IAS 28 applies to all investments in which an investor has significant influence but not control or joint control except for investments held by a venture capital organisation, mutual fund, unit trust, and similar entity that are designated under IAS 39 to be at fair value with fair value changes recognised in profit or loss. [IAS 28.1]
Key definitions [IAS 28.2]
Associate: an entity in which an investor has significant influence but not control or joint control.
Significant influence: the power to participate in the financial and operating policy decisions but not control them.
Equity method: a method of accounting by which an equity investment is initially recorded at cost and subsequently adjusted to reflect the investor’s share of the net assets of the associate (investee).
Identification of associates
A holding of 20% or more of the voting power (directly or through subsidiaries) will indicate significant influence unless it can be clearly demonstrated otherwise. If the holding is less than 20%, the investor will be presumed not to have significant influence unless such influence can be clearly demonstrated. [IAS 28.6]
The existence of significant influence by an investor is usually evidenced in one or more of the following ways: [IAS 28.7]
- representation on the board of directors or equivalent governing body of the investee
- participation in the policy-making process
- material transactions between the investor and the investee
- interchange of managerial personnel
- provision of essential technical information
Potential voting rights are a factor to be considered in deciding whether significant influence exists. [IAS 28.9]
Accounting for associates
In its consolidated financial statements, an investor should use the equity method of accounting for investments in associates, other than in the following three exceptional circumstances:
- An investment in an associate held by a venture capital organisation or a mutual fund (or similar entity) and that upon initial recognition is designated as held for trading under IAS 39. Under IAS 39, those investments are measured at fair value with fair value changes recognised in profit or loss. [IAS 28.1]
- An investment classified as held for sale in accordance with IFRS 5. [IAS 28.13(a)]
- A parent that is exempted from preparing consolidated financial statements by paragraph 10 of IAS 27 may prepare separate financial statements as its primary financial statements. In those separate statements, the investment in the associate may be accounted for by the cost method or under IAS 39. [IAS 28.13(b)]
An investor need not use the equity method if all of the following four conditions are met: [IAS 28.13(c)]
- the investor is itself a wholly owned subsidiary, or is a partially-owned subsidiary of another entity and its other owners, including those not otherwise entitled to vote, have been informed about, and do not object to, the investor not applying the equity method;
- the investor’s debt or equity instruments are not traded in a public market;
- the investor did not file, nor is it in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market; and
- the ultimate or any intermediate parent of the investor produces consolidated financial statements available for public use that comply with International Financial Reporting Standards.
Equity Accounting – Investment in Associates
|Cost of Investment
|Share of post – acquisition profit/(loss)
|Dividend received from associates (Parent’s share of dividend paid by the Associate)
|Impairment in Investment in Associates
|PUP (Parent’s ownership of Associate PUP)
|Carrying Amounts of Investment in Associates
- The dividend received is not taken to the Consolidated Income Statement and Other Comprehensive Income, instead it is the Parent’s share of post – acquisition profit/loss.
- Any impairment in the associate reduces the value of the Parent’s investment in the associate and hence that reduces the carrying amount of the investment. This is also added to cost of sales (if we are preparing the Consolidated Income Statement and Other Comprehensive Income).
Adjustments required on Statement of Financial Position
- If A is the seller – reduce A’s Retained earnings and P’s Inventory
- If P is the seller – reduce P’s Retained Earnings and the “Investment in Associate” line
Adjustments required on Income Statement
- If A is the seller – reduce the line “share of A’s PAT”
- If P is the seller – increase P’s COS
P sells goods to A (a 30% associate) for 1,000; making a 400 profit. 3/4 of the goods have been sold to 3rd parties by A.
What entries are required in the group accounts?
Profit = 400; Unrealised (still in stock) 1/4 – so unrealised profit = 400 x 1/4 = 100. As this is an associate we take the parents share of this (30%). So an adjustment of 100 x 30% = 30 is needed.
Adjustment required on the Income statement
P is the seller – so increase their COS by 30.
Adjustment required on the group Statement of Financial Position
P is the seller – so reduce their retained earnings and the line “Investment in Associate” by 30.