The "power of control" in the International Financial reporting Standards: subjectivity in consolidation policies of italian listed companies

IAS 27 defines control as “the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities” (§ 4). IAS 27 defines also the circumstances in which a parent-subsidiary relationship exists (§ 13-14). Such circumstances refer not only to the ownership of the majority of the voting rights, according to a concept of “de jure control”, but also to other cases that are consistent to a definition of “de facto control”. Despite IAS 27 prescriptions, a wide range of situations can be observed; in detail, it is possible that “two entities faced with the same set of circumstances could reach different conclusions as to whether they control another entity” (Information for Observers, November 2005). This is due to the fact that the consolidation model developed by IASB is based on a control principle, while it avoids bright-line tests. Therefore, some decisions will require the exercise of more judgement than others, such as when control is a result of de facto rather than legal power over voting rights. This is an interesting subject from both a theoretical and a practical point of view. In the literature, some Authors have pointed out the importance of this matter; moreover, the IASB is discussing this topic, with the aim of taking an official position in the future. The purpose of this paper is to investigate the judgement exercised in determining whether one entity controls another entity. The investigation is based on an empirical analysis made on the “IAS compliant” half-year report prepared by a sample of Italian listed companies. The research examines (also through questionnaires and interviews) the choices made by each company and the reasons behind them, with particular regard to the following two circumstances: 1. exclusion from the consolidation area of companies in which the parent holds more than half of the voting rights; in such cases the circumstances that prevent the parent from controlling the subsidiary are identified; 2. inclusion in the consolidation area of companies in which the parent does not own more than half of the voting rights; in such cases the circumstances that justify the control are identified. On the basis of the empirical evidence, the purpose of the paper is to identify correlations among consolidation policies of Italian listed companies and some explanatory variables (such as the financial structure and the economic performance of the parent and the investee, the similarity between the parent’s and the investee’s field of activity, the relative dimension of the investee in the group, etc.)