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PAS 28: Accounting for Associates

1. PAS 28 provides guidance on accounting for investments in associates using the equity method. Under this method, an investment is initially recognized at cost and adjusted thereafter to recognize the investor's share of the associate's net profits or losses. 2. An associate is an entity over which the investor has significant influence, defined as the power to participate in the financial and operating policy decisions, but is not control or joint control. 3. Significant influence is generally indicated by a 20% or more voting interest, representation on the board of directors, participation in policy-making, material transactions between entities, or provision of technical information.

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56 views5 pages

PAS 28: Accounting for Associates

1. PAS 28 provides guidance on accounting for investments in associates using the equity method. Under this method, an investment is initially recognized at cost and adjusted thereafter to recognize the investor's share of the associate's net profits or losses. 2. An associate is an entity over which the investor has significant influence, defined as the power to participate in the financial and operating policy decisions, but is not control or joint control. 3. Significant influence is generally indicated by a 20% or more voting interest, representation on the board of directors, participation in policy-making, material transactions between entities, or provision of technical information.

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elle frias
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PAS 28: Investments in Associate

INVESTMENT IN ASSOCIATES (PAS 28)


 
 
Key Definitions
 

 Associate- Is an entity, including an unincorporated entity such as a


partnership, over which the investor has significant influence and that is
neither a subsidiary nor an interest in a joint venture.

 Significant influence - Is the power to participate in the financial and


operating policy decisions of the investee but is not control or joint control
over those policies.

 Equity method - Is a method of accounting whereby the investment is initially


recognized at cost and adjusted thereafter for the post acquisition change in
the investor’s share of net assets of the investee. The profit or loss of the
investor includes the investor's share of the profit or loss of the 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.
 The existence of significant influence by an investor is usually evidenced in
one or more of the following ways: [PRIME]

 
1. Participation in the policy-making process;
2. Representation on the board of directors or equivalent governing body of the
investee;
3. Interchange of managerial personnel;
4. Material transactions between the investor and the investee; or
5. Provision of essential technical information.

 
Accounting for Associates
 

 In its consolidated financial statements, an investor should use the equity


method of accounting for investments in associates, unless:

1. An investment in an associate that is acquired and held exclusively with a view


to its disposal within 12 months from acquisition should be accounted for as
held for trading under PFRS 9 (FVPL).
2. A parent that is exempted from preparing consolidated financial statements by
PAS 27 may prepare separate financial statements as its primary financial
statements. Use cost method or PFRS 9.
3. An investor need not use the equity method if all of the following four
conditions are met:
4. 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;
5. The investor's debt or equity instruments are not traded in a public market;
6. The investor did not file, nor is it in the process of filing, its financial
statements with a securities commission or other regulatory organization for
the purpose of issuing any class of instruments in a public market; and
7. The ultimate or any intermediate parent of the investor produces consolidated
financial statements available for public use that comply with PFRS.

 
Applying the Equity Method of Accounting
 

1. Basic principle – The equity investment is initially recorded at cost and is


subsequently adjusted to reflect the investor's share of the net profit or loss
of the associate.
 

2. Distributions and other adjustments to carrying amount - Distributions


received from the investee reduce the carrying amount of the investment.
Adjustments to the carrying amount may also be required arising from OTHER
changes in the investee's equity (revaluation surplus and translation gains and
losses.

3. An associate with outstanding preference shares


4. The investor computes its share of profits or losses after adjusting for the
dividends on such shares, whether or not the dividendshave been declared
on cumulative preference shares.
5. However if the preference shares is non-cumulative, adjustments for
dividends are made only if there is a declaration.
6. Implicit goodwill and fair value adjustments - On acquisition of the
investment any difference between the cost of the investment and
the investor’s share of the net fair value of the associate’s identifiable assets,
liabilities and contingent liabilities is accounted for in accordance with PFRS
3 Business Combinations. Therefore:

 
(a)  Goodwill relating to an associate is included in the carrying amount of the
investment.  However, amortization of that goodwill is not permitted and is therefore
not included in the determination of the investor’s share of the associate’s profits or
losses.
 
(b)  Any excess of the investor’s share of the net fair value of the associate’s identifiable
assets, liabilities and contingent liabilities over the cost of the investment

 Is excluded from the carrying amount of the investment


 Included as income in the determination of the investor’s share of the
associate’s profit or loss in the period in which the investment is acquired.
 This is more commonly known as “negative goodwill” or the “gain on bargain
purchase”

5. Appropriate adjustments to the investor's share of the profits or losses after


acquisition are made to account for additional depreciation of the associate's
depreciable assets based on the excess of their fair values over their carrying
amounts at the time the investment was acquired. This rule also applies to
inventories since this will have an effect in the associate’s reported net
income.

6. 6. Transactions with associates

 Unrealized profits and losses resulting from upstream (associate to investor)


and downstream (investor to associate) transactions should be eliminated to
the extent of the investor's interest in the associate if the asset sold between
the associate and investor has not yet been sold to an unrelated party.
 However, realized profits and losses shall be recognized once the asset is sold
to an unrelated party or if the asset is being consumed through depreciation.

7. 7. Discontinuing the equity method - Use of the equity method should cease
from the date that significant influence ceases.

 The difference between the selling price and carrying amount of the
investment sold shall be recognized in profit or loss.
 The “retained investment” shall be accounted for under PFRS 9 and shall be
remeasured to fair value on the date significant influence ceases and
recognized in profit or loss.

8. 8. Application of the equity method achieved in stages

 The previously held interest that was accounted for under the cost or fair
value method shall be remeasured to fair value on the date the investor gains
significant influence.
 The difference between the fair value and the carrying amount of the
previously held investment shall be recognized in profit or loss.
 The total of the fair value of the previously held investment and the new
acquisition cost shall be regarded as the total cost of the investment classified
as “associate”.
 If the FVOCI was used to account for the previously held investment, any
cumulative unrealized gain or loss as OCI shall be reclassified to retained
earnings.

9. Date of associate's financial statements


 The investor should use the financial statements of the associate as of the
same date as the financial statements of the investor unless it is impracticable
to do so.
 If it impracticable, the most recent available financial statements of the
associate should be used, with adjustments made for the effects of any
significant transactions or events occurring between the accounting period
ends.
 However, the difference between the reporting date of the associate and that
of the investor cannot be longer than three months.

9. Losses in excess of investment

 The investor’s share in the associates losses cannot exceed the “interest in the
associate” and shall discontinue the application of the equity method is this is
the case.
 After the investor's interest is reduced to zero, additional losses are
recognized by a provision (liability) only to the extent that the investor has
incurred legal or constructive obligations or made payments on behalf of the
associate.
 If the associate subsequently reports profits, the investor resumes recognizing
its share of those profits only after its share of the profits equals the share of
losses not recognized.

Common questions

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Unrealized profits from transactions between an investor and its associate should be eliminated to the extent of the investor's interest in the associate if the asset sold has not yet been sold to an unrelated party . These profits are only recognized once the asset is sold to an unrelated party or if the asset is being consumed through depreciation, as this represents the realization of the profit or loss .

'Significant influence' is defined as the power to participate in the financial and operating policy decisions of the investee but is not control or joint control over those policies . This concept is crucial for the equity method of accounting because it determines whether the equity method should be applied. Without significant influence, an investor cannot account for an associate using the equity method, which reflects the investor's share of the investee’s net assets and results in recognizing the investor's share of the investee’s profits or losses .

When an investor gains significant influence over an associate, any previously held interest, previously accounted for under the cost or fair value method, must be remeasured to fair value on that date. The difference between the fair value and the carrying amount is recognized in profit or loss . The total fair value of the previously held investment plus the cost of new acquisition determines the total cost of the investment classified as an associate .

Goodwill related to an associate is included in the carrying amount of the investment but is not amortized. Instead, it may be tested for impairment . This treatment aligns with the standards of business combinations where amortization of goodwill is not allowed. Negative goodwill, or gain on bargain purchase, occurs when the investor’s share of the net fair value of the associate’s identifiable assets exceeds the cost of the investment. It is excluded from the carrying amount of the investment and recognized as income in the period in which the investment is acquired .

The equity method ceases when significant influence is lost because the investor no longer has the power to participate in the financial and operating policy decisions of the investee, which is fundamental to the equity method. At this point, the investment is remeasured to fair value, and any gain or loss is recognized in profit or loss. Subsequently, the retained investment is accounted for under PFRS 9, reflecting the change in the nature of the investment from strategic to more financial .

PAS 28 requires that the financial statements of an associate used by the investor be as of the same date as those of the investor unless impracticable. If impractical, the most recent available financial statements should be used with adjustments for significant transactions or events after that date. The difference between the reporting dates of the associate and investor cannot exceed three months .

Under the equity method, an investor's share of profits or losses from an associate must be adjusted for dividends on preferred shares. For cumulative preferred shares, adjustments are made regardless of whether dividends have been declared. For non-cumulative preferred shares, adjustments are only made if dividends have been declared .

PAS 28 stipulates that the investor’s share of an associate's losses should not exceed the investor’s interest in the associate. If losses exceed the investment, the equity method is discontinued, and further losses are recognized only if the investor has legal or constructive obligations or has made payments on behalf of the associate . If the associate later reports profits, the investor resumes recognizing its share only after the profits equal the previously unrecognized losses .

An investor may be exempted from applying the equity method if it meets all of the following conditions: it is a wholly-owned or partially-owned subsidiary whose owners have been informed and do not object to the omission of the equity method; its debt or equity instruments are not publicly traded; it has not filed or planned to file financial statements with a securities commission; and its ultimate or intermediate parent produces publicly available consolidated financial statements .

When applying the equity method, additional depreciation should be recorded to account for the difference between the fair values and carrying amounts of the associate’s depreciable assets at acquisition. These adjustments are necessary to align the investor's share of the associate’s net assets with their fair values, ensuring that any excess fair value over carrying amounts impacts the associate’s reported net income correctly. This maintains accurate representation of the associate’s profitability in the investor's financial statements .

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