The Equity Method of Accounting Explained

Introduction

In 2025, Berkshire Hathaway recorded $8.3 billion of after-tax impairment losses on two of its largest holdings, its 27.5% stake in Kraft Heinz and its 26.9% stake in Occidental Petroleum. Both are accounted for under the equity method, so instead of tracking their share prices, Berkshire's carrying amounts had tracked its share of the two companies' earnings for years, and by 2025 they stood well above what the shares were worth. Its equity in the earnings of all its equity method investees swung from $1.8 billion in 2024 to a loss of $9.6 billion. Meanwhile, Berkshire's 22.1% stake in American Express, larger than 20% but held under a long-standing agreement to vote much of it as American Express's board recommends, was carried at fair value instead.

The equity method sits between passive investment and control. It records an investor's share of an investee's profits as they are earned, in a single line, without bringing in any of the investee's revenue, assets or debt. Where it sits among the alternatives is explained in fair value, equity method or consolidation. The mechanics are simple, but that single line can hide a great deal, as Berkshire's write-downs showed.

The equity method applies when an investor has significant influence over an investee's operating and financial policies but does not control it. Significant influence is presumed from 20% of the voting stock and is evidenced by board seats, participation in policy decisions, material transactions between the companies or the exchange of managers. The presumption can be rebutted. Berkshire concludes that its voting agreement with American Express, in place since 1995, together with passivity commitments it gave to the Federal Reserve, prevents it from exercising significant influence, so it carries that stake at fair value, as its 2025 annual report explains.

Equity method

The method, under Accounting Standards Codification (ASC) 323, of accounting for an investment over which the investor has significant influence. The investment is recorded at cost and adjusted each period for the investor's share of the investee's net income or loss and other comprehensive income, less dividends received, with the share of earnings reported as a single line in the investor's income statement.

Corporate joint ventures, where control is shared by agreement, are also generally accounted for under the equity method, as covered in joint ventures and joint operations, as are most interests in partnerships and limited liability companies above a few percent, because partners usually have more influence than shareholders of a corporation with the same stake.

The investment starts at cost. Each period, the investor adds its share of the investee's net income, or deducts its share of losses, and its share of the investee's other comprehensive income. Dividends received reduce the investment rather than counting as income, because they are a return of earnings already recognized. The investor's share of earnings appears as one line, often called equity in earnings of affiliates, usually below operating income. On the cash flow statement, ASC 230-10-45-21D lets the investor elect a policy for those dividends. Under the cumulative earnings approach, distributions up to its cumulative share of earnings are operating inflows and any excess is an investing inflow, a return of the investment; the alternative classifies each distribution by the activity that generated it, as Deloitte's guide to investing cash flows sets out. The flow of these entries through the three statements is traced in equity method income on the three statements.

Basis Differences

An investor rarely pays exactly its share of the investee's book value. The difference, the basis difference, is tracked outside the books in memo accounts, allocated as if the investee were being acquired: first to the fair value of identifiable assets and liabilities, with any remainder treated as equity method goodwill. The investor then adjusts its share of the investee's earnings for the extra depreciation or amortization on the amounts allocated to finite-lived assets. Equity method goodwill is not amortized and is not tested separately, unlike the goodwill described in goodwill and goodwill impairment; it is covered by the impairment test on the investment as a whole.

Two other adjustments matter. Profits on sales between the investor and the investee are eliminated to the extent of the investor's share until the goods are sold to outsiders, so the investor cannot report a profit on selling to itself. And the investee's results must be measured under US generally accepted accounting principles (GAAP), so an investee that reports under another framework, or uses private-company options a public investor cannot apply, has its figures adjusted first; where both follow US GAAP, the investor does not need to align the investee's policies with its own.

An equity method investment is tested for impairment as a whole when there are signs that its value has fallen below its carrying amount. The loss is recognized if the decline is other than temporary, a judgment based on the size and duration of the decline, the investee's results and prospects, and the investor's ability and intent to hold the investment until it recovers, as Deloitte's guide to decreases in investment value explains. A market price below carrying amount is evidence of a loss but not proof; once recognized, an impairment is not reversed if the value recovers.

Berkshire's two impairments show the judgment at work. After Berkshire's representatives resigned from the Kraft Heinz board in May 2025, it recorded a pre-tax impairment of about $5.0 billion in the second quarter, writing the stake down to its market value. That left Berkshire's share of Kraft Heinz's book equity about $5.0 billion above its new carrying amount, a negative basis difference attributed to Kraft Heinz's intangible assets and goodwill. When Kraft Heinz itself later recorded about $8.7 billion of intangible and goodwill impairments, Berkshire's $2.4 billion share was absorbed by that basis difference rather than recognized a second time. In the fourth quarter, Berkshire recorded a further pre-tax impairment of about $5.7 billion on Occidental:

If an investee makes losses, the investor records its share until the carrying amount, together with any loans, advances or preferred stock it holds in the investee, reaches zero, and then stops, unless it has guaranteed the investee's obligations or committed to fund it; these suspended losses are tracked and offset against later profits before income is recognized again. Investors may record their share of an investee's results on a lag of up to three months when the investee's financial statements are not available in time, as Berkshire now does for both Kraft Heinz and Occidental. A lag means the investor's results reflect the investee's prior quarter, which matters when an investee's fortunes change quickly.

When an investor sells part of a stake, or the investee issues new shares and dilutes it, the investor recognizes a gain or loss on the portion disposed of. If the investor gains control, the equity method ends: the existing stake is remeasured to fair value and the investee is consolidated, as described in step acquisitions and changes in ownership. If influence is lost, the investor stops applying the equity method and remeasures the retained stake under the rules for equity securities, usually at fair value through net income.

For valuation, an equity method investment is a non-operating asset. The investor's earnings before interest, taxes, depreciation and amortization (EBITDA) excludes the investee's results, so the stake's value is added in the bridge from enterprise value to equity value, ideally at market value for a listed investee, or on the investee's own earnings and cash flows otherwise, rather than at its carrying amount. The share of earnings, and any impairment, is excluded from EBITDA and from operating forecasts, while dividends received are real cash that may support the investor's distributions. The treatment of such assets in valuation is covered in non-operating assets and excess cash.

For credit work, the investee's debt does not appear in the investor's statements, and is usually not the investor's obligation. Where the investor has guaranteed it or could be called on to support the investee, a proportionate share may belong in the investor's adjusted leverage. Some investors with many joint ventures present proportionate figures alongside their reported results for this reason.