CHAPTER17

INVESTMENT IN ASSOCIATE
Basic principles

TECHNICAL KNO WLEDGE

\

To understand intercorporaté share investment

To know the meaning of significant influence. 4

To identify the factors that indicate significant influence.

To understand the equity method of
accounting for equity
investment.
.Intercorporate share investment
An intercorporate share investment is the purchase of the
equity shares of one entity by another entity.
In otherwords,it ie a caseofoneentiti'investing
in another
entity through 'the acquisition of share capital.
An entity may purchase enough shares of another entity in
order to exert significant influence over the fmancial and
operating policies of the investee entity.

Significant influence

of significantinfluenceis a matter of
The assessment
judgment.

is the powerto participatein the

influence
Significance.
financial and operating policy decisionsof the investee but not
control or joint control over those policies. .

If the investor holds, directly or indirectly through subsidiaries,

.20% or more of the voting power of the investee, it is presumed
that the investor has significant influence, unless it can be
clearly demonstrated that this is not the ease. /
,

~®nvemely, if the investor holds, directly or indirectly through

subsidiaries, less than 20% of the voting power of the investee,
it is presumed that the investor does not have significant
influence, unless such influence can be clearly demonstrated.

A substantial
ormajority byanotherinvestordoes.
ownership
not necessarily preclude an investor from having significant
influence.
I
Beyondthe mere 20% thresholdof owhership,PAS 28,
paragraph 6, provides that the existenée of significant influence
is usually evidenced by the following factors:

Representation in the board of directors .

Participation in policy making process

99-9232»
Material transactions between the investor and the investee
Interchange of managerial personnel
Provision of essential technical information
 Potential voting rights
.An entity may own share warrants, debt or equity
instruments that are convertible into ordinary shares that
have the potential, if exercised or converted, to give the
entity additional voting power over the financial and
~ operating policies of another entity.

PAS 28, paragraph 7, provides that the existence of such

potential voting rights is considered in assessing whether!
an entity has significant influence.

The potential voting rights should be currently exercisable

or convertible.

Potential voting rights are not cur'rently exercisable or

convertible when the rights cannot be exercised or converted
until a future date or until the occurrence of a future event.

However, when potential voting rights exist, the investor's

share of profit or loss of the investee and of changes in the
investee's equity is determined on the basis of "present
ownership interest" and does not reflect the possible
exercise or conversion of potential voting rights.
u

Loss of significant influence ,

An entity loses significant influence over an investee when
it loses the power to participate in the financial and operating
policy decisions of the investee.

The loss of significant influence can occfn: with or without

change in the absolute or relative ownership interest.

For example, the loss of significant'influence could occur

when an associate becomes' subject to Control of a
government, court, administrator or regulator.

The loss of signihcarit influence could also occur as a result

of a contractual agreement. .
.
 Equity method - K
The equity method18basedon the economicrelatzbnshlpbetween
the investor and the investee.

The investor and the investee are viewed as a single economic

unit. The investor and the investee are one and the same

The equity method is applicable when the investor has a

significanceinfluence over the investee.
.
Accountingprocedures
a. The investment is initially recognized at cost.

isincreased
b. Thecarryingamount bytheinvestor's
share
anddecreasedbytheinvestor'
oftheprofitoftheinvestee 3
share of the loss of the investee.

Theinvestor's oftheprofitorlossoftheinvestee
share is
recognized as investment income. -
K
Distributions or dividends received from an equity investee
_ reduce the carrying amount of the investment.

mustbein ordinaryshares.
d. Notethattheinvestment
If the investment is in preference shares, the equity method
is not appropriate regardless of the percentage because the
'
preferrenoe share is a nonvoting equity.
The investment in preference shares may be accounted for
as at fair value through profit or loss or at fair value through
other comprehensive income or at cost. .

if theinvestor
Technically, hassignificantinfluence
over,
the investee, the infrestee is said to be an associate.

in
Accordingly,underthe equitymethod,the investment
ordinary shares should be appropriately described as
investment in associate.

The investmentin associate for using the equity

aceounted
asset. ~
method shall be classihedas noncurrent
 _.equity method
Illustration
1. On J anuary 1, 2019, an investor purchased 20, 000 shares of
the 100,000 outstanding ordinary shares of another entity
at P200 per share .

The investment represents a 20% equity interest and the

investor has a significant influence over the investee The
acquisitioncostisequalto carrying ofthenet'
amount
assets acquired the
Investment in associate 4,000,000
Cash . , 4, 000, 000

Theinvestee
reportednet incomeofP5,000,000for2019
The investor recognized a share of the net income of the
investee equal to 20% of P5,000,000 or P1,000,000.
Investment in associate 1,000,000
Investment income 1,000,000
I

Received a 25% share dividend from the investee. on

December 31, 2019. -

Memo Received as25%sharedividend

shares
5,000herdinary
on 20,000 original shares.Sharesnow held, 25,000 shares.
Notethatthe20%equity
interest
isnotaffected
bytheshare
dividend.The equityinterestis the samebeforeand after
the share dividend. ,a ,1
The investee reported a net loss of P1, 000, 000 for 2020.
The investor recognized a share in the net loss of the
investeeequal to 20% of P1,000,000or P200,000.
'-
Losson investment . 200,000 .
Investment in associate 20 0, 000

The investee declared and paid a cash dividend of

P2,500,000 on ordinary shares on December 31,2020.
a sharem the cashdividendpaid
The investorrecognized
bytheinvestee to20%
equal ofP2, 000
500, orP500,
000p
Cash - 500,000
Investmentin associate 500,000

Note that under the equity method, cash dividend is not an

income but a return or reduction of investment.
Excessof cost over carrying amount
problem
Anahoounting saysmoreorleg,
arisesif theinvestor
for an investmentthan the carrying amount of underlyingnet
assets.

For example, if the earning potential of the investee i3

abnormally high, the current value of the investee 8 net assets
is mquently higher than their carrying amount.

paysmorethanthecarryingamountof thenet
If the investor
assets acquired, the difference is commonly known as excess
of cost over carrying amount and may be attributed to the
following:
'
a. Undervaluation of the investee s assets, such as building,
land and inventory.

b. Goodwill

it isoften
Inpractice, djfiicult which
todetermine
assets are undervalued.
identifiable specif
.

If the assets of the investee are fairly valued, accountants

frequently attribute the excessof cost over carrying amount of
the underlying net assets to goodwill.
'
is
If theexcess attributable
toundervaluation
ofdepreciable
asset, it is amortized over the remaining life of the depreciable
asset. -

If the excessis attributableto undervaluationof land, it is not

-
amortizedbecausethe land is nondepreciable'.V 9

isexpensed
Theamount whenthelandissold.
If the excessis attributable to inventory, the amount 1sexpensed
when the inventory is already sold. . _ .

If the excessis attributable to goodwill, it is included in the

carrying amount of the investment and not amortized.

the entireinvestinent
However, iricludingthe
in associate
goodwill 18tested for impairment at the end of each reporting
period.
illustration

Atthebeginningof year,aninvestor
thecurrent 20%of
purchased
the outstanding ordinary shares of an investee for P5,000,000.

The net assets 0f the investee on the date of acquisition are

fajrly valued except for a depreciable asset for which the
fair value is P2,000,000 greater than its carrying amount.
&

is attributableto goodwill.
Anyremainingexcess
Thebarrying amouht of the investeesnet assetswas
P20,000,000.The investor therefore paid P1,0.00,000in excess
of the carrying amount of net assets, computed as follows:
. \ ,
-
Acquisitioncost 5,000,000 '
-
Carrying amount of net assets acquired '
(20% 1:20,000,000) 4,000,000
Excessof cost over carrying ameunt . 1,000,000

The excess_is attdbutabIe t0 the following:

~Undervaluation of depreciable assetof investee with.
life 5 years x ,. 400,000
remaining
Goodwill-- remainder ' (20% P2,000,000)
* 600,000
/:
'
Excessof costover'car'ryingamount 3 , , 1,000,000
" xf - : ,~x ,.

The journal entry to amortize the excess of cost attributable

to the undervaluation of depreciable asset is as follows

Investment income' 80,000

- Investment in associate . 80,000
(400,000 / 5 years)

When depreciable and intangible assets of the investee are

undervalued, depreciation and amortization are naturally
understated resulting to overstatement of the investees net
income. Thus, the investor should decrease investment income.

The excess of 00st" attributable to goodwill is not amortized.

.Ihe goodwill is inicluded in the cgrrying amount of the investment

m associate.
Excess of net fair value over cost
PAS 28, paragraph 32, provides that any excess of the
investor's share of the net fair value of the associates
identifiable assets and liabilities Over the cost of the
investment is included as income in the determination of the
investor'8 share of the aésociate's profit or loss in the period
in which the investment is acquired.

Appropriate adjustments to the, investor's share of the

associate's profit or loss after acquisition are also made to
account, for example, for depreciation of depreciable assets
'based on their fair value on the acquisition date.
"
Illustration ',
At the beginning of the current year, an investor purchased
40% of the ordinary shares outstanding of an investee for
P15, 000, 000 when the net assets of the investee amounted to
' .
P30, 000,000.

date,thecarrying
At acquisition '
oftheidentifiable
amounts.
assets and liabilities of the investee were equal to their fair
value, except for the following:

a.Equ1'pment whose fair value was P7,000,000 greater than

carrying amount. 1 .

b.1nventory whose fair value was P2, 500,000 greater than

carrymg amount

Theequipment hasa remaining lifeof4 yearsand inventory

was all sold during the current year. the
The investee reported net mcome of P20, 000,000 for the current
year and paid P5, 000,000 cash dividend at year--end.

Computation .
"
cost' "
Acquisition ~ 15,000,000
000) 12,000,000
Carryingamountofnetassetsacqmred(40°/6xP30,000,
61costovercarryingamount
Excess 3,000,000
toequipment(40%xP7,000,000) ( 2,800,000)
attributable
Excess
Excess 500,000)( 1,000,000)
(40%xP2
attributabletoinventory
netfairvalue
Excess cost
over ' ( 800,000)
M
A
Journal entries
-
1. Torecordthe investment:
Investmentinassociate 15,000,000 ,
' 15,000,000
2. To record the share in net income:
Investmentin associate 8,000,000 ,
' '
Investment income (40% x 220,000,000) 8,000,000

3. To~record the share in cash dividend:

'
Cash (40% x P5, 000,000) 2,000,000
Investmentinassociate 2, 000 ,000

4. To record the amortization of the excess attributable to

the equipment:

Investment
income 1
700,000
'-
associate
Investmentin / 4) 700,000
(2,800,000
5..Torecord
theamortization
of theexcess to
attributable
1 " - -?
inventory: 7:
5. ' '" - ' r
W
Investmentincome , 1- , . . 4 , 1,000,000
Investmentin associate . 1,000,000
?

The excess because

is fully "expensed" all the inventory
, was already sold during the year. (

6. To record the "excess net fair value" as investment income:

Investment in associate 800,000

Investment income 800,000

Determination of investment income

'
Sharem net income 8,000,000
Amortization of excess attributable to equipment ( 700,000)
Amortization of excessattributable to inventory (1,000,000)
Excessnet fair value , 800.000
income
Netinvestment 7,100,000
 Investee with heavy losses
PAS 28. paragraph38, providesthat if an investoxsshareof.
lossesof an associateequals or exceedsthe carrying amount of
an investment, the investor discontinuesrecognizingits Share
. of further losses. ,
at nil or zerovalue.
is reported
Theinvestmeht
, The carryingamountof the investmentin associateis not just
the balance of the accountT'investmentin associate".
The carrying amount(of the investment in associatealso
includes other longoterm interests in an associate, such as
long-term receivables, loans and advances, and investment in
preference shares.
However, trade receivables and any long-term receivables
for which adequate collateral exists, such as secured loans,
are excluded from the carrying amount of an inyestment in
associate.

Additional losses are provided for or a liability is recognized,

to the extent that the investor has incurred legal or
constructive obligations or made payments on behalf of the
- ' - .
associate.
\

If the assbciate subsequently reports income, the investor

resumes including its share of such income aftex:its share of -
the income equals the share of lossesnot recogmzed.
' I

Illustration
OnJanuary1,2019,an'intrestor 25%oftheordinary
acquired
shares of an associate for P5,000,000.

On this date, the identifiable assets and liabilities of the

associatewere measured at fair value and there is no goodwdl
arising from the acquisition.
The profits and lossesmade by the associateover the first 5
years of operations were:
Profit (loss) Investor's share

2019 4 ( 1,000,000) ( 250,000)

2020 (10,000,000) _ (2,500,000)
2021 (12,000,000) (3,000,000)
2022 2,000,000 500,000
2023 2,500,000 625,000
_.___
A
Journal entries 3.

$19 Losson investment 250,000

Investmentin associate 250.000
'
2020 Loss on investment 2,500,000
Investment in associate ' 2,500,000

2021 Loss on investment ' 2,250,000 .

Investment in associate: 2,250,000
'
Acquisition cost 5,000,000
Loss on investment:
2019 1 . \ -~( 250,000)
2020 . (2,500,000)
1 2021 i
CarryingamountLJanuary . 2,250,000
_ The investor8 share in the 1033of the associatefor
202113P3,000 000 .;$ .
However,the loss to be recognizedcannotexceedthe
carryingamountoftheinvestment P2,250,000.The
Investment is to zero $of
1; . '
a <1 -. . *17 53; 5f ',1"}
reduced; 1.; :2r)! 2
2022 Noentry , .
.
.g
2 ' .
M5 .
'11,?! 1E?
'11
3},
'_3, 154! *5i, 1 . .
x '
v ' '
p? 1... \g . 1
for2021
loss
Shareinthe
«1' Wail
~S;"nvu-qu A j!
1' 1""(3,000,000
*2
- ~
LossrecognizedinZOZl
4,; . 2,250,000; E"; 23
3.; '
' \ r 1
.
less111
' -
2021 j x 3 w . ( 750,000)
. 2 5f" 1 _ z
Unrecognized ., - 1
Share in profit for 2022 1 . '1 '500,000
" '
Remainingunrecognizedloss . ( 250,000)
x

If the éssociatesubéequentlyreportsprofit,the
investor resumes recognizing its share of profit only
after the share of profit equals the share of.losses not
previously recognized.
inassociate
Investment 375,000 ,
Investmentincome. .1 . 375300
5 -
Shareinprofltfor2023 625,000
1088
unrecognized
Remaining 250,000)
in2023
inprofittobegecognized
Share H.-
375.000
I
- Impairment loss g;

If there is an indication that an investment in associate may be

impaired,PAS 28, paragraph40, requiresthat an impairment 1033
wheneverthecarryingamount'ofthe investmem.
shall berecognized
in associate weeds recoverable amount.
U

The recoverable amount is measured as the higher between

fair valuelesscostof disposal.
and value in use.

Fairvalue tosellanasset
isthepricethatwouldbereeeived in an
orderly transaction between market participants at the
measurement date.

Value m use is the present value of the estimated future cash

flows expected to arise from the continuing use of an asset and
from its ultimate disposal.

Thevaluein useof an investment is the investors

in associate
share in either of the following;

a. Present'value of estimated future cash flows expected to be

generated by the investee, including cash flows from
operations of the investee and the proceeds on the ultimate
of the
disposal investment.
1). Present value of the estimated future cash flows expected
to arise from dividends to be received from the investment
and from its ultimate disposal.

Under appropriate assumptions, both methods give the same

result.

PAS28,paragraph
42,states
thatsince isnotseparately
goodwill
recognizedfrom the investment amount, the impaimmnt loss
recognized is applied to the investment as a whole.

The recoverable amount'of an investment in associate is

assessed for each individual associate.

An exceptionis when an individual associatedoes not generate

cash inflows from continuinguse that are largely independent
of those from other assets of the repdrting entity.
1
 Investee with preference shares ,
When an associate has outstanding cumulative preference
shares,the investor shall compute its share of earnings or losses
after deductingthe preference dividends,whether or not such
dividendsare declared.
When an associate has outstanding nortcumulative preference
'
shares,the investor shall compute its share of earnings after
deductingthe preference dividends only when declared.
For example, an investee reported the following capital
accountsat the beginning'of current year: .
Preference share capital, 12% cumulative, P100 par,
'
50,000 shares issued 5,000,000 '
Ordinaryshare capital, P50 par, 500,000 shares {
authorized and 200,000 shares issued 10,000,000
Retained
earnings . 5,000,000
'
On same date, an investor acquired 40,000 ordinary shares
of the investee representing a 20% interest for P3,000,000.
The net assets of the investee are fairly valued.
The investee reported net income of P2,000,000 for the
current year and paid cash dividends of P500, 000 to ordinary
shareholders and the preference dividends at the preference
' rate. 1 g
14 f 1)

Journal entries for current year " ,,.

1. To record the investment:
Investmentm assoc1ate . '
3,000,000
Cash 3,000,000
.
2. Torecord
thesharein netincome:
Investment in associate ' 280, 000 .
Investment income '
280.000
'
Netinoome « 2,000,000
Preferencedividend (12% 1:5,000,000) 600 000
Net incomeboordinaryshare 1,400,000

Shareinnetincome(20%1:
1,400,000) ' M/
1%Torecord
theshare1ncashdividend:
Cash(20%1:500,000) . 100,000
Investmentinassociate . 100,000
 inequity
Otherchanges . eetme .
.
AdJuStmentS
'
t0 thecarrying aunt oft he mv . - n t 1
associate may be necessary fan?
Changes
. .
in the Investor's
Proportionate inthe
interest mvestee a_rlslng
19$miglelgniie
equitythat have not
the investee's been ¬11 1i1
e
investee's prom: or loss.
' . ' '
Such changesmclude those ansmg from revaluatibn of
prOperty, plant andequipment andfgomforelgnexchange
., * '
translationdifferences. .
The.investor'sshare of thosechangesis recognizeddlrectly in
. ' c
equity of the investor. .

Illustratibn

Theinvestment is20%asa consequence

inaséociate ofwhich
the investor has significant influence over the mvesbee.
Theinvesteereportedthe followingfor the current,year:
" r .
Netincome , , .
. . ' :6000000
Dividendpaid' . 1' _ ) .ff" 4 _ 2,000,000
Revaluation
surplus . . , $ , e , y- 3,000,000
I a, "' {

'
Journal entries for current Year
1. Share in net income: , :
'
Investmentinassociate , 1,200,000
Investment income
(20%X6,000,000) , 1,200,000
,
2. Share
in dividend
paid:~
Cash(20%x2,000,000) , - 400,000
Investmentin
associate . ' 400,000
3. Share in revaluation
surplus:
Investmentinassociate 600000
0
Revaluationsurplus-investee '
(20% 1:3,000,000) -
, 600,000
7