What it means
Businesses invest in other companies for different reasons: a supplier stake may secure cooperation, a minority holding may earn returns and an acquisition may give control. First identify the instrument, because shares give an ownership interest while a bond or loan is a debt claim.
For a simple equity holding without significant influence or control, the applicable financial-instrument rules may govern measurement, and under IFRS 9 equity investments are generally measured at fair value, with specific presentation choices and exceptions, so do not assume every small stake is just "held at cost". The investor may have significant influence over policy decisions without controlling the investee, and board representation, participation in policy decisions and important transactions can be evidence.
IAS 28 presumes significant influence at 20% or more of voting power unless clearly rebutted, although significant influence can also exist below that level. A joint venture involves joint control and rights to the arrangement's net assets under IFRS, so the contractual decision-making arrangement must be assessed.
An associate is an entity over which the investor has significant influence, and IAS 28 generally applies the equity method in the relevant financial statements. The initial recognised amount is cost, adjusted later for the investor's share of results and distributions.
The equity method is not a cash receipt method, because if an associate earns profit the investor may recognise its share even without a dividend, so an investor holding 30% of an associate that reports $1 million of profit might recognise $300,000 before relevant adjustments. Losses can complicate the calculation, since the investor's recognised share may be limited by its interest and obligations under IAS 28, and transactions between investor and associate may require adjustments.
Control is a different threshold: IFRS 10 asks whether the investor has power over the investee, exposure to variable returns and the ability to use power to affect those returns. Controlled subsidiaries are normally consolidated in group financial statements, subject to applicable exceptions, combining their assets, liabilities, income and cash flows under detailed rules.
The presentation in separate financial statements may differ from consolidated statements, so state which set of accounts you are discussing before comparing balances. Debt investments raise a different set of questions, because interest, credit risk, business model and contractual cash-flow features can affect IFRS 9 classification.
Commercial exposure matters beyond the ledger too, since a large minority stake can be hard to sell even if it has a quoted fair value elsewhere. Watch for related-party and group transactions, as sales between a parent and subsidiary may need elimination in consolidated accounts and associate transactions can have their own adjustment requirements.
Changes in ownership can change classification, since a new board seat might create influence and a purchase of extra shares may establish control, so assess the date and substance of the change rather than applying one method for the full year automatically. Managers should track cost, rights, expected cash flows and reporting treatment, perhaps with a short investment memo explaining why the company holds the stake and who can approve further funding, and the main lesson is to classify the relationship before choosing the accounting method, because a holding's percentage provides a clue but power, influence, contracts and financial-statement context decide the answer.
In practice
Real-world examples.
Example
A distributor buys a small equity stake in a supplier without board rights; it assesses the holding under financial-instrument rules. It records the holding at fair value and watches for any change in rights. If a board seat is later offered, it reassesses the classification.
Example
A firm owns 30% of a recycler and holds a board seat; it assesses significant influence and equity-method treatment. It books its share of the recycler's profit each period, adjusts for sales between the two businesses, and reduces the carrying amount when dividends arrive.
Example
A parent buys voting control of a competitor and includes the subsidiary in group accounts under applicable consolidation rules. Sales between the two businesses are eliminated, and the group reports the combined assets and liabilities from the date control began.
Formula
Calculation
Illustrative equity-method share of profit = investee adjusted profit x ownership percentage. If an associate reports $1,000,000 and the investor's relevant share is 30%, the starting illustration is $300,000 before necessary adjustments.
Carrying-amount illustration. Suppose a fictional investor pays $2,500,000 for 30% of an associate. In the first year the associate reports $1,000,000 of profit and pays $400,000 of dividends. The investor's share of profit is 30% x $1,000,000 = $300,000, which increases the carrying amount, and its share of dividends is 30% x $400,000 = $120,000, which reduces it. The closing carrying amount is $2,500,000 + $300,000 - $120,000 = $2,680,000.
Only the $120,000 dividend is cash received, which shows why recognised profit and cash differ under the equity method.Case study
Seen in the real world.
This entirely fictional case follows Juniper Packaging, an invented manufacturer that bought 25% of a recycling business and gained a board seat. Finance reviewed the shareholder agreement instead of relying only on the percentage. The team assessed significant influence, group reporting and transactions between the firms.
The review concluded that the board seat and a supply contract supported significant influence, so the stake would be reported under the equity method, with sales between the two firms adjusted. Finance also wrote a short memo recording who may approve further funding. The case is not a claim about a real acquisition or audit outcome.
Watch out
Common mistakes.
- Using share percentage as the only test for control or significant influence.
- Treating an ordinary debt instrument like an equity-method associate.
- Assuming a share of investee profit equals cash received as a dividend.
Questions
People also ask.
Does owning 20% always require the equity method?
No. IAS 28 has a rebuttable presumption of significant influence at 20% voting power; facts and exceptions matter.
Is a subsidiary the same as an associate?
No. Control generally leads to consolidation, while significant influence generally leads to equity-method accounting.
Can a loan to another company be an intercorporate investment?
Yes, in a broad sense, but it follows debt-instrument rules rather than the equity-method rules for associates.
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