Equity method in accounting is the process of treating investments in
associate companies. Equity accounting is usually applied where an investor entity holds 20–50% of the voting stock of the associate company, and therefore has significant influence on the latter's management. Under
International Financial Reporting Standards, equity method is also required in accounting for
joint venture
A joint venture (JV) is a business entity created by two or more parties, generally characterized by shared ownership, shared returns and risks, and shared governance. Companies typically pursue joint ventures for one of four reasons: to acces ...
s.
The investor records such investments as an asset on its balance sheet. The investor's proportional share of the associate company's
net income
In business and accounting, net income (also total comprehensive income, net earnings, net profit, bottom line, sales profit, or credit sales) is an entity's income minus cost of goods sold, expenses, depreciation and amortization, interest ...
increases the investment (and a net loss decreases the investment), and proportional payments of dividends decrease it. In the investor’s income statement
Equity accounting may also be appropriate where the investor has a smaller interest, depending on the nature of the actual relationship between the investor and investee. Control of the investee, usually through ownership of more than 50% of voting stock, results in recognition of a
subsidiary
A subsidiary, subsidiary company or daughter company is a company owned or controlled by another company, which is called the parent company or holding company. Two or more subsidiaries that either belong to the same parent company or having a ...
, whose financial statements must be
consolidated with the parent's. The ownership of less than 20% creates an investment position, carried at historic book or
fair market value
The fair market value of property is the price at which it would change hands between a willing and informed buyer and seller. The term is used throughout the Internal Revenue Code, as well as in bankruptcy laws, in many state laws, and by sever ...
(if
available for sale or held for trading) in the investor's balance sheet.
See also
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Business valuation
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Enterprise value
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Minority interest
References
Further reading
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External links
IAS 28 INVESTMENTS IN ASSOCIATES
{{Authority control
Mergers and acquisitions
Accounting systems
Financial accounting