Proportionate Consolidation
Proportionate consolidation is an accounting method in which a venturer records its pro-rata share of the assets, liabilities, revenues, and expenses of a joint venture line by line in its own financial statements, rather than as a single investment line, and is permitted in limited circumstances under US GAAP for unincorporated entities in certain industries.
Under US GAAP, proportionate consolidation is not the general-purpose method for joint ventures. ASC 323 requires equity method accounting for corporate joint ventures (incorporated entities) in which the investor has significant influence or a proportionate share in a jointly controlled entity. However, ASC 810 and industry-specific guidance preserve proportionate consolidation for certain unincorporated entities — most notably, undivided interests in oil and gas properties, real estate joint ventures structured as undivided interests, and certain construction joint ventures.
The conceptual case for proportionate consolidation rests on the idea that a venturer in an unincorporated joint venture has direct ownership of a share of each underlying asset and a direct obligation for a share of each liability, rather than an ownership interest in a separate legal entity. Including the venturer's pro-rata share of each asset, liability, revenue, and expense directly in the financial statements may better reflect this direct economic exposure.
Under proportionate consolidation, the venturer records its percentage share of the joint venture's cash, receivables, inventory, property, payables, debt, revenues, costs, and other items directly in the appropriate line items of its own financial statements. No single investment line appears on the balance sheet. This is in contrast to the equity method, where all of the investee's assets and liabilities are replaced by a single line item (the investment carrying amount) and all of the investee's income and expense items are replaced by a single line item (equity in earnings of investee).
The choice between proportionate consolidation and the equity method can have material effects on presented leverage ratios, return on assets, asset turnover, and profitability margins. A company using proportionate consolidation for a joint venture with significant debt will show higher reported liabilities than a company using the equity method for an identical economic arrangement. This complicates cross-company comparisons and requires analysts to understand the consolidation methodology for each significant investment.
International Financial Reporting Standards (IFRS) eliminated proportionate consolidation for joint ventures entirely with IFRS 11, requiring either the equity method (for joint ventures) or the accounting for individual assets and liabilities (for joint operations). This divergence between US GAAP and IFRS is a source of differences in financial statement comparability for companies with cross-border operations.