Question

Q1 (12 marks) & The accounting for equity investments is one of the hot topics in finance and accounting because it can have significant consequences on the profitability and the financial position of companies. The debate covers several accounting aspects including the substance vs. form dilemma. Normally the accounting method for an equity investment depends on the level of influence achieved by one company when investing in another company. For example, a company that achieves control over another company is required to consolidate its financial statements with those of the investee. The accounting standards normally define specific quantitative cut-off ranges of ownership percentages to guide the assessment of influence. The standards also use additional qualitative criteria to help assess influence. Required: 1. Explain the concept of control and its relationship to ownership percentage. 2. Which criteria do you prefer to use to classify equity investments (quantitative, qualitative, or a combination of both)? Explain your answer (you may wish to highlight the advantages and disadvantages of each one)

Answer 1

Controlling Interest:

Controlling Interest means (i) 51 percent or more of the ownership interests in an entity, or (ii) a percentage ownership interest in an entity of less than 51 percent, if the owner(s) of that interest actually direct(s) the business and affairs of the entity without the requirement of consent of any other party.

Control in general refers to quantitative factor in the form of number of shares acquired by the organisation in another orgnisation. As per general acounting concepts, a company is controlled by another company. if it holds more than half of the shareholding in another company.

Therefore, Control and ownership are related to each other.

The criteria that everyone should prefer for determining controlling inerest is based on both qualitative as well as quantitaive factor. We have to see the concept of Substance over form to determine whether the company has control over the other.

Advantages of quantitative factors:

• Easy to measure(Say in the form of % of shares owned or guarantee given in case of company limited by guarantee).
• Can be reliblly measurable.

Disadvantages of quantitative factors:

• Takes only the % holding into account. But there are also various other perspects like the controlled company procures its raw materials only from the controller and who is a monopoly.

Advantages of qualitative factors:

• A company may not hold more than 50% share in another company. But, it can exert significant influence over the running of the company. (Say the controlled company's whole sales is with the controller company and there are no customers for that product).

Disadvantages of Qualitative factors:

• Difficult to mesure. Even it's measured also it cannot be as much reliable as compared to Quantitaive factors.