Consolidation of a joint venture: the procedure and necessity of the procedure

Contents:

• What is a joint venture?
• The process of consolidation of the joint venture
• Choosing a consolidation method
• Audit of accounting reports
• Preparation of consolidated financial statements
• How are consolidated financial statements formed?
• Conclusion

Today, many companies choose the path of creating joint ventures in order to reduce risks and increase the efficiency and competitiveness of their business. Despite these advantages, the consolidation of a joint venture is a complex and multi-level process that needs to be considered in detail from different points of view.

What is a joint venture?

A joint venture (JV) is a form of cooperation in entrepreneurship in which two or more companies combine their resources and knowledge to carry out a common business. The goals of such an enterprise can be different: from the joint sale of goods and services to joint production and profit sharing.

The process of consolidation of the joint venture

Consolidation of a joint venture is the process of gaining control over a limited liability company. As a rule, control is obtained by one of the companies included in the joint venture. First of all, it is necessary to register the planned changes in the Federal Tax Service (FTS), since this is directly related to the introduction of changes about companies in the Unified State Register of Legal Entities (USRLE). The participants of the companies need to hold a general meeting of the participants and approve the procedure for unification, appointment of persons responsible for state registration of changes and other issues that may be included in the agenda of the general meeting. They must be reflected in the protocol, which must be signed by all participants. If there is only one participant in the company, all issues related to the consolidation of a legal entity should be spelled out in the decision of the sole participant of the company.

After registering the changes with the tax authority, you can proceed to the next stage, which includes the following steps:

• Assessment of the value of assets and liabilities of the enterprise.
• Selection of the consolidation method.
• Audit of accounting records.
• Assessment of the value of assets and liabilities of the enterprise.

Consolidation of a joint venture begins with an assessment of the value of assets and liabilities of all companies participating in the joint venture. The valuation can be carried out on the basis of market value, accounting value or economic value. The choice of the method depends on a large number of factors, including the financial reporting rules adopted in the country in which the joint venture is registered.

Choosing a consolidation method

When consolidating a joint venture, it is necessary to choose a consolidation method, namely the method of combining accounting reports. There are three main methods of consolidation: the full union method and the partial union method.

1. Complete consolidation.

There are several signs of complete consolidation, meaning a certain control of the subsidiary by the parent or controlling company:

• Ownership of more than 50% of the voting shares.
• The controlling company has the ability to determine the composition of the board of directors of the controlled company.
• Exercises real control over more than 50% of voting shares.
• The ability to determine the financial model of doing business on the basis of a regulatory legal act or an agreement between the parties.
• The parent company has the right to represent the majority of votes at meetings of the company’s management bodies.

The full consolidation method assumes that the controlling entity displays all assets and liabilities of the joint venture in its own financial statements. This is reflected in the reports by adding up similar indicators of all companies under the control of the parent company. The proportional share of assets and liabilities of other participants of the joint venture is displayed as a minority participation.

2. Partial merger with associated companies.

The partial consolidation method assumes that the controlling company displays only its share in the assets and liabilities of the joint venture, and the shares of other participants are displayed in the corresponding lines of the balance sheet.

The difference between this method and the first is the partial influence of one company on the activities of another. Often, this method is used when investing in a company and if the investor has a stake of 20 to 50%. In this case, the investing company may have a significant influence on the associated company, but there will be no full control over its activities in this consolidation option. It is also important to take into account that even if the investor company owns less than 20% of the shares, there are certain criteria that have a significant impact on the activities of the associated company:

• Presence of a representative in the company’s management bodies.
• Direct participation in the management of the company.
• Monetary transactions, or transactions for substantial amounts, often occur between the investor company and the company being invested.
• Both companies exchange technical information with each other.

The equity accounting method (partial consolidation) is the most popular for consolidation with associated companies. This method allows you to reflect investments in the balance sheet at the cost of their acquisition. At the same time, the indicators are calculated taking into account the share of the investor company in the profit received by the investment company after the acquisition. By analogy with an associated company, the reports of the investor company show the share in the profits of the associated company.

3. Proportional consolidation.

Separately, it is worth noting the proportional form of consolidation, which is a specific form of consolidation of finances and other instruments accompanying the creation of a joint company. In Russia, this most often happens in the form of a joint activity agreement.

A joint activity agreement is concluded between two or more companies, and it fully regulates the issues of joint control.

Three types of joint control have been established at the international level:

• Jointly controlled operations. An example of such a form of control can be situations when companies combine their available resources to achieve certain goals. Thus, they act together without creating a separate organization for this.
• Jointly controlled assets. Means joint management and ownership of assets that were originally intended to conduct joint activities in accordance with the objectives of the agreement.
• Jointly controlled companies. Most often, a new legal entity is created, whose participants may be several other companies. Their goal is most often to exercise control over the company’s activities. This is regulated by the agreement on joint activities of the participants. It is also important to note that often the management of a new company acts on the basis of a power of attorney, and not the statutory documents of the organization.

Audit of accounting reports

When consolidating a joint venture, it is necessary to audit the accounting reports of the company participating in the joint venture. The audit will help to establish the reliability and completeness of the information provided, as well as to verify compliance with the rules of financial reporting. An audit is also necessary to identify possible risks associated with the consolidation of a joint venture.

Preparation of consolidated financial statements

Consolidated companies must prepare and submit consolidated financial statements in accordance with the requirements of Law No. 208-FZ. The documentation requirements are as follows:

• It is compiled only in Russian and the amounts in rubles are reflected inside.  
• Must include comparison data with the previous or earlier year.  
• Signed by the head of the company, who has the authority to do so in accordance with the charter.
• Undergoes a mandatory audit. The conclusion of the audit company should be attached to the financial statements.
• Publicly published within 30 days after its delivery.
• Companies that prepare reports voluntarily have the right to prepare a document in accordance with international financial reporting standards.

How are consolidated financial statements formed?

As we noted earlier, the joint venture does not inherently have a parent and subsidiaries. Organizations that have formed a joint venture have a general accounting department. This means that when forming documentation, you need to adhere to the following rules:

• Reporting is based on the total amount of assets, liabilities, income and expenses, capital of the group of companies.
• All cash flows, assets, liabilities and capital within the group are not taken into account when forming financial statements, similarly with debts incurred within the group.

The method of equity participation is used in the compilation. At the same time, the requirements of both IFRS 10 and IFRS 28 are taken into account.

It is important that investments are initially recognized at their original cost, and then their book value increases or decreases due to the recognition of the investor’s share in profit (loss) after the acquisition date. The money received from the investment object after profit distribution reduces the book value of the investment.

The group’s share in an associate or joint venture is a combination of the shares of the parent and its subsidiaries. Other associated organizations and joint ventures are not taken into account.

Conclusion

Consolidation of a joint venture is a complex process that requires a thorough approach from both legal and economic points of view. The valuation of assets, the choice of the consolidation method and the early audit of accounting reports are the key aspects that must be taken into account when consolidating a joint venture. Experts believe that there is no single method of consolidation that would be suitable in any situation. Each of the methods has its advantages and disadvantages:

• Full consolidation takes into account all the details that are important for the preparation of accounting reports, but for this it is necessary to have well-trained personnel and appropriate software, for which funds must be allocated.
• After partial consolidation, more often the interaction in the preparation of reports is limited to summary tables, which simplifies the process, while on the other hand, in this case there are risks of missing important details or making an error in calculations.
• For proportional consolidation, it is more typical for each company to compile its own reports, since at the same time the parent company receives complete information for adjustments to its own statements. All participants in joint activities can attract more investors by disclosing the results of their own activities.

VALEN’s experienced lawyers provide legal advice and legal services on the consolidation of financial statements of joint ventures in accordance with the requirements of IFRS.