Equity method
Definition
A way of including an associate or joint venture: the investment starts at cost and is adjusted each period for the investor's share of the investee's profit or loss and other changes in its net assets.
Why does it matter in a group?
The equity method puts an investment on one line instead of adding the investee’s assets and liabilities line by line. It is used for an associateAssociateA company over which an investor has significant influence but not control, usually shown by holding 20 percent or more of the votes. It is included in the group accounts by the equity method.Open the glossary entry and a joint ventureJoint ventureAn arrangement in which the parties with joint control have rights to its net assets. A joint venture is included in the group accounts by the equity method.Open the glossary entry. The group’s share of the investee’s profit increases the investment and is shown in profit or loss. Dividends received reduce the investment and are not income, because the profit behind them has already been counted.1 The investment is also tested for impairment when there is evidence that it is worth less than its carrying amount.
A small example
Zenvara pays GBP 3,000,000 for 30 percent of Orrin Labs. Orrin earns GBP 400,000 and pays dividends of GBP 100,000. The investment is 3,000,000 plus 120,000 (the share of profit) less 30,000 (the share of dividends), which is GBP 3,090,000.
Sources
- IAS 28 Investments in Associates and Joint Ventures, paragraph 10.