Associates, Joint Arrangements and Equity Accounting
Groups
Associates, Joint Arrangements and Equity Accounting
Syllabus tag: KASNEB CPA | Advanced Level | CA32 Advanced Financial Reporting and Analysis | Topic 4 Associates, Joint Arrangements and Equity Accounting
Lesson objectives
By the end of this topic, you will be able to:
- Identify significant influence and distinguish it from control
- Apply the equity method
- Account for unrealised profits on transactions with an associate
- Distinguish a joint operation from a joint venture
- Test an associate for impairment
Why this matters
Between control and a passive investment lies significant influence — the ability to participate in decisions without directing them. It gets its own method, and the method sits awkwardly between the other two.
Significant influence
The power to participate in the financial and operating policy decisions of an investee, without controlling those policies.
A holding of 20% to 50% of the voting power is presumed to give significant influence, and the presumption is rebuttable in both directions.
Evidence beyond the percentage: board representation, participation in policy decisions, material transactions between the parties, interchange of managerial personnel, or provision of essential technical information.
A 15% holding with a board seat and joint policy-making may be an associate. A 35% holding where another party owns 65% and excludes the investor may not be. The percentage is a presumption, not a test — the same reasoning IFRS 10 applies to control.
The equity method
One line in each statement, unlike the line-by-line consolidation of a subsidiary.
| Step | Effect |
|---|---|
| Initial recognition | At cost |
| Add the share of post-acquisition profit | Increases the carrying amount and group profit |
| Add the share of post-acquisition OCI | Increases the carrying amount and group OCI |
| Deduct dividends received | Reduces the carrying amount |
| Deduct any impairment | Reduces the carrying amount |
An associate costing KES 68,000,000 for 30%, with post-acquisition profit of 42,000,000, OCI of 8,000,000 and dividends of 6,000,000:
| KES | |
|---|---|
| Cost | 68,000,000 |
| Share of profit (30% × 42,000,000) | 12,600,000 |
| Share of OCI (30% × 8,000,000) | 2,400,000 |
| Dividends received (30% × 6,000,000) | (1,800,000) |
| Carrying amount | 81,200,000 |
The dividend is deducted, not treated as income. The associate's profit has already been recognised through the share of profit, so recognising the dividend as well would count the same earnings twice. The dividend simply converts part of the investment into cash.
Why one line rather than consolidation
An investor with significant influence cannot direct the associate's assets. Adding 30% of its inventory to the group's own would suggest the group can use it, which it cannot. The single line reports the value of the investment rather than pretending to control the underlying assets.
That is also why the associate's revenue never appears in group revenue — another point candidates get wrong.
:::checkpoint A candidate adds 30% of an associate's revenue to group revenue, arguing it reflects economic substance. Explain why the standard does not permit this. :::
Unrealised profits
Where the investor and associate trade, profit on goods still held is unrealised — but only the investor's share is eliminated, because the other portion belongs to outside owners.
The investor sells goods to the associate for KES 12,000,000 at a 30% margin, half still held, and holds 30%:
12,000,000 × 30% margin × 50% unsold × 30% holding = KES 540,000
Compare CA23: for a subsidiary, the whole unrealised profit is eliminated because the group controls both parties. For an associate, only the share is — because the group does not.
Joint arrangements
| Joint operation | Joint venture | |
|---|---|---|
| Parties have rights to | Assets and obligations | Net assets |
| Usually structured through | No separate vehicle, or one that does not shield | A separate vehicle |
| Accounting | Recognise own share of assets, liabilities, revenue and expenses | Equity method |
The classification follows the rights, not the label. Two parties may call an arrangement a joint venture and, if each has direct rights to its share of the output and direct obligations for the costs, it is a joint operation and accounted for line by line.
An oil field where each participant takes a share of production and bears a share of cost is the standard joint operation. A jointly owned company selling to third parties and distributing profit is a joint venture.
Impairment
The whole carrying amount of the associate — cost plus accumulated share of profits — is tested as a single asset against its recoverable amount.
With a carrying amount of 81,200,000 and a recoverable amount of 74,000,000:
Impairment loss = KES 7,200,000
Note that goodwill within the investment is not tested separately. It is not recognised as a separate asset under the equity method, so it cannot be impaired on its own — unlike goodwill on a subsidiary, which is allocated to a cash-generating unit and tested annually.
:::checkpoint Explain why goodwill arising on an associate cannot be impaired separately, and contrast this with the treatment of goodwill on a subsidiary. :::