9.5 Accounting for joint ventures and associates

Joint ventures and associates are crucial business arrangements in international accounting. They involve shared control or significant influence over entities, requiring specific accounting treatments. Understanding these concepts is essential for accurate financial reporting and decision-making in global business environments.

IFRS 11 and IAS 28 govern the accounting for joint ventures and associates. These standards outline the classification, recognition, and measurement of such investments. The equity method is the primary accounting approach, reflecting the investor's share of profits, losses, and other changes in the investee's net assets.

Definition of joint ventures

• Joint ventures are business arrangements where two or more parties agree to pool their resources for the purpose of accomplishing a specific task or project
• Involve a contractual agreement that establishes joint control over the economic activities of the newly formed entity
• Accounting for joint ventures is governed by IFRS 11 Joint Arrangements and IAS 28 Investments in Associates and Joint Ventures

Characteristics of joint ventures

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• Typically involve a separate legal entity, in which the venturers have an interest
• Parties have joint control over the arrangement, which requires unanimous consent for strategic financial and operating decisions
• Venturers share profits, losses, and costs associated with the joint venture
• Each venturer contributes assets, liabilities, and expertise to the joint venture

Accounting standards for joint ventures

• IFRS 11 requires an entity to classify its interest in a joint arrangement as either a joint operation or a joint venture
• Classification depends on the rights and obligations of the parties to the arrangement
• For joint ventures, IFRS 11 requires the use of the equity method of accounting
• IAS 28 provides guidance on the application of the equity method for investments in joint ventures and associates

Types of joint ventures

• Joint ventures can take different forms depending on the rights and obligations of the parties involved
• IFRS 11 distinguishes between three types of joint arrangements: jointly controlled operations, jointly controlled assets, and jointly controlled entities

Jointly controlled operations

• Involve the use of assets and other resources of the venturers rather than the establishment of a separate entity
• Each venturer uses its own assets, incurs its own expenses, and raises its own financing
• Venturers share the revenues from the sale of goods or services performed by the joint operation

Jointly controlled assets

• Involve joint control and often joint ownership of assets dedicated to the joint venture
• Each venturer may take a share of the output from the assets and bears an agreed share of the expenses incurred
• Venturers account for their share of the jointly controlled assets, liabilities, expenses, and revenues in their own financial statements

Jointly controlled entities

• Involve the establishment of a separate entity in which each venturer has an interest
• The entity operates in the same way as other entities, except that a contractual arrangement between the venturers establishes joint control over its economic activity
• Venturers contribute assets or funds to the jointly controlled entity and share in its profits or losses

Accounting for jointly controlled entities

• IFRS 11 requires the use of the equity method for jointly controlled entities, eliminating the option for proportionate consolidation
• Under the equity method, the investment in a joint venture is initially recognized at cost and adjusted thereafter for post-acquisition changes in the venturer's share of net assets of the joint venture

Equity method

• Venturer's share of the profit or loss of the jointly controlled entity is recognized in the venturer's profit or loss
• Distributions received from the joint venture reduce the carrying amount of the investment
• Adjustments to the carrying amount may be necessary for changes in the venturer's proportionate interest (dilution gains or losses)

Proportionate consolidation method

• No longer permitted under IFRS 11 for jointly controlled entities
• Previously allowed venturers to recognize their proportionate share of the assets, liabilities, revenues, and expenses of the joint venture in their own financial statements

Disclosures for jointly controlled entities

• Venturers should disclose the names and descriptions of interests in significant joint ventures
• Summarized financial information of joint ventures, including total assets, liabilities, revenues, and profit or loss
• Contingent liabilities and capital commitments incurred relating to interests in joint ventures

Definition of associates

• An associate is an entity over which the investor has significant influence but not control or joint control
• Presumption of significant influence if an investor holds 20% or more of the voting power of the investee, unless it can be clearly demonstrated otherwise

Significant influence in associates

• Power to participate in the financial and operating policy decisions of the investee
• Indicators of significant influence include representation on the board of directors, participation in policy-making processes, and material transactions between the investor and investee
• Existence and effect of potential voting rights should be considered when assessing significant influence

Accounting standards for associates

• Investments in associates are accounted for using the equity method, as prescribed by IAS 28
• Equity method applies unless the investment is classified as held for sale or the investor is a venture capital organization that elects to measure investments at fair value through profit or loss

Equity method for associates

• Under the equity method, the investment in an associate is initially recognized at cost
• Carrying amount is increased or decreased to recognize the investor's share of the profit or loss and other comprehensive income of the associate after the date of acquisition

Application of equity method

• Investor's share of the associate's profit or loss is recognized in the investor's profit or loss
• Investor's share of the associate's other comprehensive income is recognized in the investor's other comprehensive income
• Distributions received from the associate reduce the carrying amount of the investment

Adjustments to equity method

• Adjustments to the carrying amount may be necessary for changes in the investor's proportionate interest (dilution gains or losses)
• Appropriate adjustments to the investor's share of the associate's profit or loss should be made for the effects of significant transactions or events between the investor and associate (upstream and downstream transactions)

Impairment losses for associates

• After applying the equity method, the investor determines whether it is necessary to recognize an additional impairment loss on its investment in the associate
• Impairment testing is performed if there are indications that the investment may be impaired, following the requirements of IAS 36 Impairment of Assets

Disclosures for associates

• Investors should disclose the names and descriptions of significant associates
• Summarized financial information of associates, including total assets, liabilities, revenues, and profit or loss
• Investor's share of the profit or loss of associates and the carrying amount of those investments

Transactions between investor and associate/joint venture

• Profits and losses resulting from upstream and downstream transactions between an investor and its associate or joint venture are recognized in the investor's financial statements only to the extent of unrelated investors' interests

Upstream vs downstream transactions

• Upstream transactions: sales of assets from an associate or joint venture to the investor
• Downstream transactions: sales or contributions of assets from the investor to its associate or joint venture
• Investor's share in the associate's or joint venture's gains or losses resulting from these transactions is eliminated

Elimination of unrealized profits and losses

• Unrealized profits and losses resulting from transactions between the investor and the associate or joint venture are eliminated to the extent of the investor's interest
• Any excess of the cost of the transaction over the investor's share of the net fair value of the associate's identifiable assets and liabilities is recognized as goodwill and included in the carrying amount of the investment

Presentation and disclosure

• Investments in associates and joint ventures can be presented in the consolidated financial statements or in separate financial statements of the investor

Separate vs consolidated financial statements

• In the investor's separate financial statements, investments in associates and joint ventures can be accounted for at cost, in accordance with IFRS 9, or using the equity method
• In the investor's consolidated financial statements, the equity method is applied for both associates and joint ventures

Disclosures in notes to financial statements

• Significant judgments and assumptions made in determining the existence of significant influence or joint control
• Summarized financial information of associates and joint ventures, individually or in groups
• Nature, extent, and financial effects of interests in associates and joint ventures
• Risks associated with the investor's interests in associates and joint ventures, including contingent liabilities