What is a joint venture? A joint venture usually is a business entity owned and operated by a small group of investors as a separate and specific business project organized for the mutual benefit of the ownership group. Many joint ventures are short-term associations of two or more parties to fulfill a specific project, such as the development of real estate, joint oil or gas drilling efforts, the financing of a joint production center, or the financing of a motion picture effort. Many international efforts to expand production or markets involve joint ventures either with foreign-based companies or with foreign governments. A recent phenomenon is the formation of research joint ventures in which two or more corporations agree to share the costs and eventual research accomplishments of a separate research laboratory. The venturers might not have equal ownership interests; a venturer’s share could be as low as 5 or 10 percent or as high as 90 or 95 percent. Many joint ventures of only two venturers, called 50 percent–owned ventures, divide the ownership share equally. A joint venture may be organized as a corporation, partnership, or undivided interest.
An undivided interest exists when each investor-venturer owns a proportionate share of each asset and is proportionately liable for its share of each liability.
A corporate joint venture is usually formed for long-term projects such as developing and sharing of technical knowledge among a small group of companies. The incorporation of the joint venture formalizes the legal relationships between the venturers and limits each investor’s liability to the amount of her or his investment in the venture. The venture’s stock is not traded publicly, and the venturers usually have other business transactions between them. Accounting for a corporate joint venture is guided by Accounting Standards Codification 323 which requires that investors use the equity method to account for their investments in the common stock of corporate joint ventures. When one corporation controls another, the controlled corporation is considered a subsidiary rather than a corporate joint venture even if it has a small number of other owners. A subsidiary should be consolidated by the controlling owner, and a non-controlling interest recognized for the interests of other owners.
A partnership joint venture is accounted for as any other partnership. All facets of partnership accounting presented in the chapter apply to these partnerships, each of which has its own accounting records. Some joint ventures are accounted for on one of the venturer’s books; however, this combined accounting does not fully reflect the fact that the joint venture is a separate reporting entity. Each partner, or venturer, maintains an investment account on its books for its share of the partnership venture capital. The investment in the partnership account is debited for the initial investment and for the investor’s share of subsequent profits. Withdrawals and shares of losses are credited to the investment account; its balance should correspond to the balance in the partner’s capital account shown on the joint venture partnership’s statements.
ASC 323, states that intercompany profits should be eliminated and the investor-partners should record their shares of the venture’s income or loss in the same manner as with the equity method. For financial reporting purposes, if one of the investor-venturers in fact controls the joint venture, she or he should consolidate the joint venture into its financial statements. If all investor-venturers maintain joint control, then the one-line equity method should be used to report the investment in the joint venture.
Accounting for unincorporated joint ventures that are undivided interests usually follows the accounting method used by partnerships. Some established industry practices, especially in oil and gas venture accounting, provide for a pro rata recognition of a venture’s assets, liabilities, revenue, and expenses.
Undivided Interest Example
For example, assume that both A Company and B Company are 50 percent investors in a joint venture, called JTV, for the purposes of oil exploration. The JTV venture has plant assets of $500,000 and long-term liabilities of $200,000. Therefore, both A Company and B Company have an investment of $150,000 ($300,000 × 0.50). Under the method, the balance sheets of both A and B companies report the investment as a $150,000 investment in joint venture. International Accounting Standard No. 31, “Interests in Joint Ventures” (IAS 31), specifies the reporting of joint ventures under international accounting financial reporting standards. IAS 31 identifies three types of joint ventures:
- jointly controlled operations, for which each venturer recognizes the assets that it controls and the liabilities and the expenses it incurs and its share of the joint venture’s income,
- jointly controlled assets, for which each venturer recognizes its share of the jointly controlled assets, any liabilities it has incurred plus its share of any liabilities the joint venture incurred, and its share of the income together with its share of the expenses incurred from the joint venture’s operations plus any expenses that the individual venturer has incurred from its interest in the joint venture, and
- jointly controlled entities, for which each venturer recognizes its interest in the joint venture using proportionate consolidation or the equity method.
Under the proportionate consolidation method, each venturer recognizes a pro rata share of the assets, liabilities, income, and expenses of the jointly controlled entity. This approach is illustrated in the JTV example. In this case, assets of $250,000 ($500,000 × 0.50) and liabilities of $100,000 ($200,000 × 0.50) are added to the present assets and liabilities of each investor-venturer. The proportionate share of the assets and liabilities should be added to similar items in the investor’s financial statements. The same pro rata method is also used for the joint venture’s revenue and expenses. A comparison of the equity method and the proportionate consolidation for venturer A
Company is presented in above figure.
Joint ventures provide their investors flexibility as to management, operations, and the division of profits or losses. However, companies need to be aware of ASC 810 . When an investor does not have a majority stock ownership, contractual or other agreements may specify the allocation of the entity’s profits or losses. ASC 810 specifies that consolidation of a variable interest entity (VIE) is required if an investor will absorb a majority of its expected losses or receive a majority of the entity’s expected return. Therefore, an equity investor not having a controlling financial interest may be determined to be the primary beneficiary of the VIE and thus be required to fully consolidate that entity. Real estate development is often conducted through joint ventures. Accounting for non-controlling interests in real estate joint ventures is guided by ASC 970, which recommends the use of the equity method to account for non-controlling investments in corporate or non-corporate real estate ventures.
A joint venture also makes footnote disclosures to present additional details about the its formation and operation, its methods of accounting, and a summary of its financial position and earnings. Another form of business association is the syndicate, which is usually short term and has a defined single purpose, such as developing a financing proposal for a corporation. Syndicates are typically very informal; nevertheless, the legal relationships between the parties should be clearly specified before beginning the project.