Shareholders Equity

Shareholders Equity Accounting

After studying this chapter, you should be able to:
1. Discuss the characteristics of the corporate form of organization. 2. Explain the key components of shareholders equity. 3. Explain the accounting procedures for issuing shares of share. 4. Explain the accounting for treasury share.

Shareholders Equity Accounting

5. Explain the accounting for and reporting of preference share. 6. Describe the policies used in distributing dividends. 7. Identify the various forms of dividend distributions. 8. Explain the accounting for small and large share dividends, and for share splits. 9. Indicate how shareholders equity is presented and analyzed.

The Rights of Shareholders

The shareholders have the right to:
share proportionately in profits and losses share proportionately in management

share proportionately in corporate assets

upon liquidation share proportionately in any new issues of share of the same class (preemptive right)

Components of Shareholders Equity

Normally three categories:
1. Capital stock 2. Share premium 3. Earned capital or surplus

The first two represent contributed capital, whereas retained earnings is earned capital.

Components of Equity
EQUITY
Less:T.share at COST

Earned capital (Ret. Earn).

Restricted Unrestritcted

Contributed capital

Paid-in capital

Additional Paid-in

Less: T.share at PAR

ordinary

preference

ordinary

preference

Accounting for Share Issues

Accounts must be maintained for: Par value share
preference share or ordinary share paid-in capital in excess of par

discount on share (if present)

No par share
preference share or ordinary share paid-in capital in excess of par

Share Issuance
Par value has no economic significance. When par value share is issued for cash:
Cash (proceeds) ordinary share (# of Sh. X Par value) Paid in Capital in Excess of Par (balance)

Many states permit no-par share. When no-par share is issued for cash:
Cash (proceeds) ordinary share (proceeds)

Share Issued in Lump-Sum Sales

Both ordinary and preference shares are issued for cash in a single transaction.
The two methods of allocation available are: Proportional Method [relative fair market values] Incremental Method

When share is issued for services or property other than cash, the property or services are recorded at
either the fair market value of assets received or the fair value of the non-cash consideration received,

whichever is more clearly determinable

Treasury Share
Outstanding share, purchased by the corporation, is known as treasury share. The reasons as to why corporations buy back their outstanding share may include: to increase earnings per share and return on equity to provide tax efficient distributions of excess cash to shareholders to provide share for employee share compensation contracts to thwart takeover attempts to create or improve the market for the share

1.
2. 3. 4. 5.

Recording Treasury Share: Methods

COST METHOD:
Treasury share is recorded at purchase COST Treasury share is a contra-shareholders account.

PAR VALUE METHOD:

Treasury share is recorded at PAR value It is presented as a deduction from capital share

Treasury share: Cost Method

Debit treasury share for purchase cost, and credit treasury share at cost if shares reissued. The initial issue price of share does not affect subsequent treasury share transactions. No gain or loss can be recognized when treasury shares are re-issued.

Cost Method: Example

Given: Issued: 1,000 ordinary shares; Par, P100; issued at P110. Reacquired: 100 shares at P112 each. 10 shares were reissued at 112 (at cost). 10 shares were reissued at 130 (above cost). 10 shares were reissued at P98 (below cost). 10 shares reissued at P105 (below cost).

Show journal entries for these transactions.

Cost Method: Example

1 Issued: (par, P100); 1,000 sh. at P110.

Cash 110,000 Ordinary share 100,000 Additional PIC: ordinary share 10,000 Treasury share Cash
Cash Treasury share

2 Reacquired: 100 at P112.

11,200
11,200 1,120 1,120

3
10 shares reissued @ 112.

Cost Method: Example

4

10 shares reissued at 130.

Cash Treasury share Additional PIC: Treasury share

1,300
1,120 180

5 10 shares reissued at P98. Cash 980 Additional PIC: (T/share) 140 Treasury share

1,120

Cost Method: Example

6 Reissued 10 treasury shares at P105 (cost = P112) Use Additional PIC (Treasury share) first to absorb any shortfall. Then, use retained earnings. Cash Addl PIC (T/share) Retained earnings Treasury share 1,050 40 30

1120

Par Value Method: Main Points

Treasury share is recorded at par when bought or reissued. Any shortfalls between the par value and the reissue price of treasury share is borne: first by Paid-In and then by Retained Earnings

Retirement of Treasury share

Repurchase of share does NOT mean

retirement Retired share becomes authorized/unissued share Active retirement is effected by application to the State Constructive retirement is effected by Board Resolution

Preference Share
Preference Share has certain preferences or features not possessed by ordinary share. These features are:
preference as to dividends preference as to assets in the event of liquidation may be convertibility into ordinary share at the option of the shareholders may be callable at the option of the issuer absence of voting rights

Preference Shares: Features

Cumulative Preference Shares Participating Preference Share:
Fully Participating Partially Participating

Convertible Preference Share Callable Preference Share Redeemable Preference Share

Legality of Dividends
Dividends come from present and past earnings in majority of states. Dividends come also from appreciation of assets in some states. Dividends restrictions are based on liquidity and solvency tests.

Types of Dividends
1. 2. 3. 4. Cash dividends Property dividends Share dividends Liquidating dividends

Cash Dividends: Important Dates

There are three important dates: 1. the declaration date (dividends are
declared and accrued)

2. the record date (list of shareholders to

whom dividends are to be paid is finalized)

3. the payment date (dividends are paid to shareholders of record)

Cash Dividends: Journal Entries

DATE DECLARED Retained Earnings Dividends Payable No Entry Dividends Payable Cash

DATE OF RECORD DATE OF PAYMENT

Property Dividends
Are payable in assets of company Are non-reciprocal transfers between

corporation and shareholders Are equal to the fair market value of assets distributed at time of declaration [except in spin-offs and reorganizations] Corporation recognizes gain/loss on the distribution

share Dividends: Concept

Share dividends result in more shares being

issued as dividend (no cash flow is involved). Small share dividends involve issues of less than 20%25% of share. The accounting for small share dividends is based on the fair market value of share issued. The accounting for large share dividends (more than 20%25%) is based on the par value of share issued.

Share Dividends and Share Splits

Share Dividends
Par value of a share does not change Total number of shares increases Total shareholders equity does not change The composition of equity changes (less of retained earnings; more of share) share dividends require journal entries

Share Splits
Par value of a share decreases Total number of shares increases Total shareholders equity does not change The composition of equity does not change (same amounts of share and RE) share splits do not require journal entries

Statement of Shareholders Equity

Typical format: 1. Balance at beginning of the period 2. Additions 3. Deductions 4. Balance at end of period

Thats all folks!!