06/01/2014

Accounting Principles
Companies: Share capital
and the balance sheet

Learning objectives

List the characteristics of a company

Describe the two sources of shareholders equity and the classes

of shares

Journalise the issue of shares and prepare the shareholders

equity section of a company balance sheet

Illustrate retained earnings transactions

Account for cash dividends

Use different share values in decision making

Evaluate return on assets and return on shareholders equity

Account for the income tax of a company

Companies: An overview

Separate legal
entity

Continuous life
and
transferability
of ownership

No mutual
agency

Limited
shareholder
liability

Separation of
ownership and
management

Company
taxation

Government
regulation

06/01/2014

Companies: An overview

Forming a company

Forming a company begins when its promoters lodge an

application with ASIC and pay the required fees

When the application is accepted, ASIC registers the company

and it becomes a legal entity

The new company is given an ACN (Australian Company

Number) and a certificate of registration

The Corporations Act includes a number of basic rules for

managing companies

Shareholders equity basics

Share capital (also called issued capital or paid-up capital)

represents amounts received from the shareholders

It is externally generated equity and results from transactions

with outsiders

Retained earnings (or retained profits) is equity earned by

profitable operations

It is internally generated equity because it results from

company decisions to retain profits to use in future operations
or for expansion

06/01/2014

Shareholders equity basics

Companies can issue different classes of shares, namely

ordinary shares or preference shares

Ordinary shareholders have four basic rights of share ownership

(vote, dividends, liquidation, pre-emption)

Preference shares give their owners certain advantages over

ordinary shares, e.g. preference shareholders almost always
receive dividends before the ordinary shareholders

Owners of preference shares also have the four basic

shareholder rights, unless a right is specifically varied. The right
to vote is usually withheld from preference shareholders

Shareholders equity basics

Issuing shares

A company can sell its shares directly to shareholders or it can

use the services of an underwriter

The price that the company receives from issuing shares is

called the issue price

The companys past profits, financial position and future

prospects determine the issue price

06/01/2014

Issuing ordinary shares

When a company issues shares, it debits the asset received and
credits the share capital account. Regardless of the shares price,
Cash is debited and Ordinary share capital is credited for the cash
received
Date

Account title

Dr

Jan 2

Cash (1000000 $20) (A+)

20000000

Cr

Ordinary share capital (Q+)

20000000

Issued ordinary shares.

Issuing ordinary shares

A company may issue shares and receive assets other than cash.
The company records the assets received at their fair value and
credits the share capital account accordingly
Date

Account title

Dr

Jan 2

Building (A+)

20000000

Cr

Ordinary share capital (Q+)

20000000

Issued ordinary shares.

Issuing ordinary shares payable by instalments

The cash received on application should initially be banked in a
separate trust bank account, since investors arent legally bound to
take and pay for the shares until the company accepts the
application
Date

Account title

Dr

Jan 2

Cash (Trust bank account) (A+)

12000000

Application (L+)

Cr
12000000

Received application money, to be

held in trust.

06/01/2014

Issuing ordinary shares payable by instalments

Date

Account title

Dr

Jan 20

Application (1000000 $12) (L)

12000000

Allotment (1000000 $5) (A+)

5000000

Ordinary share capital (Q+)

Cr

17000000

Issued ordinary shares.

Jan 20

Cash (A+)

12000000

Cash (Trust bank account) (A)

12000000

Transferred application money to

companys bank account.

Issuing ordinary shares payable by instalments

Date

Account title

Dr

Jan 30

Cash (A+)

5000000

Allotment (A)

Cr
5000000

Received amount due on

allotment.

Issuing ordinary shares payable by instalments

On 31 March, the directors decide to call up the amount still owing
on the shares. There can be one or more of these calls
Date

Account title

Mar 31 Call (A+)

Dr

Cr

3000000

Ordinary share capital (Q+)

3000000

Called up balance outstanding on

partly paid ordinary shares.

Apr 10 Cash (A+)

Call (A)

3000000
3000000

Received call money due on

ordinary shares.

06/01/2014

Issuing Shares over subscription

Investors may apply for more shares than are available to be

issued.

If there is an oversubscription, the management may

Refund the money

Apply it to later amounts payable; allotment and/or call

Copyright 2013 Pearson Australia (a division of Pearson Australia Group Pty Ltd) 9781442551923/Horngren, Best, Fraser, Willett/Accounting/7e

Forfeiture of shares
If a shareholder does not pay a call on shares when it is due, then
those shares may be forfeited. If shares are forfeited, the person
who owned them is no longer a shareholder and loses the amount
previously paid to the company
Date

Account title

Apr 10 Ordinary share capital (Q)

Dr

Cr

400000

Call (20 000 $3) (A)

60000

Forfeited shares account (Q+)

340000

Forfeiture of 20 000 shares.

Reissue of forfeited shares

The directors may reissue forfeited shares provided they receive
at least the amount owing when the shares were forfeited
Date

Account title

Dr

May 1

Cash (20 000 $17.50) (A+)

350000

Forfeited shares account

(20000 $2.50) (Q)

50000

Ordinary share capital (Q+)

Cr

400000

Reissued 20 000 forfeited shares.

May 2

Forfeited shares account (Q)

Cash (A)

290000
290000

Refund balance of cash on shares

forfeited and reissued.

06/01/2014

Retained earnings

Companies close their revenues and expenses into the Income

summary account

Then they close the final profit from the Income summary
account to the Retained earnings account
Date

Account title

Jun 30 Income summary

Dr

Cr

100000

Retained earnings (Q+)

100000

To close profit to Retained earnings.

Jun 30 Retained earnings (Q)

Income summary

60000
60000

To close loss to Retained earnings.

Issuing Preference Shares

Accounting for preference shares follows the pattern illustrated for

ordinary shares

Shareholders equity on the balance sheet lists ordinary shares,

preference shares, and retained profits in that order

Copyright 2013 Pearson Australia (a division of Pearson Australia Group Pty Ltd) 9781442551923/Horngren, Best, Fraser, Willett/Accounting/7e

Accounting for cash dividends

Cash dividends cause a decrease in both assets and equity

(retained earnings)

A company declares a dividend before paying it. Three

(sometimes four) dividend dates are relevant
- Declaration date
- Date of record (or record date)
- Payment date
- Ex-dividend date

06/01/2014

Declaring and paying dividends

Date

Account title

Dr

May 1

Retained earnings (Q)

6000

Dividends payable, preference (L+)

Cr
6000

Declared a cash dividend.

May 31 Dividends payable, preference (L)

Cash (A)

20000
20000

Paid the cash dividend.

Cumulative and non-cumulative preference shares

If the preference share is cumulative, any shortage must be paid

before nay dividend is paid to ordinary share holders.

If non-cumulative, a passed dividend not paid, or not fully paid, is

simple lost.

Copyright 2013 Pearson Australia (a division of Pearson Australia Group Pty Ltd) 9781442551923/Horngren, Best, Fraser, Willett/Accounting/7e

Different values of shares

Market value, or market price, is the price at which a person can

buy or sell a share

Liquidation value is the amount that is usually guaranteed to

the preference shareholders in the event a company liquidates
(goes out of business)

Book value per share is the amount of owners equity on the

companys books for each share of its capital

06/01/2014

Evaluating operations

Two important ratios to use for comparison are return on

assets and return on ordinary shareholders equity
Rate of return on total assets =
(Profit before tax + Interest expense) / Total assets

Rate of return on ordinary shareholders equity =

(Profit after tax Pref. div.) / Ordinary shareholders equity

Accounting for income taxes by companies

Companies pay income tax at a rate of 30%

To account for income tax, a company measures two income tax

amounts
- Income tax expense
- Income tax payable

Income tax expense = Income before tax on the income

statement Income tax rate

Income tax payable = Taxable income from the tax return filed
with the ATO Income tax rate

Summary:

Share capital represents amounts received from the

shareholders

Retained earnings is equity earned by profitable operations

Ordinary shareholders have four basic rights of share ownership

Preference shares give their owners certain advantages over

ordinary shares

When a company issues shares, it debits the asset received and

credits the share capital account

Cash dividends cause a decrease in both assets and equity