value under IFRS 9, with changes in fair value recognised in profit or loss in the period of change.
5.3.2.B
Designation of investments as ‘at fair value through profit or loss’
As noted above, venture capital organisations and other similar financial institutions that use
the exemption in IAS 28 for their investments in associates or joint ventures are required to
apply IFRS 9 to those investments. On 8 December 2016, the IASB issued Annual
Improvements to IFRS Standards 2014–2016 Cycle. An amendment to IAS 28 clarifies that
an entity can make the election to use IFRS 9 on an investment by investment basis at initial
recognition of the associate or joint venture. The amendment was applicable to accounting
periods beginning on or after 1 January 2018, with early application permitted.
5.4
Partial use of fair value measurement of associates
As explained above at 5.3.2.A, an entity may elect to measure a portion of an investment
in an associate held indirectly through a venture capital organisation, or a mutual fund,
unit trust and similar entities including investment-linked insurance funds at fair value
through profit or loss in accordance with IFRS 9 regardless of whether the venture capital
organisation, or the mutual fund, unit trust and similar entities including investment-linked
insurance funds, has significant influence over that portion of the investment.
In the Basis for Conclusions to IAS 28, the IASB noted a discussion of whether the
partial use of fair value should be allowed only in the case of venture capital
organisations, or mutual funds, unit trusts and similar entities including investment-
linked insurance funds, that have designated their portion of the investment in the
associate at fair value through profit or loss in their own financial statements. The IASB
noted that several situations might arise in which those entities do not measure their
portion of the investment in the associate at fair value through profit or loss. In those
situations, however, from the group’s perspective, the appropriate determination of the
business purpose would lead to the measurement of this portion of the investment in
the associate at fair value through profit or loss in the consolidated financial statements.
Consequently, the IASB decided that an entity should be able to measure a portion of
an investment in an associate held by a venture capital organisation, or a mutual fund,
unit trust and similar entities including investment-linked insurance funds, at fair value
through profit or loss regardless of whether this portion of the investment is measured
at fair value through profit or loss in those entities’ financial statements. [IAS 28.BC22].
760 Chapter
11
Example 11.3 below (which is based on four scenarios considered by the Interpretations
Committee at its meeting in May 20094) illustrates this partial use exemption.
Example 11.3: Venture capital consolidations and partial use of fair value
through profit or loss
A parent entity has two wholly-owned subsidiaries (A and B), each of which has an ownership interest in an
‘associate’, entity C. Subsidiary A is a venture capital business that holds its interest in an investment-linked fund.
Subsidiary B is a holding company. Neither of the investments held by subsidiaries A and B is held for trading.
Scenario 1: both investments in the associate result in significant influence on a stand-alone basis
Parent
Sub A
Sub B
25%
20%
Inv C
Subsidiary A accounts for its 25% share in the associate at fair value through profit or loss in accordance with
IFRS 9 (see Chapter 46 at 2.4).
Subsidiary B accounts for its 20% share in the associate using the equity method in accordance with IAS 28
(see 7 below).
The parent entity must equity account for its 20% interest held by B. Under the partial use of fair value
exemption, the parent entity may elect to measure the 25% interest held by A at fair value through profit or loss.
Scenario 2: neither of the investments in the associate results in significant influence on a stand-alone basis,
but do provide the parent with significant influence on a combined basis.
Parent
Sub A
Sub B
15%
10%
Inv C
Subsidiary A accounts for its 15% share in the associate at fair value through profit or loss in accordance with
IFRS 9 (see Chapter 46 at 2.4).
Subsidiary B designated its 10% share in the associate as at fair value through other comprehensive income
in accordance with IFRS 9 (see Chapter 46 at 2.5).
The parent entity must equity account for its 10% interest held by B, even though B would not have significant
influence on a stand-alone basis. Under the partial use of fair value exemption, the parent entity may elect to
measure the 15% interest held by A at fair value through profit or loss.
Investments in associates and joint ventures 761
Scenario 3: one of the investments in the associate results in significant influence on a stand-alone basis and
the other investment in the associate does not result in significant influence on a stand-alone basis
Parent
Sub A
Sub B
25%
5%
Inv C
Subsidiary A accounts for its 25% share in the associate at fair value through profit or loss in accordance with
IFRS 9 (see Chapter 46 at 2.4).
Subsidiary B designated its 5% share in the associate as at fair value through other comprehensive income in
accordance with IFRS 9 (see Chapter 46 at 2.5).
The parent entity must equity account for its 5% interest held by B, even though B would not have significant
influence on a stand-alone basis. Under the partial use of fair value exemption, the parent entity may elect to
measure the 25% interest held by A at fair value through profit or loss.
Scenario 4: same as scenario 3, but with the ownership interests switched between the subsidiaries
Parent
Sub A
Sub B
5%
25%
Inv C
Subsidiary A accounts for its 5% share in the associate at fair value through profit or loss in accordance with
IFRS 9 (see Chapter 46 at 2.4).
Subsidiary B accounts for its 25% share in the associate using the equity method in accordance with IAS 28
(see 7 below).
The parent entity must equity account for its 25% interest held by B. Under the partial use of fair value
exemption, the parent entity may elect to measure the 5% interest held by A at fair value through profit or loss.
6
CLASSIFICATION AS HELD FOR SALE (IFRS 5)
IAS 28 requires that an entity applies IFRS 5 – Non-current Assets Held for Sale and
Discontinued Operations – to an investment, or a portion of an investment, in an
associate or a joint venture that meets the criteria to be classified as held for sale.
[IAS 28.20]. The detailed IFRS requirements for classification as held for sale are discussed
in Chapter 4 at 2.1.2. In this situation, the investor discontinues the use of the equity
762 Chapter
11
method from the date that the investment (or the portion of it) is classified as held for
sale; instead, the associate or joint v
enture is then measured at the lower of its carrying
amount and fair value less cost to sell. [IFRS 5.15]. The measurement requirements as set
out in IFRS 5 are discussed in detail in Chapter 4 at 2.2. Any retained portion of an
investment in an associate or a joint venture that has not been classified as held for sale
is accounted for using the equity method until disposal of the portion that is classified
as held for sale takes place. After the disposal takes place, an entity accounts for any
retained interest in the associate or joint venture in accordance with IFRS 9 unless the
retained interest continues to be an associate or a joint venture, in which case the entity
uses the equity method. [IAS 28.20].
As explained in the Basis for Conclusions to IAS 28, the IASB concluded that if a portion
of an interest in an associate or joint venture fulfilled the criteria for classification as
held for sale, it is only that portion that should be accounted for under IFRS 5. An entity
should maintain the use of the equity method for the retained interest until the portion
classified as held for sale is finally sold. The reason being that even if the entity has the
intention of selling a portion of an interest in an associate or joint venture, until it does
so it still has significant influence over, or joint control of, that investee. [IAS 28.BC23-27].
When an investment, or a portion of an investment, in an associate or a joint venture
previously classified as held for sale no longer meets the criteria to be so classified, it is
accounted for using the equity method retrospectively as from the date of its
classification as held for sale. Financial statements for the periods since classification as
held for sale are amended accordingly. [IAS 28.21].
7
APPLICATION OF THE EQUITY METHOD
IAS 28 defines the equity method as ‘a method of accounting whereby the investment
is initially recognised at cost and adjusted thereafter for the post-acquisition change in
the investor’s share of the investee’s net assets. The investor’s profit or loss includes its
share of the investee’s profit or loss and the investor’s other comprehensive income
includes its share of the investee’s other comprehensive income.’ [IAS 28.3].
7.1 Overview
IAS 28 states that ‘Under the equity method, on initial recognition the investment in an
associate or a joint venture is recognised at cost, and the carrying amount is increased or
decreased to recognise the investor’s share of the profit or loss of the investee after the
date of acquisition. The investor’s share of the investee’s profit or loss is recognised in the
investor’s profit or loss. Distributions received from an investee reduce the carrying
amount of the investment. Adjustments to the carrying amount may also be necessary for
changes in the investor’s proportionate interest in the investee arising from changes in the
investee’s other comprehensive income. Such changes include those arising from the
revaluation of property, plant and equipment and from foreign exchange translation
differences. The investor’s share of those changes is recognised in the investor’s other
comprehensive income [...]’. [IAS 28.10]. On acquisition of the investment, any difference
between the cost of the investment and the entity’s share of the net fair value of the
investee’s identifiable assets and liabilities is accounted for as follows:
Investments in associates and joint ventures 763
• Goodwill relating to an associate or a joint venture is included in the carrying
amount of the investment. Amortisation of that goodwill is not permitted;
• Any excess of the entity’s share of the net fair value of the investee’s identifiable
assets and liabilities over the cost of the investment is included as income in the
determination of the entity’s share of the associate or joint venture’s profit or loss
in the period in which the investment is acquired.
Appropriate adjustments to the entity’s share of the associate’s or joint venture’s profit
or loss after acquisition are made in order to account, for example, for depreciation of
the depreciable assets based on their fair values at the acquisition date. Similarly,
appropriate adjustments to the entity’s share of the associate’s or joint venture’s profit
or loss after acquisition are made for impairment losses, such as for goodwill or
property, plant and equipment. [IAS 28.32].
These requirements are illustrated in Example 11.4 below.
Example 11.4: Application of the equity method
On the first day of its financial year, entity A acquires a 35% interest in entity B, over which it is able to
exercise significant influence. Entity A paid €475,000 for its interest in B. The book value of B’s net
identifiable assets at acquisition date was €900,000, and the fair value €1,100,000. The difference of €200,000
relates to an item of property, plant and equipment with a remaining useful life of 10 years. During the year
B made a profit of €80,000 and paid a dividend of €120,000. Entity B also owned an investment in securities
classified as at fair value through other comprehensive income that increased in value by €20,000 during the
year. For the purposes of the example, any deferred tax implications have been ignored.
Entity A accounts for its investment in B under the equity method as follows:
€ €
Acquisition date of investment in B
Share in book value of B’s net identifiable assets: 35% of €900,000 315,000
Share in fair valuation of B’s net identifiable assets: 35% of (€1,100,000 –
€900,000) *
70,000
Goodwill on investment in B: €475,000 – €315,000 – €70,000 *
90,000
Cost of investment
475,000
Profit during the year
Share in the profit reported by B: 35% of €80,000 28,000
Adjustment to reflect effect of fair valuation *
35% of ((€1,100,000 – €900,000) ÷ 10 years)
(7,000)
Share of profit in B recognised in income by A
21,000
Revaluation of asset at fair value through other comprehensive income
Share in revaluation recognised in other comprehensive income by A: 35% of
€20,000
7,000
Dividend received by A during the year
35% of €120,000
(42,000)
End of the financial year
Share in book value of B’s net assets:
€315,000 + 35% (€80,000 – €120,000 + €20,000)
308,000
Share in fair valuation of B’s net identifiable assets: €70,000 – €7,000 *
63,000
Goodwill on investment in B *
90,000
Closing balance of A’s investment in B
461,000
*
These line items are normally not presented separately, but are combined with the ones immediately above.
764 Chapter
11
IAS 28 explains that equity accounting is necessary because recognising income simply
on the basis of distributions received may not be an adequate measure of the income
earned by an investor on an investment in an associate or a joint venture, since
distributions received may bear little relation to the performance of the associate or
&
nbsp; joint venture. Through its significant influence over the associate, or joint control of the
joint venture, the investor has an interest in the associate’s or joint venture’s
performance and, as a result, the return on its investment. The investor accounts for this
interest by extending the scope of its financial statements so as to include its share of
profits or losses of such an investee. As a result, application of the equity method
provides more informative reporting of the net assets and profit or loss of the investor.
[IAS 28.11].
The Interpretations Committee published a tentative agenda decision in June 2017
regarding a request about how to account for the acquisition of an interest in an
associate or joint venture from an entity under common control. The
Interpretations Committee concluded that an entity applies IAS 28 to such
transactions and should not apply the common control scope exception in IFRS 3
– Business Combinations – by analogy. The Interpretations Committee believed
that the scope of IAS 28 is clear in this regard and decided not to add this matter
onto its agenda. After considering the dissenting opinions regarding the tentative
agenda decision, the Interpretations Committee decided to hold back on finalising
the agenda decision. The IASB will consider interactions between accounting for
transactions included in the scope of the Business Combinations under Common
Control research project and accounting for other transactions under common
control as the project progresses.5
7.2
Comparison between equity accounting and consolidation
For some time there has been a debate about whether the equity method of accounting
is primarily a method of consolidation or a method of valuing an investment, as IAS 28
does not provide specific guidance either way.
An investor that controls a subsidiary has control over the assets and liabilities of that
subsidiary. While an investor that has significant influence over an associate or joint
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 150