Chapter 18

INVESTMENT IN ASSOCIATE
Other accounting issues
Adjustment of investee’s operations
❑ The most recent available financial statements of the
associate are used by the investor in applying the equity
method.

❑ If an associate uses accounting policies other than those of

the investor, adjustments shall be made to conform the
associate’s accounting policies to those of the investor.
❑ Profits and losses resulting from upstream and
downstream transactions between an investor and an
associate are recognized in the investor’s financial
statements only to the extent of the unrelated investors’
interests in the associate.

The investor’s share in the associate’s profits and losses

resulting from these transaction is eliminated.
 Are sales of assets from an
associate to the investor.

For example, the associate sells

UPSTREAM inventory or noncurrent asset to the
TRANSACTIONS
investor.

The unrealized profit from these transactions

must be eliminated in determining the
investor’s share in the profit or loss of the
associate.
 Sale of inventory from associate to investor
On January 1, 2021, an investor acquired 20% interest in an investee
enabling the investor to exercise significant influence over the
investee.
On this date, the identifiable assets and liabilities of the investee at
recorded at fair value.
During the year, the investee reported net income of P2,000,000
and paid no dividend.
Also, during the year, the investee sold inventory costing P200,000
for P300,000 to the investor. The inventory is unsold by the investor
on December 31, 2021.
Ignoring income tax, the investor’s share in the profit of the
associate for 2021:

Net income for 2021 2,000,000

Unrealized profit on ending inventory (300K-200K) (100,000)
Adjusted net income 1,900,000

Investor’s share (20%X 1,900,000) 380,000

Another approach

Share in net income (20%x 2,000,000) 400,000

Share in unrealized profit (20%x 100,000) (20,000)
Investor’s share 380,000

Sales price 300,000

Cost of inventory (200,000)
Unrealized profit on ending inventory 100,000
The journal entry to recognize the investor’s share in the profit
of the associate for 2021 is:
Investment in associate 380,000
Investment income 380,000
 Continuing the illustration, the investee reported net
income of P2,500,000 for 2022.
The inventory sold by the associate to the investor in 2021
is subsequently sold by the investor in 2022.

The investor’s share in the profit of the associate for 2022 is

determined as follows:
Net income for 2022 2,500,000
Realized profit in beginning inventory 100,000
Adjusted net income 2,600,000

Investor’s share (20%X 2,600,000) 520,000

The journal entry to recognize the investor’s share in the profit
of the associate for 2022 is:
Investment in associate 520,000
Investment income 520,000
 Are sales of assets from the
investor to an associate.
DOWNSTREAM
TRANSACTIONS

Unquestionably, the unrealized profit from

these transactions must be also eliminated as
prescribed by Paragraph 28 of PAS 28.
Accounting issue
The accounting issue is how to eliminate the unrealized profit from downstream
transactions.

Unfortunately, PAS 28 does not offer a crystal clear guidance on the accounting
issue.

Up to this writing, this issue is still the subject of a discussion paper for an IFRIC
interpretation.

It is believed that computation of the investor’s share in the profit of the

associate and the journal entries are exactly the same whether upstream or
downstream.
Sale of depreciable asset

On January 1, 2021, an investor acquired 20% interest in

an associate. During the year, the investee sold an
equipment with carrying amount of P4,500,000 to the
investor for P7,000,000.

The equipment has a remaining useful life of 5 years.

The investee reported net income of P6,000,000 for
2021.
Sale of depreciable asset

Ignoring income tax, the investor’s share in the profit of the associate in 2021
is determined as follows:
Net income for 2021 6,000,000
Unrealized profit on sale of equipment (2,500,000) *
Realized profit on sale of equipment(2,500,000/5) 500,000
Adjusted net income 4,000,000

Investor’s share (20%X 4,000,000) 800,000

Sale price of equipment 7,000,000

Carrying amount (4,500,000)
*Unrealized profit on sale of equipment 2,500,000
Sale of depreciable asset

Note that the profit on the sale of equipment is unrealized because

the equipment is not sold to an unrelated party.

The profit on the sale of the equipment is realized, as the asset is

used over the remaining life of the asset.

Thus, as the equipment is depreciated on a straight line basis over a

5-year period, one-fifth of the profit is also realized each year.
After a 5-year period, the whole of the profit is realized.
 Discontinuance of equity method-change from equity
PAS 28, paragraph 22, provides that an investor shall
discontinue the use of the equity method from the date
that it ceases to have significant influence over an
associate.
The investor shall account for the investment as follows:

a. Financial asset at fair value through profit and loss

b. Financial asset at fair value through other comprehensive income
c. Nonmarketable investment at cost or investment in unquoted equity
instrument.
 Measurement after loss of significant influence

PAS 28, paragraph 22, provides that on the date the significant
influence is lost, the investor shall measure any retained
investment in associate at fair value.

The difference between the carrying amount of the retained

investment at the date the significant influence is lost and the
fair value of the retained investment shall be included in profit
or loss.
ILLUSTRATION:

An entity purchased 30,000 ordinary shares of the 100,000

outstanding shares of another entity representing 30% interest
several years ago. At year-end, the investment in associate has a
carrying amount of P6,000,000.

On the same date, the investor sold 20,000 shares for net proceeds
of P5,000,000 resulting to a loss of significant influence.

The quoted market price for such investment is P260 per share on
the date of sale.
Journal Entries

1. To record the sale of 20,000 shares or 20% interest: (20,000/100,000)

Cash 5,000,000
Investment in associate 4,000,000
Gain on sale of investment 1,000,000

Sale price 5,000,000

Carrying amount of 20,000 shares sold
(20,000/30,000X6,000,000) 4,000,000
Gain on sale 1,000,000
Journal Entries

2. To remeasure the retained investment of 10,000 shares or 10%

interest (10,000/100,000):

Investment in associate 600,000

Gain from remeasurement to fair value 600,000

FV of shares retained(10,000X260) 2,600,000

CA of retained investment(6M-4M) 2,000,000
Gain from remeasurement 600,000
Journal Entries

3. To reclassify the retained investment as financial asset at fair

value through profit and loss.

Financial asset-FVPL 2,600,000

Investment in associate 2,600,000
ASSOCIATE HELD FOR SALE
PAS 28, paragraph 20, provides that if the investment in associate is classified as
held for sale, it is accounted for in accordance with PFRS 5.

The investment in associate classified as held for sale shall be measured at the
lower of carrying amount and fair value less cost of disposal.

INVESTMENT OF LESS THAN 20%

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.
 Accounting for investment of less than 20%

A. Fair value method

This is applicable to financial asset measured at fair value
through profit and loss and financial asset measured at fair value
through other comprehensive income.

B. Cost method
The cost method is usually applied with respect to investment
in unquoted equity instrument or nonmarketable equity investment.
 Accounting for investment of less than 20%

The investor and the investee are independent of the other.

Accordingly, dividends received by the investor from the investee are

accounted for as dividend income.
ILLUSTRATION-COST METHOD
1. On January 1, 2021, an investor purchased 10,000 shares of the
100,000 outstanding ordinary shares of another entity at P200 per
share. The investment is unquoted and represents a 10% equity
interest.

Investment in shares 2,000,000

Cash 2,000,000

2. The investee reported net income of P1,000,000 for 2021.

No entry is required. The investor does not recognized a share in
the net income of the investee.
3. The investor received a 20% share dividend on December 31, 2021.

MEMO- Received 2,000 ordinary shares from the investee as 20%

share dividend on 10,000 original shares. Shares now held, 12,000
shares.
4. The investee reported a net loss of P3,000,000 for 2022.
No entry is required. The investor does not recognize a share in
the net loss of investment.

5. The investee declared and paid a cash dividend of P1,500,000

on December 31,2022.
Cash(10%X1,500,000) 150,000
Dividend income 150,000
6. The investor sold 3,000 ordinary shares at P250 per share
on Dec. 31,2022.

Cash 750,000
Investment in shares 500,000
Gain on sale of investment 250,000

Sale price (3,000X250) 750,000

Less: Cost of shares sold(3,000/12,000X2,000,000) 500,000
Gain on sale of investment 250,000
 Fair value approach

a. The existing interest in the associate is remeasured at fair value with any
change in fair value included in profit and loss.

b. However, if the existing interest is accounted for at fair value through

other comprehensive income, any unrealized gain or loss at the date the
investee becomes an associate is reclassified to retained earnings.
 Fair value approach

c. The fair value of the existing interest plus the cost of the additional interest
acquired constitutes the total cost of the investment for the initial
application of the equity method.

d. The total cost of the investment for the initial application of the equity
method minus the carrying amount of the net assets acquired at the date
significant influence is obtained equals excess of cost over carrying amount
or excess net fair value.
ILLUSTRATION-COST METHOD TO EQUITY METHOD
On January 1, 2021, an investor acquired a 10% interest in an investee for
P2,000,000. The investment is accounted for under the cost method because the
investment is unquoted.

On January 1,2023, the investor acquired a further 20% interest in the investee for
P4,000,000.

On such date, the carrying amount of the net assets of the investee is
P18,000,000.
ILLUSTRATION-COST METHOD TO EQUITY METHOD
Any excess of cost over carrying amount is attributable to an
undervalued equipment with remaining useful life of 5 years.

On January 1, 2023, the 10% existing investment has a fair value of

P2,500,000.
The investee reported the following net income and dividends:
Net Income Cash dividend
2021 2,000,000 800,000
2022 3,000,000 1,000,000
2023 4,000,000 2,000,000
 Journal Entries

2021
Investment in shares 2,000,000
Cash 2,000,000

Cash(10%X800,000) 80,000
Dividend income 80,000

2022
Cash(10%X1,000,000) 100,000
Dividend income 100,000
 Journal Entries

2023
1. To record the new 20% interest:
Investment in associate 4,000,000
Cash 4,000,000

2. To remeasure the 10% existing interest at fair value:

Investment in shares 500,000
Gain on remeasurement to equity 500,000
(2,500,000-2,000,000)
 Journal Entries

3. To reclassify the 10% existing interest:

Investment in associate 2,500,000
Investment in shares 2,500,000

4. To record the share in 2023 net income:

Investment in associate 1,200,000
Investment income 1,200,000
(30%X4,000,000)
 Journal Entries

5. To record the share in 2023 cash dividend:

Cash 600,000
Investment in associate 600,000
(30%X2,000,000)

6. To record the amortization of excess of cost:

Investment income 220,000
Investment in associate 220,000
Fair value of 10% existing interest 2,500,000
Cost of 20% new interest 4,000,000
Total cost of investment 6,500,000
CA of net assets acquired(30%X18,000,000) 5,400,000
Excess of cost attributable to equipment 1,100,000

Amortization(1,100,000/5) 220,000
ILLUSTRATION-FAIR VALUE METHOD TO EQUITY METHOD

On January 1, 2021, an investor acquired a 10% interest in an investee for

P3,000,000.

The investment is accounted for at fair value through other comprehensive

income.

The fair value of the investment on December 31,2021 is P4,000,000.

On January 1, 2022, the investor acquired a further 30% interest in the investee
for P8,500,000.
ILLUSTRATION-FAIR VALUE METHOD TO EQUITY METHOD
On such date, the carrying amount of the net assets of the
investee is P25,000,000.

The fair value of net assets of the investee is equal to carrying

amount. Any excess of cost over carrying amount is attributable
to goodwill.

The investee reported the following net income and cash

dividend:
Net income Cash dividend
2021 5,000,000 3,500,000
2022 6,000,000 4,000,000
Journal Entries

2021
Financial asset-FVOCI 3,000,000
Cash 3,000,000

Cash(10%X3,500,000) 350,000
Dividend income 350,000

Financial asset-FVOCI 1,000,000

Unrealized gain-OCI 1,000,000
 Journal Entries

Fair value-Dec. 31,2021 4,000,000

Carrying amount 3,000,000
Unrealized gain-OCI 1,000,000

2022
1. To record the new 30% interest:
Investment in associate 8,500,000
Cash 8,500,000
 Journal Entries

2. To reclassify the unrealized gain to retained earnings:

Unrealized gain-OCI 1,000,000
Retained earnings 1,000,000

3. To reclassify the 10% interest:

Investment in associate 4,000,000
Financial asset-FVOCI 4,000,000
 Journal Entries

4. To record the share in 2022 net income:

Investment in associate 2,400,000
Investment income 2,400,000
(40%X6,000,000)

5. To record the share in 2022 cash dividend:

Cash(40%X4,000,000) 1,600,000
Investment in associate 1,600,000
 Journal Entries

6. The excess of cost over carrying amount attributable to goodwill is

not amortized.

Fair value of 10% existing interest 4,000,000

Cost of 30% new interest 8,500,000
Total cost of investment 12,500,000
CA of net assets acquired(40%X25M) 10,000,000
Goodwill 2,500,000
Problem 18-1
On January 1, 2021, Heaven Company acquired 20% of the
ordinary shares of an associate for P6,000,000. On this date, all the
identifiable assets and liabilities of the associate were recorded at
fair value.
An analysis of the acquisition showed that goodwill of P300,000
was acquired.
The net income and dividend of the associate were as follows:
2021 2022
Net income 3,000,000 4,000,000
Dividend paid 1,000,000 1,500,000
Problem 18-1
In December 2021, the associate sold inventory to Heaven
Company for P900,000. The cost of the inventory was P600,000.

This inventory remained unsold by Heaven Company on December

31,2021. However, it was sold by Heaven Company in 2022.

In December 2022, the associate sold inventory to Heaven

Company for P750,000. The cost of the inventory was P500,000.
This inventory remained unsold by Heaven Company on December
31,2022.
Required:
1. Determine the investor’s share in the profit of the associate for
2021.
2. Determine the investor’s share in the profit of the associate for
2022.
3. Prepare journal entries on the books of Heaven Company in
relation to the investment in associate.
4. Determine the carrying amount of the investment in associate on
December 31,2022.
Problem 18-1
1.Net income for 2021 3,000,000
Unrealized profit in 12/31/2021 (300,000)
Adjusted net income 2,700,000
Investor’s share (2,700,000X20%) 540,000

2.Net income for 2022 4,000,000

Realized profit in 12/31/2021 inventory of Heaven Company 300,000
Unrealized profit in 12/31/2022 inventory of Heaven Company
(750,000-500,000) (250,000)
Adjusted net income 4,050,000
Investor’s share (4,050,000X20%) 810,000
 Journal Entries

3. 2021
Jan 1 Investment in associate 6,000,000
Cash 6,000,000

Dec 31 Investment in associate 540,000

Investment income 540,000

Dec 31 Cash 200,000

Investment in associate 200,000
Journal Entries

3. 2022

Dec 31 Investment in associate 810,000

Investment income 810,000

Dec 31 Cash 300,000

Investment in associate 300,000
4. Carrying amount of investment in associate on 12/31/2022

Acquisition cost 6,000,000

Investment income-2021 540,000
Cash dividend-2021 (200,000)
Investment income-2022 810,000
Cash dividend-2022 (300,000)
Carrying amount-12/31/2022 6,850,000
Problem 18-2
Glorious Company acquired 40% interest in an associate, Alta
Company, for P5,000,000 on January 1,2021.

At the acquisition date, there were no differences between fair value

and carrying amount of identifiable assets and liabilities.

Alta Company reported net income of P2,000,000 for 2021 and

P3,000,000 for 2022. On December 31, 2021 and 2022, Alta
Company paid cash dividend of P800,000 and P1,000,000,
respectively.
Problem 18-2
On January 1,2021, Alta Company sold an equipment costing
P500,000 to Glorious Company for P800,000. Glorious Company
applies a 10% straight line depreciation.

On July 1, 2022, Alta Company sold an equipment for P900,000 to

Glorious Company. The carrying amount of the equipment is
P500,000 at the time of sale.

The remaining life of the equipment is 5 years and Glorious

Company uses the straight line depreciation.
On December 1,2022, Alta Company sold an inventory to Glorious
Company for P2,800,000.

The inventory had a cost of P2,000,000 and was still on hand on

December 31,2022.
Required

1. Determine the investor’s share in the profit of the associate for

2021.
2. Determine the investor’s share in the profit of the associate for
2022.
3. Prepare journal entries on the books of Glorious Company for
2021 and 2022 in relation to the investment in associate.
4. Determine the carrying amount of the investment in associate on
December 31, 2022.
Problem 18-2

1. Net income for 2021 2,000,000

Unrealized profit on sale of equipment
sold on Jan.1, 2021 (800,000-500,000) 300,000
Realized profit on equipment sold on 1/1/2021
(300,000X10%) 30,000
Adjusted net income 1,730,000

Investor’s share(1,730,000X40%) 692,000

2. Net income for 2022 3,000,000

Realized profit on equipment on 1/1/2022

(300,000X10%) 30,000
Unrealized profit on sale of equipment on 7/1/2022
(900,000-500,000) (400,000)
Unrealized profit on ending inventory on 12/31/2022
(2,800,000-2,000,000) (800,000)
Realized profit on equipment sold on 7/1/2022
(400,000/5X 6/12) 40,000
Adjusted net income 1,870,000

Investor’s share(1,870,000X40%) 748,000

 Journal entries

3. 2021
Jan 1 Investment in associate 5,000,000
Cash 5,000,000

Dec 31 Investment in associate 692,000

Investment income 692,000

Dec 31 Cash(40%X800,000) 320,000

Investment in associate 320,000
Journal entries

3. 2022

Dec 31 Investment in associate 748,000

Investment income 748,000

Dec 31 Cash(40%X1,000,000) 400,000

Investment in associate 400,000
4. Acquisition cost 5,000,000
Investment income-2021 692,000
Cash dividend-2021 (320,000)
Investment income-2022 748,000
Cash dividend-2022 (400,000)
Carrying amount-12/31/2022 5,720,000
Problem 18-4

On January 1, 2021, Jam Company reported as long-term investments

in the following unquoted equity shares:
Dale Company, 5,000 OS (1% interest) 1,250,000
Ever Company, 10,000 OS (2% interest) 1,600,000
Fox Company, 25,000 OS (10%interest) 2,000,000

1. On May 1, 2021, Dale Company issued a 10% share dividend.

2. On November 1, 2021, Dale Company paid a cash dividend of
P20 per share.
Problem 18-4

3. On Jan. 1, 2021, Jam Company paid P5,000,000 for 50,000

additional ordinary shares of Fox Company which represented a 20%
investment in Fox Company.

The fair value of all of Fox’s identifiable assets net of liabilities were
equal to their carrying amount of P20,000,000

Jam Company’s initial 10% interest of 25,000 ordinary shares of Fox

Company was acquired on Jan. 1, 2020 for P2,000,000.
The 10% interest was accounted for under cost method. On January 1,
2020, this 10% existing interest had a fair value of P2,400,000.

4. Fox Company reported net income of P6,000,000 for 2021, and

paid dividend of P20 per share on December 31,2021.

Required:
a. Compute the goodwill arising from acquisition on 1/1/2021.
b. Prepare journal entries for 2021.
c. Present the investments in equity securities on 12/31/2021.
a. Goodwill
FV of 10% existing interest 2,400,000
Cost of 20% new interest 5,000,000
Total cost 7,400,000
CA of net assets acquired(30%X20M) (6,000,000)
Goodwill 1,400,000
 b. Journal entries

1. MEMO- Received 500 shares as 10% stock dividend on 5,000

original ordinary shares. Shares now held, 5500.

2.Cash(5,500X20) 110,000
Dividend income 110,000

3. Investment in associate 5,000,000

Cash 5,000,000
 b. Journal entries

3. Investment in ES 400,000
Gain on remeasurement to equity 400,000

Investment in associate 2,400,000

Investment in equity securities 2,400,000

4. Investment in associate 1,800,000

Investment income 1,800,000
(6,000,000X30%)
b. Journal entries
4. Cash 1,500,000
Investment in associate 1,500,000
(75,000X20)

c. Investments in equity securities on 12/31

Noncurrent assets:
Investment in equity securities 2,850,000
Investment in associate-Fox Co. 7,700,000
Investment in equity securities
Dale Company, 5,500 shares 1,250,000
Ever Company, 10,000 shares 1,600,000
Total cost 2,850,000