Mac Group is an investment management firm that invests in various real estate properties. In June 20X2, Mac Group launched a new fund, Cheese Fund, which is designed to invest in corporate office buildings. It has been determined that Cheese Fund is a variable interest entity.
Mac Group wholly owns and consolidates the Fund Manager and the General Partner (GP) of Cheese Fund. In May 20X2, the GP and the Fund Manager entered into a management agreement to provide the Fund Manager with the ability to find and recommend corporate office buildings in which Cheese Fund should invest. The management agreement gives the Fund Manager and the GP unilateral power to direct the most significant activities that have an impact on Cheese Fund’s economic performance.
The Fund Manager receives a management fee and the GP receives an incentive fee (collectively, the “decision-maker fees”). Management has concluded that the management fee and incentive fee are compensation for services provided and are at market and commensurate with the level of effort required to provide those services. In addition, the decision-maker fee arrangement includes terms and conditions that are customarily present in similar arrangements negotiated at arm’s length. The decision maker fees are not guarantees, obligations to fund operating losses, payments associated with a written put option, or any similar obligation that would protect an interest holder from suffering losses in Cheese Fund.
In August 20X2, Mac Group had excess cash and decided to invest it in the Cheese Fund. As a result, Mac Group holds a 6.4 percent pro rata equity interest in Cheese Fund. Neither the Fund Manager, the GP, nor any related party of Mac Group have an additional direct equity interest in Cheese Fund.
In consideration of the information presented above, answer the following questions.
1. Does Mac Group have a variable interest in Cheese Fund?
2. Are the decision-maker fees a variable interest?
3. Should Mac Group consolidate Cheese Fund?
4. If Mac Group held a 40 percent pro rata equity interest in Cheese Fund, should Mac Group consolidate Cheese Fund?
University of Illinois
Mac Group is a private company that has control over the financial interest in a variable interest entity for two major reasons. One is that when the company has the authority to control the Variable Interest Entity which can greatly influence the VIE’s economic performance. The other reason is that when Mac Group after Mac Group realizes its obligation to absorb the losses of Cheese Fund which is the Variable Interest Entity in the above mention case and acknowledges the right to gain benefits from Cheese Fund that can potentially be effective to the said Variable Interest Entity.
The answer to the first question is that Mac Group can have a variable interest in Cheese Fund because the company wholly owns and has consolidated the General Partner and Fund Manager of Cheese Fund. Additionally, Mac Group has classified the General Partner and the Fund Manager as the decision makers with regards to the ASC 810, an accounting principle that guides companies with several entities to be compliant while consolidating their financial statements.