Many non-financial companies have venture capital style equity investment portfolios. However, these investments may be valued and presented in financial statements using very different methods – two under IFRS, with a choice of presentation for one, and three under US GAAP, with two options.
We examine the challenges faced by investors when analysing corporate investment portfolios, including when investments are subject to equity accounting. A recent IFRS amendment to clarify the scope of the option to apply fair value, instead of equity accounting, has our support. However, we do not think this change goes far enough.
A recent article in the Financial Times1See ‘The mysterious $53bn ‘other income’ boost to AI hyperscaler earnings’, Financial Times, May 7, 2026. highlighted the growing importance of ‘other income’ for the AI hyperscaler companies relative to their income from operating activities. Much of this ‘other income’ comprises gains on portfolios of equity investments in other companies. The article highlights the 2026 Q1 income statement of Alphabet where (net) other income is $37.7bn, of which $36.9bn comes from equity investments, compared with an operating profit of $39.7bn and a (post-tax) net income of $62.6bn.
Here is the Alphabet Q1 2026 profit and loss statement and the footnotes that provide the relevant disaggregation:
Alphabet Q1 2026 Income Statement and other income disaggregation
Alphabet Q1 2026 financial statements
The gains on equity investments reported by Alphabet largely represent value changes, and therefore the contribution to overall profitability will vary considerably each period. While the gain in any one period is still important, and a valid contribution to the overall result, it should be evaluated separately from trading activities, and with a greater focus on the balance sheet value of the portfolio.
Most of the equity investments reported by Alphabet are classified as ‘non-marketable’ and included as a separate line item in its balance sheet, the footnote for which is shown below. There are also $6bn of marketable equity securities which are in a separate subtotal and not included in the table below.
Alphabet Q1 2026 non-marketable equity investments footnote
Alphabet Q1 2026 financial statements
The problem for investors is that different measurement methods are applied to these equity investments, which we think leads to less relevant and less comparable data for investors.
The issue is more than an accounting technicality. The value of non-consolidated equity investments is often an important component of the bridge between enterprise value and equity value. Where investment returns are excluded from operating profit and free cash flow metrics used in valuation models, the investment portfolio is typically added separately when deriving an equity valuation.
Three methods and two options – and that is just US GAAP
Alphabet, like other US GAAP reporters, applies three different measurement methods to its portfolio of equity investments. Two of these are optional, but with each option being applicable to different investments. The equivalent under IFRS is just two measurement methods, but here the added complication is that companies have a choice of where to present some of the gains and losses on some of the investments – profit and loss or other comprehensive income (OCI). IFRS reporters also have an option over the choice of the measurement basis for some investments, but this applies in much more restricted circumstances than under US GAAP. Furthermore, some investment gains for US GAAP reporters will be included in OCI, but not the same ones as under IFRS.
You may think this all sounds unnecessarily complicated, and we would agree. In our view, differences in the nature of equity investments and the business model of the investor do not justify the variety of measurement and presentation approaches used, or the free choices that are available. The result of the current accounting is a lack of comparability and confusion for investors. It makes it almost impossible to interpret the headline figures that were highlighted in the FT article. Delving into the footnotes helps, but analysing this accounting data is still challenging for investors.
Of course, we are not referring to investments controlled by a parent company, which are consolidated. Control means that different legal entities are part of a single economic entity, and the most appropriate accounting is to look through to the underlying business activities and present these as a single set of consolidated financial statements.
US GAAP accounting for equity investments
Under US GAAP, the measurement of an equity investment depends on whether the shares are traded in an active market, and therefore have a readily determinable price, and also whether the investor has significant influence over the investee. There are three methods and two options.
Method 1: Fair value
This is the easiest to understand and, in our view, the most useful for investors. The equity investment is measured at fair value at the balance sheet date with the change in value, together with any dividends received, recognised in profit and loss. Fair value is the amount the asset could be sold for, which could be a quoted price if the shares are actively traded, or an estimate based on comparable company data or a valuation model.
While measurement uncertainty can be an issue with this approach, we think that this is mitigated by disclosures about valuation assumptions and sensitivities. The challenges of dealing with measurement uncertainty do not outweigh the less relevant alternatives.
Method 2: The measurement alternative
The challenge with fair value is the measurement uncertainty that exists when a readily determinable fair value (a price quoted in an active market) is not available. US GAAP reporters can still measure at fair value, even where it must be estimated, but they also have an option to use what is called the ‘measurement alternative’, which is, in effect, a half-way house between cost and fair value.
Under the measurement alternative the investment is initially reported at cost, which is subsequently adjusted to reflect any ‘observable’ price increase or estimated decrease (impairment). Both gains and losses are recognised in profit and loss. A pure cost accounting approach would include impairments but not the value gains, and a pure fair value approach would include all value changes even those not ‘observable’ such as those based on a valuation model.
Only ‘observable’ value increases are recognised – a cost plus or fair value minus approach
Observable price increases arise when a market transaction takes place that provides evidence of a fair value, such as a sale by another party or new funding round in a venture capital type setting. Conversely, recognising an impairment loss does not depend only on there being an observable transaction. If there are other indications that the equity investment is impaired, such as a significant deterioration in the financial performance of the investee or negative changes in its economic environment, then fair value must be estimated using a valuation technique and the asset written down to this amount.
In many cases the measurement alternative will produce a value that is below fair value and therefore below what the investment could realistically be sold for. This is partly because of the added evidence required to report gains, but also because US GAAP prohibits the reversal of impairment losses, even though estimated value may have recovered. However, the opposite could also be true. Due to the initial qualitative assessment of impairment, some assets may be reported at above fair value, even if management has determined fair value is below the carrying value.
The measurement alternative is optional under US GAAP, but only if fair value cannot be readily determined. Under this approach value changes are likely to be less volatile compared with fully applying fair value, which many companies would find attractive. Alphabet uses this option and reports the majority of its equity investments using this approach. Here is its explanation:
Alphabet – Alternative measurement approach applied to equity investments
Alphabet Q1 2026 financial statements
In terms of measuring performance, the problem with the measurement alternative is that value changes reported in profit and loss in the period may not have actually arisen in that period. Some will be catch up adjustments where prior period value changes are now reported due to the later emergence of the required evidence.
Method 3: Equity accounting
If a US GAAP reporter has ‘significant influence’ over the operating and financial polices of a company in which it has an equity investment, it generally uses equity accounting. This method often (but not always) applies to shareholdings that exceed 20% – the threshold where significant influence is presumed. Such investments are called associates; equity accounting also applies to joint ventures.
Equity accounting for associates is optional under US GAAP
Although equity accounting is generally applied to associates under US GAAP, entities may elect the fair value option on an investment-by-investment basis. In effect, this means that there is a free choice between fair value (but not the measurement alternative) and equity accounting. Most companies do not use fair value – it is most likely to be applied by financial companies, including insurers. For this reason, equity accounting is, in practice, treated as the default for associates, with fair value described as an alternative.
Equity accounting is also a type of ‘cost-plus’ measurement, but with the ‘plus’ not necessarily aligned with value changes. The investment is initially recognised at the purchase price. This is adjusted to reflect the investor’s share of the net income (and OCI) recognised in the associate’s own financial statements, less the amount distributed. The method regards the investor’s share of the earnings of the investee as the income received from the investment. To the extent this is not actually distributed, the amount retained is, in effect, regarded as an additional investment. Therefore, measurement remains a form of historical cost, with any increase in value beyond the additional ‘investments’ due to retained earnings being ignored.
Equity accounting results in measurement at cost, including the additional investment through retained earnings
Like other assets measured at cost, investments in associates are impaired and a loss reported if the company believes the investment carrying value will not be recovered. Companies have some flexibility in this impairment assessment under both US GAAP and IFRS, but especially so under IFRS due to the application of a ‘value-in use’ measurement basis2See our article ‘Associate impairments may not reflect the underlying economics’..
Our description of equity accounting as a measurement basis of ‘historical cost subject to impairment’ is not the only way in which this accounting method can be described. The commonly quoted alternative is that equity accounting is a form of ‘one line consolidation’. This is because the updating of the purchase price to reflect the share of retained earnings produces a contribution to earnings and shareholders’ equity that closely mirrors what would be achieved under full consolidation (after taking account of the non-controlling interest).
Beware of ‘negative goodwill gains’ – these are not changes in value
One odd consequence of the one-line consolidation character of equity accounting is that it can lead to an increase in carrying value above cost, and a gain in profit and loss, at the time of acquisition, even though no value change has taken place. Like for full consolidation, a goodwill amount is identified on acquisition. The ‘goodwill’ component of the investment is the difference between the purchase price and share of net assets (after their revaluation in line with a purchase price allocation). If this difference is negative (share of net assets exceeds the purchase price) it is called negative goodwill, which is recognised as an immediate gain in the same manner as for full consolidation. This is a consequence of the purchase price allocation mechanism and nothing to do with post-acquisition performance or value changes.
We think negative goodwill gains are misleading, particularly in the context of equity accounted investments3For more about our views in goodwill see ’Goodwill accounting – Investors need something different’., given that they do not represent an actual value change.
Although equity accounting may have merit for investments in associates (and joint ventures) that are closely connected to or perhaps integrated with the group’s operating activities, we do not think it provides useful information where investments are held primarily to generate investment returns.
How IFRS differs
IFRS does not include an option to use the US GAAP measurement alternative approach for investments where there is no readily determinable price. There are just two measurement methods applied to non-consolidated equity investments – fair value and equity accounting, both of which are essentially the same as under US GAAP. Equity accounting is applied to associates (and joint ventures) and fair value to everything else.
Fair value option for associates is highly restricted
IFRS does include two options. First, like US GAAP, there is an option to apply fair value instead of equity accounting to associates. However, unlike US GAAP, the option is highly restricted – it is only available where investment is the main business activity, such as separate investment funds. While there is some debate about the exact scope of this option under IAS 28, it is generally not regarded as being available to entities such as Alphabet (if it reported under IFRS) where venture capital type investments sit alongside a wider operating business. It is the scope of this fair value option that the IASB has recently changed – see below.
IFRS includes a presentation option for reporting fair value changes
The second IFRS option is one of presentation. Under US GAAP all changes in fair value (and gains and losses from application of the measurement alternative) are reported in profit and loss. However, under IFRS, companies have an option (which can be selected on an asset by asset basis) to recognise fair value changes either in profit and loss or in OCI. Dividend income is always recognised in profit and loss.
This option enables companies to avoid the volatility that inevitably arises from fair value measurement of equity investments through profit and loss. However, because gains and losses are not subsequently recycled there is never a profit and loss effect. We discussed the issue of recycling of equity investment gains (and our dislike of this accounting technique) in our article ‘Ignore this recycled profit’.
We do not like the presentation of gains and losses on equity investments in OCI. We think the option reduces comparability and adds to investor confusion. What is presented in OCI is also somewhat arbitrary given that the distinction between dividend income recognised in profit and loss and value changes recognised in OCI is often difficult to apply consistently in practice.
Partial OCI recognition also applies to equity accounting
We also mentioned in our introduction that some investment gains could be reported in OCI when equity accounting is applied. This arises where the investee associate includes gains and losses in OCI in its own financial statements. The investing company’s share of these gains and losses appears in OCI in the consolidated financial statements. In effect the gain is split between profit and loss and OCI which we think further complicates the accounting for these investments.
Summary of accounting approaches for equity investments
The Footnotes Analyst
Recent changes to IFRS
The IASB has recently changed the scope of the option to apply fair value instead of equity accounting, but only in a very limited way – click here to see their announcement. The amendment is essentially to clarify that insurance companies can measure associates at fair value if they wish. It is the IASB’s response to an existing lack of clarity regarding scope, that was further complicated by IFRS 18, which requires that equity accounting gains are presented outside operating profit and therefore separated from other investment portfolio returns for insurers using IFRS 17.
We support the amendment, particularly as it will improve the presentation of performance by certain insurers. However, we would prefer further changes to accounting in this area. In our view, all companies should be given the opportunity to measure associates at fair value through an unrestricted fair value option, like under US GAAP. While we don’t generally support options in accounting standards, we feel that permitting fair value would at least give companies the opportunity to apply what we consider to be superior accounting. We think investors would also benefit from a more fundamental rethink of the use of equity accounting.
Analysing equity investment portfolios
For investors analysing corporate investment portfolios, the key objective is to understand the current value of the investments and changes over time. Unfortunately, the accounting methods applied under both IFRS and US GAAP do not always provide this information directly.
In our view, fair value is generally the most relevant measurement basis for non-consolidated equity investments. It reflects the amount that could potentially be realised from the portfolio and provides a timely indication of changes in economic value. While estimating fair value can involve judgement, the resulting measurement uncertainty is often less problematic than relying on accounting amounts that are based largely on historical cost. Nevertheless, investors should be aware of the measurement uncertainty and treat fair values based on models (so-called level 3 fair values) with caution.
Where fair value is not reported, investors should seek it elsewhere. This may involve using disclosed valuation information, market evidence, analyst estimates or management commentary. The carrying amount produced by US GAAP measurement alternative or by equity accounting should not automatically be assumed to represent economic value.
Equity accounting is particularly problematic when trying to understand investment values
Particular care is needed when analysing equity-accounted investments. The carrying value can be materially below fair value because increases in value are generally recognised only to the extent that profits are retained by the investee. Conversely, carrying values can also exceed economic value if impairment losses are delayed or avoided.
A broader move towards fair value measurement would provide information that is more relevant, more transparent and ultimately more useful for investment analysis.
Insights for investors
- Focus on value, not accounting classification. The most important question is what an investment portfolio is worth today regardless of the balance sheet measurement basis.
- Analyse investment returns separately from operating performance. Gains and losses on investment portfolios are often volatile and arise from different drivers than operating earnings.
- Be sceptical of equity-accounting earnings. An investor’s share of an associate’s accounting profit is not the same as a return generated by the investment during the period.
- Accounting differences can materially affect comparability. Comparisons between companies require careful analysis of the accounting policies.