Financial Repor ting IAS28

Significant Influence – The Key

to Accounting for Investments
in Associate
Robert Kirk reviews IAS28 Accounting for Investments in Associates.
ccounting for Associates has been around for over 40 years and the accounting treatment in

A Ireland is very similar to that internationally so very few changes were required in switching to
international financial reporting standards.
IAS 28 Accounting for Investments in Associates governs the accounting treatment. Essentially it
requires the adoption of the equity method of accounting to provide a true and fair view of the
investment in associates.

Definition of an associate
An associate is defined as an entity in which the investor has significant influence and which is neither
a subsidiary nor a joint venture of the investor. The key to deciding whether or not a company has an
associate is the definition of significant influence.
Significant influence means that an entity has the power to participate in the financial and operating
policy decisions of the investee but has not control over those policies. There are a number of guidelines
to help investors decide whether that exists or not as shown below.

Significant Influence
If an investor holds, directly or indirectly, 20% or more of the voting power of the investee, it is
presumed that it has significant influence, unless it can be clearly demonstrated that this is not the case.
Conversely, if less than 20% the presumption is that the investor does not have significant influence. A
majority shareholder by another investor does not preclude an investor having significant influence.
Its existence is usually evidenced in one or more of the following ways:
(a) representation on the board of Image 1
directors;
(b) participation in policy making
processes;
(c) material transactions between the
investor and the investee;
(d) interchange of managerial personnel;
or
(e) provision of essential technical
information.
It is possible that a holding of more than
20% does not provide significant influence
and that is the case in Ryanair’s investment in
Aer Lingus. However, Ryanair must explain
why that is the case in their notes as there is
a presumption that a 20% or more holding
would provide the investor with significant
influence. Their note for year ended 31st
March 2008 is provided in image 1. Similarly
there is a presumption that under 20% will
not provide significant influence but that can
be rebutted as well.

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 Financial Repor ting IAS28

The equity method

Once the relationship is defined as an associate the only method of accounting permitted in
accounting for associates is the equity method. This is a method of accounting whereby the
investment is initially recorded at cost and adjusted thereafter for the post acquisition change
in the investor’s share of net assets of the investee. The income statement reflects the
investor’s share of the results of operations of the investee but strangely, this is recorded after
tax, in the pre tax profits of the group.
Distributions received may bear little relationship to the performance of the associate. As the
investor has significant influence over the associate, the investor has a measure of responsibility
for the associate’s performance and it should account for this stewardship by extending the
scope of consolidation to include the investor’s share of results of such an associate. As a result,
the application of the equity method provides more informative reporting of both net assets
and net income of the investor.
A good example of the methodology is provided by CRH Plc:

CRH Plc Year ended 31st Dec 2008

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 Financial Repor ting IAS28

Exceptions to the Equity Method Annual impairment reviews are required similar to
subsidiaries and also if there is an indication of impairment
An investment in an associate should be accounted for in losses between the annual review and the year end. The
the consolidated accounts under the equity method except reporting entity applies IAS 36 in such cases.
when:
In determining value in use, an entity must estimate:
(a) the investment is acquired and held exclusively with a
view to its subsequent disposal in the near future; or (a) its share of the present value of estimated future cash
flows expected to be generated by the investee as a
(b) it operates under severe long-term restrictions. whole, including the proceeds on ultimate disposal or
In these latter cases, the investments should be (b) the present value of estimated future cash flows
accounted for in accordance with IAS 39. expected to arise from dividends and from ultimate
disposal.
Cessation of Equity Method Both methods give the same result, under appropriate
An investor should discontinue the use of the equity assumptions. Any impairment loss is allocated as per IAS 36.
method from the date that: It is therefore allocated first to goodwill.

(a) it ceases to have significant influence but retains

Disclosure
either, in part or in whole, its investment; or
The following disclosures are required by IAS 28:
(b) the use of the equity method is no longer appropriate
as the associates operates under severe long term (a) an appropriate listing and description of significant
restrictions. associates, including the proportion of ownership
interest and, if different, the proportion of voting
The carrying value should be regarded as cost thereafter.
power held; and

Application of the Equity Method (b) the methods used to account for such investments.

Many of the procedures appropriate for applying equity Investments in associates should be classified as long-
accounting are similar to consolidation under IAS 27. For term assets and disclosed separately in the Statement of
example, on acquisition any difference between the cost of Financial Position (balance sheet). The investor’s share of
acquisition and the investor’s share of the fair values of the profits/losses should also be disclosed separately in the
net identifiable assets is accounted for under IFRS 3 as income statement. Both of these requirements can be seen
goodwill/negative goodwill. Appropriate adjustments are in CRH’s example above. However, the appropriate listing is
provided below:
then made to the post acquisition share of profits for:
(a) depreciation based on fair values; and
(b) any possible impairment of goodwill.
The most recent available financial statements of the
associate are used by the investor in applying the equity
method and they are usually drawn up to the same date as
the investor. However, if the dates differ, the associate often
prepares statements specifically for the investor to the same
date but if this is impracticable then a different date may be
used. However the length of the reporting periods should be
consistent from period to period.
When different dates have to be adopted, any
adjustments for significant events occurring between the
date of the associate’s statements and the date of the
investor’s financial statements must be made.
Similar to consolidation, uniform accounting policies
should be adopted and appropriate adjustments are made
to the associate’s statements but if this is not practicable that
fact must be disclosed.
If an investor’s share of losses exceeds the carrying Conclusion
amount of the investment, the investor should normally stop
including its share of losses and the investment then As can be seen from the above discussion accounting for
reported at €nil. Additional losses are only provided for to associates internationally is very similar to that required in
the extent that the investor has incurred obligations which it Ireland under FRS 9 Associates and Joint Ventures and those
has guaranteed to the investee. However, if subsequently companies adopting the full IAS standard or the expected
the associate reports profits, the investor only resumes IFRS for Non Publically Accountable Entities should have
inclusion of its share of the investee profits after its share of very little problem in the conversion process.
profits equals share of losses not recognised. Robert Kirk is Professor of Financial Reporting at the
University of Ulster.

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