FAR 3 : Investment in Associate

Investment In Associate

Intercorporate share investment - the purchase of the equity shares of one entity by another entity. Investing through acquisition of
share capital.

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. Below are the features of the definition

1. It requires the investor to have the power. or the capacity to affect the investee Ing does not require the investor to actually exercise
that power. Instead the focus is on the existence of power or capacity.

2. The specific power is that of being able to participate in the financial and operating decisions of the investee but has no power or
capacity to dominate the financial and operating decisions.

3. In the shares,or definitions of an associate and significant influence, there is no requirement for the investor to hold any shares, or to
have a beneficial interest in the associate. However, the application of the equity method of accounting is based on the investor
owning shares in the associate. In other words, if significant influence is exercised by one entity over another by virtue of an
association or contract other than from the holding of shares, then the equity method cannot be applied in relation to the associate.

Evidences of Significant Influence

a. Representation in the board of directors
b. Participation in policy making process
c. Material transactions between the investor and the investee
d. Interchange of managerial personnel
e. Provision of essential technical information

Presumptions:
> 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 clearly demonstrate that this is not the case.
> Conversely, if an 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.
> Substantial or majority ownership by another investor does not necessarily preclude an investor from having significant influence.

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.
> should be currently exercisable or convertible
> PAS 28, paragraph 7 - existence of such potential voting rights is considered in assessing whether an entity has significant influence.
> 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.

Loss of șignificant influence

> happens when the entity loses the power to participate in the financial and operating policy decisions of the investee
> the loss of significant influence can occur with or without change in the absolute or relative ownership interest.
could occur when:
a. an associate becomes subject to control of a government, court, administrator or regulator
b. as a result of a contractual agreement.

Equity method - based on the economic relationship between the investor and the investee.
- investor and the investee are viewed as a single economic unit or are one and the same
- applicable when the investor has significant influence over the investee.

Accounting procedures
a. The investment is initially recognized at cost.

b. The carrying amount is increased by the investor's share of the profit of the investee and decreased by the investors share of the
loss of the investee. The investor's share of the profit of the investee is recognized as investment income. The investor's share of the
loss of the investee is recognized as loss on investment

c. Distributions or dividends received from an equity investee reduce the carrying amount of the investment. In other words,
dividends received from an equity investee are not recognized as dividend income.

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d. Note that the investment must be in ordinary shares.

If the investment is in preference shares, the equity method is not appropriate regardless of the percentage because the preference
share is a non voting equity. The investment in preference shares may be accounted for as at FVPL or at FVOCI or at cost.

e. Technically, if the investor has significant influence over the investee, the investee is said to be an associate.
Accordingly, under the equity method, the investment in ordinary shares should be appropriately described as investment in associate.

f. The investment in associates accounted for using the equity method shall be classified as noncurrent assets.

Accounting Entries: Equity Method

1. Purchase of Shares → Investment in Associates xx
Cash xx

2. Income → Investment in Associate xx

Investment Income xx

3. Dividends → Cash xx
Investment in Associate xx

4. Net Loss → Loss on Investment xx

Investment in Associate xx

5. Impairment → Impairment Loss xx

Investment in Associate xx

6. Other changes in Equity → Investment in Associate xx

Revaluation Surplus xx

Excess of cost over carrying amount

1. Underc valuation of investee’s assets such as:
a. Depreciable asset - amortized over the remaining life of asset
b. Land - expensed when land is sold
c. Inventory - expensed when inventory is sold

2. Goodwill - the excess even if the assets of the investee are fairly valued
- included in the carrying amount of the investment and not amortized
Note: Investment in associate including goodwill is tested for impairment at the end of each reporting period

Excess fair value over cost

PAS 28, paragraph 32 - provides that any excess of an investor's share of the fair value of the associate’s identifiable assets and
liabilities over the cost of the investment is 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.
To simplify: excess fair value of the net assets acquired over the cost of acquisition is entirely included in investment income.

Investee with heavy losses

PAS 28, paragraph 38 - provides that if an investor’s share of losses of an associate equals or exceeds the carrying amount of an
investment, the investor discontinues recognizing its share of further losses.
To simplify: investment is reported at nil or zero value

Losses are applied in the following order:

a. Investment in associate
b. Investment in preference shares of associate
c. Loans and advances to associate

The subsequent recognition of the investor's share in the net income are applied in the following order::
a. Loans and advances to associate
b. Investment in preference shares of associate
c. Investment in associate

Note:
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a. 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

b. If the associate subsequently reports income,the investor shall resume including its share of such income after its share of the
income equals the share of the losses not recognized

c. The recognition of income related to loans and advances to associate and investment in preference shares of associate shall be
limited to the share of losses previously applied to such interest.

Impairment loss
PAS 28, paragraph 40, requires that an impairment loss shall be recognized whenever the carrying amount of the investment in associate exceeds the
recoverable amount.

Recoverable amount - measured as the higher between fâir value less cost of disposal and value in use.

Fair value - the price that would be received to sell an asset in an orderly transaction between market participants at the measurement date.

Value in use - the present value of the estimated future cash flows expected to arise from the continuing use of an asset and
from its ultimate disposal. Either of the following:
a. Present value of estimated future cash flows expected to be generated by investee, including cash flow from operations of the investee and
the proceeds on the ultimate disposal of the investment.
b. Present value of the estimated future cash flows expected to arise from dividends to be received from the investment and from its ultimate
disposal.

PAS 28, paragraph 42, states that since goodwill is not separately recognized from the investment amount, the impairment loss recognized is applied
to the investment as a whole.
The recoverable amount of an investment in associate is assessed for each individual associate
Exception: when an individual associate does not generate cash inflows from continuing use that are largely independent of those from other assets of
the reporting entity.

Investee with preference shares

a.When an associate has outstanding cumulative preference shares, the investor shall compute its share of earnings or losses after deducting the
preference dividends, whether or not such dividends are declared.

b.When an associate has outstanding noncumulative preference shares, the investor shall compute its share of earnings after deducting the preference
dividends only when declared.

Other changes in equity

Adjustments to the carrying amount of the investment in associate may be necessary for changes in the investor's proportionate interest in the
investee arising from changes in the investee's equity that have not been recognized in the investee's profit or loss. Such as:
a. Revaluation of property, plant and equipment
b. Foreign exchange translation differences
The investor's share of those changes is recognized directly in equity of the investor

Reference: Valix, C.T., Peralta, J.F. & Valix, C.A.M. (2022). Intermediate Accounting (Volume 1). GIC Enterprises & Co., Inc.