Lesson 4 – IFRS vs. ASPE for Investments in Associates
Technical Competency & Learning Outcomes
- Competency reference: 1.2.2 – Evaluates treatment for routine transactions.
- Targeted learning outcomes:
- Differentiate IFRS vs. ASPE for accounting of investments in associates.
- Describe ASPE treatment when an investor has significant influence.
Core Concept: IFRS vs. ASPE for Associates
- IFRS (IAS 28):
- Use of equity method is mandatory when significant influence exists unless scoped into FVTPL by venture-capital exception.
- ASPE (Section 3051):
- Equity method is optional.
- Investor may elect cost method instead, provided the investee’s shares are not publicly traded.
- When shares are publicly traded with a quoted price, options are:
- Fair value (preferably) or
- Equity method.
- No material differences in HOW the equity method itself is applied between frameworks.
- Subsequent changes in ownership (still significant influence) under ASPE:
- Previously held shares are not remeasured; carrying amount becomes “cost.”
- Incremental acquisition costs are expensed.
ASPE Options Illustrated – Example 1: Devastator Makeup Ltd. (DML)
- Facts:
- Private company, follows ASPE; contemplating 25 % purchase of TT Cosmetics (private).
- Remaining 75 % held by single individual (Sam Witwicky).
- Assessment of significant influence:
- 25 % normally → presumption of influence.
- Concentration of remaining ownership (75 % in one person) may override/pierce that presumption.
- Reporting choices available to DML:
- Equity method
- Default if significant influence confirmed.
- Cost method
- Permitted regardless of influence because BOTH entities are private and shares are not publicly traded.
- If TT’s shares were actively traded: only equity method or fair value permitted; cost method disallowed.
Comprehensive Example 2: Irate Inc. & Astute Corp.
Initial Acquisition (Jan 1, Y1)
- Stake acquired: 20 % voting shares → significant influence.
- Cash consideration: 300{,}000
- Directly attributable transaction costs: 2{,}000 (capitalized under ASPE because equity method chosen).
- Astute pre-acquisition balances:
- Common shares 450{,}000
- Retained earnings 670{,}000
- Fair-value (FV) vs. book-value (BV) differentials:
- Inventory: \text{FV}=290{,}000;\ \text{BV}=268{,}000 → \text{FV}−\text{BV}=22{,}000\ (upward)
- Land: 325{,}000\; \text{(FV)} − 260{,}000\; \text{(BV)} = 65{,}000\ (upward)
- Depreciable capital assets: 760{,}000\; \text{(FV)} − 800{,}000\; \text{(BV)} = −40{,}000\ (downward)
- Remaining useful life for depreciables: 8 years.
Acquisition-differential (AD) schedule – Investor’s 20 % share
- Total purchase price: 302{,}000 (cash + costs)
- Investor’s share of net assets: 20\%\times(450{,}000+670{,}000)=224{,}000
- Acquisition differential: 302{,}000−224{,}000=78{,}000 (positive – potential goodwill).
- Allocate AD to FV differences (BV – FV):
- Inventory: 20\%\times(268{,}000−290{,}000)= −4{,}400 (downward adjustment; amortize when sold)
- Land: 20\%\times(260{,}000−325{,}000)= −13{,}000 (downward; no amortization)
- Depreciable assets: 20\%\times(800{,}000−760{,}000)= 8{,}000 (upward; amortize 8,000/8=1,000 per year)
- Unallocated remainder → Goodwill: 78,000−(−4,400 − 13,000 + 8,000)=68,600
Journal entry – Initial investment
- Dr Investment in Astute 302,000
- Cr Cash 302,000
- Y1 amortization: 4,400 (inventory markdown expensed immediately) + 1,000 (depreciable) = 3,400 net decrease (inventory was negative so adds profit).
- Y2 amortization: only depreciable 1,000 (inventory fully realized; land not amortized).
- Unamortized AD at Dec 31 Y2: −7,000.
Inter-company inventory transactions & unrealized profits
- Y1 downstream (Astute→Irate):
- Irate holds 30,000 Astute inventory at Y1-end.
- Astute gross margin 25 \% → unrealized profit 30,000×25\%=7,500.
- Investor’s share to eliminate: 20\%×7,500=1,500.
- Y2 upstream (Irate→Astute):
- Sales 120,000; balance unsold 42,000.
- Irate gross margin 30\% → unrealized profit 42,000×30\%=12,600.
- Investor’s share to eliminate: 20\%×12,600=2,520.
- Prior-year unrealized (1,500) becomes realized in Y2 because inventory sold.
Equity-income calculation
| Component | Year 1 | Year 2 |
|---|
| Share of Astute NI | 165,000×20\%=33,000 | 180,000×20\%=36,000 |
| AD amortization | (3,400) | (1,000) |
| Realization of prior-year upstream profit | +1,500 | — |
| Eliminate current-year unrealized profit | (1,500) | (2,520) |
| Equity income | 28,100 | 35,980 |
Journal entries – Year 1
- Record equity income:
- Dr Investment 28,100
- Cr Equity income 28,100
- Record dividend received (paid): 60,000×20\%=12,000
- Dr Cash 12,000
- Cr Investment 12,000
Journal entries – Year 2
- Record equity income:
- Dr Investment 35,980
- Cr Equity income 35,980
- Record dividend declared (receivable): 80,000×20\%=16,000
- Dr Dividend receivable 16,000
- Cr Investment 16,000
Carrying amount of Investment
| Year 1 | Year 2 |
|---|
| Opening balance | 302,000 | 318,100 |
| + Equity income | 28,100 | 35,980 |
| − Dividends | (12,000) | (16,000) |
| Ending balance | 318,100 | 338,080 |
Financial-statement presentation & cash-flow impact
- Income statement: “Equity income from Astute” shown in Other income section.
- Balance sheet: “Investment in Astute” reported as long-term asset at carrying amount.
- Cash-flow statement (indirect method):
- Dividend received (12,000) appears in Operating activities.
- Equity income is non-cash; thus subtracted from NI in reconciliation.
Key Take-aways & Implications
- Under ASPE, choice between cost and equity method provides flexibility but requires judgment about significant influence and public trading status.
- Transaction costs: capitalized when equity method chosen under ASPE (IFRS now expensed).
- Subsequent acquisitions while retaining influence: no re-measurement – contrasts with IFRS 3’s full FV step-up on gaining control.
- Upstream vs. downstream inventory transactions must be analyzed to eliminate unrealized profits proportionately.
- Goodwill inside the investment balance is not amortized under ASPE but is tested for impairment when indicators arise.
- Proper AD schedule ensures systematic amortization of FV differentials and accurate equity income.
- Dividends are treated as return of investment (reduce carrying value), not income, under equity method.
Ethical & Practical Considerations
- Selection of cost vs. equity method affects reported profitability and leverage; management must avoid earnings manipulation motives.
- Transparent disclosure of method choice, rationale, and impacts is essential for stakeholders.
- Private companies opting for cost method may easier comply but sacrifice informational value of equity method.
- Investor’s share of equity: \text{Ownership \%}×(\text{Common shares}+\text{Retained earnings}).
- Acquisition differential: \text{Purchase price}−\text{Investor’s share of BV net assets}.
- Equity income (baseline): \text{Share of NI}−\text{AD amort.}±\text{Realized / Unrealized profits adjustments}.
- Upstream/downstream profit elimination: \text{Unrealized profit}×\text{Ownership \%}.
- Depreciable FV differential amortization: \frac{\text{Investor’s share of FV adj.}}{\text{Remaining useful life}} per year.
These bullet-point notes encapsulate every numerical detail, journal entry, and conceptual distinction required to replicate the original slides and tackle exam problems on investments in associates under ASPE vs. IFRS.
