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An Understanding Of The Concept Of Equity Accounting

The term equity accounting refers to the process of treating the equity investments in the associate companies that might be around 20 to 50% in the associate companies. The investor considers such equities as his asset. The proportional payment of the dividend of the associate company decreases the equity and the proportional share of the associate company’s net income increases it. If the ownership of the company’s stock is more than 50% of the voting stock then it creates the subsidiary. In such a situation the financial statement gets consolidated into the parent company’s. If the ownership of the voting stock is less than 20% then it creates an investment position that is carried at the historic book or the fair market value in the investor’s balance sheet.

When the investment in the investee is more than 20%, then the investor has a considerable say in the operations as well as the financial decisions of the company. The GAAP rules and regulations require that the investment in the investee be reported using the equity method. The investor in such cases can exercise a significant influence in the investee company in such factors like in the representation on the board of directors, interchange of the managerial personnel, material intercompany transactions, as well as the technological dependency.  In the equity method of accounting, the economic substance rather than the legal form that is behind the investment in the common stock of another company.

In the equity method of accounting the investment is usually recorded in the stock of the investee at a cost. The adjustment of the investment account is then made to realize the share of the investor in the income or the losses of the investee. The equity accounting is a reflection of the accrual-basis accounting in which the revenue is recognized when earned and the losses when incurred.