Learning Outcomes
After reading this article, you should be able to explain when an interest is classified as an associate or a joint arrangement under IAS 28, IFRS 11, and IFRS 12, understand the application of the equity method, distinguish joint operations from joint ventures, perform impairment tests on investments, and address required disclosures. You will be able to apply these concepts to relevant ACCA SBR exam scenarios.
ACCA Strategic Business Reporting (SBR) Syllabus
For ACCA Strategic Business Reporting (SBR), you are required to understand the accounting and reporting of investments in associates and joint arrangements. Careful revision should focus on:
- Identifying significant influence and classifying associates under IAS 28
- Recognising joint arrangements and distinguishing joint ventures from joint operations as per IFRS 11
- Applying the equity method to investments in associates and joint ventures
- Testing investments for impairment and recognising losses
- Accounting for changes in ownership and loss of significant influence or joint control
- Fulfilling IFRS 12 disclosure requirements for associates and joint arrangements
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
- What are the three core indicators of significant influence under IAS 28?
- Which of the following is a direct right in a joint operation, not a joint venture?
a) Rights to net assets
b) Rights to output and obligations for expenses
c) Control without joint decision making
d) Contractual right to dividends only - Under the equity method, how is an associate’s impairment loss recognised, and what happens if the carrying amount falls to zero?
- State three key disclosures required by IFRS 12 for investments in joint ventures.
Introduction
Group entities often invest in other companies or engage in structured collaborations. These arrangements may result in significant influence (associates) or joint control (joint arrangements). Correctly accounting for these interests is critical for transparent financial reporting, as is required for ACCA SBR. This article explains the distinction between associates and joint arrangements, outlines the equity method, sets out impairment testing requirements, and summarises essential disclosures.
Associates under IAS 28
Associates are entities over which an investor exercises significant influence but does not control.
Key Term: associate
An investee over which the investor has significant influence and which is neither a subsidiary nor a joint venture.Key Term: significant influence
The power to participate in the financial and operating policy decisions of an investee but not control over those policies.
Significant influence typically exists when the investor holds 20% or more of the voting power of the investee, but can also arise from board representation or substantial transactions. Indicators include participation in policy-making, material transactions, interchange of management, and provision of essential technical information.
Equity Method
The equity method is the prescribed accounting approach for associates and joint ventures. Under the equity method, the investment is initially recognised at cost and subsequently adjusted for the investor’s share of the post-acquisition profit or loss and other comprehensive income of the investee.
Key Term: equity method
A method of accounting whereby the investment is initially recorded at cost and adjusted for the investor’s share of profit or loss and other comprehensive income of the investee.
The carrying amount is reduced by the investor’s share of any dividends received and further adjusted for any impairment losses.
Worked Example 1.1
An entity acquires 30% of Zenco’s ordinary shares for $800,000. At acquisition, Zenco’s net assets are $2,000,000. During the year, Zenco reports a profit after tax of $300,000 and pays a $50,000 dividend. How should the investment be accounted for at year-end, ignoring impairment?
Answer:
Initial cost: $800,000
Share of profit: 30% × $300,000 = $90,000
Less: Share of dividend: 30% × $50,000 = $15,000
Carrying amount at year-end = $800,000 + $90,000 – $15,000 = $875,000
Losses and Carrying Amount
If the investor’s share of losses equals or exceeds the investment’s carrying amount, the balance is reduced to zero. Additional losses are only recognised if there is a legal or constructive obligation to fund losses.
Impairment of Investment
Investments in associates are tested for impairment when there is objective evidence of impairment. The entire carrying amount of the investment (including goodwill) is assessed as a single asset.
Key Term: impairment
The amount by which the carrying amount of an asset exceeds its recoverable amount.
An impairment loss is recognised in profit or loss if the recoverable amount is less than the carrying amount.
Worked Example 1.2
On balance date, an entity's investment in associate—carrying value $120,000—shows indicators of impairment. The recoverable amount is $100,000. What impairment loss is recognised?
Answer:
An impairment loss of $20,000 is recognised in profit or loss, reducing the carrying amount of the investment to $100,000.
Joint Arrangements under IFRS 11
Joint arrangements are governed by contracts granting two or more parties joint control—meaning decisions require unanimous consent.
Key Term: joint arrangement
An arrangement where two or more parties have joint control.
Joint arrangements are classified as either joint operations or joint ventures, based on rights and obligations:
- Joint operation: Parties have direct rights to assets and obligations for liabilities of the arrangement.
- Joint venture: Parties have rights to the net assets only.
Key Term: joint venture
A joint arrangement whereby parties have rights to the net assets of the arrangement.Key Term: joint operation
A joint arrangement in which parties have rights to the assets and obligations for the liabilities relating to the arrangement.
Accounting for Joint Ventures
Joint ventures are accounted for using the equity method, identical to associates.
Accounting for Joint Operations
Joint operators recognise their share of assets, liabilities, revenues, and expenses directly in their own financial statements, not using the equity method.
Worked Example 1.3
Company A and Company B establish a jointly controlled entity (C) for a project. Both must agree on all decisions; both have rights to a share of net profit, but not to specific assets or obligations for liabilities individually. How should Company A account for its interest?
Answer:
This is a joint venture, so Company A accounts for its interest using the equity method.
Impairment Testing for Associates and Joint Ventures
At each reporting date, the investor must assess whether there is objective evidence of impairment (e.g., significant decline in value, financial difficulties at the investee, or economic changes affecting operations). If impairment is indicated, calculate recoverable amount and recognise any required loss in profit or loss.
Losses Exceeding Carrying Amount
When the investor’s share of losses equals or exceeds the carrying amount (including any long-term interests), the investment is reduced to zero. Further losses are only recognised if the investor has incurred legal or constructive obligations.
Worked Example 1.4
An entity holds an investment in joint venture at a carrying amount of $200,000. Its share of losses for the year is $250,000. The entity has guaranteed $30,000 of the joint venture’s loans. How much loss is recognised?
Answer:
$200,000 carrying amount is reduced to zero; an additional $30,000 loss is recognised to the extent of the obligation. The remaining $20,000 is not recognised but disclosed as a contingent liability if relevant.
Exam Warning
Do not apply the equity method to joint operations. Always check object of joint arrangement—whether rights relate to specific assets/liabilities (joint operation), or net assets only (joint venture). Misclassification will lead to incorrect accounting.
Changes in Ownership and Loss of Significant Influence
If significant influence or joint control is lost (but not control), stop applying the equity method. The investment is then measured at fair value; any difference between the previous carrying amount and the fair value is recognised in profit or loss.
IFRS 12 Disclosure Requirements
Significant disclosures are required for interests in associates and joint arrangements:
- The name, nature, and principal place of business of the investee.
- The percentage of ownership interest.
- Details of significant restrictions.
- Summaries of financial information for material associates and joint ventures.
- The method of accounting and reasons if there is significant judgement exercised.
Summary
Associates are entities over which the investor has significant influence, not control or joint control, and joint arrangements are determined by joint control and contractual rights under IFRS 11. The equity method applies to associates and joint ventures, with careful impairment assessment required. Correct classification between joint arrangements is essential. IFRS 12 mandates detailed disclosures to support transparency for users.
Key Point Checklist
This article has covered the following key knowledge points:
- Identify when an investment is an associate or joint arrangement
- Distinguish between joint ventures and joint operations under IFRS 11
- Apply the equity method of accounting for associates and joint ventures
- Recognise the accounting treatment for impairment losses
- Account for changes in ownership and loss of significant influence
- State the main IFRS 12 disclosure requirements
Key Terms and Concepts
- associate
- significant influence
- equity method
- impairment
- joint arrangement
- joint venture
- joint operation