Advanced Financial Accounting Encodo College

CHAPTER ONE: Joint Arrangements

Course contents:
1.1.Meaning and types of joint arrangements
1.2.Accounting for investments in joint ventures
1.3.Accounting for joint operations
1.4.Accounting for joint ventures
1.5.Disclosure requirements
List of Applicable Standards

Topic List Standards

Joint Arrangement IFRS 11
Investment in Associates and Joint Ventures IAS 28
Disclosure of Interest in Other Entities IFRS 12

A joint arrangement is a contractual arrangement whereby two or more parties undertake an

activity together and jointly control that activity. Joint arrangements are established for a
variety of purposes.
E.g., as a way for parties to share costs and risks, or as a way to provide the parties with
access to new technology or new markets) and can be established using different
structures and legal forms.
IFRS-11 define Joint Arrangements requires that parties to a joint arrangement assess their
rights and obligations to determine the type of joint arrangement in which they are involved.
A common example of a joint arrangement is where one party provides the technical
expertise, and the other party provides marketing and/or financial expertise.
Joint arrangements are often formed for expensive and risky projects.
They are fairly common in the oil-and-gas exploration sector and in large real estate
developments. Also, a Canadian company will often form a joint arrangement with a
foreign company or the government of a foreign country as a means of expanding into
international markets. For example, Bombardier produces trains for China by operating
under a joint agreement with a Chinese car manufacturer.
IFRS broadly distinguishes three types of such strategic investment:
the reporting entities controls the investee company
the reporting entities jointly control the investee company with one or more third parties;
and the reporting entities has significant influence over investee
company
In a joint arrangement, participants contribute resources to carry out a specific
undertaking.

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Joint arrangements are classified into two types:

 Joint operations and joint ventures
The type of joint arrangement is an entity is a party to depend on the rights and obligations that
arise from the arrangement.
An entity assesses its rights and obligations by considering the structure and legal form of the
arrangement, the contractual terms agreed to by the parties to the arrangement, and, when
relevant, other facts and circumstances.
A joint arrangement that is structured without a separate vehicle is a joint operation. A joint
arrangement in which the assets and liabilities relating to the arrangement are held in a separate
vehicle can be either a joint venture or a joint operation.

A joint operation is a joint arrangement whereby the parties (i.e., joint operators) that have joint
control of the arrangement have rights to the assets and obligations for the liabilities relating to
the arrangement.

 Each operator contributes the use of assets or resources to the activity. An

example would be a case in which one operator manufactures part of a product,
a second operator completes the manufacturing process, and a third operator
handles the marketing of the product with each operator using its own assets to
perform its work.
 Revenue and expenses are shared in accordance with the joint operations
agreement.
 Some joint operations involve the establishment of a corporation, partnership, or
other entity, or a financial structure that is separate from the operators
themselves.
 However, the agreement amongst the operators would indicate that each
operator retains rights to certain or all assets with the separate vehicle and has
responsibility for a portion of the liabilities of the separate vehicle.
 An example of this type of arrangement is setting up a separate vehicle to
operate an oil pipeline. The operators may contribute assets to a separate legal
entity for the construction of the pipeline. Once the pipeline is completed, it is
jointly owned and used by the operators, who share the costs in accordance with
an agreement.
A joint venture is an arrangement whereby the parties (i.e., joint ventures) that have joint control
of the arrangement have rights to the net assets of the arrangement. An entity is a party to a
joint venture when the separate vehicle has the rights to the assets and responsibility for the
liabilities.
In many joint operations, the ventures contribute the use of assets but retain title to the
assets.

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The ventures do not have any specific rights to the assets or responsibility for the liabilities. They
have rights only to a share of the outcome generated by the separate entity—that is, its share of the
profits of the entity or its share of the excess of assets over liabilities at the time of winding up the
entity.
In joint ventures, the ventures contribute assets to a separate legal entity, which has title to
the assets.
Joint control is the key feature in a joint arrangement. This means that no one venture can
unilaterally control the venture regardless of the size of its equity contribution.
It would be very unusual for a joint operation to be established through an incorporated
company because in an incorporated company the owners typically do not have any
responsibility for the liabilities of the company.
However, if the terms of the joint venture agreement require the owners to guarantee some or a
portion of the liabilities of the company, the joint arrangement could be considered to be a joint
operation.
It is possible for a joint operation to be established through a partnership because in a
partnership the partners typically do have responsibility for the liabilities of the partnership.
The accounting principles involved with reporting a joint arrangement are contained in IFRS 11.
It deals with the financial reporting of an interest in a joint arrangement.
In IFRS 11 presents the following definitions:
Joint control: is the contractually agreed sharing of control of an arrangement, which exists
only when decisions about the relevant activities require the unanimous consent of the
parties sharing control.
Joint operator is a party to a joint operation that has joint control of that joint operation.
Joint venture is a party to a joint venture that has joint control of that joint venture.
Joint arrangement: is an arrangement of which two or more parties have joint control.
Unanimous consent: means that any party within the arrangement can prevent other party
from making unilateral decisions without its consent.
Contractual arrangement: are enforceable agreements reached among the parties which are
often in writing. This agreement may be:
o Signed between parties and explicitly stated or o
Derived from documented minutes of discussion, and o
From the articles of association, charters, bylaws and
similar mechanisms.
 A distinctive feature of these descriptions is the concept of joint control, which must be
present for a joint arrangement to exist.
Joint control is established by an agreement between the parties (usually in writing) whereby

no one party can unilaterally control the joint arrangement regardless of the number of
assets
it .
contributes

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For example, a single entity (Company L) could own more than 50% of the voting shares of
Company M. This would normally indicate that Company M is a subsidiary; however, if
there was an agreement establishing joint control, Company M would be a joint
arrangement and not a subsidiary, and Company L would be a joint operator or joint
venture and not a parent. We will now illustrate the accounting for both types of joint
arrangements.
Degree of influence over ‘investees’ & the relevant IFRS standards.
Degree of influence IFRS accounting
Unilateral Control Account for investment according to IFRS 10( Consolidated Financial
Statements)
Joint operation: Account for assets and liabilities using IFRS 11 Joint
Joint control (joint Arrangements.
arrangements) Joint venture: Account for investment using the equity method in accordance
with IAS 28
Significant influence Account for investment using the equity method in accordance with IAS 28
Less than significant Account for investment using the fair value model in accordance with IFRS 9
Joint Arrangements (IFRS 11)
 The creation of joint arrangements ( corporation ,Plc or partnership joint
ventures) is very common in projects that typically:
 Require significant funding
 Involve significant project risk
 Require collaboration among investors to share expertise and resources.
 Has the following benefits:
 Capital needed can be raised .
 Transfer of technology and knowhow.
 Provide raw materials for the Joint Arrangement .  Marketing of the Joint
Arrangement products .
1.1.1 Back ground of JVs
Q. Had you heard when joint venture is first established? What are its purposes?
A joint venture is a form of partnership that originated with the maritime trading expeditions of
the Greeks and Romans.
The objective was to combine management participants capital contributors in undertakings
limited to the completion of specific trading projects.
In an era when marine transportation and foreign trade involved many hazards, individuals
(ventures) would band together to undertake a venture of this type.
The capital required usually was larger than one person could provide, and the risks were too
high to be born alone.

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Because of the risks involved and the relatively short duration of the project, no net income was
recognized until the venture was completed.
At the end of the voyage, the net income or net loss was divided among the venturers, and their
association was ended.
Today the joint venture takes many different forms, such as
Partnership
Corporate
Domestic and Foreign,
Temporary as well as relatively permanent.
The joint venture enables several participants to share in the risks and rewards of undertakings
that would be too large or too risky for a single venture.
It also enables them to combine technology, markets and human resources to enhance the
profit potential of all participants.
In today's business community, joint ventures are less common but still are employed for many
projects such as:
1) The acquisition, development and sale of real property
2) Exploration for oil and gas and
3) Construction of bridges, buildings and dams.
1.1.2 Nature of Joint Venture Businesses
Considering the nature of joint venture arrangements, joint ventures can be classified as belonging
to one of the following types.
1) Jointly controlled entities
2) Jointly controlled operations
3) Jointly controlled assets
1. Jointly controlled entities
Maintains its own accounting records
Prepares and presents financial statements in the same way as other entities in
conformity with the appropriate accounting standards.
Generally, jointly controlled entities may be divided into two forms:
a) Incorporated and
b) Unincorporated
a) Incorporated
The incorporated entities, i.e. corporations are juridical persons.
An incorporated entity owns assets, incurs liabilities and expenses, and earns
revenues in its own name and for its own account.
Being a legal person, an incorporated entity has the right to enter into contract in its own
name, it can sue and it can be sued.
b) Unincorporated
Ordinarily, an unincorporated entity is not treated as a legal person.

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Although the unincorporated entity can in its name acquire assets, incur liabilities and
conduct business operations, from a legal point of view, the owners of the entity are
directly and proportionately in control of all the assets and liabilities.
2. Jointly Controlled Operation
In this situation no separate entity is formed.
Instead, parts of the ventures’ existing enterprise work on a common project and
coordinate their activities.
The organizational structure remains flexible. In some case joint “project teams” are formed,
in others responsibilities are delegated as and when the need arises.
The distinctive feature of this type of joint venture is that the assets and expertise assigned by
each venture for the joint venture activity remain under the direct control of the venturer
who assigns them.
The participating ventures perform their respective parts of the joint venture actively using
their own resources.
The benefits are shared by the ventures on an agreed basis.
Examples of joint venture operations include those joint venture arrangements under which the
ventures jointly produce market and distribute a particular product using each venture’s resources
such as its property, plant and equipment, technical expertise and employees.
3. Jointly Controlled Assets
Although these are not separate legal entities, the resources contributed by the participating
ventures are combined together for the purpose of a joint venture project which is managed
either by:
• One venture typically known as operator, or
• A joint management ‘steam.
The joint venture agreements define the responsibilities and obligations, of the operator, the
interest of the parties etc.
The distinctive feature of a joint venture of this type is that each venturer possesses an
undivided interest in its assets.
The costs of running the project are shared by the participating ventures on an agreed
basis.
This type of joint venture arrangements is prevalent in the extractive industries (eg. oil, gas,
and minerals).
Example of a jointly controlled assets venture is where two or more oil exploration companies
enter into a joint arrangement to undertake oil exploration or to build an oil pipeline.
1.2.
According to IFRS 11.20, a joint operator must recognize, in relation to its interest in a joint
operation,
(a) its assets, including its share of any assets held jointly;
(b) its liabilities, including its share of any liabilities incurred jointly;

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(c) its revenue from the sale of its share of the output arising from the joint operation; (d) its share
of the revenue from the sale of the output by the joint operation; and (e) its expenses, including
its share of any expenses incurred jointly.
EXAMPLE 1: DOC Inc., EGG Ltd., and FRY Inc. sign an agreement to collectively purchase an
oil pipeline and to hire a company to manage and operate the pipeline on their behalf. The costs
involved in running the pipeline and the revenue earned from the pipeline are shared by the three
parties based on their ownership percentage. All major operating and financing decisions related to
the pipeline must be agreed to by the three companies. The cost of purchasing the pipeline was
$10,000,000. The pipeline has an estimated 20-year useful life with no residual value. The
management fee for operating the pipeline for Year 1 was $2,000,000. Revenue earned from the
pipeline in Year 1 was $3,300,000. DOC invested $3,000,000 for a 30% interest.
DOC would prepare the following entries for Year 1 to capture its share of the activities
related to the pipeline:
Pipeline (30% × 10,000,000) 3,000,000
Cash 3,000,000
Pipeline operating expenses (30% × 2,000,000) 600,000
Cash 600,000
Cash (30% × 3,300,000) 990,000
Revenue from pipeline 990,000
Amortization expense—pipeline (3,000,000/20 years) 150,000
Accumulated amortization—pipeline 150,000
DOC reports its proportionate share of the assets, liabilities, revenues, and expenses of the
joint operation.
EXAMPLE 2: Instead of contributing cash for a 30% interest in the pipeline, DOC contributed
steel pipes to be used by the company constructing the pipeline. DOC had manufactured the pipes
at a cost of $2,200,000. All parties to the contract agreed that the fair value of these pipes was
$3,000,000 and the fair value of the pipeline once it was completed was $10,000,000. All other
facts are the same as in Example 1.

IFRS 11.B34 and B35 indicate the following:

When an entity enters into a transaction with a joint operation in which it is a joint operator, such
as a sale or contribution of assets, it is conducting the transaction with the other parties to the joint
operation and, as such, the joint operator shall recognize gains and losses resulting from such a
transaction only to the extent of the other parties’ interests in the joint operation. When such
transactions provide evidence of a reduction in the net realizable value of the assets to be sold or
contributed to the joint operation, or of an impairment loss of those assets, those losses shall be
recognized fully by the joint operator.
A portion of the gain can be recognized on the contribution of assets to a joint operation.

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 In our illustration, the other ventures have a 70% interest in the joint operation. DOC should
recognize a gain of $560,000 (70% × [$3,000,000 - $2,200,000]). The following journal entries
would be recorded:

Pipeline 3,000,000
Steel pipes 2,200,000
Gain on steel pipes (70% of gain) 560,000
Unrealized gain—contra account (30% of gain) 240,000
Amortization expense (3,000,000/20) 150,000
Accumulated amortization 150,000
Unrealized gain—contra account (240,000/20) 12,000
Amortization expense 12,000 A gain can be recognized when
the significant risks and rewards have been transferred.
 The unrealized gain is a contra account to the pipeline account; it should not be reported as a
deferred gain on the liability side of the balance sheet. When DOC prepares a balance sheet,
the unrealized gain will be offset against the pipeline such that the pipeline’s net cost is
$2,760,000 ($3,000,000 – $240,000). As the net cost of the pipeline is being amortized, the
unrealized gain account is also being amortized. In effect, the unrealized gain is being brought
into income over the life of the pipeline. As the pipeline is being used to generate revenue on
transactions with outsiders, the venture’s own share of the unrealized gain is being recognized
in income. The joint operator’s own interest in the gain is recognized over the life of the
asset.
 When a separate entity is established or purchased and this entity is jointly controlled by two or
more parties, then, this separate entity is a joint arrangement.
 It would be classified as a joint operation if the parties have rights to use the assets of this
separate entity and have some responsibility for paying the obligations of this separate entity.
 The joint operator must use a form of proportionate consolidation to account for its interest in a
joint operation carried out through a separate entity.
 Proportionate consolidation is a method of accounting whereby a joint operator’s share of each
of the assets, liabilities, income, and expenses of a jointly controlled entity is combined line by
line with similar items in the operator’s own financial statements or reported as separate line
items in the operator’s financial statements.
 Under IFRS 11, the operator’s share of the joint operation is recognized in the operator’s
separate entity financial statements; consolidated financial statements are not prepared.
 Furthermore, the operator recognizes its share of assets, liabilities, income, and expenses for
which it has rights and responsibilities. It may not have rights and responsibilities for all assets,
liabilities, income and expenses of the joint operation.
In addition, the operator needs to make adjustments for its share of the following items, which are
illustrated below:

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 Acquisition differentials
 Unrealized profits from intercompany transactions
 Contributions to the joint operation
A form of proportionate consolidation is required for reporting joint operations conducted through
a separate vehicle.
A. ACQUISITION DIFFERENTIALS: The formation of a joint operation by its joint
operators cannot result in acquisition differentials.
However, if an operator purchased an interest in an existing entity, it could pay an amount
different from its interest in the carrying amount of the joint operation’s net assets.
The joint operator would record its share of the fair value of the assets including goodwill
and liabilities directly on its separate entity financial statements.
B. INTERCOMPANY TRANSACTIONS: If the subsidiary was the selling company, 100%
of the profit, net of income tax, is eliminated and allocated to both the NCI and the
controlling interest.
 If the parent was the selling company, the entire net-of-tax profit is eliminated and
allocated to the shareholders of the parent. For intercompany transactions between
an operator and the joint operation, only the operator’s share of the unrealized profit
is eliminated.
 The other operators’ share of the profit from the intercompany transaction is
considered realized if the other operators are not related to each other.
 Since none of the operators can individually control the entity, any transaction
carried out by the joint operation should be viewed as an arm’s-length transaction to
the extent of the other operators’ interest in the joint venture.
 The operator’s own interest in the profit from the intercompany transaction is not
realized because the operator cannot make a profit by selling to or buying from
itself.
For a joint operation, the operator’s share of any intercompany asset profits is eliminated regardless
of whether the sale was upstream or downstream.
The same treatment is prescribed for the sale of assets at a loss except in situations where the
transaction provides evidence of a reduction in the net realizable value of the asset, in which case
the full amount of the loss is immediately recognized.
Reporting by a joint operator of an interest in a joint operation operated through a separate
vehicle
EXAMPLE: Explor is a Calgary-based oil exploration partnership, jointly owned by A Company
and B Company. Under the partnership agreement, both A Company and B Company have joint
control over Explor and have rights to the assets, responsibility for the liabilities and share in the
revenues and expenses of Explor according to their ownership percentages, which is 45% for A
Company and 55% for B Company. Explor maintains separate accounting records for its operations
and provides financial statements prepared in accordance with IFRS for use by the partners in
preparing their IFRS-based separate entity financial statements, which will be referred to below as
proportionately adjusted financial statements. As a partnership, Explor does not pay income tax.

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Instead, the income earned by Explor is flowed through to the owners of Explor for tax purposes.
In effect, the partners must report their share of the income earned by the partnership on their own
tax returns and pay the related income tax. Therefore, when accruing the before tax income earned
by the partnership, the partners should also accrue the income tax to be paid on their share of the
partnership income. A Company, an original founder of Explor, uses the equity method to account
for its investment for internal purposes but has made no entries to its investment account for Year
4.
At year end, it prepares working papers to incorporate the yearly activity for Explor in its
proportionately adjusted financial statements for external users and updates the investment account
for its internal records.
The following are the preliminary financial statements of the two entities on December 31,
Year 4 based on internal record keeping:
PRELIMINARY INCOME STATEMENTS
for Year 4
A Company Explor
Sales $900,000 $370,000
Cost of sales 500,000 180,000
Miscellaneous expenses 100,000 40,000
600,000 220,000
Income before taxes 300,000 150,000
Income tax expense 120,000 0,000
Net income $180,000 $150,000
PRELIMINARY BALANCE SHEETS
At December 31, Year 4
A Company Explor
Miscellaneous assets $654,500 $337,000
Inventory 110,000 90,000
Investment in Explor 85,500 —
$850,000 $427,000
Liabilities $130,000 $ 87,000
Contributed capital 300,000 100,000
Accumulated earnings 420,000 240,000
$850,000 $427,000
These statements are the preliminary financial statements of a joint operator and a joint operation.
During Year 4, neither company declared any dividends. During Year 4, A Company sold
merchandise totaling $110,000 to Explor and recorded a gross profit of 30% on these sales. On
December 31, Year 4, the inventory of Explor contained items purchased from A Company for
$22,000, and Explor had a payable of $5,000 to A Company on this date. A Company will use
a form of proportionate consolidation to incorporate Explor’s activities in its proportionately
adjusted financial statements. Following are the calculations of the amounts that are used in the

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elimination of intercompany transactions in the preparation of the proportionately adjusted

financial statements:
Intercompany sales and purchases:
Total for the year $110,000
A Company’s contractual interest 45%
Amount eliminated $ 49,500 (a)
Intercompany receivables and payables:
Total at end of year $ 5,000
A Company’s contractual interest 45%
Amount eliminated $ 2,250 (b) Intercompany profits in inventory:
Total at end of year (22,000 × 30%) $ 6,600
Profit considered realized—55% 3,630
Unrealized—45% 2,970 (c)
Tax on profit (40%) 1,188 (d)
After-tax unrealized profit $ 1,782
The other operator’s share of the intercompany transactions is considered realized for the
proportionately adjusted financial statements.
Because the proportionate consolidation method will add only 45% of Explor’s financial
statement items, we eliminate only 45% of the intercompany revenues, expenses,
receivables, and payables.
If we eliminated 100% of these items, we would be eliminating more than we are adding in
the summation process. Only the operator’s share of intercompany transactions is
eliminated when the combined statements are prepared.
The inventory of Explor contains an intercompany profit of $6,600 recorded by A Company.
Because there is joint control, A Company has realized $3,630 of this profit by selling to the
other unaffiliated operators, and therefore only A Company’s 45% interest is considered
unrealized.
Unrealized profit is always eliminated from the selling company’s income. Income tax
allocation is required when timing differences occur. Using A Company income tax rate of
40%, the tax effect of the inventory profit elimination is $1,188.

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The preparation of the Year 4 combined statements is illustrated next using the direct approach.

Intercompany revenues and expenses, receivables and payables, and unrealized profits in assets are
eliminated in the preparation of the proportionately adjusted financial statements.

The amounts used in the preparation of these statements are explained as follows:
1. With the exception of shareholders’ equity and deferred income tax, the first two amounts used
come from the preliminary financial statements and consist of 100% of A Company plus 45%
of Explor.
Under the adjustment process, only the operator’s contractual share of the joint
operation’s financial statement items is used.
2. The adjustments labelled (a) through (d) eliminate the intercompany revenues and expenses,
receivables and payables, unrealized inventory profit, and income tax on the unrealized
inventory profit. Adjustment (e) accrues the income tax expense on A Company’s share of
Explor’s income.

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3. Shareholders’ equity consists of the common shares of A Company plus proportionately

adjusted retained earnings since date of acquisition.
After the IFRS-based financial statements have been prepared, A Company would make
the following journal entries to incorporate the above results in the Investment in Explor
account for its internal records:
Investment in Explor (45% × 150,000) 67,500
Equity method income (45% × 150,000) 67,500
To recognize contractual interest in income from joint operation
Income tax expense (40% × 67,500) 27,000
Income tax payable 27,000
To accrue income tax on share of income from joint operation
Equity method income 1,782
Investment in Explor 1,782
To eliminate unrealized profit in ending inventory

Let’s now assume that Explor is not a partnership but is an incorporated company, jointly owned by
A Company and B Company. When the parties established the joint arrangement, they only had
rights to the net assets of the separate vehicle. Therefore, the separate vehicle would be called a
joint venture.
Under IFRS 11, the venturer must use the equity method to report its investment in a joint venture.
The equity method is described in IAS 28. Under this method, the venturer recognizes its share of
the income earned by the joint venture through one line on the income statement, income from joint
venture, and through one line on the balance sheet, investment account.

As a corporation, Explor would pay income tax on its own income and would report income tax
expense on its own income statement. Accordingly, the following additional entry would have been
made by Explor in Year 4:

Income tax expense 60,000

Cash 60,000
We will now the same data as in the previous situation and add the journal entry above.
Assuming that A Company has not yet made any entries pertaining to its investment in Explor
for Year 4, the preliminary financial statements of the two entities on December 31, Year 4
would appear as follows:
PRELIMINARY INCOME STATEMENTS
Year 4
A Company Explor

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Sales $900,000 $370,000

Cost of sales 500,000 180,000
Miscellaneous expenses 100,000 40,000
600,000 220,000
Income before taxes 300,000 150,000
Income tax expense 120,000 60,000
Net income $180,000 $ 90,000
PRELIMINARY BALANCE SHEETS
At December 31, Year 4
A Company Explor
Miscellaneous assets $ 654,500 $277,000
Inventory 110,000 90,000
Investment in Explor 85,500 —
$850,000 $367,000
Liabilities $ 130,000 $ 87,000
Common shares 300,000 100,000
Retained earnings 420,000 180,000
$ 850,000 $367,00
These statements are the preliminary financial statements of a joint venturer and a joint venture.
All of the previous calculations pertaining to intercompany profits and combined net income would
apply in this situation. The only difference is the treatment of the $60,000 of income tax expense.
In the previous example, the $60,000 for income tax was accrued and reported as income tax
expense by A Company. In the current example where Explor is a corporation, the $60,000 for
income tax was paid and reported as income tax expense by Explor.

The following entries would be made at the end of Year 4 by A Company to report its investment
in Explor under the equity method:
Investment in Explor (45% × 90,000) 40,500
Equity method income (45% × 90,000) 40,500
To recognize contractual interest in after-tax income from joint operation
Equity method income 1,782
Investment in Explor 1,782
To eliminate unrealized profit in ending inventory

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These entries will increase Company A’s net income to $218,718 as shown above. The equity
method income will have a balance of $38,718 and will be reported as a separate line on A
Company’s income statement. Now, net income on A’s separate entity income statement, which
uses the equity method to report the joint venture, will be the same amount as net income on A’s
combined income statement when it used proportionately adjusted financial statements to report the
joint operation. The equity method is required for reporting joint ventures under IFRS 11. 
Contributions to the Joint Venture
Suppose that on the date of formation of a joint venture, instead of contributing cash, a venturer
contributes non-monetary assets and receives an interest in the joint venture and that the assets
contributed have a fair value that is greater than their carrying amount in the records of the
venturer. Would it be appropriate for the venturer to record a gain from investing these non-
monetary assets in the joint venture? If so, how much, and when should it be recognized? The
requirements set out in IAS 28 regarding this matter are as follows:
1. The investment should be recorded at the fair value of the non-monetary assets transferred to
the joint venture.
2. Only the gain represented by interests of the other nonrelated venturers should be recognized on
the date of the contribution and only if the transaction has commercial substance as the term is
described in IAS 16. A transaction has commercial substance if the amount, timing and
uncertainty of future cash flows have changed as a result of the transaction. This principle was
applied in Example 5 when the joint operator transferred steel to the joint operator. This
transaction had commercial substance because DOC’s prospects for future cash flows changed
significantly when it went from owning steel to owning 30% of a pipeline.
3. If the transaction does not have commercial substance, then the entire gain is considered to be
unrealized unless the venture receives assets in addition to an interest in the joint venture. If so,
the assets received can be considered the proceeds from the partial sale of the assets to the other
unrelated venturers and a gain can be recognized for the portion of the asset deemed to be sold.
The unrealized gain shall be accounted for in the same manner as the venturer’s share of the
gain, which is described in the next paragraph.
4. The portion of the gain represented by the venturer’s own interest should be unrealized until the
asset has been sold to unrelated outsiders by the joint venture. Alternatively, the unrealized gain
can be recognized over the life of the asset if the asset is being used to generate a positive gross
profit for the joint venture. In effect, the product or service being sold by the joint venture to an
outsider is allowing the venturer to recognize a portion of the unrealized gain. It is similar to
selling a portion of the asset to outsiders. The unrealized gains are contra accounts to the
investment in joint venture account. They will be offset against the investment account on the
balance sheet.
The unrealized gain is recognized in income as the asset is used to generate a profit on transactions
with outsiders.
5. If a loss results from the recording of the investment, the portion of the loss represented by the
interest of the other unrelated venturers is recognized immediately into income. When it is

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evident that the asset contributed to the joint venture is impaired, the entire loss is immediately
recognized. The following examples will illustrate these concepts.
EXAMPLE 7: A Co. and B Inc. formed JV Ltd., a joint venture, on January 1, Year 1. A Co.
invested equipment with a carrying amount of $200,000 and a fair value of $700,000 for a 40%
interest in JV Ltd., while B Inc. contributed equipment, which was similar to the equipment
contributed by A Co., with a total fair value of $1,050,000, for a 60% interest in JV Ltd. We will
concern ourselves only with the recording by A Co. of its 40% interest in JV Ltd., and we will
assume that the equipment has an estimated useful life of 10 years. On December 31, Year 1, JV
Ltd. reported a net income of $204,000. We will assume that the transaction does not have
commercial substance in this situation because A Co. owned a similar portion of the same type of
equipment both before and after the contribution to the joint venture. The gains are calculated as
follows:
Fair value of equipment transferred to JV Ltd. $700,000
Carrying amount of equipment on A Co.’s books 200,000
Unrealized gain on transfer to JV Ltd. $500,000
A Co.’s journal entry to record the initial investment on January 1, Year 1, is as follows:
Investment in JV Ltd. 700,000
Equipment 200,000
Unrealized gain—contra account 500,000
A Co.’s $500,000 gain from investing equipment is unrealized because the transaction does
not
meet the commercial substance test.
Using the equity method of accounting, A Co. will record its 40% share of the yearly net incomes
or losses reported by JV Ltd.; in addition, it will recognize the unrealized gains in income over the
life of the equipment. The December 31, Year 1, entries are as follows:
Investment in JV Ltd. 81,600
Equity method income from JV Ltd. (40% × 204,000) 81,600
Unrealized gain–contra account (500,000/10) 50,000
Gain on transfer of equipment to JV Ltd. 50,000
This method of recognizing the gain from the initial investment will be repeated over the next nine
years, unless JV Ltd. sells this equipment before that period expires. If it does, A Co. will
immediately take the balance in the unrealized gains account into income.
EXAMPLE: The facts from this example are identical in all respects to those from Example 7,
except that we assume that B Co. contributes technology (rather than equipment) with a fair value
of $1,050,000. We will assume that the transaction does have commercial substance in this
situation because A Co. owned equipment before its contribution to the joint venture but indirectly
owned a portion of equipment and technology after the contribution. Of the $500,000 difference
between the fair value and carrying amount of the equipment, the percentage ownership of the
other venturers,

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60%, can be recognized as a gain. A Co.’s 40% portion is an unrealized gain and is presented as a
contra account to the investment account. A Co.’s journal entry to record the initial investment on
January 1, Year 1, is as follows:
Investment in JV Ltd. 700,000
Equipment 200,000
Gain on sale of equipment (60% × 500,000) 300,000
Unrealized gain—contra account (40% × 500,000) 200,000
A Co. recognizes a gain of $300,000, which is the portion of the gain deemed sold to
outsiders.
Using the equity method of accounting, A Co. will record its 40% share of the yearly net incomes or
losses reported by JV Ltd.; in addition, it will recognize the unrealized gains in income over the life
of the equipment.
The December 31, Year 1, entries are as follows:
Investment in JV Ltd. 81,600
Equity method income from JV Ltd. (40% × 204,000) 81,600
20,000
Unrealized gain—contra account (200,000/10)
Gain on transfer of equipment to JV Ltd. 20,000
A portion of the unrealized gain is taken into income each year.
This method of recognizing the gain from the initial investment will be repeated over the next nine
years, unless JV Ltd. sells this equipment before that period expires. If it does, A Co. will
immediately take the balance in the unrealized gains account into income.

EXAMPLE: The facts from this example are identical in all respects to those from Example above,
except that we assume that A Co. receives a 40% interest in JV Ltd., plus $130,000 in cash in
return for investing equipment with a fair value of $700,000. The original gain on the transfer
($500,000) is the same as in Example 7. However, since A Co. received $130,000 in cash in
addition to its 40% in the joint venture, it is considered to be the sale proceeds of the portion of the
equipment deemed to have been sold. In other words, A Co. is considered to have sold a portion of
the equipment to JV Ltd. and will immediately record a gain from selling, computed as follows:
Sale proceeds $130,000
Carrying amount of equipment sold (130 ÷ 700 × 200,000) 37,143
Immediate gain from selling equipment to JV Ltd. $ 92,857
A gain is recognized for the portion (130/700) of the equipment deemed to be sold.
A Co.’s January 1, Year 1, journal entry to record the investment of equipment and the receipt of
cash would be as follows:
Cash 130,000
Investment in JV Ltd. 570,000
Equipment 200,000
Gain on sale of equipment to JV Ltd. 92,857

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Unrealized gain—contra account 407,143

The December 31, Year 1, entries are as follows:
Investment in JV Ltd. 81,600
Equity method income from JV Ltd. (40% × 204,000) 81,600
Unrealized gain–contra account (407,143/10) 40,714
Gain on sale of equipment to JV Ltd. 40,714
Assuming a December 31 year-end, the $133,571 ($92,857 + $40,714) gain on transfer of
equipment to JV Ltd. will appear in A Co.’s Year 1 income statement. The unamortized balance of
the A’s share of the unrealized gain of $366,429 ($407,143 - $40,714) will be offset against the
investment account.
C. INVESTOR IN JOINT ARRANGEMENT:
An investor in a joint arrangement is a party to a joint arrangement but does not have joint control
over that joint arrangement. For example, a joint venture could have some owners who have joint
control over the key decisions and other investors who are passive investors and do not participate
in the key decisions for the joint venture. The investor receives a return on investment without
being actively involved in the operating and financing decisions of the joint arrangement. The
investor must account for the investment in accordance with IRFS 9 or by using the equity method
if it has significant influence in the joint arrangement. We need to differentiate between venturers
who have joint control and investors who do not have joint control.

IFRS 12 requires an entity to disclose information that enables users of its financial statements to
evaluate the following:
 The nature, extent, and financial effects of its interests in joint arrangements, including the
nature and effects of its contractual relationship with the other investors with joint control
of joint arrangements.
 The nature of, and changes in, the risks associated with its interests in joint ventures. To
meet these objectives, the more substantial items required to be disclosed are as follows:
• The nature of the entity’s relationship with the joint arrangement and the proportion
of ownership interest held.
• The venturer’s interest in each of current assets, noncurrent assets, current
liabilities, noncurrent liabilities, revenues, and profit or loss from joint ventures.
• The nature and extent of any significant restrictions on the ability of the joint
ventures to transfer funds to the venture.
• Information about significant judgments and assumptions it has made.
An entity must disclose the nature and extent of its operations conducted through joint
arrangements.

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