In a recent Accounting Standards Update the Financial Accounting Standards Board (FASB) has proposed measures that would increase transparency and consistency of financial reporting about consolidations. Companies would soon be required to reevaluate their ties to other entities and determine whether they should now consolidate such an entity because of the decision-making power they hold.
The proposed amendments would affect the evaluation of whether an entity is a VIE and, if so, whether the reporting entity should consolidate the entity being evaluated. Under current U.S. GAAP, an entity is a VIE if the entity lacks sufficient equity to finance its activities without additional subordinated financial support, or the equity holders, as a group, lack the power to direct the activities of a legal entity that most significantly impact the entity’s economic performance or the obligation and right as equity holders to absorb the entity’s expected losses or to receive its expected residual returns. The evaluation of whether a decision maker is using its decision-making authority as a principal or an agent would affect the analysis of whether the equity investors, as a group, lack the power to direct the activities of the entity or have delegated it to an agent.
I see this as a positive move which will allow investors to get a clearer picture of how closely tied entities are to one another and how consolidation can affect a company’s earning potential and financial outlook.