Consolidations and VIEs

Overview: Traditionally, GAAP has required that the party holding the “controlling financial interest” of an entity would be required to consolidate it. The usual condition for a controlling financial interest is the holding of a majority of the voting shares of an entity. Under the provisions of ASC 810 Consolidation, all majority-owned subsidiaries must be consolidated unless control does not rest with the majority owner. This has become known as the “voting interest model” and the entities subject to the voting interest model are referred to as “voting interest entities” (VOEs).

ASC 810-10 (pre-Codification FIN 46(R), Consolidation of Variable Interest Entities) further interprets how to apply the controlling financial interest criterion. This model is known as the “variable interest model” and entities subject to this model are referred to as “variable interest entities” (VIEs). VIEs include entities that have been referred to as special-purpose entities, as well as other entities that are structured in such a way that (a) the equity investment at risk is not sufficient to permit the entity to finance itself or (b) the equity investors at risk as a group lack decision-making powers (or non-substantive voting rights), do not absorb the expected losses, or do not receive the expected residual returns.

Prior to consolidating an entity under the voting control model, a company must first look to ASC 810-10 to determine whether the entity is a VIE that should be evaluated for consolidation under the VIE model. As a result, every entity should be carefully analyzed to determine whether it is a VIE or a VOE in order to determine the appropriate model for evaluating which party may have the controlling financial interest.

Services: We obtain and evaluate all related documents necessary to determine whether consolidation under the VOE or VIE model (or neither) is appropriate. Our process involves applying the facts and circumstances under a proprietary step-by-step model that leads to a well-thought-out conclusion on applying the standards. We provide a formal, written report on our finding under SAS 50.

Case Study: Consolidation of a VIE may result simply from how the relationship operates.

A company had a history of expanding its restaurant chain through entering into joint venture arrangements with unrelated third parties that did not afford the company voting control. Pursuant to an operating agreement, the venture parties shared operational responsibilities. Newly-formed joint venture operations were typically undercapitalized, but the company had a history of funding the deficits until the store matured. This demonstrable history of funding the losses was a key indicator in determining that the company was, in fact, the primary beneficiary and consolidation was required.