Pas 28 Investment In Associates And Joint Ventures

PAS 28 INVESTMENTS IN A S S O C I AT E S & J O I N T VENTURES

IAS 28 – OVERVIEW • Objective and scope • Application of the equity method • Disclosure

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OBJECTIVE & SCOPE

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ASSOCIATE – an entity over which an investor has significant influence, but which is not a subsidiary or an interest in a joint venture – may be an unincorporated organization such as a partnership

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Types of Investment

Nature of Application Relationship reporting with investee standards At fair value Regular investor PFRS 9 In Associate Significant PAS 28 Influence In Subsidiary Control PFRS 3 and PFRS 10 In Joint Venture Joint Control PFRS 11 and PAS 28

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• Significant Influence – Standard IAS 28 defines significant influence as the power to participate in the financial and operating policy decisions of the investee, but is NOT a control or joint control of those policies. – usually when holding, directly or indirectly, 20% to 50% of the voting power of another entity – equity method of accounting required for investments in associates

• Control – a higher level of power – exists when an investor can govern the financial and operating policies of an investee and through this obtain benefits from its activities.

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Percentage of ownership

Type of investment

Less than 20%

Financial assets at fair value

20% to 50%

Investment in associate

51% to 100%

Investment in subsidiary

Contractually agreed sharing of control

Investment in joint venture 7

The other ways of evidencing significant influence are as follows: • Investor has a representation on the board of directors (or other equivalent governing body) of the investee. • Investor participates in policy-making processes (including dividend decisions). • There are material transactions between the investor and its investee. • There’s interchange of managerial personnel.

• Provision of essential technical information.

Changes in significant influence – lost when an entity no longer has the power to participate in the financial and operating decisions of the investee – may be lost or obtained by factors other than a change in share ownership

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Equity Method - Investment is initially recognized at cost - Subsequently adjusted for the investor share in the in the investee’s changes in equity (e.g., profit or loss dividends and other comprehensive income). Benefits of the equity method • better information in the statement of comprehensive income about the investor’s (and associate’s) performance than recognizing the dividend received • if investor exercises influence that is beneficial to the investee, it recognizes the positive effect on the investee’s profit in its own profit and loss

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EXAMPLE • On January 1, 2001, Entity A acquires 20% interest in Entity B for P400,000. Entity B reports profit of P100,00 and declares dividend of P50,000 in 2001.

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THE CARRYING AMOUNT OF INVESTMENT IN ASSOCIATE ON DECEMBER 31, 20X1 IS COMPUTED AS FOLLOWS:

Investment in associate 1/1/x1 Sh. In profit (100K x 20%)

400,000 20,000

10,000 410,000

Dividends (50K x 20%) 12/31/x1

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IAS 28 – APPLICATION OF THE EQUITY METHOD Exceptions to applying the equity method for investments in associates 1. the investment is classified as held for sale

2. the investor’s parent company is exempt from preparing consolidated financial statements 3. the investor itself meets all the same criteria in 2 above that exempt a parent from preparing consolidated statements

• The equity method is often called one-line consolidation – procedures are similar to those used to account for acquisition of a subsidiary and for subsequent consolidation procedures in PAS 27 – both methods are concerned with accounting for the investments as part of the reporting entity rather than as passive holdings

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IAS 28 – APPLICATION OF THE EQUITY METHOD At Acquisition • investor prepares an analysis of the purchase cost • investor identifies any difference between the investor’s cost and its share of the fair value of the associate’s identifiable net assets at acquisition as:

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IAS 28 – APPLICATION OF THE EQUITY METHOD After Acquisition • As associate earns a profit -- its net assets increase – the investor recognizes its share of the profit and increases the carrying amount of the investment for its share of the increase in the associate’s net assets

• Fair value differences – not recognized in the associate’s records

– not amortized in the profit or loss that the associate reports – are amortized by the investor as they are included in the investment account balance – usually has the effect of reducing the investment income reported

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IAS 28 – APPLICATION OF THE EQUITY METHOD • Dividends – as associate declares/pays dividends, its net assets decrease – investor recognizes its share of the reduction as the dividend is received

• This entry reflects the conversion of the investment into cash by the investor

Adjustments needed each period • elimination of profits and losses on intercompany transactions between the investor and the associate • for upstream (associate to investor) and downstream (investor to associate) transactions – the investor’s share of any unrealized profits and losses are eliminated with adjustments to the investment and the investment income accounts

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IAS 28 – APPLICATION OF THE EQUITY METHOD Other Adjustments • investor adjusts investment account and its OCI or other equity account for its share of associate’s OCI and changes in other equity accounts • investor’s share of associate’s losses is more than the carrying amount of the investment – continue to recognize losses and resulting liability to extent investor has legal or constructive obligations to make payments on behalf of associate

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Share in Associate’s a. Profit or Loss

b. Dividends c. OCI

Effect on Investment in associate Increase for share in profit/decrease for share in loss decrease Increase for share in gain/decrease for share in loss

Effect on investment income Increase for share in profit: decrease for share in loss No effect No effect, the share in OCI is included in the investor’s OCI

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INVESTEE ACCOUNTING POLICY AND FINANCIAL STATEMENTS

• The procedures in equity method are very similar to consolidation procedures under the standard PFRS 10 Consolidated Financial Statements:

• Both investor and investee shall apply uniform accounting policies for the similar transactions. • The same reporting date shall be used, unless it’s impracticable. • The difference between investee’s and investor’s end of reporting period shall not exceed three months

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CUMULATIVE PREFERENCE SHARES • If the investee has outstanding cumulative preference shares that are held by parties other than the investor and classified as equity, the investor computes its share of profits or losses after deducting one-year dividends on those shares, whether declared or not.

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SHARE IN LOSSES • The investor shares in the investee’s losses only up to the amount of its interest in the associate or joint venture. Interest in the associate or joint venture:

• A. Carrying amount of the investment in associate/joint venture • B. Investment in preference shares of the associate/joint venture • C. Unsecured, long tong-term receivables or loans

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• Zero-out (Shares in losses are applied first to the carrying amount of the investment in associate/joint venture).

• Shares in losses are applied to other components of the interest in the associate or joint venture in the reverse order of their seniority • After the total balance of the interest in the associate or joint venture is zeroed-out, the investor stops sharing in further losses, except to the extent that the investor. A. Has incurred legal or constructive obligations B. Made payment on behalf of the associate.

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IAS 28 – APPLICATION OF THE EQUITY METHOD Impairment Losses

• investment account reduced by investor’s share of losses reported by associate • investor applies PAS 39 to determine whether an impairment

loss

• carrying amount of investment as a whole is compared with its recoverable amount – the higher of value in use and fair value less selling costs

• impairment loss is not allocated to specific assets underlying the investment • investment tested for impairment as a single asset • impairment loss may be reversed in the future

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IAS 28 – APPLICATION OF THE EQUITY METHOD Loss of Significant Influence • When investor ceases to have significant influence over an associate • Unless associate becomes a subsidiary or joint venture, the investment is accounted for under IAS 39 – investment that remains is remeasured at its fair value – proceeds on disposal are recognized – difference between total of these two amounts and carrying value of investment when significant influence is lost is recognized in profit or loss

• Amounts remaining in entity’s OCI attributable to the associate – account for as if associate had disposed of the related assets/liabilities

• Amounts are reclassified to profit or loss if that is what associate would have done on disposal

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IAS 28 – DISCLOSURE • Investments in associates under equity method reported as non-current assets • Disclose (a) carrying amount of investments (b) investor’s share of profit or loss for the period (c) investor’s share of any discontinued operations of associates, report separately in discontinued operations (d) investor’s share of changes recognized in OCI by associate, report in OCI (e) information about any related contingent liabilities

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IAS 28 – DISCLOSURE • Other information required – info that provides reader with a better understanding of circumstances and financial position of associates • Examples • summarized financial information about associates

• reasons supporting use of equity method with holdings of < 20% • reasons why any associates not accounted for using equity method

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LOOKING AHEAD • Early 2008 – minor amendments made to IAS 28 to reduce choice and exemptions – no change to major concepts and how equity method is applied

• Topic not listed on current IASB project agenda – no significant changes expected in foreseeable future – work on IAS 27 may have implications for IAS 28

• New term being considered = significant involvement – Not yet determined how this term is related to “significant influence”

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