Equity Method vs Fair Value Method | Investments

The way you account for an investment differs based on whether you use the Fair Value Method or the Equity Method to account for the investment.
The Fair Value Method is used when the investor owns less than 20% of the equity of the investee. The Equity Method, on the other hand, is used when the investor has significant influence over the investee. The investor is presumed to have significant influence when it owns 20% to 50% of the investee's equity.
Here is how these two methods differ with respect to their effect on the investor's income:
With the Fair Value Method, the investor's pretax income will be affected by (1) unrealized gains or losses for its investment and (2) any dividends it receives from its investment.
With the Equity Method, the investor's pretax income will be affected by the investor's proportionate share of the investee's net income or net loss.
-
Edspira is the creation of Michael McLaughlin, an award-winning professor who went from teenage homelessness to a PhD. Edspira’s mission is to make a high-quality business education freely available to the world.
-
SUBSCRIBE FOR A FREE 53-PAGE GUIDE TO THE FINANCIAL STATEMENTS, PLUS:
• A 23-PAGE GUIDE TO MANAGERIAL ACCOUNTING
• A 44-PAGE GUIDE TO U.S. TAXATION
• A 75-PAGE GUIDE TO FINANCIAL STATEMENT ANALYSIS
• MANY MORE FREE PDF GUIDES AND SPREADSHEETS
* eepurl.com/dIaa5z
-
SUPPORT EDSPIRA ON PATREON
* / prof_mclaughlin
-
GET CERTIFIED IN FINANCIAL STATEMENT ANALYSIS, IFRS 16, AND ASSET-LIABILITY MANAGEMENT
* edspira.thinkific.com
-
LISTEN TO THE SCHEME PODCAST
* Apple Podcasts: podcasts.apple.com/us/podcast...
* Spotify: open.spotify.com/show/4WaNTqV...
* Website: www.edspira.com/podcast-2/
-
GET TAX TIPS ON TIKTOK
* / prof_mclaughlin
-
ACCESS INDEX OF VIDEOS
* www.edspira.com/index
-
CONNECT WITH EDSPIRA
* Facebook: / edspira
* Instagram: / edspiradotcom
* LinkedIn: / edspira
-
CONNECT WITH MICHAEL
* Twitter: / prof_mclaughlin
* LinkedIn: / prof-michael-mclaughlin
-
ABOUT EDSPIRA AND ITS CREATOR
* www.edspira.com/about/
* michaelmclaughlin.com

[@vivianafeemster948]

I have been struggling with these for some time now. After spending an hour or so watching a few of your videos (some multiple times) it makes much more sense. Thank you for making your videos so easy to understand, I really appreciate them.

[@Edspira]

Glad I could help!

[@MyFinancialFocus]

Super interesting. So it’s like being a small investor vs being a large shareholder. Cool to see the difference in income recognition.

[@momay4812]

thank you sir for the amazing video! really helped me understand what my old professor that about to croak anyday can ever explain.

[@peiyihuang527]

Hi professor! Your videos help me a lot, thank you so much! Quick question, under the fair value method, why the debit side is investment but not fair value adjustment when the unrealized gain is recorded?

[@kalpachamika]

Better than Becker CPA Review explanation

[@Edspira]

Thank you!

[@amedm89]

I don’t know what I’d do without you.

[@tishaooppapan446]

I am so glad to have come across your videos! You make these topics easier to understand, and my eyes appreciate the black backgrounds. Quick question on this video. Should the June 30 journal entry be the $10,000 dividend x 25% ownership? In your Equity Method video, the dividends issued decreased the Investment by the percentage of ownership so I was wondering if that should apply here too.

[@rossiwuyts87]

I don't think so because the 10.000 is the received 10,000 dividend from Chocolate Ham

[@hazemkamalmaz8772]

Thank you for the great exception

[@Edspira]

You are very welcome!

[@billalrash1484]

U r such an awesome professor !!!!

[@Edspira]

Wow, thank you so much!

[@narcotic702]

Do you not do a fair value adjustment for the FV method?

[@Nirmanyu95]

What is the accounting treatment for the investor's share in investee's earnings/losses under fair value method?

[@iamalemontree]

Thanks so much!

[@Edspira]

You're welcome!

[@ethanstephens7320]

Thank you so much for these awesome videos!!

[@Edspira]

Glad you like them!

[@myhouse-yourhouse]

There is a mistake. BRK acquired 5% of the company for 400k under the FV method, so if BRK acquired 25% of the company, they'd have spent 2 million. Concept is right, numbers are not.

[@chipsmithers4662]

How do you define ownership percentage? What if one investor owns 33% of the voting, but only 3% of the profits?

[@vkrgfan]

Isn't unrealized gain entry should be credited to Fair-Valuation Allowance?

[@aravinddumpala2583]

In the equity method, when you reduce investment by 10k (dividend) and increase the investment by 25k (% of profit), the investment value based on the adjustments is 415k, whereas, it should have been 425k?