When do you use the equity method vs. the acquisition method for intercorporate investments?

Great question — this is a core CFA Level II topic that shows up in almost every exam. The classification depends on the degree of influence or control the investor has over the investee:

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Key thresholds:

Important nuances:

1. The 20% threshold is a presumption, not a rule. If Greenfield Biotech owns 18% of Solara Diagnostics but has two board seats and supplies critical technology, it likely has significant influence despite being below 20%.

2. Equity method basics: The investor records its share of the investee's net income on the income statement, and the investment account on the balance sheet increases by that amount (minus dividends received).

3. Acquisition method basics: You consolidate 100% of the subsidiary's assets and liabilities, recognize goodwill, and carve out a noncontrolling interest for the portion you don't own.

Quick example: Harmon Capital acquires 35% of Pemberton Analytics for $42 million. Pemberton reports$10M net income and pays $3M in dividends. Under the equity method:

• Harmon records: $10M x 35$3.5M** income
• Investment increases by $3.5M, then decreases by$3M x 35% = $1.05M for dividends
• Ending investment balance = $42M +$3.5M - $1.05M = **$44.45M**

For more practice with these classifications, explore our CFA Level II question bank on AcadiFi.