When do I use fair value, the equity method, or consolidation for an investment?

Question

AcadiFi · Accepted Answer

The starting point is influence and control. If the investor controls the investee, usually through more than 50 percent ownership, consolidate. If the investor does not control but can exercise significant influence, usually with ownership around 20 percent to 50 percent, use the equity method. If neither control nor significant influence exists, the investment is generally measured at fair value if applicable under GAAP.

Example: Westbridge Analytics buys three investments. It acquires 12 percent of Orbit Data with no board seat and no influence, so that investment is carried at fair value. It buys 32 percent of Signal Works and obtains board representation plus policy involvement, so it uses the equity method and recognizes its share of investee income. It also buys 78 percent of Harbor Metrics, which gives it control, so Westbridge consolidates Harbor Metrics and reports the subsidiary's assets, liabilities, revenue, and expenses line by line.

The percentages are useful shortcuts, but FAR wants the concept behind them. A 15 percent stake can still use the equity method if strong influence exists, and a 30 percent stake might not if another investor clearly controls everything and influence is absent. Ask two questions: do I control the investee, and if not, do I significantly influence it? That framework usually gets you to the right model. Practice more in our CPA FAR question bank.

When do I use fair value, the equity method, or consolidation for an investment?

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