The full and partial equity methods are two of three main ways of dealing with the problem of producing accounts when one company has invested in another company. The third method is simple equity. The problem arises because there is often a disparity between the profits a company makes and the respective share of these profits for each investor, and the actual amount the company pays out in dividends. Equity methods attempt to account for the fact that a company with a sizable ownership stake in another company has an interest in the other company's success beyond simply receiving dividends.
Simple Equity Method
Under simple equity, the company holding the investment simply calculates the relevant percentage of the other company's profits and lists it as its own income, even if this money is not actually received. For example, if Company A owns 30 percent of Company B, and Company B makes $100,000 in profits, Company A lists an income of $30,000 from this investment in its own accounts.
The partial equity method involves the company valuing the return from its investment in two ways. First, it includes the actual amount it has received in dividends from the other company. Secondly, it includes the gain in book value of the shares it holds in the other company, compared either with the price it paid if this is the first set of accounts since the purchase, or compared with the book value at the time of the last set of accounts. The book value of shares has nothing to do with the market value based on stock market prices. Instead it is the total assets of the company minus the total liabilities of the company, divided by the number of shares.
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Full equity simply involves using the measures from both the simple and partial equity methods. This is designed to give a more detailed picture of both the direct and indirect gains a company makes from investments in another company.
In the United States, companies that hold less than 20 percent of a subsidiary may not use any of the equity methods; instead they simply list the dividends received. Companies that hold more than 50 percent of a subsidiary do not use the equity method as they must instead produce consolidated accounts that cover the actual income from both companies.