designed to create and pass along to its variable interest holders. See Section 7.2.2.
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Step 2 — Identify the activities related to the risks identified in step 1 that most significantly affect the economic performance of the VIE. In certain situations in which multiple unrelated variable interest holders direct different activities, the reporting entity must determine which activity most significantly affects the VIE’s economic performance. The party that has the power to direct such activity will meet the power criterion. When making this determination, the reporting entity should consider the activity that results in the most economic variability for the VIE (e.g., expected losses and expected residual returns, which are discussed in Appendix C). See Section 7.2.3.
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Step 3 — Identify the party that makes the significant decisions or controls the activity or activities that most significantly affect the VIE’s economic performance. Consider whether any other parties have involvement in those decisions (shared power) or can remove the decision maker (kick-out rights). See Sections 7.2.4 through 7.2.7.
While a VIE often performs a variety of activities, the key to determining whether the
power criterion has been satisfied is identifying the activities that are the most
significant to the VIE’s economic performance.
7.2.2 Purpose and Design (Step 1)
The first step in identifying the party with the power to direct the activities
that most significantly affect the VIE’s economic
performance is to evaluate the purpose and design
of the VIE, including the risks and associated
variability that the VIE was designed to create
and pass through to its variable interest holders.
The reporting entity should understand how each
risk affects the VIE’s economic performance and
should identify the activities related to each
risk. The assessment should not be limited to the
activities that affect the returns to equity
holders and should not be performed on the basis
of a single point in time. Rather, the
power-criterion assessment should be based on the
entire life of the legal entity and all of the
legal entity’s assets that contribute to its
economic performance in the way the legal entity
was designed.
The examples in ASC 810-10-55-93 through 55-205 (see Appendix E) illustrate the performance of step 1. For
instance, in Case A (a commercial mortgage-backed securitization), the reporting entity
determines that the VIE is exposed to the credit risk associated with the possible default
by the borrowers. Ultimately, the VIE’s economic performance is most significantly
affected by the credit performance of the VIE’s underlying assets; accordingly, the
variable interest holder with the power to direct the activities related to managing the
VIE’s assets that are delinquent or in default is the primary beneficiary.
When evaluating the purpose and design of the VIE, the reporting entity should
consider how the VIE was marketed to investors, the entity’s governing documents, and any
other relevant agreements between the VIE and the parties involved with the VIE that could
affect its purpose and design.
7.2.3 Risks and Activities (Step 2)
Once a reporting entity has identified the risks the VIE was designed to
create and pass through to its variable interest holders, the reporting entity can
determine the activities that most significantly affect the economic performance of the
VIE. ASC 810-10 does not define “economic performance”; however, the assessment should
focus on which activities have the most significant impact on the variability that will be
absorbed by the variable interests in the VIE. This determination should be the same as
for the VIE analysis (see Section
5.3.1).
In evaluating which party makes the significant decisions or controls the activities that
have the most significant impact on the variability that will be absorbed by the variable
interest holders, a reporting entity would consider questions such as the following on the
basis of its facts and circumstances:
- How does each decision impact the risks that the VIE was designed to create and pass along to its variable interest holders?
- How does each decision affect the operating margins and cash flows of the VIE?
- What decisions increase or decrease the VIE’s revenues and expenses?
- How do decisions affect the overall fair value of the VIE?
- What is the nature of the VIE’s assets, and how could each decision affect the fair value of those assets?
Some VIEs may have very limited ongoing activities that significantly
affect the economic performance of the VIE. For example, in certain securitization
structures, the only significant activity is the management of troubled assets. Other
entities, such as operating entities, may conduct a wide range of activities. Activities
may even include those that have not yet occurred (e.g., the activity will be performed
when certain circumstances arise or certain events happen) as long as they will
significantly affect the economic performance of the VIE.
In a speech at the 2019 AICPA Conference on Current SEC and
PCAOB Developments, SEC Professional Accounting Fellow Aaron Shaw discussed how to assess
the power to direct the most significant activities in conjunction with the appropriate
identification of the VIE’s purpose and design, as well as the risks and the most
significant activities that affect the VIE’s economic performance.
Mr. Shaw provided examples related to the determination of the primary
beneficiary in circumstances in which a VIE had multiple activities that affected the
legal entity’s economic performance. One example involved a scenario in which the
registrant was the lessee of the VIE’s only asset — a single property. The lease term
covered substantially all of the property’s economic life, and under the lease, the
registrant was required to operate and maintain the property, which included significant
structural maintenance during the lease term. At the end of the lease term, the VIE had
the right to sell the property. The VIE’s primary purpose was to provide investors with a
return on their investment derived from the lease payments and the sale of the property at
the end of the lease term. The registrant concluded that although it had multiple variable
interests in the VIE, it did not have power over the activities that most significantly
affected the VIE’s economic performance.
In response to the registrant’s conclusion, Mr. Shaw noted that in light
of the VIE’s purpose and design as well as the risks that the VIE was created to pass
along to its variable interest holders, “the risks that caused variability included: lease
negotiation risk, lessee credit risk, residual value risk, and operation and maintenance
risk.” He stressed that each activity does not necessarily have the same relative weight
in a consolidation analysis. For example, the lease term represented substantially all of
the property’s economic life. Consequently, lease negotiation risk was not determined to
be the most significant risk. In addition, Mr. Shaw explained that “[a]ctivities related
to lessee credit risk were not the VIE’s most significant activities because the
registrant’s financial condition and the property’s strategic importance mitigated credit
risk.”
The SEC staff observed that the activities related to residual value
risk and to operation and maintenance risk were the most significant activities because
the decisions related to these risks would most significantly affect the VIE’s economic
performance. The registrant held the power to direct the decisions related to the
property’s operation and maintenance during the lease term that would most significantly
affect the VIE’s economic performance. Consequently, the staff objected to the
registrant’s conclusion that the registrant did not have power over the activities that
most significantly affected the VIE’s economic performance.
The remarks made by Mr. Shaw illustrate the importance of (1)
appropriately identifying the risks the VIE was designed to create and pass through to its
variable interest holders and (2) determining the activities that most significantly
affect the economic performance of the VIE.
7.2.3.1 Risks With No Activities
Reporting entities should consider all risks in assessing whether the power criterion has been met. However, the VIE may be exposed to risks that do not have direct activities related to them, as illustrated in Case E and Case F in ASC 810-10-55-147 through 55-171. In those examples, prepayment is one of the risks the VIE was designed to create and pass through, but since there are no variable interest holders that have the power to direct activities related to the risk, it is not considered in the primary-beneficiary analysis.
7.2.3.2 No Ongoing Activities
In limited situations, the ongoing activities performed throughout the life of a
VIE (e.g., administrative activities in certain resecuritization entities, such as
Re-REMICs) may not be expected to significantly affect the VIE’s economic performance
even though they are necessary for the VIE’s continued existence. In such situations,
the primary-beneficiary determination will need to focus on the activities performed and
the decisions made at the VIE’s inception as part of the VIE’s design, because in these
situations the initial design had the most significant impact on the economic
performance of the VIE. However, it would not be appropriate to determine the primary
beneficiary solely on the basis of decisions made at the VIE’s inception as part of the
VIE’s design when there are ongoing activities that will significantly affect the
economic performance of the VIE.
ASC 810-10-25-38F states that a reporting entity’s involvement in the design of a VIE “may indicate that the reporting entity had the opportunity and the incentive to establish arrangements that result in the reporting entity being the variable interest holder with . . . the power to direct the activities that most significantly impact [the VIE’s] economic performance.” However, ASC 810-10-25-38F also notes that a reporting entity’s involvement in the design does not, in itself, establish that reporting entity as the party with power. In many situations, several parties will be involved in the design of a VIE, and an analysis of the decisions made as part of the design would not be determinative, nor would it result in the identification of a primary beneficiary.
In addition, ASC 810-10-25-38G highlights the need for reporting entities to
consider situations in which a variable interest holder’s economic exposure is
disproportionately greater than its stated power to make decisions that affect the VIE’s
economic performance.
Thus, in situations in which (1) the ongoing activities of a VIE are not expected to significantly affect the VIE’s economic performance and (2) one reporting entity holds an economic interest that is so significant that the other interest holders, as a group, do not hold more than an insignificant amount of the fair value of the VIE’s interests (or those interests do not absorb more than an insignificant amount of the VIE’s variability1), it would generally be appropriate to conclude that the reporting entity with that significant economic interest made the decisions at the inception of the VIE or that the decisions were essentially made on the reporting entity’s behalf. Therefore, in such situations, it would be appropriate to conclude, after all facts and circumstances associated with the VIE have been considered, that the reporting entity has a controlling financial interest in the VIE. Conversely, if multiple parties were involved in the design of the VIE and hold a variable interest that is more than insignificant, no party would consolidate the VIE.
When performing this analysis, a reporting entity should evaluate whether, on
the basis of the purpose and design of the entity, it should consider the interests held
by its related parties. For example, if a reporting entity and an affiliate under common
control together absorb all but an insignificant amount of the variability in the VIE,
the reporting entity (or the reporting entity in the related-party group) may have a
controlling financial interest in the VIE. On the other hand, a related party’s interest
in a related-party relationship resulting from a de facto agency (e.g., a transfer
restriction as described in Section
8.2.3.4) may not warrant inclusion in this analysis after the purpose and
design of the entity and the nature of the related-party relationship have been
considered. In evaluating whether one party in a related-party group should be deemed to
have both of the characteristics of a controlling financial interest if the ongoing
activities of the VIE are not expected to significantly affect the VIE’s economic
performance, a reporting entity may consider the factors in ASC 810-10-25-44(a)–(d). The
purpose of this evaluation is not to determine whether consolidation of the VIE by one
of the related parties is required under the “most closely associated” guidance but
rather to assess whether these factors may be indicators that the substance of the
arrangement should result in the consolidation of the VIE by one of the related parties.
See Section 7.4.2.4 for
additional information on these factors.
The analysis described above should be performed on all rights available to the
reporting entity even if they are not exercised.
7.2.4 Which Party, if Any, Has the Power (Step 3) — General Considerations
Step 3 in the determination of which party has the power to direct the activities that most significantly affect the VIE’s economic performance is to identify the party that makes the significant decisions or controls the activities that most significantly affect the VIE’s economic performance. Questions to consider in this analysis include, but are not limited to, the following:
- Does any party hold the power unilaterally?
- Alternatively, do other parties also have relevant rights and responsibilities? For example:
- Is there another party that has to consent to every important decision (shared power)? See Section 7.2.7.1.
- Is there another party that can force the reporting entity to take certain actions?
- Is there another party that can replace the reporting entity without cause (kick-out rights) or liquidate the VIE without cause? See Section 7.2.10.
- Is there another party or other parties that direct the same activities but for a different portion of the VIE’s assets? See Section 7.2.7.2.
- Is the reporting entity’s right to exercise power currently available or contingent on the occurrence of some other event(s)? See Section 7.2.9.
As part of this analysis, it is important for the reporting entity to
distinguish between the ability to make significant decisions that are expected to be made
in the ordinary course of carrying out the VIE’s current business activities and the
ability to make decisions in exceptional circumstances or to veto or prevent certain
fundamental changes in the VIE’s design or activities. The latter are generally considered
protective rights, as discussed in ASC
810-10-25-38C, which do not give the reporting entity the power to direct the significant
activities of the VIE.
7.2.5 Decisions Made by a Board and Management (Step 3)
Assessing whether the power criterion has been met can be more complex when decisions are made by different parties and at different governance levels. For example, in some arrangements, a board of directors is established for the VIE; however, one of the investors may serve as the “managing member” or “managing partner” (referred to in this discussion simply as the “manager”) of the VIE. Because certain decisions will be made by the board of directors, and other decisions will be made by the manager, the first step is to determine whether the manager’s fee arrangement is a variable interest in the VIE. If the manager’s fee arrangement is not a variable interest, the manager is only providing management services as an agent on behalf of the equity investors. Consequently, the rights held by the manager would be attributed to the equity investors or the party on behalf of which the manager is required to act. See Section 4.4 for a discussion of evaluating decision-maker fees as variable interests.
If the manager is deemed to have a variable interest, then to determine which
party meets the power criterion, a reporting entity must understand which activities are
expected to most significantly affect the economic performance of the VIE and the level in
the VIE at which those activities are directed. Items to consider include determining the
level in the VIE at which the significant operating and capital decisions are made as well
as the level at which the operating and capital budgets are set, the level of detail
included in the budgets, the process of developing and approving the budget, implications
of the budget not getting approved, and other relevant facts.
If the significant operating and capital decisions are made by the board, a manager would not have the power to direct the activities of the VIE that most significantly affect the economic performance because that power would be held by the board, and the manager would effectively be serving as a service provider. Conversely, if a reporting entity concludes that the most significant activities of the VIE are directed at the manager level (and not at the board level), the board would not be considered to have the power to direct the activities that most significantly affect the economic performance of the VIE unless a single equity holder (or a related-party group of equity holders) controls representation on the board (i.e., has more than 50 percent representation on a board requiring a simple majority vote, thereby indirectly controlling the vote of the board), and the board has substantive rights to kick out the manager (see Sections 5.3.1.2.4 and 7.2.10.1).
The examples below illustrate the application of this concept. Assume in these
examples that the legal entities being evaluated are VIEs because they have an
insufficient amount of equity at risk.
Example 7-1
Investors A and B, two unrelated parties, are investors in Entity X, a manufacturing venture that has one facility. Investor A owns 60 percent of X, and B owns 40 percent of X. Both investors obtained their ownership in X by contributing cash in a ratio equal to their ownership percentages. The terms of the venture arrangement require B to purchase up to 10 percent of the product produced by X at cost-plus. The remainder of the product produced by X is sold to third parties at market rates. Investor B is the managing member of the entity.
Entity X’s articles of incorporation state the following about the governance and management of X:
- Entity X’s board of directors comprises 10 individuals — 5 selected by A and 5 selected by B.
- All significant operating and capital decisions regarding the operations of X, such as establishing operating and capital budgets, determining the pricing of the product produced by X, approving long-term customer contracts, and approving long-term supply contracts for raw materials, must be presented to the board and are determined by a simple majority vote.
- The managing member is responsible for ensuring that the day-to-day operations of X are executed in a manner consistent with the operating plan approved by the board and cannot deviate from the operating plan without approval from the board.
- The managing member reports to the board on a monthly basis.
- Investor B is paid a fixed annual fee for serving as managing member.
Profits and losses of X are split according to ownership percentage. The
cost-plus purchase arrangement between B and X represents a variable interest
because it is designed such that B reimburses X for all of the actual costs
incurred to produce the product B purchases. Therefore, B also absorbs
variability in X through the cost-plus pricing terms.
Operating risk (including sales volume risk, product price risk, raw materials price risk, and other operating cost risk) and capital decisions are identified as the risks that will have the most significant impact on X’s economic performance. On the basis of the facts presented, which indicate that the key decisions and activities related to operating risk are directed at the board level, it would be appropriate to conclude that power over X is shared. That is, A and B together, through the board of directors, have the power to direct the activities of X, and the voting structure of X essentially results in decisions requiring the consent of both A and B. Although B serves as the managing member of X, it does not have the power to direct the activities that most significantly affect X’s economic performance, since those decisions are made at the board level.
Example 7-2
Investors K and W, two unrelated parties, are investors in an energy venture, Entity X, an independent power producer with one power plant located in the southwestern United States. Investor K owns 60 percent of X, and W owns 40 percent of X. Both investors obtained their ownership in X by contributing cash in a ratio equal to their ownership percentages. The terms of the venture arrangement require W to purchase up to 20 percent of the power produced by X at cost-plus; however, the remainder of the power produced by X is sold to third parties at market rates.
Entity X’s articles of incorporation state the following about the governance
and management of X:
- Entity X’s board of directors comprises 10 individuals — 6 selected by K and 4 selected by W.
-
The following actions cannot be taken without a unanimous vote of the board:
-
Removal of the managing member.
-
Appointment of a replacement managing member.
-
Decisions to make calls for capital contributions.
-
Admission of new members.
-
Amendments to X’s articles of incorporation.
-
Capital expenditures in excess of $100 million. Entity X’s average annual capital expenditures are $20 million. It is not expected that X will have capital expenditures in excess of $100 million.
-
-
Investor W is the managing member and makes all significant operating and capital decisions regarding the operations of X, such as establishing operating and capital budgets, determining the pricing of the power produced by X, determining when to operate the power plant, hiring and firing employees, deciding how to manage environmental risk, and negotiating long-term supply contracts for commodities.
-
Investor W is paid a fixed annual fee plus 15 percent of the venture’s profits for serving as managing member.
-
Investor W reports to the board on an annual basis.
Profits and losses of X, after payment of W’s managing member fee, are split according to ownership percentage.
Investor W’s equity interest represents a variable interest, as does W’s
management fee in accordance with ASC
810-10-55-37(c) (because W’s other interests in X
absorb more than an insignificant amount of X’s
potential variability). In addition, the cost-plus
purchase arrangement between W and X represents a
variable interest, because the cost-plus
arrangement is designed such that W reimburses X
for all of the actual costs incurred to produce
the power that W purchases. Therefore, W also
absorbs variability in X through the cost-plus
pricing terms.
Operating risk (including commodity price risk and environmental risk) and capital decisions are identified as the risks that will have the most significant impact on X’s economic performance. On the basis of the facts presented, which indicate that the most significant decisions and activities related to operating risk are directed at the managing member level, W (the managing member) would be considered to have the power to direct the activities that most significantly affect X’s economic performance. On the basis of the facts and circumstances and the design of X, the rights of the board of directors represent protective rights under ASC 810-10-25-38C. The ability to remove the managing member does not affect the power analysis because no single reporting entity has the unilateral ability to remove W.
Note that if removal of W had been allowed by a simple majority vote of the board of directors, and the removal right had been substantive, K may have been the party with the power to direct the activities that most significantly affect the economic performance of X because K could unilaterally remove W through its majority vote on the board.
7.2.5A Scope of Decision-Making Authority (Step 3)
The scope of a decision maker’s activities is sometimes limited or
confined by an agreement, contract, or other means. In these circumstances, the reporting
entity must evaluate the substance of the arrangement and determine how the extent of the
constraints allow it to have (or prevent it from having) the power to direct the
activities that most significantly affect the VIE’s economic performance. In a
speech at the 2019 AICPA Conference on Current SEC and
PCAOB Developments, SEC Professional Accounting Fellow Aaron Shaw addressed this situation
and some related considerations. He noted the following:
The staff recently considered a consultation where a registrant
contributed its investable assets into a newly-formed limited partnership in exchange
for limited partnership interests. The limited partnership met the definition of a VIE
and the VIE’s primary purpose was to manage the investable assets pursuant to broad
investment guidelines. The registrant was significantly involved in establishing the
investment guidelines and had the contractual right to modify certain aspects of the
guidelines. A general partner, who held a variable interest in the VIE, had the
unilateral discretion to make investment decisions in accordance with the investment
guidelines. The registrant concluded the activity that most significantly impacted the
VIE’s economic performance was making investment decisions and that the registrant did
not have power over this activity.
The staff evaluated the investment guidelines to determine if the
registrant had power over investment decisions through its ability to modify certain
aspects of the investment guidelines or whether the general partner had power over the
investment decisions through its day-to-day management rights. The staff observed that
while the registrant could modify certain aspects of the guidelines, it did not have
the ability to significantly limit the general partner’s discretion over current and
future investment decisions. Rather, the guidelines were designed to provide the
general partner with significant discretion to make day-to-day investment decisions.
Accordingly, the staff did not object to the registrant’s conclusion that it did not
control the VIE’s most significant activity.
When identifying the party with the power to direct the activities that
most significantly affect the VIE’s economic performance, a reporting entity should
carefully consider whether there are constraints on decision-making activities and, if so,
determine the extent of them.
7.2.6 Decision-Making Activities by an Agent (Step 3)
In some situations, a decision maker may be acting as an agent on behalf of
other parties (see Section
4.4 regarding whether a decision-making arrangement is a variable interest).
Even if the decision maker is deemed to be acting as an agent (because it does not have a
variable interest), the reporting entity should evaluate the substance of the arrangement
to determine whether the decision maker is acting on behalf of another variable interest
holder that may have power, such as in the circumstances described in ASC 810-10-25-38G.
This situation and some related considerations were addressed by an SEC staff member,
Professional Accounting Fellow Chris Rogers, at the 2014 AICPA Conference on Current SEC
and PCAOB Developments. Mr. Rogers highlighted in prepared remarks that
the VIE consolidation analysis does not stop for the other variable interest holders if it
is determined that the fee paid to a decision maker is not a variable interest, because
another variable interest holder may be the principal with power. He stated:
For purposes of illustration, assume an entity forms an SPE to
securitize loans. The design and purpose of the SPE is to finance the entity’s loan
origination activities. The entity provides the investors in the SPE with a guarantee
protecting against all credit losses. The SPE hires a third party to service the loans
and to perform default mitigation activities. Assume the servicer cannot be removed
without the consent of investors and its fee is not a variable interest. In thinking
through this example, the staff believes that in certain cases it may be necessary to
continue the consolidation analysis when it is determined that a fee paid to a
decision maker is not a variable interest and further consider whether the substance
of the arrangement identifies a party other than the decision maker as the party with
power.
While this can require a great deal of judgment, additional scrutiny
may be necessary if a decision maker is acting as an agent and one variable interest
holder is absorbing all or essentially all of the variability that the VIE is designed
to create and pass along. In these situations, stated power may not be substantive,
and it may be appropriate to attribute the stated power of the decision maker acting
as an agent to the variable interest holder absorbing the variability of the VIE. It
is helpful to keep in mind that the level of a reporting entity’s economic interest in
a VIE may be indicative of the amount of power that the reporting entity holds. While
the VIE guidance states that this factor is not determinative in identifying the
primary beneficiary, the staff does believe that the level of a reporting entity’s
economics is an important consideration in the analysis and may be telling of whether
stated power is substantive. [Footnote omitted]
A reporting entity should carefully consider whether it has identified a
principal, especially if a decision maker is acting as an agent on behalf of one variable
interest holder that absorbs essentially all of the variability of the VIE.
The above speech was delivered before the issuance of ASU 2015-02. Although the
concepts are still relevant, ASU 2015-02 broadened the evaluation of whether a decision
maker is acting as an agent by permitting reporting entities to treat decision-maker fees
as significant and not as variable interests if (1) they are commensurate and at market
(see Sections 4.4 and
4.4.1) and (2) the decision
maker does not hold other interests in the VIE that would absorb more than an
insignificant amount of the VIE’s variability (see Section 4.4.2.1). We do not believe that the guidance
in this speech should generally apply when, for example, a decision maker receives fees
that significantly participate in the economic performance of the VIE or the
decision-maker fee is a variable interest (see Section 4.4). However, facts and circumstances should
be considered in the determination of whether it is appropriate for an investor to
consolidate if a decision maker does not have a variable interest.
7.2.7 Multiple Parties Involved in Decision Making (Step 3)
ASC 810-10
25-38D If a reporting entity determines that power is, in fact, shared among multiple unrelated parties such that no one party has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance, then no party is the primary beneficiary. Power is shared if two or more unrelated parties together have the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance and if decisions about those activities require the consent of each of the parties sharing power. If a reporting entity concludes that power is not shared but the activities that most significantly impact the VIE’s economic performance are directed by multiple unrelated parties and the nature of the activities that each party is directing is the same, then the party, if any, with the power over the majority of those activities shall be considered to have the characteristic in paragraph 810-10-25-38A(a).
25-38E If the activities that impact the VIE’s economic performance are directed by multiple unrelated parties, and the nature of the activities that each party is directing is not the same, then a reporting entity shall identify which party has the power to direct the activities that most significantly impact the VIE’s economic performance. One party will have this power, and that party shall be deemed to have the characteristic in paragraph 810-10-25-38A(a).
The flowchart below illustrates how the party with the power to direct the most
significant activities of the VIE is determined when multiple unrelated parties have power
over the significant activities.
In the above flowchart, the party that is deemed to have power over the activity or activities that most significantly affect the economic performance of the VIE would be considered the primary beneficiary of the VIE if that party has a variable interest and the obligation to absorb losses of, or the right to receive benefits from, the VIE that could potentially be significant to the VIE.
7.2.7.1 Shared Power
In situations in which multiple unrelated parties are involved in making the
decisions related to all the significant activities of a VIE and have shared power, a
reporting entity would perform the power-criterion analysis differently than it would if
the multiple unrelated parties had power over different activities. ASC 810-10-25-38D
states that if power is truly shared among multiple unrelated parties, and no single
party has the power to direct the activities that most significantly affect the VIE’s
economic performance, there is no primary beneficiary unless a related-party
relationship (including de facto
agents) exists between the parties that share power. See Section 7.4.2.2 (related-party
considerations associated with shared power) and Section 8.2 (identifying related parties and de
facto agents). However, if multiple unrelated parties are responsible for different
significant activities, power is not shared, and one entity will be the primary
beneficiary (see Section
7.2.7.2).
The threshold for concluding that power is shared is high. Such a conclusion can
only be reached if all decisions that significantly affect the VIE’s economic
performance require consent of the parties with shared power. Specifically, all of the
significant decisions must require consent.
In certain situations in which the consent of
multiple parties is required for decisions, the
governing documents may contain processes for
resolving disagreements (e.g., deadlock
provisions). It is important to consider whether
any party is able to unilaterally break the
deadlock in case of disagreement, for example by
exercising a veto that results in final approval.
In such instances, power will not be considered
shared since this ability effectively allows that
party to direct the VIE’s activity.
Example 7-3
Companies DD, RS, and BC form Entity MM to operate a marketing agency in New York and Los Angeles. Each company contributed cash in exchange for a 30 percent, 30 percent, and 40 percent equity interest, respectively, upon formation. The companies have no variable interests in MM other than their equity interests. Profits and losses are allocated and distributed among the equity holders in accordance with each equity holder’s respective ownership interest. Entity MM is a VIE because of insufficient equity investment at risk.
Each company appoints one board member to the board of directors. The board
hires a management company (PC) to run the day-to-day operations of MM, but
all significant decisions, including approval of the operating budget, must
be approved by a majority vote of the board.
In this example, the investors do not have shared power because all of MM’s
significant decisions require the consent of any combination of DD, RS, and
BC. That is, the decisions about the significant activities do not require
the consent of each of the parties. In addition, no party meets the power
criterion, because no party has a majority of the voting interests.
Even if DD, RS, and BC were related parties (or de facto agents), control would
still not be considered shared. Accordingly, they would not perform the
related-party tiebreaker test, and a primary beneficiary would therefore not
exist (see Section
7.4.2.2).
Example 7-4
Assume the same facts as in the example above, except that all significant
decisions must be approved by all members of the
board of directors (rather than a majority of them). In this case, power
would be considered shared because all significant decisions require the
consent of the directors of all of the investors that are unrelated. Entity
MM will not have a primary beneficiary because a single party does not have
the power to direct the activities that most significantly affect MM’s
economic performance.
However, if Companies DD, RS, and BC were related parties (or de facto agents),
one party would be identified as the primary beneficiary since the
related-party group collectively has power, and shared power cannot exist in
a related-party group. The party that consolidates will be the party that is
most closely associated with MM, on the basis of the related-party
tiebreaker test (see Section 7.4.2.4).
7.2.7.2 Multiple Parties Performing the Same or Different Significant Activities
ASC 810-10-25-38E specifies that if multiple unrelated parties are responsible for different significant activities, and the decisions related to those activities do not require the consent of each party, a reporting entity with a variable interest must determine whether it has the power to direct the activities that have the most significant impact on the economic performance of the entity. One party must be identified as having power in these situations. Paragraph A56 of the Basis for Conclusions of Statement 167 states the FASB’s belief that “as the number of activities of an entity increases, it will be more likely that one decision maker (or governing body) will exist or that decisions about those activities would require the consent of the [reporting entities] involved with the entity.”
Although ASC 810-10-25-38E specifically
discusses unrelated parties, we believe that it
also applies in the evaluation of whether a
reporting entity, in a related-party group (in
which multiple related parties are responsible for
different significant activities, and the
decisions related to those activities do not
require the consent of each party), individually
has the power to direct the activities that have
the most significant impact on the economic
performance of the entity. A reporting entity in a
related-party group first evaluates whether it has
individually met both the power criterion
(Section
7.2) and the economics criterion
(Section
7.3). See Section 7.4 for related-party
considerations regarding the primary-beneficiary
assessment.
Example 7-5
Assume the same facts as in Example 7-3,
except that Company DD performs all activities related to the creative
process, Company RS performs all activities related to the customer
accounts, and Company BC performs all activities related to the operating
and financing decisions. The decisions that require approval by the board of
directors are those outside the ordinary course of business (e.g., admitting
new investors). All other decisions are made by the respective investors
responsible for the processes.
In this example, since multiple unrelated parties are responsible for different
activities, and the decisions related to these activities do not require the
consent of the other parties, one party will be the primary beneficiary
because power is not shared. Determining which activity is the most
significant to the economic performance of Entity MM is necessary because
the party that controls that activity will be the primary beneficiary.
If the facts in this example were to change such that each party were still
responsible for different activities but all significant decisions regarding
those activities still required unanimous consent of the board of directors,
then power is shared and there would be no primary beneficiary.
When multiple unrelated parties are responsible for the same significant
activity or activities that most significantly affect the economic performance of
different portions of the VIE, and consent is not required, a party with power over the
majority of the significant activity or activities (if such party exists) has power over
the VIE. In other words, to consolidate a VIE under the VIE model, the reporting entity
must have more “relative power” over the activities that most significantly affect the
VIE’s economic performance. The determination of which party has power over the majority
of the significant activities will require judgment and an evaluation of all facts and
circumstances.
Example 7-6
Investors JX, CL, and OP are unrelated parties and together form Company SOA to operate charters in the northwest. Each investor contributed cash in exchange for a 60 percent, 20 percent, and 20 percent equity interest, respectively, upon formation. The investors do not have any variable interests in SOA other than their equity interests. Profits and losses are allocated and distributed among the equity holders on the basis of each equity holder’s respective ownership interest. SOA is a VIE because of insufficient equity investment at risk.
Company SOA has 10 charters that are similar in size and profitability. Investor
JX is responsible for managing six charters, OP is responsible for managing
three charters, and CL is responsible for managing the founding charter,
with each charter representing approximately 10 percent of the total
operations of SOA. Each charter has certain matters that require a vote of
the respective charter’s members at the board table; however, these
decisions are considered protective (e.g., opening a new line of
business).
Since each party performs and directs the same activities (i.e., managing
independent charters) without requiring consent of the other parties, the
party with power over the majority of the significant activities has power
over SOA. In this example, JX would be the primary beneficiary because it
has power over six charters that represent a majority of the operations of
SOA. The primary-beneficiary determination can be challenging when it is
unclear whether one party has power over a majority of the activities, and
all facts and circumstances should be carefully considered.
In situations in which two parties perform the same activities, it may be
difficult to determine which party has power over a majority of the activities when it
appears that both parties equally have power over 50 percent of the activities.
Generally, unless the risks related to each party are identical (which is unlikely), one
of the two parties must consolidate. However, as the number of parties directing the
same activities increases, so does the likelihood that one single party will not have
the power over a majority of the activities.
All types of power should be considered in the analysis of which party has the power to direct the activities that most significantly affect the economic performance of the VIE. In some cases, a party with multiple types of power may determine, when those powers are aggregated, that it is able to direct the activities that most significantly affect the economic performance of the VIE. This may occur in situations in which the parties involved with an entity have power over different significant activities and portions of the same significant activities. In these cases, a reporting entity must perform a detailed analysis (as illustrated in the examples in ASC 810-10-55-182 through 55-198) to determine whether its power over certain significant activities, along with its power over portions of other significant activities, identify it as having the power to direct the activities of the VIE that most significantly affect the VIE’s economic performance. For example, if Party A controls an activity that is deemed to significantly affect the economic performance of a VIE and Party B controls four activities, none of which individually affect the economic performance of the VIE as significantly as the activity directed by Party A, but that in the aggregate more significantly affect the economic performance of the VIE, Party B would have the power to direct the activities that most significantly affect the economic performance of the VIE.
In all the situations described above, to be considered the primary beneficiary,
the party that has power must also have the obligation to absorb losses of the VIE or
the right to receive benefits from the VIE that could potentially be significant to the
VIE (see Section 7.3).
7.2.7.3 Some Unilateral Decisions and Some Decisions Requiring Consent
In certain situations, one party may unilaterally have power over one decision
but another significant decision may require the consent of more than one party. For
shared power to exist, all decisions regarding significant activities must require joint
or unanimous consent. This view is consistent with that expressed in Chris Rogers’s
speech at the 2014 AICPA Conference on Current SEC and PCAOB
Developments. Mr. Rogers cited an example in which an entity that is owned equally by
two unrelated parties has three significant activities. One entity unilaterally controls
one activity, and the other two activities require joint consent by both parties. He
stated:
In this example, while certain significant activities do require
joint consent, it does not appear that shared power as described in Topic 810
exists. For shared power to exist, the guidance seems to suggest that all decisions
related to the significant activities of the VIE require the consent of each party
sharing power. When decisions related to a significant activity do not require joint
consent, the staff has struggled to find a basis in the accounting literature to
support that shared power can in fact exist. This is the case even when it is
determined that the significant activities that require joint consent more
significantly impact the economic performance of the entity than the significant
activities that do not. In situations when shared power does not exist but multiple
parties are directing different significant activities, the guidance provides that
one party will meet the power criterion in the primary beneficiary assessment. The
staff believes an extension of this principle suggests that the party with more
power, relative to others, over the significant activities of the VIE should
consolidate. In my example, a party’s shared decision making rights over certain
significant activities along with its unilateral decision making rights over the
remaining significant activity seems to provide that party with a greater ability to
impact the economic performance of the VIE compared to the other owner and therefore
it should consolidate the VIE. [Footnotes omitted]
Mr. Rogers highlighted the importance of performing the first step in a primary-beneficiary determination (i.e., determining which activities most significantly affect the VIE’s economic performance). In his example, all three activities were determined to be the activities that most significantly affected the VIE’s economic performance. He also noted that the conclusion in his example would be affected if a determination were made that the unilateral activity was not a significant activity, resulting in shared power over the two significant activities.
See Section 7.2.7.2 for a discussion of multiple
parties that perform the same or different significant activities.
7.2.8 Substance of Power in Common-Control Groups (Step 3)
One party in a related-party group may appear to exhibit both characteristics of a controlling financial interest in ASC 810-10-25-38A. However, a closer evaluation of the substance of the party’s stated power and economic exposure is often necessary when a single party controls some or all parties in the related-party group, since that controlling party may have the ability to assign power or exposure to economics to a particular party to achieve a preferred consolidation result. A reporting entity should carefully consider the substance of the terms, transactions, and arrangements between the related parties and the parent company when evaluating whether substance (rather than the contractual form) indicates that one party in the related-party group should be deemed to have both of the characteristics of a controlling financial interest. The reporting entity should consider all relevant facts and circumstances in performing such an assessment.
At the 2014 AICPA Conference on Current SEC and PCAOB Developments, Chris Rogers addressed the concept of nonsubstantive power in common-control scenarios. He cautioned that although care should be taken in the identification of nonsubstantive power in common-control scenarios, related parties under common control do not always need to be evaluated under the related-party tiebreaker guidance:
The staff has received several questions recently regarding whether the related party tie-breaker guidance always must be considered when determining which party in a common control group is the primary beneficiary of a VIE. While common control arrangements do require careful consideration to determine if stated power is in fact substantive, the staff does not believe there is a requirement to consider the related party tie-breaker guidance or that that guidance is necessarily determinative unless no party in the common control group individually meets both characteristics of a primary beneficiary. [Footnotes omitted]
In evaluating whether one party in a related-party group under common control should be deemed to have both of the characteristics of a controlling financial interest, a reporting entity may consider the factors in ASC 810-10-25-44(a)–(d). The purpose of considering these factors is not to determine whether consolidation of the VIE by one of the related parties under common control is required under the “most closely associated” guidance but rather whether these factors may be indicators that the substance of the arrangement should result in the consolidation of the VIE by one of the related parties.
For example, a legal entity may be designed so that the relationship and significance of its activities are related to one of the related parties in a common-control group and substantially all of the activities involve or are conducted on behalf of that same related party, but the stated power arrangement indicates that another party in the related-party group has power over the activities that most significantly affect the legal entity’s economic performance. In such a scenario, the stated power may not be substantive.
See Section 7.4.2.4
for guidance on determining which party in a related-party group is most closely
associated with a VIE.
7.2.9 Future Rights and Contingencies (Step 3)
7.2.9.1 Forward Starting Rights
Forward starting rights (such as call options and put options conveyed pursuant to contracts in existence as of the balance sheet date) are often central to the design of a VIE and therefore should not be disregarded in the primary-beneficiary analysis. While the existence of such rights, in isolation, may not be determinative in the identification of the party with power over the activities that are most significant to a VIE’s economic performance, such rights often help a reporting entity understand the purpose and design of a legal entity and therefore may be useful in the primary-beneficiary determination.
Economic performance is a concept that involves the anticipated performance of
the VIE over its remaining life. Accordingly, assessing power over the activities that
most significantly affect a VIE’s economic performance requires a consideration of all
contractual rights and obligations during the VIE’s remaining life, including those that
are currently exercisable (such as a currently exercisable call option) and those that
will arise in the future (e.g., a call option or a residual value guarantee on a leased
asset at the end of the lease term) pursuant to contracts in existence on the evaluation
date. Relevant considerations in both situations (i.e., currently exercisable rights and
forward starting rights) may include the pricing of the feature (e.g., fixed exercise
price or fair value exercise price and whether the option is in the money as of the
evaluation date) and other business factors (e.g., whether a reporting entity holds a
call option on an asset that is critical to its business operations).
Significant decisions often
must be made over time about the strategic direction of traditional operating entities,
and forward starting rights may, in the future, shift the power over
the strategic direction of those same activities from one variable interest holder to
another (e.g., call options exercisable on a future date or other forward starting
contracts). Decisions must also routinely be made about capital and resource deployment
(or redeployment) because an operating entity is not always tied to a particular asset
or business strategy. Consequently, significant power over current and future economic
performance may be vested in the hands of the party with the substantive ability to make
unilateral decisions about strategic or operating activities before the exercise or
consummation of forward starting rights. That is, we believe that the VIE model is based
on the notion of current power (i.e., which variable interest holder has the current
power over significant activities) and generally should not take into account call
options exercisable on a future date or other forward starting rights that transfer
power in the future. Typically, call options or forward starting rights do not give a
variable interest holder a controlling financial interest in a traditional operating
entity before the transfer of power. For example, as a result of its forward commitment
to purchase the equity interests of a VIE that will provide control as of the closing
date or at a point in time in the future after closing, a reporting entity generally
would not have a controlling financial interest (and therefore would not apply
acquisition accounting under ASC 805) until power transfers. However, all facts and
circumstances should be considered, including whether a call option has a de minimis
exercise price and substantively represents a kick-out right. A business combination
(and a deconsolidation by the party transferring power) should not occur until the
reporting entity obtains a controlling financial interest as of the date the forward
starting right is exercised and there has been an effective transfer of power.
This concept applies to both (1) VIEs with a limited range of activities that are intended to operate over a finite life (e.g., single-lessee leasing entities) and (2) traditional operating entities that are VIEs and do not have a finite life. A finite life could be stipulated in the formation documents that establish the VIE or could be implied through the expected useful life of the asset or assets residing in the VIE. Although forward starting rights should be considered in the primary-beneficiary analysis of both types of VIEs, such rights (depending on their terms and the design of the entity) are more likely to have a meaningful impact on the analysis of VIEs whose life or range of activities is limited. The narrower scope of the significant activities of a VIE whose life or range of activities is limited is more likely to be considered in the VIE’s initial design.
Example 7-7
Entity A and Entity B each own 50 percent of the equity in Entity C, an operating entity. Entity A holds a future call right on B’s interest in C. However, B has the substantive ability to make strategically significant unilateral decisions until its interest is bought out. In this example, A’s future call right may not change the power analysis under ASC 810-10-25-38A. However, all facts and circumstances would need to be considered, including the pricing of the call option and other business factors.
Example 7-8
Entity A is created and financed to purchase a single property to be leased to Entity B for five years under an operating lease. Entity B must provide a first-loss residual value guarantee for the expected future value of the leased property at the end of the lease term and has a fixed-price purchase option to acquire the leased property at the end of the lease term. In accordance with its design, A will not buy or sell any other assets (i.e., A is a single-asset leasing entity). In this example, A was designed to provide B with the risks and rewards of ownership of the leased asset. Even though the purchase option is not exercisable until the end of the lease term, it is central to the design of A and would be considered in the primary-beneficiary analysis.
7.2.9.2 Contingencies
Future power can also be conveyed to a variable interest holder only upon the
occurrence of a contingent event. Questions have arisen about whether such a variable
interest holder can be the primary beneficiary of the VIE before the occurrence of that
contingent event. When a party can direct activities only upon the occurrence of a
contingent event, the determination of which party has power will require an assessment
of whether the contingent event results in a change in power
(i.e., power shifts from one party to another upon the occurrence of a contingent event)
over the most significant activities of the VIE (in addition, the contingent event may
change what the most significant activities of the VIE are) or whether the contingent
event initiates the most significant activities of the VIE
(i.e., the VIE’s most significant activities only occur when the contingent event
happens). The former situation is illustrated in Example 7-9, the latter in Examples 7-10 and 7-11.
The determination of whether the contingent event results in a change in power over or initiates the most significant activities of the VIE will be based on a number of factors, including:
- The nature of the activities of the VIE and its design.
- The significance of the activities and decisions that must be made before the occurrence of the contingent event compared with the significance of the activities and decisions that must be made once the contingent event occurs. If both sets of activities and decisions are significant to the economic performance of the VIE, the contingent event results in a change in power over the most significant activities of the VIE. However, if the activities and decisions before the contingent event are not significant to the economic performance of the VIE, the contingent event initiates the most significant activities of the VIE.
If a reporting entity concludes that the contingent event initiates the most significant activities of the VIE, all of the activities of the VIE (including the activities that occur after the contingent event) would be included in the evaluation of whether the reporting entity has the power to direct the activities that most significantly affect the VIE’s economic performance. In such instances, the party that directs the activities initiated by the contingent event would be the reporting entity with the power to direct the activities that most significantly affect the economic performance of the VIE.
If a reporting entity concludes that the contingent event results in a change in power over the most significant activities of the VIE,
the reporting entity must evaluate whether the contingency is substantive. This
assessment should focus on the entire life of the VIE. Some factors that a reporting
entity may consider in assessing whether the contingent event is substantive include:
-
The nature of the activities of the VIE and its design.
-
The terms of the contracts the VIE has entered into with the variable interest holders.
-
The variable interest holders’ expectations regarding power at inception of the arrangement and throughout the life of the VIE.
-
Whether the contingent event is outside the control of the variable interest holders of the VIE.
-
The likelihood that the contingent event will occur (or not occur) in the future. This should include, but not be limited to, consideration of past history of whether a similar contingent event in similar arrangements has occurred.
If the contingent event is substantive, then the analysis of which party has power would not take into account decisions that would be made after the contingency is resolved until the contingency is actually resolved.
Further, assumptions about which activities will most significantly affect the
economic performance of a VIE may change as the primary-beneficiary determination is
continually reassessed. Any new assumptions should be considered upon such
primary-beneficiary reconsiderations. Finally, a business combination or change in
control would generally be considered a contingent event that results in a change in
power over a VIE because the occurrence of those events represents a substantive
contingency.
Example 7-9
Entity Heisenberg is formed by two investors (WW and JP) to develop and
manufacture a new drug in New Mexico. Assume that Heisenberg is a VIE and
that each investor holds a variable interest in Heisenberg. Investor WW has
power over the research and development activities associated with the drug
(stage 1) as well as obtaining FDA approval and those activities most
significantly affect Heisenberg’s economic performance during that stage.
Investor JP has the power over the manufacturing process, distribution, and
marketing of the drug (as well as protecting its patented formula) if and
when FDA approval is obtained (stage 2), and those activities would most
significantly affect Heisenberg’s economic performance during that stage. In
determining which investor has the power to direct the activities that most
significantly affect the economic performance of Heisenberg, each investor
should assess whether the contingent event (FDA approval) results in a change in power over the most significant activities
of Heisenberg (in addition, the contingent event may change what the most
significant activities of Heisenberg are) or whether the contingent event initiates the most significant activities of
Heisenberg.
Entity Heisenberg was designed such that there are two distinct stages during its life, and the variable interest holders expect that the second stage will only begin upon FDA approval. Also, the activities and decisions before and after FDA approval are significant to the economic performance of Heisenberg (in this example, they are different activities directed by different parties). In addition, the variable interest holders conclude that there is substantial uncertainty about whether FDA approval will be obtained and that the approval is outside their control. For these reasons, in the absence of evidence to the contrary, FDA approval would be considered a substantive contingent event that results in a change in power from WW to JP. Therefore, the primary-beneficiary determination should focus on stage 1 activities until the contingent event occurs, and WW (the investor that has power over the research and development activities) would initially have the power to direct the most significant activities of Heisenberg. If FDA approval is obtained, the primary-beneficiary determination would focus on stage 2 activities, and JP (the variable interest holder that has the power over the manufacturing process, distribution, and marketing of the drug) would have the power to direct the most significant activities of Heisenberg.
Example 7-10
Entity C, a VIE, is formed by Companies A and B to construct a power plant over the next three years. Entity C will subsequently operate the power plant throughout its useful life. Companies A and B have experience successfully constructing power plants with similar proven technology. Power over all construction decisions is shared by A and B, and A will unilaterally direct all of the significant activities after construction. Both of these actions are deemed to significantly affect the economic performance of C.
Further, it was concluded that the decisions made after construction most significantly affect the economic performance of C.
In this example, although there are two phases (i.e., construction and
operation), on the basis of historical experience, entry into the operation
phase upon completion of the power plant is not a substantive contingent
event. Therefore, the decisions made during construction and operations
would be considered in the determination of which party meets the power
criterion. Since decisions related to operations most significantly affect
C’s economic performance and A unilaterally controls the operations of C, A
would be deemed to have the power over the most significant activities.
By contrast, if C was intended to be built with unproven technology and was required to obtain significant regulatory approvals, and its ability to obtain those approvals was uncertain, the completion of construction could be considered a substantive contingent event. In that case, the initial power analysis would focus on the decisions during the construction phase.
Example 7-11
A VIE is created and financed with fixed-rate bonds and equity. All of the bonds are held by third-party investors. The VIE uses the proceeds to purchase commercial mortgage loans. The equity is held by a third party, which is also the special servicer. The transferor of the loans retains the primary servicing responsibilities. The primary servicing activities performed are administrative and include collection of payments on the loans and remittance to the interest holders, administration of escrow accounts, and collections of insurance claims. Upon delinquency or default by a borrower of a commercial mortgage loan, the responsibility for administration of the loan is transferred from the transferor (in this case, the primary servicer) to the special servicer. Furthermore, the special servicer, as the equity holder, has the approval rights for budgets, leases, and property managers of foreclosed properties. The special servicer concludes that the design of the VIE and the VIE’s governing documents allow the special servicer to adequately monitor and direct the performance of the underlying loans when necessary.
In this situation, the contingent event (delinquency or default by a borrower)
initiates the activities that most significantly
affect the economic performance of the VIE (i.e., the management of the
VIE’s assets that are delinquent or in default). The activities and
decisions made before delinquency or default by a borrower (the primary
servicing responsibilities) are not significant to the economic performance
of the VIE. Although the special servicing activities are performed only
upon delinquency or default of the underlying assets, the special servicing
activities are expected to most significantly affect the economic
performance of the VIE and therefore the special servicer meets the power
criterion. A reporting entity that has the power to
direct the most significant activities of a VIE does not have to exercise that power.
7.2.10 Kick-Out Rights and Participating Rights
ASC 810-10
25-38C A reporting entity’s determination of whether it has the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance shall not be affected by the existence of kick-out rights or participating rights unless a single reporting entity (including its related parties and de facto agents) has the unilateral ability to exercise those kick-out rights or participating rights. A single reporting entity (including its related parties and de facto agents) that has the unilateral ability to exercise kick-out rights or participating rights may be the party with the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance. These requirements related to kick-out rights and participating rights are limited to this particular analysis and are not applicable to transactions accounted for under other authoritative guidance. Protective rights held by other parties do not preclude a reporting entity from having the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance.
Kick-out rights can affect the power criterion and should be considered in the
primary-beneficiary assessment only if the rights are held by a single party (and its
related parties and de facto agents), can be exercised without cause, and are substantive.
If these conditions are met, then the holder of the kick-out rights may be the party that
meets the power criterion since it can remove the decision maker, managing member, or
variable interest holder responsible for making the most significant decisions.
The ASC master glossary defines a kick-out right
for a VIE as the “ability to remove the entity
with the power to direct the activities of a VIE
that most significantly impact the VIE’s economic
performance or to dissolve (liquidate) the VIE
without cause.” See Sections 7.2.10.1 through
7.2.10.3 for further discussion of
kick-out rights.
Participating rights can also affect the
power criterion and should be considered in the analysis, but as described in Section 7.2.10.4, they will have a
different impact on the power analysis than kick-out rights. The ASC master glossary
defines participating rights as the “ability to block or participate in the actions
through which an entity exercises the power to direct the activities of a VIE that most
significantly impact the VIE’s economic performance. Participating rights do not require
the holders of such rights to have the ability to initiate actions.”
7.2.10.1 Substantive Kick-Out Rights
For kick-out rights to be substantive, there cannot be any significant barriers to their exercise. Although it is in the general section of ASC 810-10, the guidance in ASC 810-10-25-14A notes that barriers to the exercise of kick-out rights include the following:
- Kick-out rights subject to conditions that make it unlikely they will be exercisable, for example, conditions that narrowly limit the timing of the exercise
- Financial penalties or operational barriers associated with dissolving (liquidating) the limited partnership or replacing the general partners that would act as a significant disincentive for dissolution (liquidation) or removal
- The absence of an adequate number of qualified replacement general partners or the lack of adequate compensation to attract a qualified replacement
- The absence of an explicit, reasonable mechanism in the limited partnership’s governing documents or in the applicable laws or regulations, by which the limited partners holding the rights can call for and conduct a vote to exercise those rights
- The inability of the limited partners holding the rights to obtain the information necessary to exercise them.
A reporting entity should consider all relevant facts and circumstances —
including the effect of related parties and de
facto agents, which can be complex and difficult
to understand — in determining whether kick-out
rights are substantive. However, in the absence of
a significant barrier to exercise, a kick-out
right holder’s intent to not exercise that right
does not preclude the kick-out right from being
substantive.
7.2.10.2 Board of Directors Typically Is Not a Single Party
Because ASC 810-10-25-38C specifically states that kick-out rights can only be considered if they are held by a single party, questions have been raised about whether a board of directors could be considered a single party in the primary-beneficiary assessment. Typically, the board of directors is merely an extension of the reporting entity’s equity holders. A board is usually established to act solely in a fiduciary capacity for the equity holders and generally consists of more than one individual. The kick-out rights held by the board are essentially the kick-out rights shared by the equity holders who elected the board. Therefore, the board should not be considered a single party, and the kick-out rights held by the board should not be considered in the determination of whether a reporting entity is a VIE’s primary beneficiary. Similarly, a shell entity that serves as the feeder for the investments of multiple limited partners generally cannot be considered a single entity.
However, in certain situations, a single equity holder (or a related-party group of equity holders) may control representation on the board of directors (i.e., has more than 50 percent representation on a board requiring a simple majority vote, thereby indirectly controlling the board’s vote). In these situations, a kick-out right held by the board of directors, if substantive, may be considered a unilateral right of a single party.
Even though a board of directors generally may not be viewed as a single party
in the determination of whether a single party
holds a kick-out right, when the board has the
ability to remove a decision maker, managing
member, or other party that makes decisions, the
board will often actually possess the power over
the most significant activities. That is, the
decision maker, managing member, or other party
will be restricted from unilaterally controlling
the most significant decisions by the governance
at the board or shareholder level. See Section
7.2.5 for a discussion of how to
determine whether the most significant activities
are directed at the board level or at the manager
level.
7.2.10.3 Withdrawal and Liquidation Rights
Liquidation rights are considered equivalent to kick-out rights and should be evaluated in a manner similar to kick-out rights in the determination of whether a party meets the power criterion. In paragraph BC49 of ASU 2015-02, the FASB explains that it “decided that liquidation rights should be considered equivalent to kick-out rights [because they] provide the holders of such rights with the ability to dissolve the entity and, thus, effectively remove the decision maker’s authority.”
Paragraph BC49 further indicates that the Board considered, but rejected, requiring reporting entities to evaluate liquidation rights in a manner similar to kick-out rights on the basis of the guidance in Statement 167 before ASU 2015-02. Such an evaluation would be performed “only when it is reasonable that upon liquidation, the investors will receive substantially all of the specific assets under management and can find a replacement manager with sufficient skills to manage those assets.” The Board stated that it “ultimately rejected this view because the outcome for the decision maker is the same regardless of whether the holders of those rights have the ability to obtain the specific assets from the entity upon liquidation or identify an alternative manager [because if] the holders exercise their substantive liquidation rights, similar to kick-out rights, the decision maker’s abilities would be removed.”
Therefore, any liquidation right should be considered a kick-out right and would affect the determination of the primary beneficiary and whether an entity is a VIE if the right (1) is substantive and (2) gives a single reporting entity (including its related parties and de facto agents) the unilateral ability to liquidate an entity. Paragraph BC49 also indicates that “[b]arriers to exercise may be different when considering kick-out rights as compared with barriers for liquidation rights and should be evaluated appropriately when assessing whether the rights are substantive.”
It is important to distinguish liquidation rights from withdrawal rights since
ASC 810-10-25-14B indicates that a reporting entity’s unilateral right to withdraw from
an entity that does not require dissolution or liquidation of the entire legal entity
“would not be deemed a kick-out right.” A reporting entity should make this distinction
on the basis of the specific facts and circumstances. A withdrawal right represents a
liquidation right only if its exercise would result in the liquidation (or dissolution)
of the entire entity. This may be the case when an entity has only a single investor, or
an entity’s formation documents require the dissolution of the entity upon exercise of
the withdrawal right (e.g., the exercise of the withdrawal right may result in a decline
in the amount of the entity’s remaining assets to a level that triggers dissolution, and
the dissolution cannot be prevented). Withdrawal rights that do not require the
dissolution or liquidation of the entire entity do not represent liquidation rights and
therefore should not be considered kick-out rights.2 Furthermore, when the exercise of a withdrawal right does require the dissolution
or liquidation of the entire entity, the right should only affect the determination of
the primary beneficiary if the right (1) is substantive and (2) gives a single reporting
entity (including its related parties and de facto agents) the unilateral ability to
liquidate a legal entity.
Special consideration is also necessary when a liquidation right (or a withdrawal right that represents a liquidation right) is exercisable in the future. In these situations, the right should be evaluated in the same manner as other forward starting rights. See Section 7.2.9.1 for a discussion of forward starting rights in a primary-beneficiary assessment. A reporting entity will need to use judgment to distinguish between forward starting liquidation rights that are not subject to a contingency (i.e., rights that are exercisable simply upon the passage of time) and forward starting liquidation rights whose exercise in the future depends upon the occurrence or nonoccurrence of a specified future event. The latter situation is discussed in Section 7.2.9.2.
7.2.10.4 Participating Rights
In a manner similar to kick-out rights, participating rights are only considered
in the primary-beneficiary assessment if the participating rights are held by a single
party (and its related parties and de facto agents) and are substantive. The VIE
definition of participating rights is different from the voting interest entity
definition. (See Table 1-1
in Section 1.4 for
differences between the voting interest entity model and the VIE model.)
ASC 810-10 — Glossary
Participating Rights (VIE Definition)
The ability to block or participate in the actions through which an entity exercises the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance. Participating rights do not require the holders of such rights to have the ability to initiate actions.
To be deemed substantive, a participating right must allow the holder to block
or participate in all of the activities that most significantly
affect the VIE’s economic performance. That is, a participating right will not be
substantive if a VIE has three significant activities and the holder can only block
decisions related to one of the three significant activities. Participating rights are
contrasted with protective rights, which are designed to protect the interests of a
party holding those rights (see Section 2.7 for the VIE definition of protective rights).
If deemed substantive and unilaterally exercisable, the participating right
prevents another party from having power. However, unlike kick-out rights, a
participating right does not convey power to the holder of the substantive participating
right because it only allows the holder to block or participate in decisions as opposed
to make decisions.
For entities other than limited partnerships, the evaluation of participating
rights in the primary-beneficiary assessment is consistent with the evaluation of
participating rights in the determination of whether the equity holders have power in
the VIE assessment. In other words, for entities other than limited partnerships, the
VIE definition of participating rights is used for both the VIE and the
primary-beneficiary assessment. However, for limited partnerships, the VIE definition is
used for the primary-beneficiary assessment whereas the voting interest entity
definition is used for determining whether the equity holders have power in the VIE
assessment. See Section
5.3.1.1.3.5 for a discussion of the effect of substantive participating
rights on the VIE assessment under the VIE definition of participating rights for
entities other than partnerships. See Section 5.3.1.2.7 for a discussion of the effect of substantive
participating rights on the VIE assessment for limited partnerships.
Footnotes
1
Since the focus is placed on variability, a party with a small overall ownership percentage in a VIE could be exposed to a significant amount of the VIE’s variability (e.g., the holder of a residual interest when there is a large amount of senior interests). Similarly, a party with a large overall ownership percentage in a VIE may not be exposed to a significant amount of the VIE’s variability (e.g., if the party holds senior interests in a VIE whose capitalization also includes substantive subordinated and residual interests).
2
As stated in ASC 810-10-25-14B, “[t]he requirement to dissolve or
liquidate the entire limited partnership upon the withdrawal of a limited partner or
partners shall not be required to be contractual for a withdrawal right to be
considered as a potential kick-out right.” Therefore, a reporting entity must
determine, on the basis of the facts and circumstances, whether the practical result
of the withdrawal will be the required dissolution of the partnership (e.g., the
partnership has only one limited partner and the general partner has a nominal
interest) or its liquidation.
7.3 Economics Criterion
7.3.1 General Framework
To satisfy the economics criterion in the analysis of the primary beneficiary of
a VIE, the variable interest holder must have the
obligation to absorb losses of the VIE, or the
right to receive benefits from the VIE, that could
potentially be significant to the VIE. This
analysis is different from determining whether an
equity investment is “at risk,” which includes
only equity investments in the legal entity that
participate significantly in both profits and
losses. Said simply, the variable interest holder
must have an exposure to the economics (benefits
or losses) of the VIE that is more than
insignificant.
ASC 810-10-25-38A(b) states that the reporting entity need not perform a
quantitative analysis related to expected losses, expected residual returns, or expected variability in evaluating whether the economics
criterion has been met and that, in fact, the results of such an analysis should not be
the sole determinant. In addition, the FASB deliberately omitted bright-line tests from
the guidance because it believed that the assessment should focus on qualitative factors.
Paragraph BC56 of ASU 2015-02 states, in part:
This is a qualitative assessment based on all facts and circumstances and the purpose and design of the VIE. At the time Statement 167 was issued, the Board did not want to provide bright-line guidance related to this assessment. Paragraph A41 of the basis for conclusions in Statement 167 states the following:
The Board . . . decided not to provide additional guidance on whether an
enterprise’s obligation to absorb losses or its right to receive benefits could
potentially be significant to the variable interest entity. The Board emphasized
that determining whether an enterprise has the obligation to absorb losses or the
right to receive benefits that could potentially be significant to a variable
interest entity would require judgment and consideration of all facts and
circumstances about the terms and characteristics of the variable interest(s), the
design and characteristics of the variable interest entity, and the other
involvements of the enterprise with the variable interest entity. . . . However,
the Board decided not to provide an analysis of how an enterprise concluded
whether it had the obligation to absorb losses or the right to receive benefits
that could potentially be significant to the variable interest entity. The Board
believes that any such analysis would inevitably serve as the establishment of
“bright lines” that would be used in practice as the sole factor when determining
whether such obligations or rights could potentially be significant to a variable
interest entity.
In some limited cases, a reporting entity can conclude that a quantitatively significant interest does not meet the economics criterion on the basis of qualitative factors and an overall consideration of the reporting entity’s quantitative and qualitative assessments. While it may be appropriate in some circumstances, such a conclusion should be carefully considered since paragraph A39 in the Basis for Conclusions of Statement 167 states that “obligations or rights that could potentially be significant often identify the enterprise that explicitly or implicitly has the power to direct the activities that most significantly impact the economic performance of a [VIE].”
A reporting entity may also conclude qualitatively that an interest meets the
economics criterion without performing any
detailed quantitative calculations. For example,
if a decision maker holds 100 percent of the
residual interest in an entity (and the residual
interest is substantive), the reporting entity may
conclude that it does not need to perform a
quantitative test (i.e., the reporting entity
could qualitatively conclude, on the basis of
specific facts and circumstances, that holding all
of a substantive residual interest would result in
the reporting entity’s absorption [receipt] of
more than an insignificant amount of the entity’s
losses [benefits]).
A consideration of qualitative factors in conjunction with quantitative factors is consistent with remarks made by the SEC staff at the 2009 AICPA Conference on Current SEC and PCAOB Developments. The SEC staff noted that assessing significance requires reasonable judgment and should be based on the total mix of information, including both quantitative and qualitative factors. An SEC staff member, Professional Accounting Fellow Arie Wilgenberg, gave the following examples of qualitative factors that could be considered:
- The purpose and design of the entity. What risks was the entity designed to create and pass on to its variable interest holders?
- A second factor may be the terms and characteristics of your financial interest. While the probability of certain events occurring would generally not factor into an analysis of whether a financial interest could potentially be significant, the terms and characteristics of the financial interest (including the level of seniority of the interest), would be a factor to consider.
- A third factor might be the enterprise’s business purpose for holding the financial interest. For example, a trading-desk employee might purchase a financial interest in a structure solely for short-term trading purposes well after the date on which the enterprise first became involved with the structure. In this instance, the decision making associated with managing the structure is independent of the short-term investment decision. This seems different from an example in which a sponsor transfers financial assets into a structure, sells off various tranches, but retains a residual interest in the structure.
The above list of qualitative factors is not exhaustive. When determining
whether the economics criterion has been met, a reporting entity should consider both
qualitative and quantitative factors and perform the following steps:
-
Step 1 — The reporting entity should consider the risks that the VIE was designed to create and pass through to its variable interest holders and identify any loss or benefit scenarios that could arise for the VIE from those risks. In performing this step, the reporting entity should not consider probability; rather, the reporting entity should focus on identifying all scenarios that are consistent with the VIE’s design.
-
Step 2 — For each scenario identified in step 1, the reporting entity should evaluate the extent to which its interest would absorb losses of the VIE or receive benefits from the VIE. A reporting entity would generally meet the economics criterion if it concluded that the amount of losses its interest would absorb, or the amount of benefits its interest would receive, in any of the identified scenarios would be significant relative to the VIE’s performance in those scenarios, even if the level of losses incurred or benefits generated by the VIE in the scenarios are not quantitatively significant to the VIE.
Example 7-12
Entity A is designed to hold a diverse portfolio of high-credit-quality, short-term bonds. To mitigate credit risk, A obtains a financial guarantee (from Reporting Entity B) designed to absorb any credit losses on the bond portfolio. The financial guarantee is a variable interest in A and is provided by a single reporting entity. Entity A is financed with debt securities that receive a pass-through of the interest earned on the underlying bond portfolio less any fees paid to the financial guarantor. The debt securities issued by A are widely dispersed.
To evaluate whether B meets the economics criterion, it would first consider the risks that A was designed to create and pass through to its variable interest holders (credit risk in this example) and identify any scenarios that would generate losses or benefits for A on the basis of those risks. Even if the absolute amount of losses or benefits that arise in A is expected to be insignificant to A, B would absorb a significant amount of the losses or benefits of A in any of those scenarios and would generally meet the economics criterion.
7.3.2 Probability Not Considered
When determining whether it meets the economics criterion, a reporting entity
should not consider probability. Therefore, even a
remote possibility that a reporting entity could
absorb losses or receive benefits that could be
significant to the VIE would typically cause the
reporting entity to meet the economics criterion.
However, in general, the more remote this
possibility is, presumably the less likely it will
be that the risks or rewards are related to the
risks the VIE was designed to create and pass
along to its variable interest holders. In other
words, in the determination of whether the
economics criterion has been met, it is important
not to put undue emphasis on a “potential” risk
that is not one of the significant risks the VIE
was designed to create and pass along to its
interest holders.
Example 7-13
Entity X is the general partner of XYZ Partnership, a limited partnership whose purpose is to acquire real estate properties to lease to individuals. Entity X’s general partner interest is nominal, and it does not have any limited partner interests. As the general partner, Entity X is required under partnership law to assume the general liability risks associated with the partnership. In addition, as general partner, X makes all the significant decisions related to the real estate assets.
Although X is subject to the general liability risks of the partnership, those risks may not be relevant to the purpose and design of the VIE and therefore should be considered carefully in the determination of whether the economics criterion has been met. For example, the risk that someone slips and falls may be the responsibility of the general partner. However, the probability of that event’s occurrence is remote and, since the purpose and design of the partnership was not to pass along such risks to the variable interest holders, X should not focus on that risk in determining whether the economics criterion has been met.
Given the requirement to consider all possible scenarios regardless of the likelihood of their occurrence, a reporting entity will generally not need to perform a detailed quantitative calculation to determine whether a variable interest represents a potentially significant interest. That is, the determination can generally be made on the basis of the design of the VIE and the contractual terms of the reporting entity’s variable interest(s).
Note that determining whether the economics criterion has been met is different
from analyzing how other interests affect whether
a fee is a variable interest under ASC
810-10-55-37(c). Specifically, the consideration
of the probabilities of various outcomes is
important in the determination of whether a
decision-maker or service-provider fee is a
variable interest. While the “significant”
threshold is used in both assessments, the
evaluation of a decision maker’s economic exposure
under ASC 810-10-25-38A(b) focuses on whether the
reporting entity’s economic exposure could be more
than insignificant. Therefore, unless the
condition in ASC 810-10-55-37(c) is not met solely
as a result of an indirect interest held by the
decision maker in an entity under common control
that would not be considered significant if
assessed on a proportionate basis (see Section
7.3.5.1), it would be unusual for the
decision maker to not meet the economics
criterion.
7.3.3 Definition of “Insignificant”
Although the FASB does not define “insignificant” in ASC 810-10, paragraph A75 of the Basis for Conclusions of Statement 167 states that the FASB used the term “insignificant” instead of “more than trivial” because the latter has been interpreted in practice to mean a very small amount (i.e., anything other than zero) and “no evaluation of the facts and circumstances related to the interest or the [reporting entity’s] involvement with the [VIE] is considered when making this determination.”
As a general guideline, the economics criterion would be met if the losses or
returns absorbed through the reporting entity’s variable interests in the VIE exceed,
either individually or in the aggregate, 10 percent of the losses or returns of the VIE
under any scenario (see Section
7.3.2). However, 10 percent should not be viewed as a bright-line or safe
harbor definition of “insignificant.” That is, as a result of facts and circumstances, a
reporting entity may conclude that the economics condition is met even if the losses or
returns absorbed by the reporting entity’s interests in the VIE are less than 10 percent.
For example, a reporting entity that is the decision maker may hold 9 percent of the
equity interests in a VIE, but the VIE’s governing documents may specifically require the
decision maker to hold that much equity to possess the power to direct the activities that
most significantly affect the VIE’s economic performance (i.e., the investors demanded the
decision maker have an economic principal investment that is aligned with their
interests). That qualitative factor may indicate that the 9 percent interest is
potentially significant.
These considerations will require the application of professional judgment and an assessment of the nature of the reporting entity’s involvement with the VIE.
7.3.4 Decision-Maker and Service-Provider Fees
ASC 810-10
25-38H For purposes of evaluating the characteristic in paragraph 810-10-25-38A(b), fees paid to a reporting entity (other than those included in arrangements that expose a reporting entity to risk of loss as described in paragraph 810-10-25-38J) that meet both of the following conditions shall be excluded:
- The fees are compensation for services provided and are commensurate with the level of effort required to provide those services.
- The service arrangement includes only terms, conditions, or amounts that are customarily present in arrangements for similar services negotiated at arm’s length.
25-38I Facts and circumstances shall be considered when assessing the conditions in paragraph 810-10-25-38H. An arrangement that is designed in a manner such that the fee is inconsistent with the reporting entity’s role or the type of service would not meet those conditions. To assess whether a fee meets those conditions, a reporting entity may need to analyze similar arrangements among parties outside the relationship being evaluated. However, a fee would not presumptively fail those conditions if similar service arrangements did not exist in the following circumstances:
- The fee arrangement relates to a unique or new service.
- The fee arrangement reflects a change in what is considered customary for the services.
In addition, the magnitude of a fee, in isolation, would not cause an arrangement to fail those conditions.
25-38J Fees or payments in
connection with agreements that expose a reporting
entity (the decision maker or service provider) to
risk of loss in the VIE shall not be eligible for
the evaluation in paragraph 810-10-25-38H. Those
fees include, but are not limited to, the
following:
-
Those related to guarantees of the value of the assets or liabilities of a VIE
-
Obligations to fund operating losses
-
Payments associated with written put options on the assets of the VIE
-
Similar obligations such as some liquidity commitments or agreements (explicit or implicit) that protect holders of other interests from suffering losses in the VIE.
Therefore, those fees shall be considered for evaluating the characteristic in paragraph 810-10-25-38A(b). Examples of those variable interests are discussed in paragraphs 810-10-55-25 and 810-10-55-29.
7.3.4.1 “Commensurate” and “At-Market” Exclusions
The economics criterion did not change significantly as a result of the amendments in ASU 2015-02. However, fees paid to a VIE’s decision maker or service provider are not considered in the evaluation of the economics criterion, regardless of whether the reporting entity has other economic interests in the VIE, if the fees (1) are “commensurate” and “at market” (see Section 4.4.1 for a discussion of determining whether the fees meet these criteria) and (2) do not expose the reporting entity to the risk of loss (see Section 7.3.4.2). Paragraph BC42 of ASU 2015-02 describes the Board’s rationale for excluding these fees in the economics-criterion evaluation as follows:
The basis for the Board’s decision was that service arrangements that meet the conditions in paragraph BC40 are inherently different from other types of variable interests and, therefore, should not be considered for evaluating the economics criterion of a primary beneficiary. That type of compensation does not subject the reporting entity to risk of loss, unlike capital investments or guarantees. The risk associated with compensation that meets those conditions exposes a decision maker only to opportunity costs of the nonreceipt of fees and not exposure to losses and, therefore, reflects an agency or fiduciary role. The Board acknowledged that upside and downside risks are inextricably linked and that the opportunity to receive a benefit is always accompanied with risk. In essence, the Board gave greater priority to variable interests that provide both benefits and losses or only losses when evaluating the characteristic in paragraph 810-10-25-38A(b).
Example 7-14
Entity A manages a fund in exchange for a fixed annual fee equal to 250 basis points of assets under management. Entity A determined that the commensurate fee for the management services was only 150 basis points. Since A’s fees are not commensurate, A has a variable interest and must include the entire fee (i.e., 250 basis points) in its analysis under the economics criterion.
7.3.4.2 Exposure to Risk of Loss
Not all fees that are commensurate and at market can be excluded from the evaluation of whether the economics criterion has been met. If the fee arrangement is designed to expose a reporting entity to risk of loss in the potential VIE (e.g., a guarantee), the fees will be included in the reporting entity’s economics-criterion evaluation. In paragraph BC43 of ASU 2015-02, the FASB explained that a fee arrangement that exposes a reporting entity to risk of loss in a potential VIE should never be eligible for exclusion from the evaluation of whether (1) the reporting entity has met the economics criterion or (2) a decision-making arrangement is a variable interest. This serves as a safeguard to ensure that, if a fee arrangement is structured as a means to absorb risk of loss that the reporting entity was designed to pass on to its variable interest holders, the arrangement will be included in the consolidation analysis. Therefore, even if such fees are otherwise commensurate and at market, they would not be eligible for exclusion from the economics-criterion evaluation.
Accordingly, a reporting entity should carefully consider the design of the potential VIE to determine whether the related exposure that the fee arrangement absorbs is a risk that the reporting entity was designed to pass on to its variable interest holders. For example, the fee arrangement may be substantially a fee-for-service contract and have certain protections that are customary and standard, but it may not expose the decision maker or service provider to any of the primary risks of the potential VIE. In this case, the fees received are not designed as compensation for exposure to risk of loss in the potential VIE and would be eligible for exclusion from the economics-criterion evaluation.
While fees received as compensation for providing loss protection to the reporting entity are typically easy to identify, reporting entities must carefully consider all the facts and circumstances associated with fee structures that are designed to reduce or eliminate losses that would otherwise accrue to the holders of the reporting entity’s variable interests.
Example 7-15
Entity A enters into an arrangement with an unrelated party to manage the operations of a VIE with a single real estate asset for an annual fee of $120,000. However, the fee arrangement also contains a provision that requires A to pay $50,000 to the VIE for each month that the real estate asset is less than 70 percent occupied. Accordingly, if the real estate asset had occupancy of less than 70 percent for the full year, A would be required to pay the VIE $600,000. While the fee appears to have been negotiated at arm’s length with an unrelated party, A has effectively protected the holders of other interests in the VIE from suffering losses in the VIE. Therefore, A would have a variable interest, and the entire fee, as well as the maximum exposure to loss, must be included in A’s evaluation of whether it satisfies the economics criterion.
7.3.4.3 Fees Included in Economics-Criterion Evaluation
If a decision maker’s or service provider’s fee is not commensurate or at market, the reporting entity must include the entire fee in its assessment of whether it has met the economics criterion, not just the amount of the fee that is above or below the commensurate amount. Further, if there are other elements or benefits embedded in the fee arrangement, the reporting entity should evaluate them to determine how they could affect its risk exposure.
Example 7-16
Entity A transfers loans into a securitization trust and retains the right to unilaterally perform the servicing function, which represents the activities that most significantly affect the economic performance of the trust. Entity A receives annually 10 basis points of the unpaid principal balance for performing the services (A did not receive any off-market proceeds from the securitization or enter into other arrangements with the trust). Entity A determines that 30 basis points is commensurate and therefore recognizes a servicing liability upon transfer. Since the fees it receives are not commensurate, A has a variable interest and must include the fees in its analysis under the economics criterion. Entity A would also need to assess whether there are any other benefits or elements embedded in the fee arrangement (i.e., whether the below-market fee represents an obligation to absorb significant losses) that could potentially be significant.
In analyzing whether a fee, such as the one described in Example 7-14, that is not
commensurate or at market meets the economics criterion, the reporting entity should
consider paragraph A42 of FASB Statement 167, which stated, in part:
The Board also reasoned that a service provider’s right to receive
a fixed fee, in and of itself, would not always represent an obligation or a benefit
that could potentially be significant to the variable interest entity. For example,
the Board observed that a servicer of an entity’s loans may be paid a fee that is a
fixed percentage of the balance of the loans. In that case, the servicer may be able
to conclude, on the basis of the magnitude of the fixed percentage, that the fee
could not ever potentially be significant to the entity because the fee would remain
a constant percentage of the entity’s assets.
7.3.5 Assessing Whether a Single Decision Maker Meets the Economics Criterion
ASC 810-10
25-42 Single Decision Maker — The assessment in this paragraph shall be applied only by a single reporting entity that meets the characteristic in paragraph 810-10-25-38A(a). For purposes of determining whether that single reporting entity, which is a single decision maker, is the primary beneficiary of a VIE, the single decision maker shall include all of its direct variable interests in the entity and, on a proportionate basis, its indirect variable interests in the entity held through related parties (the term related parties in this paragraph refers to all parties as defined in paragraph 810-10-25-43). For example, if the single decision maker owns a 20 percent interest in a related party and that related party owns a 40 percent interest in the entity being evaluated, the single decision maker’s indirect interest in the VIE held through the related party would be equivalent to an 8 percent direct interest in the VIE for purposes of evaluating the characteristic in paragraph 810-10-25-38A(b) (assuming it has no other relationships with the entity). Similarly, if an employee (or de facto agent) of the single decision maker owns an interest in the entity being evaluated and that employee’s (or de facto agent’s) interest has been financed by the single decision maker, the single decision maker would include that financing as its indirect interest in the evaluation. For example, if a single decision maker’s employees have a 30 percent interest in the VIE and one third of that interest was financed by the single decision maker, then the single decision maker’s indirect interest in the VIE through the financing would be equivalent to a 10 percent direct interest in the VIE.
When evaluating whether a single decision maker that meets the power criterion also meets the economics criterion, the reporting entity must consider its direct interests and indirect interests (i.e., those held through its related parties and de facto agents) in the VIE. If the single decision maker meets the economics criterion through its direct interests, it is not necessary to further consider its indirect interests. The reporting entity would only consider its related party’s or de facto agent’s interests in the determination of whether it has met the economics criterion if the reporting entity has an interest in the related party. If the reporting entity does not have a direct interest in the related party, it would not be appropriate to attribute the related party’s interests to the reporting entity. Interests held through related parties are included in the economics criterion determination on a proportionate basis when the reporting entity has a direct interest in the related parties (see Sections 7.3.5.1 and 7.3.5.2).
However, it may not always be apparent whether a reporting entity holds a
variable interest in its related party because a reporting entity may not have a direct
interest in the related party but may be implicitly exposed to the related party’s
interest in the VIE. A reporting entity should evaluate all arrangements (whether explicit
or implicit) between parties to determine whether a variable interest exists when (1) the
reporting entity’s related parties have entered into transactions on behalf of the
reporting entity and (2) the reporting entity otherwise would have consolidated the VIE if
it was determined to have a direct or explicit variable interest in the VIE. See Section 4.3.10 for a detailed
discussion of implicit variable interests.
Example 7-17
Company A is the general partner of a VIE with a 2 percent equity interest and the ability to make the most significant decisions. Company A receives a separate fixed fee and an incentive fee that are commensurate and at market. Companies B, C, and D are limited partners in the VIE with a 29 percent, 29 percent, and 40 percent partnership interest, respectively. Company A has a 40 percent investment in D that is accounted for under the equity method. Companies B and C are unrelated to A.
In assessing whether it meets the economics criterion, A can exclude its fees since they are commensurate and at market; however, A must include its 2 percent direct interest and its 16 percent (40 percent × 40 percent) indirect interest held through its related party (D). As a result, A’s total economic exposure is 18 percent, which is potentially significant to the VIE. Accordingly, A will be the primary beneficiary of the VIE because A also has the power to make the decisions that most significantly affect the VIE’s economic performance.
In this example, if A did not have the 40 percent equity interest in D, but the two entities were still deemed related parties, A would not have an indirect interest to include in its economics-criterion assessment because A does not have an interest
in D.
Example 7-18
GP (Service Provider) owns 20 percent of CLO Fund. The remaining 80 percent is owned by unrelated Third Party LPs. CLO Fund owns a 30 percent residual interest in CLO Subsidiary. GP (Service Provider) has a management agreement with, and acts as the decision maker for, CLO Subsidiary. Under the agreement, it receives fees that are deemed commensurate and at market.
Both CLO Fund and CLO Subsidiary have been deemed VIEs because neither have
substantive participating rights or kick-out rights. Assume that GP (Service
Provider) has power over the CLO Fund which, in conjunction with GP (Service
Provider)’s 20 percent equity interest in CLO Fund, results in the
consolidation of CLO Fund by GP (Service Provider).
Because GP (Service Provider) consolidates CLO Fund, CLO Fund’s 30 percent residual interest in CLO Subsidiary represents a direct interest of GP (Service Provider) in CLO Subsidiary (i.e., it is not considered an indirect interest that would be assessed on a proportionate basis). Consequently, GP (Service Provider) would be the primary beneficiary of CLO Subsidiary since (1) the GP (Service Provider) management agreement represents a variable interest in CLO Subsidiary and provides GP (Service Provider) with power over CLO Subsidiary and (2) CLO Fund’s 30 percent residual interest in CLO Subsidiary, which represents a 30 percent direct interest in CLO Subsidiary for GP (Service Provider), meets the economics criterion.
If, after including interests held through related parties, the reporting entity does not exhibit both characteristics of a primary beneficiary, the reporting entity would still need to consider the related-party tiebreaker guidance in ASC 810-10-25-44A. In accordance with that guidance, in situations in which a reporting entity concludes that it does not individually have a controlling financial interest in a VIE, but the reporting entity and one or more of its related parties under common control, as a group, have the characteristics of a controlling financial interest, the party most closely associated with the VIE must consolidate the VIE. See Section 7.4.2.
7.3.5.1 Consideration of Interests Held by Entities Under Common Control
In evaluating whether the economics criterion has been met, a reporting entity would only consider interests held by its related parties (including de facto agents) under common control if the decision maker has a direct interest in those related parties. See Sections 2.11.2 and 8.2.2 for further discussion of what is meant by “common control.”
If the decision maker does not hold an interest in the related party under
common control, it would not include any of the related party’s interests in its
evaluation. Accordingly, if the decision maker meets the power criterion through its fee
arrangement but does not meet the economics criterion, and the related-party group meets
the economics criterion as a result of the aggregation of the decision maker’s interests
with those of entities under common control, the decision maker would also need to
consider the related-party tiebreaker guidance (see Section 7.4.2). Note that application of the
related-party tiebreaker guidance in this instance should be rare because it is unlikely
that the decision maker will not, on its own, meet both the power and economics criteria
if it determines that it has a variable interest through the fee arrangement (see
Section 7.4.2.3).
A reporting entity now considers its indirect economic interests in a VIE held through related parties under common control on a proportionate basis, in a manner consistent with indirect economic interests held through related parties not under common control (see Section 7.3.5.2). As stated in the Roadmap’s Introduction, the related-party tiebreaker test will be performed more frequently as a result of ASU 2016-17 (see Section 7.4.2.3) because it is less likely that decision makers will meet the economics criterion on their own when considering their exposure through a related party under common control on a proportionate basis.
Many decision makers view the amended guidance favorably because they would otherwise consolidate a legal entity with a small indirect interest. For example, a single decision maker of a fund could have a 2 percent interest in a related party under common control that holds a 20 percent interest in the fund. Under GAAP before ASU 2016-17, the single decision maker would consolidate even though it only holds less than 1 percent in the fund on a proportionate basis. The amendment instead requires the decision maker to consider which party (the single decision maker or the related party under common control) is the most closely associated with the fund and therefore should consolidate.
Example 7-19
Subsidiary A and Subsidiary B are under common control, and A owns 5 percent of
B. Subsidiary A is the general partner (decision
maker) for Partnership C, but it does not have any
other interests in C. Subsidiary B owns 30 percent
of C’s limited partner interests. The partnership is
considered a VIE. Assume that A’s fixed fee
arrangement is a variable interest because it does
not meet the conditions in ASC 810-10-55-37(a) and
(d). The fixed fee arrangement meets the criteria in
ASC 810-10-55-37(c).
Under the guidance in ASC 810-10-25-42, when A and B evaluate whether they are the primary beneficiary of C (and therefore are required to consolidate C), each must first consider only its own respective interests in the VIE.
Accordingly, A would conclude that it meets the power criterion on its own.
However, in the evaluation of the economics
criterion, since A owns a 5 percent interest in B,
and B owns a 30 percent interest in C, A’s
interest would be considered equivalent to a 1.5
percent indirect interest in C plus the entire
fixed fee arrangement because the arrangement does
not meet the conditions in ASC 810-10-55-37(a) and
(d). Therefore, A would not meet the economics
criterion on its own. Since A meets the power
criterion, and B, its related party under common
control, meets the economics criterion, A and B
would need to perform the related-party tiebreaker
test to determine which party is most closely
associated with the VIE (see Section
7.4.2.3).
7.3.5.2 Aggregation of Interests Held by Related Parties Not Under Common Control
In a manner similar to entities under common control, a decision maker would only consider interests held by its related parties in its economics-criterion evaluation when it has an interest in those related parties. If the decision maker does not hold an interest in its related parties, it would not include any of its related-party interests in its evaluation. If the decision maker has a direct interest in the related parties, it should include its indirect interests held through its related parties (or de facto agents) on a proportionate basis.
Example 7-20
A collateral manager owns a 20 percent interest in a related party that is not under common control, and the related party owns 40 percent of the residual tranche of the CFE being evaluated. In this case, the collateral manager’s interest would be considered equivalent to an 8 percent direct interest in the residual tranche of the CFE. Therefore, in addition to considering its own direct interest (if any), the collateral manager should include its 8 percent indirect interest in its assessment of whether its fee arrangement is a variable interest in the CFE and, if so, whether the collateral manager is the primary beneficiary of the CFE. However, if the collateral manager did not hold the 20 percent interest in its related party, it would not include any of the related party’s interest in either evaluation.
7.4 Related-Party Considerations in the Primary-Beneficiary Assessment
7.4.1 Overview
In performing the primary-beneficiary analysis, a reporting entity must carefully consider related-party relationships. A reporting entity that concludes individually that it has not met both the power criterion (Section 7.2) and the economics criterion (Section 7.3) may still be required to consolidate a VIE as a result of combined interests that it holds with its related parties. In addition, the term “related parties” includes certain other parties that are acting as de facto agents or de facto principals of the reporting entity. Their interests are treated similarly to related-party interests in the performance of the primary-beneficiary portion of the VIE analysis (see Section 8.2 for a discussion of the identification of related parties). Accordingly, it is essential for reporting entities to correctly identify those entities that are related parties and appropriately consider their interests when performing the primary beneficiary assessment.
The discussion below outlines circumstances in which consolidation is required by one of the reporting entities in a related-party group, even if that reporting entity has individually concluded that it has not met both the power criterion and the economics criterion on its own. Note, however, that the related party’s interests should have also been considered in the evaluation of whether a single decision maker, on its own, meets the economics criterion (see Section 7.3.5).
7.4.2 Related-Party Tiebreaker Test and “Substantially All” Characteristic
ASC 810-10
25-44 The guidance in this paragraph shall be applicable for situations in which the conditions in paragraph 810-10-25-44A have been met or when power is shared for a VIE. In situations in which a reporting entity concludes that neither it nor one of its related parties has the characteristics in paragraph 810-10-25-38A but, as a group, the reporting entity and its related parties (including the de facto agents described in paragraph 810-10-25-43) have those characteristics, then the party within the related party group that is most closely associated with the VIE is the primary beneficiary. The determination of which party within the related party group is most closely associated with the VIE requires judgment and shall be based on an analysis of all relevant facts and circumstances, including all of the following:
- The existence of a principal-agency relationship between parties within the related party group
- The relationship and significance of the activities of the VIE to the various parties within the related party group
- A party’s exposure to the variability associated with the anticipated economic performance of the VIE
- The design of the VIE.
25-44A In situations in which a single decision maker concludes, after performing the assessment in paragraph 810-10-25-42, that it does not have the characteristics in paragraph 810-10-25-38A, the single decision maker shall apply the guidance in paragraph 810-10-25-44 only when the single decision maker and one or more of its related parties are under common control and, as a group, the single decision maker and those related parties have the characteristics in paragraph 810-10-25-38A.
25-44B This paragraph applies to a related party group that has the characteristics in paragraph 810-10-25-38A only when both of the following criteria are met. This paragraph is not applicable for legal entities that meet the conditions in paragraphs 323-740-15-3 and 323-740-25-1.
- The conditions in paragraph 810-10-25-44A are not met by a single decision maker and its related parties.
- Substantially all of the activities of the VIE either involve or are conducted on behalf of a single variable interest holder (excluding the single decision maker) in the single decision maker’s related party group.
The single variable interest holder for which substantially all of the activities either involve or are conducted on its behalf would be the primary beneficiary. The evaluation in (b) above should be based on a qualitative assessment of all relevant facts and circumstances. In some cases, when performing that qualitative assessment, quantitative information may be considered. This assessment is consistent with the assessments in paragraphs 810-10-15-14(c)(2) and 810-10-15-17(d)(2).
Pending Content (Transition
Guidance: ASC 323-740-65-2)
25-44B This paragraph
applies to a related party group that has the
characteristics in paragraph 810-10-25-38A only
when both criteria (a) and (b) below are met. This
paragraph is not applicable for legal entities
that meet the conditions in paragraph
323-740-25-1.
- The conditions in paragraph 810-10-25-44A are not met by a single decision maker and its related parties.
- Substantially all of the activities of the VIE either involve or are conducted on behalf of a single variable interest holder (excluding the single decision maker) in the single decision maker's related party group.
The single variable interest holder for which
substantially all of the activities either involve
or are conducted on its behalf would be the
primary beneficiary. The evaluation in (b) above
should be based on a qualitative assessment of all
relevant facts and circumstances. In some cases,
when performing that qualitative assessment,
quantitative information may be considered. This
assessment is consistent with the assessments in
paragraphs 810-10-15-14(c)(2) and
810-10-15-17(d)(2).
A reporting entity is always required to assess whether it individually meets both characteristics (the power criterion and the economics criterion) of a primary beneficiary after considering the aggregation guidance discussed in Section 7.3.5. If a reporting entity concludes that it does not meet the criteria for a primary beneficiary but that the related-party group (including de facto agents) meets the criteria as a group, the reporting entity may be required to determine which party is most closely associated with the VIE and is required to consolidate the VIE. This determination requires the application of judgment and an evaluation of all relevant facts and circumstances, including the factors listed in ASC 810-10-25-44. Section 7.4.2.1 discusses situations in which a reporting entity is required to perform the related-party tiebreaker test (i.e., the analysis of which party is most closely associated with a VIE), and Section 7.4.2.4 discusses how to perform that test.
In addition, in accordance with ASC 810-10-25-44B, a reporting entity in a single decision maker’s related-party group3 should generally consolidate a VIE if (1) the reporting entity is a related party to a single decision maker that does not, individually, have both characteristics of a controlling financial interest, (2) no other party in the single decision maker’s related-party group individually has both characteristics of a controlling financial interest in the VIE, (3) the single decision maker and its related parties under common control do not have both characteristics of a controlling financial interest, and (4) substantially all of the activities of the VIE either involve or are conducted on behalf of the reporting entity. See Section 7.4.2.5 for a discussion of the “substantially all” characteristic.
The following flowchart illustrates when the
related-party tiebreaker test is required and when the “substantially all”
characteristic is met:
7.4.2.1 Situations in Which the Related-Party Tiebreaker Test Is Required
Identifying situations in which the related-party tiebreaker test is required is crucial to the consolidation analysis since as a result of the test, one of the entities in the related-party group will always consolidate the VIE. Before the amendments in ASU 2015-02, the related-party tiebreaker test was always required when an individual reporting entity did not have both characteristics of a controlling financial interest but the related-party group collectively did. ASU 2015-02 significantly changed when the related-party tiebreaker test is performed. A reporting entity now performs the test when either of the following applies:
- Power is “shared” within a related-party group and the related-party group meets both characteristics of a controlling financial interest. See Section 7.2.7.1 for further discussion of determining whether power is shared.
- A single decision maker has met the power criterion but not the economics criterion, and the aggregation of entities under common control with the single decision maker have met the economics criterion (see Section 7.4.2.3). See Section 8.2.2 for further discussion of related parties under common control.
7.4.2.2 Shared Power Within a Related-Party Group
ASC 810-10-25-38D states, in part, that power “is shared if two or more
unrelated parties together have the power to direct the activities of a VIE
that most significantly impact the VIE’s economic performance and if
decisions about those activities require the consent of each of the parties
sharing power.” Two important points can be inferred from this description:
(1) power is only considered shared when all of the activities that most
significantly affect the VIE’s economic performance require the consent of
the parties sharing power and (2) two or more related parties cannot
conclude that neither party should consolidate a VIE because they share
power (i.e., the entity’s governance requires that the related parties
always have to act in concert with each other to make all significant
decisions). Example
7-22 illustrates this concept by highlighting that the
related-party group would not be required to perform the tiebreaker test if
any party in the related-party group “could” vote together with another
related party (without having to obtain the consent of all the related
parties) because power is not considered shared. This also applies when the
related parties are under common control; however, the substance of the
power should be determined. See Section 7.2.8 for further discussion
of the substance of power in common-control groups.
If the related-party group shares power and together meets the economics
criterion, the party most closely associated with the VIE, as determined by
performing the related-party tiebreaker test, will be the primary
beneficiary.
Example 7-21
Two related parties, A and B, form a joint venture, Entity Z, that is a VIE. All decisions that most significantly affect Z require the consent of both A and B (i.e., the two parties are not responsible for different activities and do not have unilateral discretion for a portion of an activity).
Power can be shared only among multiple unrelated parties; two or more related parties cannot conclude that power is shared. Since the two venturers in this example are related parties, power cannot be considered shared between them even though they are required to consent to any decisions that are made. Thus, they will need to perform the analysis in ASC 810-10-25-44 (the related-party tiebreaker test) to determine which of them is most closely associated with the VIE and must therefore consolidate the VIE. If A and B were unrelated, neither entity would consolidate the VIE.
Example 7-22
Three related parties (A, B, and C) not under common control form Entity X (a VIE) and hold 25 percent, 35 percent, and 40 percent, respectively, of the entity’s voting interests. Decisions about the activities that most significantly affect the VIE’s economic performance require a simple majority vote of the voting interests. Consequently, two of the three parties must agree on all of the decisions that most significantly affect the VIE’s economic performance. In this example, even though the related-party group holds 100 percent of the voting rights and economics, because X’s corporate governance does not require the consent of all the parties, power is not considered shared. Therefore, performance of the related-party tiebreaker test is not required, and no party will consolidate X.
7.4.2.3 Single Decision Maker and Related Parties Under Common Control
If a single decision maker has met the power criterion but not the economics
criterion, and the entities under common control with the single decision
maker, in the aggregate, have met the economics criterion, the related-party
tiebreaker test must be performed by the parties in the related-party group.
In this situation, the purpose of the test would be to determine whether the
decision maker or a related party under common control of the decision maker
is required to consolidate the VIE. This is a significant change from a
reporting entity’s requirements before the adoption of ASU 2015-02, under
which the related-party tiebreaker test was required any time a
related-party group collectively could exert power over the most significant
activities of a VIE and the related-party group met the economics
criterion.
Since ASU 2015-02 became effective, two developments have occurred. First, the
FASB issued ASU 2016-17, which amended the requirement to consider interests
held through related parties under common control as if they were held
directly by the decision maker in the primary-beneficiary analysis (see
Section
7.3.5.1).
The ASU requires a decision maker to determine the primary beneficiary by considering these interests proportionately in a manner similar to its consideration of indirect interests held through related parties that are not under common control. As a result, there are more situations under ASU 2016-17 that require performance of the related-party tiebreaker test than there were under ASU 2015-02. Since ASU 2016-17 only changes the guidance in ASC 810-10-25-42, it affects the decision maker’s consideration of indirect interests held through related parties under common control only in the primary-beneficiary assessment (i.e., not in the determination of whether the decision maker has a variable interest).
Second, the FASB issued ASU 2018-17, which amended ASC 810-10-55-37D so that
indirect interests held by related parties under common control are also
only considered on a proportionate basis in the variable interest analysis.
Therefore, a decision maker is less likely to be required to apply the VIE
model under ASU 2018-17, because fewer fee arrangements would qualify as
variable interests.
In addition, we have become aware of diversity in practice related to when a decision maker with contractual power does not have a variable interest but a related party under common control meets the economics criterion. Although it is clear that the parent should generally consolidate the VIE when parties under common control collectively meet both the power and economics criteria, differing views have emerged regarding when, if ever, one of the subsidiaries should consolidate the legal entity in its stand-alone financial statements.
We believe that (1) the decision maker should never be subject to consolidation if it does not have a variable interest (as clarified in an SEC speech — see Section 4.4.2.3.2 — which indicated that a decision maker that determines that its fee is not a variable interest should not be subject to potential consolidation as a result of the performance of the related-party tiebreaker test) and (2) the parent should generally consolidate. However, we do not believe that ASC 810 specifies clearly how a related party under common control with the decision maker (i.e., the non-decision maker) should determine whether it should consolidate in its stand-alone financial statements. Therefore, in the absence of additional clarification from the FASB or SEC staff, we believe that the following views could be appropriate, depending on the reporting entity’s facts and circumstances:
- View A — The related-party tiebreaker test should never be performed. In addition, in a manner consistent with the SEC staff speech discussed above, the decision maker should never consolidate since it does not have a variable interest through its fee arrangement. However, if substantially all the activities are on behalf of one of the related parties under common control (other than the decision maker), that party should consolidate in accordance with ASC 810-10-25-44B (see Section 7.4.2.5).
- View B — The related-party tiebreaker test should be performed to determine which related party under common control is most closely associated with the VIE. However, if the single decision maker is deemed to be the party most closely associated with the VIE, it would not consolidate in its stand-alone financial statements since doing so would be contrary to the guidance in the SEC speech discussed above, which indicates that a decision maker should not consolidate unless it holds a variable interest in the VIE.
In general, a reporting entity should apply its view consistently as an accounting policy election.
Example 7-23
Entity X and Entity Y are under common control but do not have ownership interests in each other. Entity X is the general partner (decision maker) for Partnership Z but does not own any of the limited partnership interests. Entity Y owns 51 percent of Z’s limited partner interests. The partnership is considered a VIE.
When X and Y each consider only their own respective interests, neither party individually would have both of the characteristics of a controlling financial interest. Entity X would conclude that it does not have a variable interest on its own (and has therefore not satisfied the power criterion) unless (1) the fee arrangement did not meet the commensurate and at-market conditions or (2) Z was designed to circumvent consolidation in the stand-alone financial statement of X or Y. In addition, Y would conclude that it meets the economics criterion but not the power criterion.
Under View A above, because X’s fee arrangement is not considered a variable interest, the related-party tiebreaker test would not need to be performed. Further, unless substantially all the activities are conducted on behalf of Y, neither X nor Y would be required to consolidate Z in its stand-alone financial statements. However, Parent would be required to consolidate Z in its consolidated financial statements because it has met both the power criterion (indirectly through X) and economics criterion (indirectly through Y).
Under View B above, the related-party tiebreaker test would be performed in the assessment of whether Y is the party most closely associated with Z. If Y concludes that X is the party most closely associated with Z, neither X nor Y would be required to consolidate Z in its stand-alone financial statements. However, Parent would be required to consolidate Z in its consolidated financial statements because it has satisfied both the power criterion (indirectly through X) and the economics criterion (indirectly through Y).
7.4.2.4 Performance of the Related-Party Tiebreaker Test
If the reporting entity is required to perform the related-party tiebreaker test, the party identified as most closely associated with the VIE will be the primary beneficiary. A reporting entity must consider all facts and circumstances associated with a VIE in making this determination. No single factor is determinative, and a reporting entity must use significant judgment.
ASC 810-10-25-44 lists four factors for a reporting entity to consider in making the determination. The reporting entity should evaluate (1) each factor individually to identify the extent to which one or more factors point toward a particular party and (2) the factors as a whole to determine which party is most closely associated with the VIE. For any given set of facts and circumstances, the relative weighting of each factor will most likely differ. However, it is important to recognize that the reporting entity’s overall objective is to determine which related party “is most closely associated with the VIE” as a whole; therefore, a comprehensive assessment of the relationship and significance of the activities of the VIE (ASC 810-10-25-44(b)) and the overall design of the VIE (ASC 810-10-25-44(d)) to each of the related parties (not just with respect to the reporting entity making the assessment) is paramount to the reporting entity’s exercise of judgment under ASC 810-10-25-44.
The four factors in ASC 810-10-25-44 are outlined below.
Table
7-1 Factors to Consider When Performing the Related-Party Tiebreaker
Test
Factor
|
Comments
|
---|---|
ASC 810-10-25-44(a): “The existence of a principal-agency relationship between parties within the related party group.” | The existence of a principal-agency relationship typically indicates that the
principal is most closely associated with a VIE. In
assessing the relationship between related parties,
the reporting entity should consider (1) whether a
de facto agency relationship, as described in ASC
810-10-25-43, exists (this would result in a
presumption that there is a principal-agency
relationship) and (2) the guidance in ASC 470-50 and
ASC 606-10-55-36 through 55-38 to determine whether,
by analogy, a principal-agency relationship
exists. |
ASC 810-10-25-44(b): “The relationship and significance of the activities of the VIE to the various parties within the related party group.” | The analysis should take into account all of the significant activities
conducted by the VIE, the extent to which one or
both parties have an active role in conducting those
activities, and the relative importance of the
activities of the VIE to each party. In assessing
the importance of the VIE’s activities to each
party, the reporting entity should consider factors
such as supply arrangements, purchase arrangements,
service contracts, leases, and other material
contracts. |
ASC 810-10-25-44(c): “A party’s exposure to the variability associated with the anticipated economic performance of the VIE.” | It is generally possible to determine qualitatively whether one of the parties in a related-party group has greater exposure to the variability (positive and negative) associated with the VIE’s anticipated economic performance. |
ASC 810-10-25-44(d): “The design of the VIE.” | It is important for the reporting entity to contemplate the design of the VIE, including the nature and reasoning behind the formation of the VIE at inception or as of the latest reconsideration date. The reporting entity should consider factors such as the business or economic purpose of the VIE, the role played by each of the parties in the design or redesign of the VIE, the level of ongoing involvement in the VIE’s financial and operating activities and decision making, and the VIE’s capital structure and levels of financial support. |
At the 2004 AICPA Conference on Current SEC and PCAOB Developments, an SEC staff member, Associate Chief Accountant Jane Poulin, stated:
It is important to read the words in paragraph 17 [codified as ASC 810-10-25-44] plainly. Paragraph 17 requires an overall assessment of which party is the most closely associated with the entity. When considering questions under paragraph 17, the staff considers all the factors in paragraph 17 and any other factors that may be relevant in making this overall assessment. We do not view paragraph 17 to be a matter of checking the boxes for the four factors listed and adding up who has the most boxes checked. Instead we look at all relevant factors in their entirety considering the facts and circumstances involved. We have also been asked whether any of the factors in paragraph 17 carry more weight than any others or whether any of the factors in paragraph 17 are determinative. There is no general answer to this question. Instead, the facts and circumstances of the situation should be considered to determine whether one factor or another is more important.
Example 7-24
Entity A and Entity B are related parties under common control, and each made an equity investment and share power in VIE X. There are no other variable interest holders or arrangements between A or B and X. Entity A is exposed to the majority of the variability associated with X’s anticipated economic performance.
Neither A nor B individually has the characteristics of a controlling financial interest under ASC 810-10-25-38A. However, through their aggregated variable interests, A and B, as a group, have those characteristics. Assume that in an analysis of the factors in ASC 810-10-25-44(a), (b), and (d), it is not possible to determine which reporting entity is most closely associated with X because there is no apparent principal-agency relationship, the activities of X have roughly equal significance to both A and B, and both parties were equally involved in the design of X.
Given the nature of the transaction, it would be appropriate to weight ASC 810-10-25-44(c) (i.e., a party’s exposure to variability associated with X’s anticipated economic performance) more heavily because no other factor in ASC 810-10-25-44 points toward a particular party. Because A absorbs a majority of the variability associated with X’s anticipated economic performance, it may be reasonable to conclude that A is the primary beneficiary of X.
Note that ASC 810-10-25-44(c) would not be weighted more heavily when one party controls some or all parties in the related-party group since that controlling party has the ability to dictate exposure to the variability associated with the VIE’s anticipated economic performance to the controlled parties.
Example 7-25
Entity A and Entity B are related parties not under common control. They each made equity investments of $40 and $60, respectively, and share power in VIE X. There are no other variable interest holders. At inception, A entered into a supply agreement with X to purchase 100 percent of the output of X at prices initially identified as, and continually adjusted to, fair value. There are no other arrangements between A and B and X. Entity A is exposed to slightly more of the variability associated with X’s anticipated economic performance than is B.
Neither A nor B individually has the characteristics of a controlling financial interest under ASC 810-10-25-38A. However, the aggregate variable interests of A and B, as a group, have those characteristics. In this example, A entered into a contractual arrangement with X to purchase 100 percent of the output of X at prices initially identified as, and continually adjusted to, fair value. The contractual arrangement would be an important consideration in A’s evaluation of the factors associated with the activities (ASC 810-10-25-44(b)) and design of the entity (ASC 810-10-25-44(d)) and, individually, those factors may point toward A as the primary beneficiary. Entity A also has slightly greater exposure to the variability associated with X’s anticipated economic performance.
Although A must also assess B under ASC 810-10-25-44, it may be reasonable to conclude that A should be considered the primary beneficiary on the basis of an evaluation of all the relevant factors, which seem to suggest that A is most closely associated with X.
7.4.2.4.1 Impact of Fees Paid to a Decision Maker or Service Provider in the Related-Party Tiebreaker Test
In the evaluation of whether a reporting entity should consolidate a VIE, fees paid to the reporting entity are excluded from the assessment under ASC 810-10-25-38A(b) if they meet the conditions in ASC 810-10-25-38H (see Section 7.3.4). In addition, fees that met the conditions in ASC 810-10-25-38H would not be considered in the determination of whether the related-party group collectively has the characteristics of a controlling financial interest. Notwithstanding that exclusion for those purposes, if the related-party tiebreaker test must be performed, the fees should be considered in the assessment of which party in the related-party group is most closely associated with the VIE.
Example 7-26
Company A and Company B, which are considered related parties, form a joint venture, Entity C, which was designed to invest in real estate assets for current income and capital appreciation. Entity C is a VIE. Both A and B own 50 percent of the equity interests of C. In addition, A serves as the managing member and property manager of C, and it receives a fee in return for the services provided. The fee arrangement meets the definition of a variable interest in ASC 810-10-55-37 because A has a significant variable interest in C through its equity ownership. Although A is the designated managing member and property manager of C, the decisions about the activities that most significantly affect the economic performance of C require the consent of both A and B; thus, power over the significant activities of C would be considered shared in the absence of a related-party relationship between A and B.
However, A and B cannot be considered to have shared power because they are related parties. As a result, A and B must perform an evaluation to determine which party within the related-party group is most closely associated with C and must therefore consolidate C. That evaluation should take into consideration all the variable interests owned by A and B, including the fee arrangement of A.
Example 7-27
Company X is the general partner of a limited partnership that was designed to invest in equity and debt securities issued by emerging growth companies. Two entities that are under common control with X own 15 percent of the limited partnership interests, and the remaining 85 percent is owned by unrelated limited partners. The partnership is a VIE.
As general partner, X has the power to direct the activities that significantly affect the economic performance of the partnership (i.e., purchasing and selling investments). In return for its services, X receives a fixed management fee that does not meet the economics criterion (and the fee arrangement is not commensurate or at market). Company X does not have any other interests in the partnership or any interests in its related parties under common control.
Company X’s fee arrangement must be evaluated under ASC 810-10-55-37 and is considered a variable interest because the fee arrangement is not commensurate or at market (i.e., does not satisfy ASC 810-10-55-37(a) or 55-37(d)).
While the fee arrangement is considered a variable interest, it does not meet the economics criterion, and none of the limited partnership interests held by X’s related parties under common control would be considered indirectly owned by X, and X does not have any other interests in the partnership. Therefore, X does not individually have a controlling financial interest in the VIE (i.e., it does not meet the economics criterion). However, because the related parties under common control, as a group, meet the power criterion and the economics criterion, they must determine which party in the related-party group is most closely associated with the partnership and must therefore consolidate the partnership. In performing the evaluation, the related parties should consider the design and purpose of the limited partnership, including the fees earned by X.
7.4.2.5 The “Substantially All” Characteristic
A reporting entity in a single decision maker’s related-party group4 is required to consolidate a VIE if (1) the reporting entity is a
party that is related to a single decision maker that does not,
individually, have both of the characteristics of a controlling financial
interest, (2) no other party in the related-party group individually has
both characteristics of a controlling financing interest in the VIE, (3) the
single decision maker and its related parties under common control do not
have both characteristics of a controlling financial interest, and (4)
substantially all of the activities of the VIE either involve or are
conducted on behalf of the reporting entity. The FASB was concerned that
without this provision, a reporting entity would not consolidate an entity
that was designed to act on its behalf. The phrase “substantially all” is
consistent with the assessments in ASC 810-10-15-14(c)(2) for determining
whether an entity is a VIE and whether a reporting entity can apply the
business scope exception (see Sections 5.4.2 and 3.4.4.7 for detailed
discussions of this phrase).
Example 7-28
An investment manager establishes a fund on behalf of Investor B. The investment manager owns 5 percent of the equity in the fund, and B owns the remaining interests. The investment manager cannot be removed as the decision maker of the fund, and the investment manager cannot sell or liquidate its investment without the consent of B. The fund is considered a VIE. In addition, as a result of B’s one-way transfer restriction, the investment manager and B are considered related parties (de facto agents).
When the investment manager and B each consider only their own respective interests, neither party would be required to consolidate the fund in its stand-alone financial statements. However, B would be required to consolidate the fund because (1) the related-party group possesses the characteristics of a primary beneficiary and (2) given the nature and size of B’s interests in the fund, substantially all of the VIE’s activities are conducted on behalf of B.
Note that the FASB specifically excluded investors in a qualified affordable
housing project (QAHP) (e.g., low-income housing tax credit [LIHTC]
partnership structures) that is within the scope of ASU 2014-01 from this
consolidation requirement. The Board was concerned that as a result of the
related-party provision, a single limited partner investor that held more
than 90 percent of the limited partner interests in a LIHTC partnership may
have otherwise had to consolidate if the general partner was a related party
or de facto agent of the investor. Notwithstanding this exception, we note
that the determination of “substantially all” is not based solely on
economic interests but rather also on the “activities” of the VIE.
Therefore, we do not believe that this exception should imply that holding
more than 90 percent of the economic interests in a VIE equates to
involvement with substantially all of the VIE’s activities. Rather, the
reporting entity should consider all facts and circumstances, including the
activities of the partnership and active involvement by the general partner
in operating the partnership. See Section E.4 for more information about
investments in QAHPs.
Changing Lanes
In March 2023, the FASB issued ASU
2023-02, which extends the applicability of the
“substantially all” characteristic to all tax equity investments,
regardless of the program from which the income tax credits are
received, if certain conditions (see Section E.4) are met. Before
adoption of the ASU, the exception provided under that
characteristic is limited to tax equity investments in a QAHP.
The amendments in ASU 2023-02 are effective for public business
entities for fiscal years beginning after December 15, 2023,
including interim periods within those fiscal years. All other
entities must adopt the amendments in ASU 2023-02 for fiscal years
beginning after December 15, 2024, including interim periods within
those fiscal years. For all investors, early adoption, including
adoption in an interim period, is permitted. Entities may adopt the
amendments by using either a retrospective or modified retrospective
approach.
Footnotes
3
Paragraph BC70 of ASU 2015-02 states, in part, that “if there are no entities under common control that have the characteristics of a primary beneficiary, but substantially all of the activities of the VIE either involve or are conducted on behalf of a single variable interest holder (excluding the decision maker) in the single decision maker’s related party group (and the related party group has the characteristics of the primary beneficiary), the single variable interest holder for whom substantially all of the VIE’s activities either involve or are conducted on its behalf is required to consolidate the VIE as the primary beneficiary” (emphasis added). As a result, a single decision maker must be part of the related-party group for a reporting entity to consolidate a VIE in accordance with ASC 810-10-25-44B.
4
See footnote 3.