Discussions on the equity method

Keywords: Mazars, Thailand, IFRS, IASB, IAS 28, Equity method, LIFO, FIFO

16 August 2022

At the June 2022 meeting, the IASB continued the discussions that began in April on the following topic: how should the equity method be applied when purchasing an additional interest (or disposing of an interest) in an associate while retaining significant influence?

The Board is currently considering two possible approaches:

• the IASB’s preferred approach would require an investor who has significant influence to measure their interests as an accumulation of purchases (with different layers);
• the alternative approach would require the investor to remeasure their investment at fair value when they acquire an additional interest.

At the June meeting, the Board continued to consider the effects in practice of applying its preferred approach.

If the acquisition of an additional interest results in a bargain purchase, the IASB felt that the gain should be recognised in profit or loss. In other words, the Board is moving away from the option of offsetting the bargain purchase gain from any previously recognised goodwill and recognising any balance in profit or loss. It felt that this approach would not adequately reflect the existence of the multiple independent “layers”.

In the case of a partial disposal where the investor retains significant influence, the IASB felt that the investor should measure the portion of the equity-accounted investment to be derecognised by either:

• using a specific identification method, if the investor can identify the specific portion of the investment being disposed of (and its cost). However, as shares are (by their very nature) fungible, this is not very likely in practice. It is nevertheless possible, for example, if an investor purchased an additional interest and wrote a call option on the shares in question;
• or applying the last-in, first-out (LIFO) method, if the specific portion cannot be identified. The Board rejected the weighted average method as this treats the investment as a single asset, and is thus incompatible with the “layer” approach. The first-in, first-out (FIFO) method was also rejected, because it generally involves recognising a larger gain (assuming the value of the investment is increasing), and because it was the initial layer that granted significant influence.

While it makes sense to reject the weighted average method if a “layer” approach is being used, it is more difficult to understand why LIFO has been deemed preferable to FIFO. The IASB’s desire to avoid recognising a larger gain is based on a questionable conceptual foundation. It is true that the objections to the use of LIFO for measuring inventories do not apply to shares (because shares do not have a limited shelf life), but it is difficult to understand why LIFO was preferred to FIFO.

Discussions on the practical challenges of implementing the equity method will continue over the coming months. The IASB has not yet specified what type of document will be published once discussions are completed, or when this will be.