Current practice issue

Applying the equity method

When making an investment that requires accounting using the equity method, a company often pays an amount that is greater than its share of an investee's underlying equity. FASB Accounting Standards Codification® (ASC) 323, Investments: Equity Method and Joint Ventures, requires an investor to account for the difference in its cost and the underlying net assets of the equity investee as if the investee were a consolidated subsidiary. Accordingly, an investor should account for the difference as it would when applying business combination accounting, with subsequent additional amortization (depreciation) recognized as an adjustment to its share of the investee's income or loss.

The following example illustrates how a company would apply this guidance.

On January 1, 20X1, Company A acquires a 30 percent investment in the common stock of Company B for $15 million (including acquisition costs) in a transaction with a third party. Company A has significant influence over Company B and uses the equity method to account for its investment. On the date of Company A's investment, the net book value of Company B is $30 million. The applicable tax rate is 40 percent.

Company A must account for the difference between the $15 million carrying value of its investment and its $9 million ($30 million times 30 percent) share of Company B's recorded equity. In performing an analysis similar to a purchase price allocation, Company A determines that $2 million of the difference is attributable to the excess of fair value over book value of certain fixed assets having a five-year life, and that another $3 million is attributable to the fair value of certain intangible assets not reflected on Company B's books with an estimated life of 10 years. These two items result in a deferred tax liability of $2 million ($5 million taxable temporary differences times 40 percent). The remaining $3 million relates to goodwill.

In recording its equity in the earnings of Company B in 20X1, Company A would reduce its 30 percent share of Company B's earnings by $420,000, representing the depreciation of additional fixed asset amounts ($400,000) and amortization of the intangibles ($300,000), less the deferred tax benefit of $280,000 ($700,000 reduction in book/tax basis difference times 40 percent).

Although an equity method investor is required to recognize an other-than-temporary impairment of its total investment in accordance with ASC 323-10- 35-31 through 35-32, it is not required to separately test the investee's underlying asset(s) for impairment. The investor instead would recognize its share of any impairment charge recorded by an investee and consider the effect, if any, of the impairment on the investor's basis difference in the assets giving rise to the investee's impairment charge.

FASB suggests improvements for reporting discontinued operations

All decisions reached at Board meetings are tentative and may be changed at future meetings. Decisions are included in an Exposure Draft only after a formal written ballot. Decisions reflected in Exposure Drafts are often changed in redeliberations by the Board based on information received in comment letters, at public roundtable discussions, and from other sources. Board decisions become final after a formal written ballot to issue a final Accounting Standards Update.

The Board recently issued proposed Accounting Standards Update (ASU), Reporting Discontinued Operations, to address concerns that too many disposals of assets qualify as discontinued operations and to improve disclosures of discontinued operations of major lines of business or geographic locations.

Under existing U.S. GAAP, a component of an entity that is a reportable segment, an operating segment, a reporting unit, a subsidiary, or an asset group is eligible for presentation as discontinued operations in the financial statements. The proposed ASU would raise the threshold for reporting discontinued operations by redefining "discontinued operation" as either of the following:

  • A component or a group of components of an entity that represents a separate major line of business or major geographical area of operations that either has been disposed of or is part of a single plan to be classified as held-for-sale in accordance with ASC 360-10-45-9, Property, Plant, and Equipment
  • A business that, upon acquisition, meets the criteria in ASC 360-10-45- 9 to be classified as held-for-sale

A "component of an entity" is a reportable segment, an operating segment, a reporting unit, a subsidiary, or an asset group for which there are operations and cash flows that are clearly distinguishable, both operationally and for financial reporting purposes, from the rest of the entity.

The proposed guidance would also allow for an increased level of continuing involvement by an entity in discontinued operations and would require expanded disclosures about discontinued operations and new disclosures about certain individually material dispositions that do not meet the definition of discontinued operations.

The comment period ends August 30, 2013.

The Board has published FASB In Focus , "Proposed Accounting Standards Update on Accounting for Discontinued Operations," to provide additional information regarding this proposal.

SEC

Mary Jo White confirmed as new SEC chairman

On April 8, the full Senate confirmed the appointment of Mary Jo White to serve as the Chairman of the SEC through the end of former Chairman Mary Schapiro's term, which expires in June 2014. Mary Schapiro had resigned from her position as Chairman in December 2012. Ms. White replaces Chairman Elisse B. Walter, who has served as the Chairman since December 14, 2012.

CorpFin updates Financial Reporting Manual

The Financial Reporting Manual does not contain rules, regulations, or statements of the SEC and has not been approved by the Commission. It is not intended to be published views of the Division of Corporation Finance or of the Office of the Chief Accountant, such as a Staff Accounting Bulletin. The manual was designed as an internal reference document for Division of Corporation Finance staff and should not be relied on as authoritative.

The staff of the SEC's Division of Corporation Finance (CorpFin) has updated the Financial Reporting Manual as of December 31, 2012. The manual does not yet reflect potential changes required for emerging growth companies (EGCs) as a result of the Jumpstart Our Business Startups Act and should be read in conjunction with the act and staff guidance related to EGCs.

Changes to the manual include clarification of the following topics:

  • Section 6220.3, "Age of financial statements in foreign private issuer initial public offerings"
  • Section 6320.6, "Regulation S-X requirements for foreign private issuers"
  • Section 6410.9, "Financial statement requirements for foreign incorporated acquirees or investees that do not qualify as a foreign business"

AICPA releases guide on not-for-profit entities

The AICPA recently released an updated Audit and Accounting Guide titled Not-for-Profit Entities.

This guide includes updates reflecting changes in audit, accounting, and regulatory guidance.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.