This chapter reviews the accounting for intercorporate investments. The discussion

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CHAPTER 2

Intercorporate Equity Investments:

An Introduction

This chapter reviews the accounting for intercorporate investments. The discussion covers investments such as passive investments; controlled entities such as subsidiaries and structured entities; associates and joint ventures; as well as the appropriate method of accounting for each. Private company reporting (i.e. accounting standards for private enterprises), as it applies to accounting for investments, is also discussed. The chapter concentrates on investments that are controlled or subject to significant influence.

The concepts of control and significant influence (both direct and indirect) are discussed from both a qualitative and a quantitative perspective. Simple examples of wholly owned parent founded subsidiaries are used to illustrate consolidation and equity reporting, and to draw the distinction between the reporting and recording of intercorporate investments.Two approaches are used to illustrate the consolidation process: the direct and the worksheet approach. The usefulness and shortcomings of consolidation and equity reporting are discussed, as are the conditions under which nonconsolidated statements may be useful.

SUMMARY OF ASSIGNMENT MATERIAL

Case 2-1: Multi-Corporation

Two short examples of investments are described. The student must determine the appropriate method of accounting for these investments.

Case 2-2: Salieri Ltd.

An investor corporation has varying ownership interests in several other companies.Students are asked which basis of reporting is appropriate based on the nature of the relationships between the investor and the investees, and also which subsidiaries should be consolidated. This case is useful for reviewing the substance of significant influence and for reviewing the criteria for consolidation as described in IFRS 10 Consolidated Financial Statements.

Case 2-3: Heavenly Hakka, Nature’s Harvest, and Crystal

Three independent investment scenarios are provided. Students are required to first discuss the various reporting alternatives available to account for each investment scenario and then decide on the appropriate method of accounting for that scenario.Students will need to refer to relevant international standards for finding appropriate solutions.Advanced Financial Accounting Canadian Canadian 7th Edition Beechy Solutions Manual Visit TestBankDeal.com to get complete for all chapters

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Case 2-4: Inter Provincial Banking Corporation and Safe Investments

This is a single issue case focussing on whether reputational risk by itself requires consolidation. During the 2007-2009 financial crisis many financial institutions decided to provide support to and consolidated structured entities whose demise posed significant reputational risk to the institutions. The institutions however had no legal or contractual obligation towards the structured entities. Consequently, the IASB considered whether reputational risk by itself warranted consolidation. Eventually, the IASB decided not to mention reputational risk in ED 10 or in the ensuing IFRS 10 as a feature indicating presence of control warranting consolidation. However, under IFRS 10 reputational risk is one of many other factors which should be considered for deciding whether one entity is exposed to risks and rewards arising from another entity and whether the former controlled and had power over the latter and thus should be required to consolidate the latter.

Case 2-5: Eany, Meeny, Miny and Moe; and Tick, Tack, and Toe

The two situations in this case both focus on whether the arrangement between investors constitutes a joint arrangement under IFRS 11, wherein some or all of the parties concerned possess joint control over the investee. Students are required to decide on the reporting choice investors have to follow to report their investments in the invesee.

Case 2-6: XYZ Ltd.

A business combination has occurred but has the new investor acquired control? This is the central issue in this case where the new investor has purchased all the Class A voting shares but the Class B voting shares are held by another party. The shareholder’s agreement is also relevant.

Case 2-7: Jackson Capital Ltd.

This is a multi-competency case with coverage of both accounting and assurance issues.The majority of the issues in the case relate to the appropriate accounting method for a series of investments. If desired, the instructor could request that the students focus on the accounting issues only.

P2-1 (15 minutes, easy) An investment scenario is provided and students are asked to identify when each of proportionate consolidation, the cost method, the fair value method, the equity method and consolidation would be appropriate, with explanations.

P2-2 (20 minutes, easy) A simple problem that requires students to determine the income/gains and losses an investor has to report for two consecutive years in relation to an investment under the (1) cost and (2) equity methods respectively and alternatively if the investment were classified as a (3) FVTPL and (4) FVTOCI investment respectively. The problem also

Chapter 2 – Intercorporate Equity Investments: An Introduction

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27 requires students to calculate the balance of the investment under each of these alternate reporting methods.

P2-3 (12 minutes, easy) A simple problem on the application of the equity method to a parent-founded subsidiary.Students are required to provide adjustments necessary for going from the cost method of recording to the equity method of reporting.

P2-4 (25 minutes, medium) For the given investment scenario students are first asked to assume that it is a FVTPL and alternatively as a FVTOCI investment and are required to i) provide the journal entries required in relation to the investment, and ii) balance in the investment account.Next the students are asked to assume that at year-end the investor decided to change the method of record to the equity method and wants to report under the method as well and are required to provide the necessary adjusting entiries, total income of the investor and the balance in the investment account.

P2-5 (20 minutes, easy) For an investment which is treated as a fair value through other comprehensive income investment students are asked to provide i) the dividend income and unrealized gains/losses recognized by the investor and ii) the balance in the carrying value of the investment, over a four-year period.

P2-6 (30 minutes, medium) Five independent scenarios are present, each extending the simple consolidation problem in p. xxx to xxx of the text. Students are asked to assume that either the cost or the equity method was used to record the investment in the subsidiary and are asked to either report using the equity method or via consolidation and to provide the necessary adjusting entries.

P2-7 (10-15 minutes, medium) A scenario wherein the investor records its investment in the investee under the cost method is provided. Students are required to provide the adjusting entries required to report the investment under the equity method, initially in the first year, and next in the second year. This problem is well suited for making the students appreciate how the adjusting entries for year 1 are different when they are made in year 2, since now, year 1 is no longer the current year but the previous year and thus the nature of the related adjusting entry is different. Specifically, instead of recognizing the earnings of the investee as equity in its earnings in the SCI, as done in year 1, the change in retained earnings of the investee in year 1 is added to the beginning retained earnings of the investor in year 2.

P2-8 (20 minutes, easy) This is a straightforward consolidation of a parent-founded subsidiary several years after its establishment. Only an SFP and related adjusting entries are required.

Chapter 2 – Intercorporate Equity Investments: An Introduction

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28 P2-9 (25 minutes, easy) A consolidated SCI for a parent-founded subsidiary is required. Three eliminations must be made. The investment is carried at cost on the parent’s books.

P2-10 (35 minutes, medium) The first requirement is consolidation of a parent-founded subsidiary when the investment account is carried at cost. Second, adjusting entries to convert from the cost method to the equity method and the financial statements of parent under equity method are required. Finally, consolidation from equity method financial statements is required.Both a SCI and a SFP are required. A number of eliminations must be made.

P2-11 (20 minutes, medium) Consolidation of a parent-founded subsidiary when the investment account is carried on the equity basis. Two eliminations are required. There are goods in inventory that were sold from one company to the other but, since the sales were at cost, there is no unrealized profit. This problem could be used to introduce the treatment of inventories arising from intercompany transactions. Both SFP and SCI are required.

P2A-1 (12-15 minutes, easy) Students are required to provide the journal entry necessary to recognize the additional purchase of shares in a FVTOCI investment.

P2A-2 (15-20 minutes, easy) Students are required to provide the journal entry necessary to recognize the acquisition of significant influence consequent to the additional purchase of shares in a FVTOCI investment.

P2A-3 (15-20 minutes, easy) Students are required to provide journal entries required in relation to (1) a significantly influenced investment (2) the subsequent partial sale of shares in the investment, and (3) the remaining significantly influenced investment.

P2A-4 (15-20 minutes, easy) Students are required to provide journal entries required in relation to (1) a significantly influenced investment (2) the subsequent loss of significant influence without any partial sale of the investment on the part of the investor, and (2) the remaining FVTOCI investment.

P2A-5 (15-20 minutes, easy) Students are required to provide journal entries required in relation to (1) a significantly influenced investment (2) the subsequent partial sale of shares in the investment with associated loss of significant influence, and (3) the remaining FVTOCI investment.