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Equity Method of Accounting

If you wish to know what is the equity method of accounting for investments in common stock, you have come to the right place. This article will give you all the details on the definition, equity accounting for joint ventures, and the process of consolidation of accounts under this method of accounting. The equity method of accounting is a standard accounting technique to account for or assess the profits that a company earns on all its equity investments made in other companies. In fact, the perfect equity method example can be when the parent company holds a significant ( ! to " percent# stake of investments in another company, because under this method, the earnings confirm to be in proportion to the investment made. In other words, when the parent is using this method of accounting, there is only one single item in the investor$s balance sheet with the amount proportional to his share in the $invested in$ company$s net income. For Investments in Common Stock The following points showcase how the method works. This method is used when the owner owns about ! percent and above of the $invested in$ company$s stock with significant influence but no control (or when a merger is not possible despite high stakeholder%ship because of parent subsidiary incompatibility, etc.#. The investment acquisition is recorded in the balance sheet at historical cost and all the earnings since the time of acquisition and all the dividends received are added and deducted respectively from the amount. In other words, all the earnings of the subsidiary that are made after the acquisition increase both, the investment account as well as the income in the income statement, and vice versa. &ividends received from the company reduce the parent$s investment account. If any of the subsidiaries assets show a significant deviation between their fair market value and the value listed in the books of accounts, the excess is amorti'ed over the economic life of the asset in question. In the parent$s books, this reduces the investment account and also the income earnings in the income statement. For Joint Ventures This method of accounting for investments in a joint venture requires that the investments be recorded at original cost and the asset be increased or decreased according to the investor$s share in the profits and losses respectively. (ll dividends received require the balance to be decreased, when the company is following this method of accounting. The highlight to note in this is that as the incomes are recorded as single line items under the heading of investment income, they do not inflate revenues and thus leave the income from operations unaffected. )onsolidation *orksheet +ntries ,nder +quity -ethod *hen using this method of accounting for investments in common stock, the following book entries are required.

(t the time of consolidation of accounts, a basic elimination entry for the book value of net assets at the time of acquisition is made. (ll excess cost elements are then accounted for with additional journal entries. The difference between the affected retained earnings of past periods and the current effect on the balance sheet and income statements is then obtained. This difference is amorti'ed over a certain number of years. +limination entries for the dividend incomes, accumulated depreciation and inter% company transactions then follow. The .(/0 (.inancial (ccounting /tandards 0oard# recogni'es many other accounting methods for investments as well, one of them being the cost method of accounting. 1either the cost method not the equity method are suitable for investments under the following circumstances. If the company holds debt securities with the intent and ability to hold them to maturity, they are accounted for as held%to%maturity investments. They are recorded in the 0alance /heet at amorti'ed cost and the income statement records the amorti'ation of premiums and discounts. .air value notes must be provided with the financial statements for such investments. If the objective of the investment is to make profits on short term price differentials, they are classified as trading securities. 2ere, the 0alance /heet records the fair value of the investment while the income statement reports on the unreali'ed gains and losses for the period. (ll debt and equity securities that do not fall under any major investment categories are categori'ed as $available%for%sale$ securities. /imilar to the trading securities, these investments are recorded at fair value on the 0alance /heet and a /tatement of )omprehensive Income (/)I# reports the holding period gains and losses for the same. 2ope you are now equipped with adequate information on the subject of the $equity method of accounting for investments in common stock$. 3ead more at 0u''le4 http455www.bu''le.com5articles5equity%method%of%accounting.html