1. The Joint Committee has examined the draft Seventh Directive on Company Law which deals with group accounts [R/1129/76 (ES 40)].
2. This proposal seeks to extend to group accounts minimum standards complementary to those contained in the draft Fourth Directive which deals with the accounts of individual companies. The previous Joint Committee on the Secondary Legislation of the European Communities dealt with the draft Fourth Directive in its forty-seventh report (Prl. 5938) dated 9th December, 1976.
3. As with the other Community proposals relating to company law the draft Seventh Directive is based on Article 54(3)(g) of the Treaty of Rome and has the object of removing restrictions on the freedom of establishment.
Scope of Proposal
4. The principle that companies associated in a group should be required to produce group or consolidated accounts is enshrined in the legislation of several Member States including Ireland. The object of the proposed Directive is to institute a system of Community rules relating to such accounts with which the legislation of Member States will be required to conform. The main provisions of the proposal deal with (1) definition of a group, (2) application to partnerships and sole traders, (3) application to banks and insurance companies, (4) sub-group accounts of groups with dominant companies (a) inside and (b) outside the Community and (5) methods of drawing up group accounts.
Groups to which the Directive would apply
5. The methods and techniques of consolidation of accounts, though perhaps somewhat inflexible, do not differ radically from those applied in Ireland at present. However, in its definition of what constitutes a group and what kinds of enterprise should produce group accounts, the proposed Directive would introduce a fundamental new concept as far as Ireland is concerned.
6. Under the Companies Act, 1963 a holding company is required to prepare group accounts dealing with the state of affairs and profit or loss of the company and its subsidiaries (section 150). In Irish practice group accounts are viewed as an extension of those of the holding company —a concept known as the “parent company extension concept”. As far as Irish and U.K. law is concerned, the criterion of what constitutes a group is power of control and it is irrelevant whether the holding company actively chooses to exercise that control or not. Power of control exists if a holding company holds more than half of the equity share capital of another or holds more than half the nominal value of shares carrying voting rights or otherwise controls the composition of the board of directors. Where a holding company is itself the wholly owned subsidiary of another company the power of control resides with the latter. This criterion of control has been followed in the International Accounting Standard on Consolidated Accounts.
7. For the purposes of the proposed Directive a group is constituted where there is a dominant undertaking and one or more undertakings dependent on it which is/are managed by it on a central and unified management basis or where there exists such management without any relation of dependency. There would be a rebuttable presumption that a dominant undertaking exists when it has a majority shareholding, or majority voting power or power to appoint more than half the directors or managers in a dependent company. The idea is to recognise the economic reality or economic unit which lies behind an apparent collection of legally autonomous undertakings. The object of the group accounts would be, not so much to give a true and fair view of the parent company but to give information about the group as a whole to persons concerned or interested in the affairs of a component enterprise within the group.
8. The Joint Committee is advised that the substitution in accountancy of the economic entity concept of the proposed Directive for the parent company extension concept which is enshrined in the Companies Act, 1963 would give rise to considerable difficulty in Ireland. The Committee notes that, in the proposed Directive there has been, deliberately, no attempt to define the concept of central and unified management, the Commission apparently preferring an economic to a legal definition. The Committee is concerned that this will have the effect of introducing uncertainty in deciding what accounts are to be consolidated. In this connection it observes that presumptions on which the existence of a group may depend are rebuttable and it seems to the Committee that it may well require a good deal of litigation before it becomes clear what rebuttal evidence is sufficient.
9. In the Joint Committee’s view the parent company extension concept is at once simple, objective and manifest. It is advised that the concept has gained more acceptance internationally than the economic entity-concept which has only acquired a limited recognition in some EEC countries. Accordingly, the Joint Committee believes that the former would afford a better basis than the latter for the co-ordination of the law relating to group accounts within the Community and the Committee recommends that it should not be readily discarded.
Partnership and Sole Traders
10. The Joint Committee is advised that a group for the purposes of the proposed Directive can consist of undertakings other than bodies corporate and can include natural persons, provided that any one member of the group is a limited company. There is no provision in Irish law requiring individual traders or unincorporated enterprises to prepare and publish annual accounts although a Friendly Society, which is not a body corporate, must make financial returns to the Registrar of Friendly Societies which are available for inspection by the public. The Joint Committee recommends that it should be left to the national law of each Member State to determine whether a sole trader or partnership should be treated as an undertaking for the purpose of the proposed Directive.
11. Article 6 (2) of the draft Directive requires consolidated accounts not only from groups but also from sub-groups when a group is organised at different levels and when, through the intermediary of a dependent group, other groups are dominated. This could prove an extremely burdensome obligation in certain circumstances where the necessity for it is not apparent. In Ireland group accounts are not required where the holding company is the wholly-owned subsidiary of another Irish company. In the Joint Committee’s view the Directive should allow for this exemption to be continued.
12. The draft Directive would require that in drawing up group accounts any general goodwill, not related to any particular asset, should be written off within five years. The Joint Committee’s predecessor in its forty-seventh report (Prl. 5938) of 9th December, 1976 criticised a similar provision in the draft Fourth Directive. It understands that the Commission is agreeable to the latter proposal being amended to allow goodwill to be written off over the period of its economic life and it recommends that the draft Seventh Directive be amended similarly.
13. The Proposed Directive would require those responsible for auditing group accounts to verify that the group annual report must give particulars of, inter alia, “the group’s likely future development”. It has been represented to the Joint Committee that the requirement that auditors should report on a forecast could not be accepted by the profession in this country. The Joint Committee agrees with this attitude and recommends that the proposed Directive be suitably amended to ensure that auditors accept no responsibility for forecasts.
14. In considering the draft Seventh Directive the Joint Committee enjoyed the benefit of advice, both oral and written, from the Councils of the constituent members of the Consultative Committee of Accountancy Bodies, namely, the Institute of Chartered Accountants in Ireland, the Association of Certified Accountants and the Institute of Cost and Management Accountants. It also obtained considerable assistance from a memorandum received from the Small Firms Association (within the Confederation of Irish Industry). It wishes to express its sincere thanks to these bodies.
(Signed) MARK CLINTON.
Chairman of the Joint Committee.
3rd May, 1978.