ACC 102

Accounting for Corporations

RETAINED EARNINGS
Retained Earnings
•Represent the component of the shareholders’ equity arising from
the retention of assets generated from the profit-directed activities
of the corporation.
•At the end of the accounting period, the Income Summary account
of a corporation is closed to the Retained Earnings account. The
Retained Earnings account is credited with the corporation’s profit
or debited with the loss.
•Distributions to shareholders of cash, property or stocks from
unrestricted retained earnings on the basis of all issued and fully
paid shares, and all subscribed par value shares except treasury
shares are called dividends.
•Dividend declarations reduce retained earnings.
•Other less common situations that cause increases and decreases in
retained earnings: debits resulting from reissuance of treasury
stocks below cost and loss on retirement of treasury stocks and
debits or credits for prior period errors.
•Credit entries increase the retained earnings balance and debits
decrease it.
•A debit balance in the Retained Earnings account resulting from
accumulated losses is called a deficit.
•Retained earnings may be restricted or appropriated, and
unrestricted or unappropriated. Unrestricted retained earnings are
free and can be declares as dividends. Retained earnings restrictions
may be legal, contractual or voluntary.
Dividends in General
•Shareholders are not guaranteed dividends and dividends do not
become a liability of the company until the board of directors has
formally declared a dividend distribution.
•Section 42 of the Revised Corporation Code states that dividends
should only be declared out of the unrestricted retained earnings.
•Dividends may take the form of cash, property or additional shares
of stock of the corporation.
•Any form of dividend declaration should be based on the total
subscription of a shareholder and not merely on the shares already
paid.
•Subscribers are considered shareholders from the time their
subscriptions are accepted by the corporation and not from the
time they are issued stock certificates.
DATE OF DECLARATION
•The board of directors will adopt a resolution declaring that a
dividend is to be paid.
•The resolution will specify the amount, type and date of payment of
this dividend. It will also set a date of record.
•Cash dividends are declared solely by the board of directors while
share dividends will necessitate the concurrence of at least
two-thirds of the outstanding shareholders.
•Legally, declared dividends are obligations of the firm. Dividends to
be paid in cash or property became a liability on this date. Shares
distributable is also recognized.
•An entry is made debiting Retained Earnings and crediting a
dividend liability of Shares Distributable account. Some companies
debit a Dividends Declared account instead of the Retained
Earnings account. This account is nevertheless closed to the
Retained Earnings account at the end of the year.
DATE OF RECORD
•A list of shareholders entitled to the declared dividends is prepared
at the date of record.
•If an investor buys a share of stock after this date, he will not
receive the dividends. This share is said to be traded ex-dividend.
•No entry is required on this date.
DATE OF PAYMENT
•The corporation settles its liability on this date. An entry is made
debiting the dividend liability or shares distributable account and
crediting cash, property distributed or share capital.
Cash Dividends
•Majority of dividends distributed by corporations is paid in cash.
•A company must have both an appropriate amount of retained earnings and
the necessary amount of cash.
•A corporation, however, may successfully accumulate earnings and at the same
time not be sufficiently liquid to pay large dividends.
•Dividends on par value shares are stated as a certain percentage of the par
value. As to no-par value shares, the dividends are stated at a certain amount
per share.
•When the board of directors declares a cash dividend, an entry is made debiting
Retained Earnings and crediting Cash Dividends Payable.
Ex.: A nationally-known business books distribution company declared a cash
dividend of P12 per share of ordinary shares of July 1. the dividends are payable
on August 1 to shareholders of record on July 21. The company has 100,000
ordinary shares issued of which 7,000 shares are held in treasury. The entries to
record the dividend declaration and payment are as follows:
Retained Earning 1,116,000
Cash Dividends Payable 1,116,000
To record declaration of dividend.
•The account, Cash Dividend, may be used in place of the debit to Retained
Earnings. At the end of the accounting period, this temporary shareholders’
equity account will be closed by debiting Retained Earnings and crediting Cash
Dividends Declared.
 Cash Dividends Payable 1,116,000
Cash 1,116,000
To record payment of dividend.
•Cash dividends payable are reported as current liabilities in the statement
of financial position.
•With the exception of treasury shares, all issued and fully paid shares,
and all subscribed par value shares are entitled to dividends when
declared. No-par value shares are considered as legally issued only when
fully paid.
•Unissued shares, subscribed no-par shares and treasury shares are not
entitled to dividends.
Property Dividends
•A distribution to shareholders that is payable in non-cash assets is
generally referred to as property dividends or dividends in kind. Per
IFRIC 17, paragraph 11, an entity shall measure a liability to
distribute non-cash assets as dividends to its owners at the fair
value of the assets to be distributed.
Ex.: Yummy Food Industries has 5,000 shares investment in another entity accounted for as
nonmarketable equity investment. The carrying amount of this investment is P500,000. On Dec. 1,
2020, the company declared as property dividends this investment to all its outstanding par value
shares to be distributed on Dec. 15, 2020. The fair market value of the investment at the declaration
date was P950,000. There was no change in fair value on settlement date. The entries to record the
dividend declaration and distribution are as follows:
Retained Earnings 950,000
Property Dividends Payable 950,000
To record declaration of dividend.
Property Dividends Payable 950,000
Investment in Equity Securities 500,000
Gain on Distribution of Property Dividends 450,000
To record distribution of dividend.
Share Dividends
•A corporation may distribute to shareholders additional shares of
the company’s own share as share dividends.
•This type of dividend affects only the accounts within the
shareholders’ equity. Share dividends increase the total share capital
and decrease the retained earnings account. Because both of these
are components of shareholders’ equity, total shareholders’ equity
is unchanged.
•From the shareholders’ point of view, a share dividend does not
change their percentage interests in the corporation although total
outstanding shares have increased.
SMALL SHARE DIVIDENDS
•Additional shares issued are less than 20% of the previously
outstanding shares.
•Recorded by transferring from retained earnings to share capital
(ordinary shares and share premium accounts) the fair market value
of the additional shares to be issued.
•In cases when the fair market value is lower than the par or stated
value, the par or stated value will be the basis for recording.
Ex.: Oishi!, a Japanese fast food chain, is blessed with years of profitable
operations for its commitment to serve affordable and healthy Japanese
food favorites. The shareholders’ equity of the company before
declaration of a 10% share dividend is as follows:
Ordinary shares, P50 par, 20,000 shares issued
and outstanding P1,000,000
Share Premium 200,000
Total Share Capital P1,200,000
Retained Earnings 650,000
Total Shareholders’ Equity P1,850,000
The declaration of a 10% share dividend will require the issuance of an
additional 2,000 shares. Assume that the company’s share is being traded at the
stock exchange and that the stock market price per share is P110. The fair
market value of the shares to be distributed is P220,000. The entries will be:
Retained Earnings 220,000
Shares Distributable 100,000
Share Premium 120,000
To record declaration of 10% share dividends.
Shares Distributable 100,000
Ordinary Shares 100,000
To record issuance of share dividends.
•Retained Earnings (or the temporary account, Share Dividends
Declared) is debited for the fair market value of the share dividends.
Shares Distributable is credited for the par value of shares to be
distributed and Share Premium for the balance.
•If a statement of financial position is prepared between the
declaration date and the distribution date of a share dividend, the
Shares Distributable account will be shown in the shareholders’
equity immediately after the Ordinary Shares account.
LARGE SHARE DIVIDEND
•If the share dividend is 20% or more of the previously outstanding shares such that the effect is
to reduce materially the market value per share, then only the par or stated value is credited to
ordinary shares with a corresponding debit to retained earnings.
Ex.: Assume that Oishi! declared a 20% share dividend on its 20,000 issued and outstanding P50
par value shares. The company will issue additional 4,000 shares due to the share dividend. The
entries will be:
Retained Earnings 200,000
Shares Distributable 200,000
To record declaration of 20% share dividends.
Shares Distributable 200,000
Ordinary Shares 200,000
To record issuance of share dividends.
Liquidating Dividends
•Return of capital to the investing shareholders.
•This type of dividend can be legally paid only under either of the
following circumstances:
◦When the corporation is under dissolution and liquidation, or
◦When the corporation is engaged in the exploration of natural
resources.
Share Splits
•Corporations reduce the par or stated value of its share capital and
issues additional shares to its shareholders through the practice
referred to as share splits.
•The par or stated value per share will decrease with a corresponding
increase in the number of authorized, issued and outstanding
shares. In effect, there is not change in the balances of the
shareholders’ equity accounts.
The following are some reasons behind a share split:
•To adjust the market price of the company’s shares to a level where
more individuals can afford to invest in the stock.
•To spread the shareholder base by increasing the number of
outstanding shares.
•To benefit existing shareholders by allowing them to take advantage
of an imperfect adjustment following the split.
•When shares are selling below a desired price or when management wishes to
take control of the company, the corporation may consider a reverse split that
can be accomplished by increasing the par or stated value of its share and
reducing the shares outstanding. There will be no entry required; a memo entry
is sufficient.
Ex.: The International School of Business and Sciences, Inc. has 10,000 P100 par
value ordinary shares issued and outstanding when the board of directors
decided to split the share 5-for-1. this means that a shareholder would receive
5 shares with a new par value of P20 for each share held. Ordinary shares will
remain unchanged at P1,000,000. the issued and outstanding shares will now
be 50,000 and the par value reduced to P20 per share.
Summary of the Effects of Dividends
and Share Splits
Declaration Payment Declaration and Distribution of
of Cash of Cash
Small Share Large Share Share Split
Effect On: Dividends Dividends
Dividends Dividends
Retained Earnings Decrease Decrease Decrease
Ordinary Shares Increase Increase

Share Premium Increase

Total Shareholders’ Equity Decrease
Total Liabilities Increase Decrease
Total Assets Decrease
Shares Outstanding Increase Increase Increase
Dividends on Preference and Ordinary
Shares
•A corporation may issue both preference and ordinary shares.
•When the board of directors declares cash dividends, preference
shareholders are entitled to dividends before ordinary shareholders
receive any distribution.
•The dividend is stated as a percentage of the par value preference
shares.
•The corporation is not obliged to declare dividends annually.
•When the board does not declare dividends, the dividends for
cumulative preference shares accumulate; these are called
dividends in arrears.
Preference shares may contain one of the following combinations of
features:
•Non-cumulative and non-participating
•Non-cumulative and participating
•Cumulative and non-participating
•Cumulative and participating
 NON-CUMULATIVE PREFERENCE SHARES
•Entitle the holders only to the payment of current dividends, if and
when dividends are declared, to the extent of the preference rate,
before the ordinary shareholders are paid. If there is no dividend
declaration for that year, then the dividend for that year is forfeited.
CUMULATIVE PREFERENCE SHARES
•Entitle the holder to payment not only of current dividends but also
of back dividends or dividends in arrears, if and when dividends are
declared, before the ordinary shareholders are paid.
NON-PARTICIPATING PREFERENCE SHARES
•Entitle the holders only to the extent of the stipulated preference
dividend.
PARTICIPATING PREFERENCE SHARES
•Entitle the holders to participate with the holders of ordinary shares
pro-rata in the remainder after the ordinary shareholders have
received their initial share based on the preference rate.
Prior Period Errors
•Per IAS No. 8, Accounting Policies, Changes in Accounting Estimates
and Errors, prior period errors are omissions from and other
misstatements of the entity’s financial statements for one more
prior periods that are discovered in the current period.
•Errors may occur as a result of mathematical mistakes, mistakes in
applying accounting policies, misinterpretations of facts, fraud or
oversights.
•Material prior periods must be restated to report financial position and results
of operations as they would have been presented had the error never taken
place.
•Reported by adjusting the opening balances of retained earnings and affected
assets and liabilities.
•The correction of a prior period error is excluded from profit or loss for the
period in which the error is discovered.
•If an error resulted in an understatement of profit in previous periods, a
correcting entry would be needed to increase retained earnings.
•If an error overstated profit in prior periods, then retained earnings would have
to be decreased.
Restrictions on Retained Earnings
•A corporation may be required by law or contractual arrangements
to set aside a portion of the retained earnings for specified
purposes.
•In addition, the board of directors may voluntarily designate a
portion of retained earnings for future expenses, contingencies or
other purposes (SFAS No. 18, paragraph 31).
•This portion of the retained earnings is referred to as restricted or
appropriated retained earnings.
 Ex.: ABC Technologies, Inc. bought 1,000 of its shares at P150,000. A
portion of the retained earnings is restricted for the cost of the
treasury purchased.
Retained Earnings 150,000
Appropriated Retained Earnings 150,000
To restrict retained earnings for the cost of treasury shares
purchased.
•It simply communicates that the restricted portion is not available
for dividend declarations. Once the purpose of the restriction has
been served, the appropriate retained earnings should be reversed
to unappropriated retained earnings.
•If the treasury stocks are subsequently reissued, the restricted
balance is reversed as follows:
Appropriate Retained Earnings 150,000
Retained Earnings 150,000
To remove restriction on retained earnings.
Statement of Retained Earnings
•Not required per revised IAS No. 1.
•Normally divided into 2 major sections:
Appropriated
◦ Presents the beginning balance of the retained earnings appropriated
account, any additions or deductions during the period, and ending balance.
Unappropriated
◦ Shows the beginning balance of the retained earnings unappropriated
account, correction of prior period error, profit or loss for the period,
dividends, transfer to and from the appropriated and unappropriated
accounts, and the ending balance.
Statement of Changes in
Shareholders’ Equity
•Significant changes in shareholders’ equity should be reported in
the period in which they occur.
•May be prepared in columnar format, where each column
represents a major shareholders’ equity classification.
•The ending balances of the accounts are presented at the bottom of
the statement. These accounts and their related balances compose
the shareholders’ equity section of the statement of financial
position.
BOOK VALUE PER SHARE will be discussed on Intermediate
Accounting.
>> END <<