Hello,
Why dividend received from the investee is not reported on investor’s P&L?
I am not sure is dividend income is net off because of this equation Balance equity investment = Initial Investment + % of holding in investee business * ( Net Income - Dividend)of investee.
Please help!
Thanks
I always thought it bypassed P & L because it reduces our Investment In Associates and increases our cash balance. I’d be interested to know otherwise, I hadn’t really put any thought into it
Dividends are considered a return _ of _ investment, not a return on investment.
Chirantana, the key difference between the equity method and an otherwise similar ordinary investment in shares is that you are looking at it from a broader perspective - what really matters here is the Retained Earnings figure.
To give you an example: a business you have 25% in just reported a £1000 net income for the year, which means theoretically you’re £250 wealthier - that’s the best you can get given your stake if you forget dividends for a second. IF the payout ratio was 0% you would not get any cash but you could most likely say that your investment has grown. If however the payout ratio was 100%, your investment would have given away everything it had earned - your ‘sustainable’ growth would we zero. Accounting-wise: if you know the retained earings are zero and theoretically your investment is £250 larger, you must deduct your portion of the dividend payout (£250 in this case) to get to the final Retained Earnings figure (zero).
Mosstastic is correct - the accounting entry is:
Dt Cash and Ct Investment in associates rather than
Dt Cash and Ct Dividend income as in a ‘normal’ case
Dividend is obviously reported - just refer to the cash flow statement.
Hi Bill,
Can you please elaborate your statment for me?
Thanks
Gladly.
When you account for an investment in an affiliate using the equity method and you receive a dividend, it is treated as a return of investment; your investment in the affiliate is decreased.
It’s analogous to receiving the principal payment on a bond when it matures. You show the interest (coupon) on the income statement because that is treated as a return on investment – a profit – but you don’t show the principal on the income statement because that is treated as a return of investment: it decreases your Investment in Bonds asset account.
Under the equity method we treat our proportional share of the affiliate’s net income as a return on investment – a profit that goes on the income statement – but we treat dividends as a return of investment: it doesn’t appear on the income statement; it reduces our Investment in Affiliate asset account.
Thanks Magician
Thank you Citykris & Mosstastic I got it
I just want to clarify something.
Can we look at this from the perspective mentioned below?
The dividends received could rather be re-invested to generate earnings which is considered as the return on the investment. A payout of dividends simply reduces the possibility earning additional earnings.
Yes, you may consider this in that manner.