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Unit 1 INTRODUCTION TO PARTNERSHIP AS A BUSINESS ORGANIZATION *Special Features of Partnership Mutual Agency each partner is an agent of the partnership

ip and a partner's acts can bind the business Unlimited Liability each partner except for limited partners is liable to outside creditors outside of his capital contribution Limited Life since a partnership is easily dissolved, it can be assumed that the legal life of the partnership easily ends. Business life may continue even if old partnership is terminated and the formation of a new one occurs *Kinds of Partnerships as to object Universal partnership of all present properties assets contributed to the partnership becomes jointly owned by the partners. Profits earned by certain assets invested are also shared among partners Universal partnership of profits ownership is retained by the investing partner. Only profits are shared among partnership *Kinds of Partnerships as to Liability General Partnership all partners are general partners who are liable beyond their capital contribution Limited Partnership requires at least 1 general partner and 1 limited partner. Limited partners are liable only up to their capital contributions *Kinds of Partners General Partner liable beyond capital contribution Limited Partner liable up to his capital contribution. He cannot contribute mere service or industry Capitalist Partner a partner who contributes money or property to the partnership Industrial Partner a partner who contributes service or industry. Managing Partner one who manages the affairs of the partnership Liquidating Partner one who liquidates the partnership Secret Partner one who acts like a partner but is not known to be a partner Silent Partner one who doesn't act but is known to be a partner Dormant Partner one who is not known to be a partner and doesn't act Nominal Partner one who is a partner by name only *Advantages and Disadvantages of a Partnership Easily organized (compared to Corporations) + More people create better choices because of experience and combined knowledge You can share resources such as money and equipment You have to consult your partner and negotiate more as you cannot take decisions by yourself. The duration of the partnership is always uncertain. Delay may take place in decision-making process.

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Unit 2 - Accounting for Partnership Formation Case 1 Both partners are ordinary people (do not intend on investing his business) Illustration: A and B decides to form a partnership. A will contribute P100,000 while B will contribute a piece of land which costs P150,000 and has a Fair Market Value of P175,000 Opening Entries Cash 100000 A, Capital 100000 Cash Contribution of A 175000 B, Capital 175000 Contribution of B *note that non-current assets are recorder at Fair Market Value and not at cost. Case 2 At least one partner decides to contribute his business to the partnership Illustration: A and B decides to form a partnership called A & B partnership. A decides to contribute his business which has the following ledger accounts after closing entries: Cash P50,000 Accounts Receivable P30,000 Merchandise Inventory 20,000 Office Equipment P10,000 Allowance for doubtful Accounts P2,000 Accumulated Depreciation P3,000 Accounts Payable P7,000. B will contribute enough cash so that he gets 50% of partnership equity. B tells A that he needs to revalue his assets. Revaluation of assets are as follows: Accounts Receivable P25,000 Merchandise inventory P28,000 Office Equipment P8,000 Step 1 Revalue the accounts Entries A, Capital Allowance for doubtful accounts Revaluation Merchandise Inventory A, Capital Revaluation Accumulated Depreciation A, Capital Revaluation Land

3000 3000

8000 8000

1000 1000

*note accounts with contra accounts will decrease or increase by adjusting their respective contra accounts.

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Step 2- Close the Sole Proprietor's books Entries A, Capital Accounts Payable Allowance for doubtful Accounts Accumulated Depreciation Cash Accounts Receivable Merchandise Inventory Office Equipment Closing Sole Proprietor's books Step 3 Opening Partnership Books

104000 7000 5000 2000 50000 30000 28000 10000

Opening Entries Cash Accounts Receivable Merchandise Inventory Office Equipment A, Capital Accounts Payable Allowance for doubtful Accounts Accumulated Depreciation Opening Entries Cash B, Capital Opening Entries

50000 30000 28000 10000 104000 7000 5000 2000

104000 104000

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Unit 3 - Accounting for DIVISION OF PROFITS AND LOSSES Much difference only lies in the distribution of profits and losses. Each partner has his own capital account, drawing account. Net income is closed up to drawing accounts only. This is to protect the profit sharing ratio between partners. Case 1 Profit and loss will be shared based on Beginning capital contributions Net income P1,500,000 A, Capital P300,000 B, Capital P200,000 C, Capital P500,000 Capital ratio 300,000/1,000,000 200,000/1,000,000 500,000/1,000,000 3 2 5 Profit Distributed (1,500,000)*(3/10) (1,500,000)*(2/10) (1,500,000)*(5/10)

Profit Distributed

A P450,000

B P300,000

C P750,000

Total P1,500,000

Case 2 Profit and loss will be shared based on an arbitrary ratio Illustration: A,B and C formed a partnership. They decided to share the profits and losses in the ratio 4:5:1 respectively. business operations were favorable and showed a Net income of P1,500,000. Net income P1,500,000 Arbitrary ratio 4 5 1 Profit Distributed (1,500,000)*(4/10) (1,500,000)*(5/10) (1,500,000)*(1/10)

Profit Distributed

A P600,000

B P750,000

C P150,000

Total P1,500,000

Case 3 Profit and loss will be shared on an arbitrary ratio and it will allow salary to industrial partners. Illustration: A,B and C formed a partnership. They decided to share the profits and losses in the ratio 4:5:1 respectively. business operations were favorable and showed a Net income of P1,500,000. Partner C will receive an annual salary of P300,000 A Salary Allowance remaining distributed Total Distribution P480,000 P480,000 B P600,000 P600,000 C P300,000 120,000 P420,000 Total 300,000 1,200,000 P 1,500,000 P

*Note Salary Allowance will be applied first before arbitrary distribution. 1,500,000 less 300,000 is 1,200,000. this amount will be divided amongst partners based on their profit and loss ratio

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Case 4 Profit and loss will be shared on an arbitrary ratio and will allow bonus to managing partner and allowances.. Illustration: A,B and C formed a partnership. They decided to share the profits and losses in the ratio 4:5:1 respectively. business operations were favorable and showed a Net income of P1,500,000. Partner C will receive an annual salary of P300,000. A, being the managing partner, will receive a 10% bonus on Net income. A P150,000 420,000 P570,000 B C P P525,000 P525,000 P300,000 105,000 P405,000 Total 150,000 300,000 1,050,000 P1,500,000

Bonus Given to A Salary Allowance remaining distributed Total Distribution

*Note Salary Allowance and Bonus given will be applied first before arbitrary distribution. 1,500,000 less 450,000 is 1,050,000. this amount will be divided amongst partners based on their profit and loss ratio Case 5 Profit and loss will be shared on an arbitrary ratio and will allow interest, bonus, and salary to the partners. Illustration: A,B and C formed a partnership. They decided to share the profits and losses in the ratio 4:5:1 respectively. business operations were favorable and showed a Net income of P1,500,000. Partner C will receive an annual salary of P300,000. A, being the managing partner, will receive a 10% bonus on Net income. 5% Interest is allowed to each partner based on his capital balance Net income P1,500,000 A, Capital P300,000 B, Capital P200,000 C, Capital P500,000 Interest allowed Bonus Given to A Salary Allowance remaining distributed Total Distribution A P30,000 150,000 380,000 P560,000 B P20,000 C P50,000 300,000 95,000 P445,000 Total P 100,000 150,000 300,000 950,000 P1,500,000

475,000 P495,000

*Note Salary Allowance, Bonus given and Interest will be applied first before arbitrary distribution or capital ratio distribution. 1,500,000 less 550,000 is 950,000. this amount will be divided amongst partners based on their profit and loss ratio

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Case 6 Net Loss or insufficient income to pay for interest, bonus and salary Illustration: A,B and C formed a partnership. They decided to share the profits and losses in the ratio 4:5:1 respectively. business operations were unfavorable and showed a Net loss of P500,000. Partner C will receive an annual salary of P300,000. A, being the managing partner, will receive a 10% bonus on Net income. 5% Interest is allowed to each partner based on his capital balance Net Loss (P500,000) A P30,000 B P20,000 C P50,000 300,000 (90,000) P260,000 Total P100,000 300,000 (900,000) (P500,000)

Interest allowed Bonus Given to A Salary Allowance remaining distributed Total Distribution

(360,000) (P330,000)

(450,000) (P430,000)

*Note Salary Allowance and Interest will be applied first before arbitrary distribution or capital ratio distribution. Bonus does not apply to Net loss situations. (500,000) less 400,000 is (900,000). this amount will be divided amongst partners based on their profit and loss ratio

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Unit 4 Partnership Dissolution without Liquidation Dissolution - terminates all authority of any partner to act for the partnership. When the partnership is dissolved, the partners are dissociated to continue the business as a going concern. - is the change in the relation of the partners cased by any partner ceasing to be associated in the carrying on of the business. - does not necessarily mean an automatic termination of the business activities. It may continue until the winding up or liquidation of partnership affairs is completed. Dissolution does not always lead to liquidation while liquidation is always a result of dissolution.

Causes of Dissolution 1. Agreement among the partners 2. Operation of law a. Death or insanity of any of the partners b. Bankruptcy of any of the partners c. Partnership activities become unlawful 3. Express will in the case of partnership at will 4. Admission of a new partner 5. Withdrawal of an existing partner Requirements of Accounting for Dissolution 1. Partners capital accounts shall be updated a. Nominal and temporary accounts must be closed to the partners capital accounts 2. Assets and liabilities should be at fair market value 3. Revaluation of assets and liabilities Cases of Accounting for Dissolution 1. 2. 3. 4. Admission of new partner Withdrawal, retirement or death of a partner Insolvency of a partnership or a partner Conversion of the partnership to a corporation

Admission of New Partner - Should be with the consent of all the partners. (Mutual Agency) - Brings about a new association of individuals even if the partnership will not liquidate. - The newly formed partnership may continue to use either the books of the old partnership or an entirely new set of books. - Two cases: o By purchase of interest of existing partners o By investment to partnership

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By purchase of interest of existing partners Partners A B C Capital Balances 100,000 200,000 300,000 P&L Ratio 20% 30% 50%

The following are independent cases: Case 1: C sold his interest in the partnership to D for 300,000. C, Capital D, Capital 300,000 300,000

Case 2: C sold 50% of his interest in the partnership for P100,000. C, Capital D, Capital 150,000 150,000

Case 3: C sold 100% of his interest in the partnership to D for P350,000. C, Capital D, Capital 300,000 300,000

Case 4: C sold 100% of his interest in the partnership to D for P400,000. The partners agreed that the excess payment represents goodwill to recognize the true worth of the partnership because of its established name. Goodwill (100,000/50%) A, Capital B, Capital C, Capital C, Capital D, Capital 200,000 40,000 60,000 100,000 400,000 400,000

Case 5: AB and C sold 20% of their respective interest in the partnership to D for P200,000. They agreed that there would be no goodwill to be recognized. A, Capital B, Capital C, Capital D, Capital 20,000 40,000 60,000 120,000

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By investment to the partnership 1. Investment equals capital credits Case 1.1: Partners approved the admission of D provided that the latter will contribute to the partnership equipment with a fair value of P100,000 and cash, P50,000. They further agreed that they would receive capital interest equal to their actual contributions to the partnership. Partners A B C Cash Equipment D, Capital 2. Bonus Method Partners A B C Capital Balances 120,000 240,000 240,000 P&L Ratio 20% 40% 40% Capital Balances 150,000 150,000 150,000 50,000 100,000 150,000 P&L Ratio 33.33% 33.33% 33.33%

Case 2.1: Bonus to the new partner. D is admitted by investing cash of P200,000 for 30% interest in the partnership. The partners agreed that any discrepancy in the partners actual contributions and their respective capital credits should be treated under the bonus method. Cash A, Capital B, Capital C, Capital D, Capital 200,000 8,000 16,000 16,000 240,000

Case 2.2: Bonus to the old partners. D is admitted by investing cash of P200,000 for 20% interest in the partnership. The partners agreed that any difference between capital contributed by the new partner and his capital credit should be treated under the bonus method. Cash A, Capital B, Capital C, Capital D, Capital 200,000 8,000 16,000 16,000 160,000

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3. Goodwill Method

Partners A B C

Capital Balances 120,000 240,000 240,000

P&L Ratio 20% 40% 40%

Case 3.1: Goodwill to the old partners. D is admitted by investing cash of P200,000 for 20% interest in the partnership. It is also agreed that the investment should be recorded under goodwill method. Total Agreed Capital = 200,000/20% = P 1,000,000 Total Contributed Capital = 600,000 + 200,000 = P800,000 Goodwill = 1,000,000 800,000 = P200,000

Cash Goodwill A, Capital B, Capital C, Capital D, Capital

200,000 200,000 40,000 80,000 80,000 200,000

Case 3.2: Goodwill to new partner. D is admitted by investing cash of P200,000 for 40% interest in the partnership. It is also agreed that the investment should be recorded under goodwill method and it shall be given to D, the new partner. Cash Goodwill D, Capital 200,000 200,000 400,000

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Case 3.3: Goodwill to all partners. D is admitted into the partnership by investing P200,000 for 25% interest in the total agreed capitalization of P900,000. Total Agreed Capital = P 900,000 Total Contributed Capital = 600,000 + 200,000 = P800,000 Goodwill = 900,000 800,000 = P100,000 Cash Goodwill A, Capital B, Capital C, Capital D, Capital 200,000 100,000 15,000 30,000 30,000 225,000

Case 3.4: Goodwill and Bonus. D is admitted into the partnership by investing P200,000 for 20% interest in the total agreed capitalization of P900,000. Total Agreed Capital = P 900,000 Total Contributed Capital = 600,000 + 200,000 = P800,000 Goodwill = 900,000 800,000 = P100,000 Agreed capital credit to D = 900,000 x 20% = P180,000 Bonus to old partners = P200,000 180,000 = P20,000 Cash Goodwill A, Capital B, Capital C, Capital D, Capital 200,000 100,000 24,000 48,000 48,000 180,000

Withdrawal, Retirement or Death of a Partner - Three cases: o Sale to outside party o Sale to one or all partners o Sale to the partnership Partners A B C D Capital Balances 135,000 270,000 270,000 225,000 P&L Ratio 15% 30% 30% 25%

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The following are independent cases: Sale to outside party Case 1: All of the remaining partners consented that B will sell his entire capital interest to an outside person named E for P250,000. B, Capital E, Capital Sale to one or all partners Case 1: A agrees to buy the interest of B for P200,000. B, Capital A, Capital Sale to partnership Partners A B C Merchandise Inventory Capital Balances 100,000 150,000 250,000 400,000 P&L Ratio 20% 30% 50% 200,000 200,000 250,000 250,000

Case 1: Less than book value. C is withdrawing from the partnership. He agreed to be paid P225,000 cash for his total interest in the partnership. The partners agreed to revalue the inventory before Jonahs withdrawal. The payment is based on the agreed revaluation of inventory believer to be overstated. A, Capital 10,000 B, Capital 15,000 C, Capital 25,000 Merchandise Inventory C, Capital Cash 225,000 225,000

50,000

Case 2: The underpayment is agreed as bonus given by C to the continuing partners. C, Capital A, Capital B, Capital Cash 250,000 10,000 15,000 225,000

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Case 3: Partners agreed that C, who is withdrawing, be paid P100,000 cash and P150,000 worth of inventory. C, Capital Cash Inventory 250,000 100,000 150,000

Case 4: Partners agreed to pay C P100,000 cash and P150,000 notes payable with 12% interest per year. In this case, C is considered out of the partnership and he now becomes a creditor to the partnership. C, Capital Cash Notes Payable 250,000 100,000 150,000

Insolvency of a Partnership or a Partner Insolvency - commonly a result of excessive losses from operations, the over-extension of credit to customers, or excessive investments in inventories or in plant assets. Case 1: Partnership Cash Accounts Payable A (20%) B (30%) C (50%) Debit 50,000 Credit 500,000 100,000 250,000 300,000 50,000 50,000 450,000 B, Capital C, Capital Accounts Payable Cash 450,000 450,000 200,000 250,000 500,000 500,000 300,000 50,000 General Partners Assets Liabilities

Accounts Payable Cash Cash

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Conversion of Partnership to Corporation Using partnership books 1. Adjust the assets and liabilities directly to the partners capital accounts. 2. Close (debit) the partners capital accounts and credit the appropriate capital stock accounts corresponding to the amount of the partners capital accounts which have been closed. Using new sets of books In the partnership books: 1. Close all nominal accounts to the capital accounts. 2. Adjust the assets and liabilities directly to the capital accounts. 3. Close the books of a partnership by closing all real accounts. In the books of the corporation: 1. Transfer all assets (debit) and liabilities (credit) of the partnership in the books of the corporation and credit the appropriate capital stock accounts to the equity.

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Unit V Partnership Dissolution with Liquidation Liquidation - the process of converting all assets of the business into cash (realization), followed y the final payments of creditors claims and the partners capital balances in the partnership (liquidation). - Gains or losses, and liquidation expenses, if any, must be allocated to the partners before actual cash payments are made to the individual partners. Kinds of Liquidation 1. Lump Sum Liquidation (Total Liquidation) - all noncash assets of the partnership are converted first into cash before payments are made first to the creditors, then to the partners. The payment to the partners is made only once in a lump sum amount after all the outside creditors are paid. 2. Installment Liquidation (Piecemeal Liquidation) - Involves selling of the noncash assets on a gradual basis because the complete liquidation process might take several months. Payments to creditors and partners may not be postponed. Consequently, cash payments to creditors and partners are on installment basis as the cash becomes available. Lump Sum Liquidation Case 1: Solvent General Partners. Activities Cash Noncash Assets 235,000 Acconts Payable 195,000 Loans from A 5,000 A, Capital (1/5) 6,000 B, Capital (2/5) 12,000 C, Capital (2/5) 22,000

Balances before realization Assets realization Balances Payments of Liabilities Balances Right of Offset Balances Bs Cash Investment Balances Payment of Loans from A

5,000

195,000 200,000 (195,000)

(235,000) 0 195,000 (195,000) 5,000

(8,000) (2,000)

(16,000) (4,000)

(16,000) 6,000

5,000

5,000 (2,000) 3,000

(2,000) 2,000 0

(4,000)

6,000

5,000 4,000 9,000 (3,000)

(4,000) 4,000 0

6,000

3,000 (3,000)

6,000

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Balances Cash to Partner C Balances

6,000 (6,000) 0 Cash 195,000 Loss on Realization 40,000 Accounts Receivable Merchandise Inventory Unused Supplies A, Capital B, Capital C, Capital Loss on Realization Accounts Payable Cash Loans payable to A A, Capital Cash B, Capital Loans payabe to A Cash 3,000 8,000 16,000 16,000

6,000 (6,000) 0

150,000 80,000 5,000

40,000 195,000 195,000 2,000 2,000 4,000 4,000

3,000 6,000 6,000

C, Capital Cash Case 2: B is an insolvent. Activities Cash Noncash Assets 235,000 Acconts Payable

Loans from A 5,000

Balances before realization Assets realization Balances Payments of Liabilities Balances Absorption

5,000

195,000

A, Capital (1/5) 6,000

B, Capital (2/5) 12,000

C, Capital (2/5) 22,000

195,000 200,000 (195,000)

(235,000) 0 195,000 (195,000) 5,000

(8,000) (2,000)

(16,000) (4,000)

(16,000) 6,000

5,000

5,000

(2,000) (1,333)

(4,000) 4,000

6,000 (2,667)

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Activities

Cash

Noncash Assets

Acconts Payable

Loans from A

A, Capital (1/5)

B, Capital (2/5)

C, Capital (2/5)

deficit of B Balances Right of Offset Balances Payment of Loans from A Balances Cash to Partner C Balances

5,000

5,000 (3,333) 1,667 (1,667)

(3,333) 3,333 0

3,333

5,000 (1,667)

3,333

3,333 (3,333) 0 Cash 195,000 Loss on Realization 40,000 Accounts Receivable Merchandise Inventory Unused Supplies A, Capital B, Capital C, Capital Loss on Realization Accounts Payable Cash A, Capital C, Capital B, Capital Loans payable from A A, Capital Loans payabe from A Cash C, Capital Cash 8,000 16,000 16,000

3,333 (3,333) 0

150,000 80,000 5,000

40,000 195,000 195,000 1,333 2,667 4,000 3,333 3,333 1,667 1,667 3,333 3,333

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Installment Liquidation Case 1: Activities Cash Noncash Assets 235,000 Accounts Payable 140,000 Loans from H 5,000 H, Capital (20%) 20,000 I, Capital (40%) 35,000 J, Capital (40%) 40,000

Balances before realization Collection of receivables Balances Payments of Liabilities Balances Cash to A Cash Balance Sale of Inventory Balances Payment to partners Balances Sale of supplies Balances Payment of liability and expenses Balances Final Payment to partners Balances

5,000

140,000

(150,000)

(2,000)

(4,000)

(4,000)

145,000 (140,000)

85,000

140,000 (140,000)

5,000

18,000

31,000

36,000

5,000 (2,000) 3,000 74,000 77,000 74,000 3,000 3,000 6,000 (1,000)

85,000 85,000 (80,000) 5,000

5,000 (2,000) 3,000

18,000 18,000 (1,200)

31,000 31,000 (2,400) 28,600 (25,400) 3,200 (800) 2,400 (400)

36,000 36,000 (2,400) 33,600 (30,400) 3,200 (800) 2,400 (400)

3,000

16,800 (15,200) 1,600 (400) 1,200 (200)

5,000 (5,000) 0

3,000 (3,000) 0

5,000 (5,000)

1,000 (1,000)

2,000 (2,000)

2,000 (2,000)

0 Cash Loss on Realization Accounts Receivable 140,000 10,000

150,000

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H, Capital I, Capital J, Capital Loss on Realization Accounts Payable Cash Loans from H Cash

2,000 4,000 4,000 10,000 140,000 140,000 2,000 2,000

Cash 74,000 Loss on Realization 6,000 Merchandise Inventory H, Capital I, Capital J, Capital Loss on Realization Loans from H H, Capital I, Capital J, Capital Cash Cash Loss on Realization Unused Supplies H, Capital I, Capital J, Capital Loss on Realization H, Capital I, Capital J, Capital Loss on Realization H, Capital I, Capital J, Capital Loss on Realization 1,200 2,400 2,400

80,000

6,000 3,000 15,200 25,400 30,400 74,000 3,000 2,000 5,000 400 800 800 2,000 200 400 400 1,000 1,000 2,000 2,000 5,000

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Unit 6 Accounting for corporate formation and operation Corporation is an entity created by law that is separate and distinct from its owners and its continued existence is dependent upon the corporate statutes of the state in which it is incorporated. Characteristics of a corporation 1. Separate legal entity a corporations personality is separate from its owners 2. Created by operation of law generated by law; contracts cannot give rise to a corporation 3. Right of succession the withdrawal, death, insolvency or incapacity of the owners or the changes in the ownership structure do not dissolve the corporation 4. Powers, attributes, properties expressly authorized by law exercise powers provided by law and powers which are incidental to existence 5. Ownership divided into shares proprietorship is divided into units known as shares of stocks 6. Board of Directors decision making body of the corporation 7. Stockholders have limited liability 8. Easy to obtain capital through issuance of stock 9. Subject to numerous government regulations 10. Double taxation: income tax for earnings and dividend taxes for stockholders Distinction between partnership and corporation Partnership Formed by at least 2 persons Starts with an agreement with partners may be written or oral Unlimited liability Limited life Transfer of equity needs consent Partner is an agent

Corporation Formed by at least 5 persons Starts from issuance of a certificate of incorporation issued by SEC Limited liability Unlimited life Transfer of stocks may be without consent Stockholders dont act as agent

Types of Corporation 1. According to purpose a. Public formed to render government service b. Private formed for private purpose, aim or benefit c. Quasi-public privately owned corporation 2. According to Law of Creation a. Domestic organized under Philippine Laws b. Foreign organized by Laws of other countries 3. According to membership holdings a. Stock capital is divided into shares of stock and has the authorization to distribute dividends to the shareholders who own stock certificates; profit-oriented b. Non-stock capital comes from fees or contributions; profit are used for improvement; non-profit in nature 4. According to the Extent of Membership a. Open many investors b. Closely held or family 50% or more of the stock is owned by 5 persons or less

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Components of a corporation 1. Incorporators the people who formed the corporation usually consisting of 5 but not more than 15 persons and whose names appear in the Articles for Incorporation 2. Stockholders or shareholders owners of stock corporation 3. Members gave fees or contributions to non-stock corporation 4. Corporators compose the corporation whether stockholders or members 5. Promoters undertake procedures to organize the corporation 6. Subscribers buy share of stocks but pay on a later date 7. Underwriters sell their shares to the public Advantages and disadvantages of corporate form of business Advantages Disadvantages Unlimited life Difficulty in formation legal requirements Obtain strong credit line Limited liability of the stockholders limits credit capacity Bigger source of capital Government control Stockholders enjoy limited liability Abuse of power by BOD Ownership transferrable Activities are limited by Articles of Incorporation Act as legal entity More taxes Centralized management Forming a corporation 1. Filing an application with Securities and Exchange Commission 2. Paying an incorporation fee 3. Receive the Articles of Incorporation 4. Develop By-laws Legal requirements 1. Promotion makes preliminary arrangements and solicits subscription to raise sufficient capital. Requirements a. At least 25% of the authorized capital stock stated in the Articles of Incorporation must be subscribed b. At least 25% of total subscription must be paid upon subscription 2. Incorporation submitting necessary documents such as Articles of Incorporation and treasurers affidavit to SEC; upon approval, SEC issues a certificate of incorporation, the date shall be considered as the date of incorporation. 3. Commencement of the business business operations should start within 2 years Pre-operating costs/ organization expense/ organization cost costs incurred in the formation of the corporation such as filing fees, cost of printing stock certificates, promoters commission and legal fees Articles of Incorporation filed with SEC; all the power and limitations of the corporation shall be based in this article 1. Name of the corporation 2. Purpose/s for which the corporation is formed 3. Place of the principal office 4. Term of existence, not exceeding 50 years 5. Names, addresses and nationalities of incorporators 6. Name of directors who will serve until their successors are elected and qualified in accordance to by-laws

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7. Authorized capital, classes of stocks to be issued and the number of each class of stock indicating their par value if there is 8. Amount of subscription to the capital stock, the names of subscribers and the number of shares subscribed by each 9. Total amount paid on subscriptions and the amount paid by each subscriber on his subscription By-Laws contain provisions of internal administration; shall be submitted a month after the date of issuance of Articles of Incorporation 1. Date, place and manner of calling the annual stockholders meeting 2. Manner of conducting meetings 3. Circumstances which may permit the calling of special meetings of the stockholders 4. Manner of voting and using proxies 5. Manner of electing directors 6. Term of office of the directors 7. Authority and duties of the directors 8. Manner of selecting the corporate officers 9. Procedures for amending the Articles of Incorporation and by-laws Corporate books and records maintained by the corporation 1. Journal and Ledgers 2. Minute books for meetings of stockholders 3. Minute books for meetings of Board of Directors 4. Stock and transfer book - contains record of all stock, the names of stockholders or members alphabetically arranged; the installment paid and unpaid on all stocks, for which subscription has been made, any sale or transfer of stock Classes of stocks 1. Par value a share of stock with a fixed value stated in the Articles of Incorporation; legal capital retained for protection of corporate creditors 2. No Par value share of stock with no fixed value; may not be issued for less than 5 pesos; BOD can assign stated value which becomes the basis for legal capital per share. When there is no stated value, proceeds are considered legal capital. 3. Common stock ordinary shares Rights exercised by ordinary share holders 1. Vote in stockholders meeting 2. Share in dividends 3. Share in corporate profits upon liquidation 4. Purchase additional shares if the corporation increases its capital stock 4. Preferred stock specific preference over common stock Rights exercised by preference shareholders 1. Payment of dividends 2. Distribution of assets upon liquidation Terms 1. 2. 3. 4. 5.

Authorized shares maximum number of shares which may be issued Issued shares shares issued to the stockholders in the past but may or may not be in the their hands at present Unissued shares shares available for issuance in the future Outstanding shares total of issued and subscribed shares, whether fully or partially paid except treasury shares Treasury shares reacquired shares by issuance or donation NOTE: PROPERTY OF BMS. UNOFFICIAL ACTPACO REVIEWER. THIS SPECIAL PRIVILEGE IS STRICTLY FOR BMS MEMBERS ONLY!!!

6. Subscribed shares shares that are acquired or contracted 7. Subscription contract wherein a subscriber(buyer of stock) purchase stocks with payment in a later date from the corporation(issuer of stock) 8. Certificate of stock legal document that certifies the ownership of stocks 9. Paid in capital in excess of par value/ stated value excess contribution above par value or stated value 10. Pre-emptive right right to purchase stocks when new capital is issued

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Unit 7 Accounting for share capital transactions Corporation may issue stocks directly to investors (closely held companies) and indirectly through investing-banking firm (public held corporation). Primary objectives of issuance of common stock 1. Identify specific sources of paid-in capital 2. Maintain the distinction between paid-in capital and retained earnings Basic capital stock transactions 1. Authorized Shares amount of stock the corporation is allowed to sell stated in the Articles of Incorporation a. Authorization of stock does not require formal entry b. Authorized share of stock issued shares = UNISSUED SHARES 2. Sale of stocks full payment of stocks immediately 3. Subscription subscriber enters in a contract for acquisition of shares 4. Collection subscriber pays partially or full 5. Issuance of certificate if fully paid, stock certificate is issued to subscriber Capital stock Payment of capital stock 1. Cash 2. Property record by value using a. Fair value of the property b. Fair value of the shares of stock c. Par value of the shares of stock 3. Labor or services record cost labor services rendered Note: when shares of capital are issued for services or non-cash assets, cost is either fair market value of the consideration given up or received. Capital stock may be issued 1. At par 2. At premium amount more than the par value; paid in capital Note: Capital stock cannot be issued at a discount or an amount less than par Watered stock stock issued less than par value Accounting methods to record capital stock transactions When a par value common stock is issued for cash, the par value is credited to common stock and the proceeds above or below par will be recorded in a separate account title called paid-in capital or premium.

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Pro-forma entries par value stock subscribed or sold at par Transaction Authorization Sale Memo entry method Authorized to issue_____ shares with a par value of P___. Cash xxx Capital stock xxx Subscriptions receivable Subscribed capital stock Cash Subscriptions receivable Subscribed capital stock Capital stock xxx Journal entry method Unissued capital stock xxx Authorized capital stock xxx Cash xxx Unissued capital stock xxx xxx xxx xxx xxx xxx xxx

Subscription Collection Issuance of certificate

Subscriptions receivable Subscribed capital stock xxx Cash xxx Subscriptions receivable xxx Subscribed capital stock xxx Unissued capital stock xxx

Pro-forma entries par value stock subscribed or sold at premium Transaction Authorization Sale Memo entry method Authorized to issue_____ shares with a par value of P___. Cash xxx Capital stock xxx Additional paid in capital xxx Subscriptions receivable xxx Subscribed capital stock xxx Additional paid in capital xxx Cash xxx Subscriptions receivable xxx Subscribed capital stock xxx Capital stock xxx Journal entry method Unissued capital stock xxx Authorized capital stock xxx Cash xxx Unissued capital stock xxx Additional paid in capital xxx Subscriptions receivable xxx Subscribed capital stock xxx Additional paid in capital xxx Cash xxx Subscriptions receivable xxx Subscribed capital stock xxx Unissued capital stock xxx

Subscription

Collection Issuance of certificate

NOTES: 1. Subscription receivable is recorded at subscription prices (subscription receivable = subscribed shares x subscription price). 2. Subscribed capital stock and capital stock are credited at par value. 3. Paid in capital in excess of par is recorded at an amount above par (Paid in capital in excess of par = (subscription price par value)(subscribed shares)) Accounting of two classes of stock Common/Ordinary shares Subscription receivable ordinary Subscribed ordinary capital Share premium/additional paid in capital ordinary Ordinary shares

Preference/Preferred shares Subscription receivable preference Subscribed preference capital Share premium/additional paid in capital preference Preference share

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Case 1: a. A corporation is authorized to issue 10,000 shares of preferred shares, $100 par, and 10,000 ordinary shares, $20 par. One-half of each class of authorized shares is issued at par for cash. Memo- entry method Authorized to issue 10,000 preference shares with par value of $100 and 10,000 ordinary shares with a par value of $20. Cash Preference share Ordinary share Sale of stock Journal- entry method Unissued preference share 500,000 Unissued ordinary share 1,000,000 Authorized preference share Authorized ordinary share Authorization 1,500,000 500,000 1,000,000

500,000 1,000,000

Cash

1,500,000 Unissued preference share Unissued ordinary share Sale of stock

500,000 1,000,000

b. The other half of each class of authorized shares is issued at $2 above par for ordinary share and $5 above par for preference share in cash. Memo entry method Cash 1,535,000 Preference share Ordinary share Share premium preference Share premium ordinary Sale of stock

500,000 1,000,000 25,000 10,000

Journal entry method Cash 1,535,000 Unissued preference share Unissued ordinary share Share premium preference Share premium ordinary Sale of stock

500,000 1,000,000 25,000 10,000

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Case 2: a. 1) 500 shares are sold on subscription for $20.00 each. 50% is due as initial payment. Memo entry method and Journal entry method Cash Subscription Receivable - ordinary Subscribed share capital - ordinary Subscription of ordinary shares 5,000 5,000 10,000

a. 2) 500 shares are sold on subscription for $20.00 each. 50% is due as initial payment. The subscriber plans to pay $22 per share. Memo entry and journal entry method Cash Subscription Receivable - ordinary Subscribed share capital - ordinary Share premium ordinary Subscription of ordinary shares b. Partial payment of 2,500 Memo entry method and Journal entry method Cash Subscription Receivable - ordinary Partial payment c. 1) Full payment of subscription Memo entry method Cash Subscribed share capital ordinary Subscription Receivable - ordinary Ordinary share capital Journal entry method Cash Subscribed share capital ordinary Subscription Receivable - ordinary Unissued ordinary share 2,500 10,000 2,500 10,000 2,500 10,000 2,500 10,000 2,500 2,500 5,000 6,000 10,000 1,000

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c. 2) Memo entry method Cash Subscribed share capital ordinary Subscription Receivable - ordinary Ordinary share capital Journal entry method Cash Subscribed share capital ordinary Subscription Receivable - ordinary Unissued ordinary share 3,500 10,000 3,500 10,000 3,500 10,000 3,500 10,000

Accounting for No Par shares do not have fixed values 1. Recorded using memo entry method only 2. The entire consideration received by the corporation for its no par value shares shall be treated capital and shall not be liable as dividends. 3. Preferred shares can only be recorded with par value 4. Cannot be issued less than P5 5. Selling price may be assigned(stated value) but not less than P5 Pro-forma entries: No par value stock (memo entry method) Transactions Authorization Sale No stated value Authorized to issue ______ shares, no par. Cash xxx Capital stock, no par xxx Subscription receivable xxx Subscribed capital stock xxx Cash xxx Subscription receivable xxx Subscribed capital stock xxx Capital stock, no par xxx With stated value Authorized to issue ______ shares, no par with stated value of P____. Cash xxx Capital stock, no par xxx Paid in capital in excess of stated value xxx Subscription receivable xxx Subscribed capital stock xxx Paid in capital Pxx stated value xxx Cash xxx Subscription receivable xxx Subscribed capital stock xxx Capital stock, no par xxx

Subscription

Collection Issuance of stock

Case: 1. a. Bradley Corporation issues 10,000 shares, no par at $15 per share. Cash Ordinary share, no par

150,000 150,000

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b. Bradley Corporation issues 10,000 shares, no par at $15 per share with $10 stated value. Cash 150,000 Ordinary share, no par 100,000 Share premium $10 stated value 50,000 2. a. Bradley Corporation issues 10,000 shares, no par at $15 per share. The subscriber gave an initial down payment of 50%. Cash 75,000 Subscription receivable 75,000 Subscribed share capital 150,000 b. Bradley Corporation issues 10,000 shares, no par at $15 per share with $10 stated value. The subscriber gave an initial down payment of 50%. Cash Subscription receivable Subscribed share capital Share premium 3. 50% down payment of the balance Cash Subscription receivable 4. a. Full payment Cash Subscribed share capital Subscription receivable Ordinary share, no par b. Cash Subscribed share capital Subscription receivable Ordinary share, no par Incorporating a Partnership Steps in converting partnership to corporation Books of the partnership 1. Finish the accounting cycle 2. Revalue the assets using capital adjustment account 3. Close the balance of the Capital Adjustment account to the partners capital accounts in accordance with their profit and loss ratio. 75,000 75,000 100,000 50,000

37,500 37500

37,500 150,000 37,500 150,000 37,500 100,000 37,500 100,000

Books of the corporation 1. Record authorized capital stock 2. Record the subscription of incorporators. 3. Record the transfer of the assets and liabilities of the partnership to the corporation.This serves as the payment of the subscription of the partners who became incorporators.

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4. Close the accounts for partnership except the capital accounts. 5. Record the receipt of stocks. 6. Record the distribution of stocks

Accounts receivable is transferred at gross amount together with theallowance for bad debts. Depreciable assets are transferred at net carrying amount.

4. Record the issuance of stocks

Pro-forma entries: books of the partnership 1. Adjust the existing partnership books a. Increase in the asset value with no contra asset account Asset xxxx Capital Adjustment xxxx b. Decrease in the asset value with no contra asset account Capital Adjustment xxxx Asset xxxx c. Increase in the asset with contra asset account Contra asset xxxx Capital adjustment xxxx d. Decrease in the asset with contra asset account Capital adjustment xxxx Contra asset xxxx e. Close capital adjustment account with debit balance Partner1, capital xxxx Partner2, capital xxxx Capital adjustment xxxx f. Close capital adjustment account balance with credit balance Capital adjustment xxxx Partner1, capital xxxx Partner2, capital xxxx 2. Close all the ledger accounts with balances except the partners capital account and debit Receivable from name of corporation Receivable from name of corporation xxxx Liabilities xxxx Allowance for bad debts xxxx Accumulated depreciation PPE xxxx Assets xxxx To record the transfer of assets and liabilities to the newly formed corporation

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3. Record the receipt of stocks from the newly formed corporation Stocks of name of corporation Receivable from name of corporation To record receipt of stock certificates xxxx xxxx

4. Record the distribution of stocks to the partners Partner1, capital xxxx Patrner2, capital xxxx Stocks of name of corporation To record receipt of stock certificates

xxxx

NOTE: Debit balances of partners capital are their final balances. Pro-forma entries: books of the corporation 1. Authorization Authorized to issue ____ shares with a par value of P____ 2. Subscription Subscriptions receivable xxxx Subscribed capital xxxx 3. Transfer of partnership assets and liabilities Assets xxxx Liabilities xxxx Allowance for bad debts xxxx Subscriptions receivable xxxx 4. Issuance of stocks certificates Subscribed capital xxxx Capital stock xxxx Accounting for delinquent subscription If subscriber cannot pay in full the amount he subscribed to, he will receive several notices from the corporation. If payment is still not being delivered, his subscription shall be declared as delinquent subscriptions and the subscriber is called a defaulting subscriber. Delinquent stocks are offered for sale in public a public auction. 1. Delinquent stocks are advertised to have bidders. All expenses incurred including advertising and the unpaid balance of subscription will be charge to the account title Receivable from Highest Bidder which will be collected from the highest bidder. 2. Highest will be chosen during the auction sale. 3. Delinquent subscriptions will be issued to the highest bidder. 4. Highest bidder is willing to pay for all the unpaid balance of subscription plus all sale related expenses but willing to receive the least shares. 5. When the subscription is fully paid, all subscribed shares are issued first to the highest bidder then the excess will be for the defaulting subscriber. 6. If there is no bidder, all delinquent shares shall be given to the corporation under the account title treasury stocks. The defaulting subscriber shall receive none of the shares.

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Pro-forma entries for delinquent stocks 1. Record the subscription Subscription receivable xxx Subscribed capital stock 2. Record partial collection Cash Subscription receivable

xxx

xxx xxx

3. Corporation sends several notices but no payment was paid by the subscriber No entry 4. The corporation incurred costs related to the selling of delinquent shares Receivable from highest bidder xxx Cash xxx 5. The highest bidder pays and corresponding stock certificates are issued Cash xxx Subscribed capital stock xxx Receivable from highest bidder xxx Subscriptions receivable xxx Capital stock xxx 6. If there is no bidder at all Treasury stock xxx Subscribed capital stock Receivable from highest bidder Subscriptions receivable Capital stock Case:

xxx xxx xxx xxx

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Accounting for treasury stocks - stock that is basically from the corporation which is issued originally and reacquired but not canceled; it may be issued again. Reasons for acquiring treasury stocks 1. To obtain stock for the acquisition of plant assets 2. To improve earnings per share by reducing the number of shares outstanding 3. To invest excess cash temporarily 4. To support the market price of the stock 5. To increase the ration of liability from stockholders equity 6. To obtain shares for conversion of other securities such as preferred stock Two accounting methods to record treasury stock 1. Cost method used for local accounting standards 2. Par value method Two kinds of treasury stocks 1. Reacquisition by purchase under cost method a. Treasury stocks are recorded at cost. Pro-forma entry: Treasury Stock xxx Cash xxx Re-acquired own stocks at P__ per share. Case: a. Caprock Corporation purchased 1,000 shares of its ordinary shares from the market worth $50 per share. Treasury stock ordinary 50,000 Cash 50,000 b. When treasury stocks are reissued or sold at more than cost, the excess shall be called Additional Paid in capital - treasury stock or share premium treasury stock. Pro-forma entry: Cash xxx Treasury Stock xxx Additional Paid in Capital-treasury stock xxx Re-issued treasury stocks at above cost Case: b. Caprock sold 500 treasury shares for $60 per share. Cash Treasury stock Share premium treasury stock

30,000 25,000 5,000

c. When treasury stocks are reissued or sold below cost, the indicated loss will be debited to the following account titles: 1) Additional Paid in Capital treasury stock the balance in this account shall be used until there is no more remaining balance 2) Retained Earnings will only be used if there is no more balance for additional paid in capital NOTE: PROPERTY OF BMS. UNOFFICIAL ACTPACO REVIEWER. THIS SPECIAL PRIVILEGE IS STRICTLY FOR BMS MEMBERS ONLY!!!

Pro-forma entry: Cash xxx Additional Paid in Capital- treasury stock xxx Treasury Stock xxx Re-issued treasury stocks below cost. Case: c. 200 treasury stocks were sold for $48 per share. Cash 9,600 Additional Paid in Capital- treasury stock 400 Treasury Stock 10,000 Or Cash Additional Paid in Capital- treasury stock Retained Earnings Treasury Stock Re-issued treasury stocks below cost. Case: d. 200 treasury stocks were sold for $26 per share. Cash Additional Paid in Capital- treasury stock Retained Earnings Treasury Stock Or Cash Retained Earnings Treasury Stock xxx xxx xxx xxx xxx xxx xxx

5,200 4,600 200 10,000

Case: e. 100 treasury shares were sold for $30 per share. Cash 3,000 Retained Earnings 2,000 Treasury Stock

5,000

2. Reacquisition by donation stocks received from donation; may be reissued without discount liability; does not affect the entitys assets, liabilities and stockholders equity; increase premiums through sale with the account title Additional Paid in Capital Donated stocks. Pro-forma entry: receipt for donation Memorandum entry: Received ___ shares from _____ as donation. Case: a. Donation of 25 shares by BMG Corporation. Memorandum entry: Received 25 shares from BMG Corporation as donation.

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Pro-forma entry: sale of donated stocks Cash Additional Paid in Capital- donated stocks Re-issuance of stocks received as donation Case: b. Sold all treasury stock for $25. Cash Additional Paid in Capital- donated stocks

xxx xxx

625 625

NOTES: 1. Treasury shares are not outstanding shares; therefore, the former is not entitled to dividends. 2. Treasury shares are not entitled of the rights of stockholders. 3. Treasury shares are not assets; instead, they are a decrease in stockholders equity. 4. A portion of retained earnings is restricted equal to the cost of treasury for the sake of creditors.

Case: The Beta Corporation was organized in 20x1 in the state of Arizona. Its charter authorized the corporation to issue 1,000,000 shares of $1 par value ordinary shares and an additional 25,000 shares, $20 par value cumulative convertible preference shares. Here are the transactions that related to the companys stock during 20x1. Feb. 1 Issued 100,000 shares of ordinary shares for $125,000. 15 Issued 3,000 shares of ordinary shares for accounting and legal services. The services were billed to the company at $3,600.

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Mar. Apr.

15 2

July 1 Sept. 30 Feb. 1

Issued 120,000 shares of ordinary shares to Edward Jackson in exchange for a building and land that had appraised values of $100,000 and $25,000, respectively. Purchased 20,000 ordinary shares for the treasury at $1.25 per share from an individual who changed his mind about investing in the company. Issued 25,000 preference shares for $500,000. Sold 10,000 of the shares in the treasury for $1.50 per share. Cash Ordinary Shares Share premium ordinary Sale of ordinary stocks 125,000 100,000 25,000

15

Organization Costs Ordinary Shares Share premium ordinary Sale of ordinary stocks Building Land Ordinary Share Share premium ordinary Sale of ordinary stocks Treasury Stock ordinary Cash Acquisition of treasury stocks Cash Preference Share Sale of Preference share

3,600 3,000 600

Mar.

15

100,000 25,000 120,000 5,000

Apr.

25,000 25,000

July

500,000 500,000

Sept.

30

Cash Treasury Stock ordinary Share Premium treasury stock Sale of treasury shares

15,000 12,500 2,500

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Unit 8 - Accounting for Accumulated Profit/Loss (Retained Earnings) Retained Earnings represent the cumulative balance of periodic income or losses, dividend distribution, adjustments of prior period earnings and other capital adjustments. Retained earnings are increased by periodic net income and decreased by periodic net losses and distribution of earnings called dividends to stock holders. Retained earnings is affected by: periodic income or loss Pro Forma Entry Income summary............................................XXX Retained Earnings...........................................XXX dividends Pro Forma Entry Retained Earnings............................................XXX Cash Dividends Payable.................................XXX prior period adjustments Retained Earnings............................................XXX Appropriation for Treasury Shares..................XXX *recapitalizations *quasi-reorganization *these will be discussed in higher accounting. For now, take it as part of theory. Appropriation of retained earnings retained earnings is said to be appropriated when it is set aside for a specific purpose. It is appropriated in order to retain assets in the business for some particular purpose or some general contingency. The appropriation of retained earnings may be made in the following cases: Discretionary Appropriation the management of the corporation may deem it necessary to retain the assets of the corporation for some particular purpose or contingency like pending lawsuits, plant expansions, increase in working capital etc. Legal requirements the legal capital of the corporation cannot be returned to the stockholders until the corporation is dissolved, liquidated and the creditors of the corporation have been paid. An appropriation for an amount equal to the cost of treasury stock should be made. Contractual Requirements when a corporation issues a bond or redeemable preferred share, the terms bond and preferred share issue imposes restrictions on the payment of dividends.

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Income summary is closed to the Retained earnings accounting Pro forma entry for net income Income Summary..................................................XXX Retained Earnings.................................................XXX Pro forma entry for Net Loss Retained Earnings.................................................XXX Income Summary.................................................XXX Dividends A Dividend is a distribution of cash, non-cash assets or the corporation's own stock among the stockholders. It may be either a distribution of profits earned by the corporation or a return of the capital investments of the stockholders. 3 important dates regarding Dividends Date of declaration at this date, the corporation becomes liable for the dividends Pro forma entry during date of declaration Retained Earnings......................................XXX Dividends Payable...................................XXX Date of record a list of the stockholders who are entitled to receive dividends is prepared No Entry during this date Date of Payment date when dividends are to be paid. This would cancel the previous liability the corporation has. Kinds of dividends Cash Dividends Illustration: Assume that on December 1,2010, the board of directors declared an annual dividend of P10.00 per share on 100,000 shares of common stock issued and outstanding, payable on January 15, 2011 to stockholders of record on December 31, 2010. Journal entry on December 30 Retained Earnings..................................................1,000,000 Cash Dividends Payable.............................................1,000,000 Journal entry on January 15 Cash Dividends Payable........................................1,000,000 Cash............................................................................1,000,000 NOTE: PROPERTY OF BMS. UNOFFICIAL ACTPACO REVIEWER. THIS SPECIAL PRIVILEGE IS STRICTLY FOR BMS MEMBERS ONLY!!!

Property Dividends Illustration: assume that merchandise costing P300,000 with a selling price of P360,000 was declared and paid as dividends Journal entry for declaration Retained Earnings..................................................300,000 Property Dividends Payable.........................................300,000 Journal entry on payment date Property Dividends Payable..................................3000,000 Cash.............................................................................300,000 Share Dividends Share Dividends are divided into Small Share and Large Share Dividends. Small share Dividends are dividends declared that are less than 20%. large share dividends are dividends declared that are 20% or higher. Illustration: ASSUME THAT THE CAPITAL ACCOUNTS OF XYZ CORPORATION ARE CAPITAL STOCK OF P100 PAR VALUE, 30,000SHARES AUTHORIZED, 20,000 SHARES ISSUED AND OUTSTANDING AMOUNTING TO P2,000,000, SHARE PREMIUM P600,000 AND RETAINED EARNINGS OF P800,000

Case 1 Small Share Dividends shares are recorded at their Fair Market Values assume 10% share dividends are declared and the market value on the date of declaration was P125 per share. Pro Forma Entries Retained earnings................................................25,000 Share dividends payable........................................20,000 Share Premiums.....................................................5,000 Case -2 Large share Dividends Shares are recorded at their par value assume that 40% share dividends are declared and the market value on the date of declaration was P125 per share.

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Pro Forma Entries Retained earnings................................................80,000 Share dividends payable........................................80,000 computation: 2,000shares x 40% x P100 per share A cumulative dividend means if dividends are declared, preferred stockholders will receive their current-year dividend plus any dividends not paid in prior years before the common stockholders receive a dividend. Owning a share of preferred stock that includes a cumulative dividend still does not guarantee the preferred stockholder a dividend because the company is not liable to pay dividends until they are declared. Having cumulative preferred stock simply reinforces the preference preferred stockholders receive when a dividend is declared. If a company has issued cumulative preferred stock and does not declare a dividend, the company has dividends in arrears. Although not a liability, the amount of any dividends in arrears must be disclosed in the financial statements.

The participating dividend feature provides the opportunity for the preferred stockholders to receive dividends above the stated rate. It occurs only after the common stockholders have received the same rate of return on their shares as the preferred stockholders. For example, say the preferred dividend rate is 5% and the preferred stock has a participating feature. This means that the preferred stockholders will receive a larger dividend if the authorized dividend exceeds the total of the 5% dividend for the preferred stockholder and a 5% dividend to the common stockholders. Nonparticipating vs. Participating Generally speaking, preferred stockholders only receive their stated dividends and nothing more. If a preferred stock is described as 10% preferred stock with a par value of $100, then its dividend will be $10 per year (whether the corporation's earnings were $10 million or $10 billion). Preferred stock that earns no more than its stated dividend is the norm; it is known as nonparticipating preferred stock. Occasionally a corporation issues participating preferred stock. Participating preferred stock allows for dividends greater than the stated dividend. Since this feature is unusual, it is prudent to assume that all preferred stock is nonparticipating unless it is clearly stated otherwise. Cumulative vs. Noncumulative If a preferred stock is designated as cumulative, its holders must receive any past dividends that had been omitted on the preferred stock and its current year dividend, before common stockholders are paid any dividends. (A corporation might omit its dividends because it is suffering operating losses and has little cash available.) If a corporation omits a dividend on its cumulative preferred stock, the past, omitted dividends are said to be "in arrears" and this must be disclosed in the notes to the financial statements.

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If a preferred stock is noncumulative, its dividends will not be in arrears if a corporation omits dividends. That is, the corporation need not make up any omitted dividends on noncumulative preferred stock before declaring dividends. However, the noncumulative preferred stock must be given its current year dividend before the common stock can get a dividend. Illustration: Assume that in 2010, Mason Company is to distribute $50,000 as cash dividends, its outstanding common stock has a par value of $400,000, and its 6 percent preferred stock has a par value of $100,000.

Illustration: Assume that in 2010, Mason Company is to distribute $50,000 as cash dividends, its outstanding common stock has a par value of $400,000, and its 6 percent preferred stock has a par value of $100,000. If the preferred stock is cumulative and nonparticipating, and Mason Company did not pay dividends on the preferred stock in the preceding two years:

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If the preferred stock is noncumulative and is fully participating:

Illustration: Assume that in 2010, Mason Company is to distribute $50,000 as cash dividends, its outstanding common stock has a par value of $400,000, and its 6 percent preferred stock has a par value of $100,000. If the preferred stock is cumulative and is fully participating, and Mason Company did not pay dividends on the preferred stock in the preceding two years:

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Preparation of Shareholder's equity.

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Unit 9 - Special Topics Book Value per Share (Reference: Financial Accounting by Peralta and Valix)

BOOK VALUE PER SHARE (BVPS) It is the amount that would be paid on each share assuming the company is liquidated and the amount available to shareholders is exactly the amount reported as shareholders equity. FORMULAS IN COMPUTING BVPS 1. One class of stock BVPS Two classes of stock = Total Shareholders Equity Number of shares outstanding

BVPS (Preference Share

Preference Shareholders Equity Number of preference shares outstanding

BVPS (Ordinary Share)

Ordinary Shareholders Equity Number of ordinary shares outstanding

Book value per share represents the equity an ordinary stockholder has in the net assets of the corporation from owning one share of stock. Book value per share is not synonymous with the value of the stock in liquidation and does not generally equal market value per share.

Apportionment of Total Shareholders Equity into Its Preference and Ordinary Components 1. An amount equal to the par or stated value is allocated to the preference share and ordinary share 2. Any balance of the shareholders equity in excess of par is apportioned taking into account the liquidation value and dividend rights of the preference shareholders. 3. For book value purposes, following are assumed to be available for dividends: Accumulated Profit Share Premium Revaluation Reserve

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4. Where there are treasury share and subscribed share capital, the share capital outstanding is computed as follows: Shares xx xx xx xx xx Amount P xx xx P xx xx P xx

Share capital issued Add: Share capital subscribed Sub-total Less: Treasury share at par Amount and shares outstanding

5. Treasury share shall be treated as a retired share. Any gain on retirement is added to Share Premium, and loss on retirement is charged first to Share Premium and then to Accumulated Profit. SPECIAL NOTES 1. Liquidation value amount to be received upon the liquidation of the corporation. It can be more than the par value. 2. In the absence of liquidation values, the preference shareholders shall receive and amount equal to the par or stated value. 3. If there is a deficit, the preference shareholders would share on a pro-rata basis with ordinary shareholders. 4. The preference share call price or redemption price is ignored for book value computation. 5. Preference to assets preference shareholders are entitled to payment not only for the liquidation value but also for dividends in arrears. 6. Preference as to dividends Non-cumulative Cumulative Non-participating Participating 7. In the absence of any statement to the contrary, the preference share is preference as to dividends. 8. In the absence of specific designation, preference share is assumed to be non-cumulative and non-participating. 9. Dividends in arrears include current dividends. 10. If there are two classes of preference share with different dividend rates -

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a. if both are participating, the lower rate is the basis for ordinary share allocation b. if only one is participating, the basis for ordinary share allocation is the rate of the participating preference share. 11. In computing for share outstanding, the Subscriptions Receivable balance is NOT deducted from Subscribed Share Capital. Earnings per Share Reference: Philippine Accounting Standards (PAS 33) The earnings per share figure is the amount attributable to every share of ordinary share outstanding during the period. The objective of the basic earning earnings per share information is to provide a measure of the interest of each ordinary share of a parent entity in the performance of the entity over the reporting period. It is not necessary to compute EPS for preference shares because there is a definite rate of return for such share. Earnings per share (EPS) indicates the net income earned by each share of outstanding ordinary stock. a. The formula for computing earnings per share is:

b. c. d.

Most companies are required to report earnings per share on the income statement. When the income statement contains any of the sections for material non-typical items, earnings per share should be disclosed for each component. When there has been a change in the number of shares outstanding during the year, the denominator in the formula becomes the weighted average shares outstanding.

When a corporation has both preference and ordinary stocks outstanding, dividends declared on preference stock are subtracted from net income in determining earnings per share. If the preference stock is cumulative, the dividend for the current year is deducted whether or not it is declared. Two presentations of earnings per share: 1. Basic earnings per share 2. Diluted earnings per share

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Enterprises required disclosing earnings per share: 1. 2. The presentation of earnings per share is required for enterprises whose ordinary shares or potential ordinary shares are publicly traded and By enterprises that are in the process of issuing ordinary shares or potential ordinary shares in the public securities market. Note: Nonpublic enterprises are not required to present earnings per share but are encouraged to do so in their financial statements.

Uses of earning per share: a. It is a determinant of the market price of ordinary share. b. It is a measure of performance. c. It is the basis of dividend policies of the company. Simple Capital Structure VS Complex Capital Structure 1. Simple Capital Structure means that the corporation has only ordinary and nonconvertible preference share. 2. Complex Capital Structure means that the corporation has one or more instruments outstanding that could result in issuance of additional ordinary shares.

BASIC EARNINGS PER SHARE 1. Basic EPS considers only ordinary shares issued and outstanding.

2. The Basic Equation: Net Income Ordinary Shares Outstanding or Net Income Dividend on Preference Share Weighted Average Ordinary Shares Outstanding

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Notes: The net income is equal to the amount after deducting dividends on preference stock. If the preference share is cumulative, the preference dividend for the current year only is deducted from the net income, whether such dividend is declared or not. If the preference share is non-cumulative, the preference dividend for the current year is deducted from the net income only if there is a declaration. Stock dividend is recognized retroactively, meaning, it is treated as a change from the date, the original shares are issued.

Pro forma computations of Weighted Average Shares: 1.) Date

Shares

Months outstanding

Month-shares

Weighted average = 2.) Date

Total - month shares 12


Month-shares

Shares

Stock Dividend

Months outstanding

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References Chua, M. C. M., Arenas, T. P., & Villaria, F. M. C. Fundamentals of Accounting Principles (Theory and Applications) on Partnership Corporation and Other Related Accounting Topics. Philippines: National Bookstore, Inc. Weygandt, J. J., Kieso, D. E., & Warfield, T. D. (2005). Principles of financial accounting. New York : Wiley. PFRS compilation vol. 2 Roque, G. S. (2006). Auditing Problems: CPA Examination Reviewer: Based on Philippine Accounting Standards (PAS) Philippine Financial Reporting Standards (PERS). Valix, C. T. (2006). Practical Accounting I. Valix, C. T. (2009). Theory of accounts. Wareen, Reeve, & Fess. (1999). Accounting (19th Ed). Cincinnati, Ohio: South-Western College Publishing. Needles, Powers, & Mills, et al. (1999). Principles of Accounting (7th Ed). U.S.A: Houghton Mifflin Company. http://www.scribd.com/doc/8284337/NO-PAR-Delinquent-And-Treasury-Stocks-Lecture-Notes

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