We previously looked at own investments that represent equity investments, when a company buys back its own shares or stakes in its own business based on a resolution by its main decision-making body. In business, however, it is much more common for a company to acquire a stake in another company as an investment for future profit.

Types and purposes of investments

The essence of an equity investment is that the acquired security gives the holder specific property and other rights. However, their accounting treatment in Hungary is far from straightforward, and depends heavily on the type and nature of the investment. There are many options here, including stocks, partnership equity investments, equity investments in cooperatives, share notes, other partnership equity investments, investment units issued by unlimited term investment funds, or venture capital equity investments.

Equity investments can be recognised in a company’s books on various grounds. The most common of these are starting a business, transforming a business, a purchase, contribution or a transfer free of charge. Just like there are various ways to purchase a share, there can be various purposes too:

• Long-term investments (equity investments held for more than one year): these are recognised in the balance sheet under investments. The primary objective of a long-term investment is to generate sustainable income (dividend or interest), and to influence, direct or exert control as an owner, with the secondary purpose of realising a capital gain upon a subsequent sale.

• Equity investments held for trading (temporary, not long-term): these are recognised in the balance sheet under current assets, securities. The primary purpose of equity investments held for trading is to earn short-term income and realise capital gains, while the secondary purpose is to receive dividends. Exerting influence is not so typical in this case.

Accounting treatment of equity investments

Once a share has become the property (asset) of the company, several accounting tasks arise in relation to it during the financial year in Hungary. Let’s take a look at these.

Classification upon acquisition

The cost of a share is essentially the aggregate amount of the items incurred to acquire it that can be attributed individually to the asset. Depending on how they are acquired, these can be as follows:

• When starting a business, the share should be recorded at the value specified in the articles of association, in the case of a contribution in kind, at the value specified in the articles of association, while in the case of a transformation, the cost should be determined based on the equity capital in the transformation balance sheet. The cost of a purchased equity interest is the purchase price (consideration paid), increased by any acquisition-related consignment fee paid and the fee for a purchased call option in the case of a long-term investment.

• However, for current assets, these fees are not mandatory parts of the cost. A decision can be made on whether to charge them to the profit for the reporting year. If they are significant and are expected to be recovered when the investment is sold, they should be deferred.

• In the case of a transfer free of charge, the cost of the asset is its market value upon recognition, unless otherwise required by law, and is recognised against income from financial transactions and recorded as accrued income. When this share is removed from the company’s books or an impairment loss is recognised, this accrual must be reversed proportionally.

Classification upon preparing balance sheet at end of financial year

At the end of the year in Hungary, equity investments in foreign currency must be revalued as part of the accounting close, accounting for the resulting exchange-rate difference. Furthermore, the need for impairment should be assessed, as well as the possibility of reversing previously recognised impairment losses. Impairment losses are recognised as an expense on financial transactions and reversals of impairment losses are not recognised as income but as a negative expense. Impairment is generally required when the loss between the carrying amount and the market value is prolonged (lasting at least one year or considered permanent) and significant, regardless of whether the given investment is recognised under non-current assets or current assets in the balance sheet.

In the case of investments, an upwards revaluation may be accounted for long-term equity investments. It totals the amount by which the market value at the balance sheet preparation date exceeds the carrying amount, which is recognised against the valuation reserve under equity.

Accounting for returns on equity investments

Advance dividends received during the financial year are recorded when settled under other current liabilities, while dividends or income received or receivable are recorded under income from financial transactions.

Accounting for derecognitions from the books

When an equity investment is sold, the selling price and the carrying amount adjusted for impairment give rise to an exchange-rate difference, which in the case of a long-term share is recognised under income/exchange gains or expenses/exchange losses on equity investments, while in the case of a current asset it is recognised under other income from or expenses on financial transactions.

If an upwards revaluation was recognised in relation to the long-term share, this must be eliminated when the share is derecognised.

Our article shows that there are many things businesses need to pay attention to in relation to equity interests, and their valuation and classification require continuous work throughout the financial year. Feel free to contact us if you need expert advice on equity investments in Hungary, the accounting advisers at WTS Klient Hungary will be glad to help you.