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Int. Acc. FA LECT 8: CH 17 part 1: Investments (Equity investments (Three…
Int. Acc. FA LECT 8: CH 17 part 1: Investments
Equity investments
How to account for these investments subsequent to acquisition? --> Depends on the type of ownership
Three types:
Significant influence – holding between 20% and 50%
Control–holding > 50%
Passive interest–holding of < 20% of all shares
Equity investment represents ownership of ordinary, preference, or other capital shares
Cost includes price of the security
Broker’s commissions and fees are recorded
as expense in the income statement
, so not included in the cost of shares recognized as
an asset on the balance sheet
Accounting for the three ownership types:
Significant influence – “equitymethod”
Control–“consolidation”
Passive interest – “fairvalue”
Equity investments(II)
Percentage of control (percentage of vote, or of voting rights)
= degree of dependency in which a parent company holds its subsidiaries or associates
Proportion of total voting rights held by the parent in its related company
Percentage used to determine the consolidation method
Equity method
Fair value method
Full consolidation
Percentage of interest (called percentage of ownership or of stake)
Percentage used in the process of consolidation of accounts and calculations to define majority and minority interests
Percentage of control held by a parent may be different from the percentage of interest
= claim held by the parent company over the shareholders’ equity (including net income) of its subsidiaries or associates
1 Equity at fair value
For the class of <20% of ownership, the fair value method of accounting results in the following realized income effects:
Dividends declared by the company of which shares are held
Gains and losses from the sale of the shares
With fair value accounting, however, we also account for unrealized gains and losses on the investment
Adjust for changes in the “fair value” of the investment (recall the OCI component in equity)
With regard to unrealized gains and losses, there are 2 possible accounting treatments
Treatment depends on whether the equity is:
Held-for-trading
Not held-for trading
Either in Net Income or OCI (recall Chapter 15)
1 Equity at fair value
A. Held-for-trading
Record any unrealized gains and losses on the investment in
net
income
For example, value of investment on Volkswagen declines from 1,000,000 to 800,000 because stock price drops from 250 to 200
IFRS assumes this is the standard
The 200,000
unrealized loss
(unrealized, because the shares have not been sold) is recorded as
an expense in the income statement
B. Not held-for trading
Specific circumstances
Record any unrealized gains and losses on the investment in
other comprehensive income
Fair value changes are directly recorded in the company’s equity instead of passing through the income statement and thereby affecting retained earnings