Basic Financial Accounting & Reporting Corporations: Share Capital, Retained Earnings and Financial Reporting Learning Objectives: after studying this chapter, you should be able to: Identify the basic components of shareholders’ equity. Explain the characteristics of the basic types of shares. Distinguish the terms related to share capital. Differentiate par value from no-par value shares. Record the share issuances for cash. Illustrate the share subscription process including delinquency sale. Define treasury stock. Record purchase, reissuance and retirement of treasury stocks. Define retained earnings and show how itis affected by some accounting events. 10. Discuss dividends in general. 11. Identify the important dates in the dividends distribution. 12. Analyze and record transactions involving cash dividends and share di 13, Summarize the effects of dividends. 14, Prepare a statement of retained earnings. ; 15. Prepare a statement of changes in shareholders’ equity. pengyawne OVERVIEW OF SHAREHOLDERS’ EQUITY Generally, the type of: business organization—sole proprietorship, partnership or corporation, does not affect the asset and liability sections of the statement of financial position. The only difference is.in the owners’ equity sections., Sole proprietorships and Partnerships Use’capital accounts and ultimately combine the owners’ contributions and accumulated’ earnings. Corporations separately report contributed capital and accumulated profits in accordance with some legal provisions. The owners’ equity section of a corporation’s statement of financial position is calle shareholders’ equity. Shareholders’ equity has two major components—share capit (contributed or paid-in capital) and retained earnings. Share capital reflects the amou546 | Basic Financial Accounting and Reporting 2021 Edition by Prof. WIN Ballada of resources received by a corporation as a result of investment by shareholders, donations or other share capital transactions. Retained earnings (or accumulated profits or losses) is the amount of capital accumulated and retained through the profitable operations of the business. The Philippine Accounting Standards (PAS) hag adopted the terminology used in the International Accounting Standards. The following is the shareholders’ equity section of a statement of financial position: Shareholders’ Equity ‘Share Capital \ preference Shares—P50 par, 1,000 shares authorized, issued and outstanding P 50,000 Ordinary Shares—PS par, 30,000 shares authorized, 20,000 shares issued and outstanding P100,000 Share Preinium—Ordinary 50,000 __ 150,000 ., Total Share Capital 200,000 Retained Earnings 80,000 Total Shareholders’ Equity 280,000 SHARE CAPITAL Itis the shares to be subscribed and paid in or secured to be paid in by the shareholders, either in money, property or services, at the time of organization of the corporation or afterwards, and upon which it isto conduct its operations. The share, contributed or paid-in capital is further divided into the following: Legal Capital. Capital contributed by shareholders comes from the sale of shares of stock. The shares of stock issued are generally referred to as share capital. Legal capital is that portion of the contributed capital or the minimum amount of paid-in capital, which must remain in the corporation for the protection of corporate creditors. The amount of legal capital is determined as follows: a In case of par value shares, legal capital is the aggregate par value of all issued and subscribed shares. In case of no-par shares, legal capital is the total consideration received by the corporation for the issuance of its shares to the shareholders including the excess of issue price over the stated value (Section 6, Revised Corporation Code of the Phils. (RCP). , Share Premium (or Additional Paid-In Capital). It is the portion of the paid-in capital representing amounts paid by shareholders in excess of par. It may also result from transactions involving treasury stocks, retirement of shares, donated ‘capital, share dividends and any other “gain” on the corporation’s own stock transactions.Corporations: Share Capital, Retained Earnings and Financial Reporting | 547 TWO BASIC TYPES OF SHARES Shate capital is divided into transferable shares of stock. A share of stock represents the interest or right of @ shareholder in a corporation and is evidenced by a certificate of stock. Share capital includes all types of ownership shares in a corporation. Shareholders acquire either of the following basic types of share capital: Ordinary Share. This share represents the basic ownership class of the corporation. When only one class of share is issued, it must be ordinary share. Ordinary shares are the entity's residual equity. Preference Share. This share gives its owners certain advantages over ordinary shareholders. These special benefits relate either to the receipt of dividends when. ‘declared before the ordinary shareholders’ (preferred as to dividerids) or to priority claims‘on assets in the event of corporate liquidation (preferred as to assets). TERMS RELATED TO SHARE CAPITAL | Authorized Share Capital. The number of authorized shares indicates the maximum number of shares the corporation can issue as specified in the article of incorporation. This maximum number of shares when multiplied by, the par value of the share will yield the authorized share capital. Note that any increase or decrease in the authorized share capital requires prior approval of the SEC and formal amendment to the articles of incorporation. Issued Share Capital. These are shares which have been sold and paid for in full. Issued shares may include treasury shares. Share Capital, either Ordinary Shares account or Preference Shares account, is credited for the total par value of fully collected subscriptions or in the case of no-par value shares, for the total consideration received in relation to the issue. Share Capital is debited only when the issued shares are retired, redéemed or canceled by the corporation. Subscribed Share Capital. Itis the portion of the authorized share capital that has been subscribed but not yet fully paid. This shareholders’ equity account is credited for the total par value of the shares subscribed and debited for the total par value of the fully collected subscriptions. Outstanding Share Capital.. These are issued shares, which are in the hands of the shareholders. The number of outstanding shares will equal the difference between the issued shares and the treasury shares. Treasury Stock. These are issued shares acquired by the corporation but not retired and are therefore, awaiting to be reissued at a later date.| Accounting and Reporting 2021 Edition by Prof. WIN Ballada ACCOUNTING FOR ISSUANCE OF SHARE CAPITAL The entry to record the issuance of share capital depends on whether the stock is with or without par value. When shares with par value are sold, the proceeds should be credited to the share capital account to the extent of the par value of the shares, with any excess being reflected as share premium. When shares without par value are sold, the proceeds should be credited to the share capital account. If the no-par stock has a stated value, the excess proceeds cover stated value may alternatively be credited to share premium. Section 64 of the RCCP prohibits the original issue of share capital (or capital stock) for a consideration less than the par or stated value (i.e. issued at a discount). Corporations set the par.value of their ordinary shares at nominal amounts such as P1 per share. The par value is no indication of its market value; it merely indicates the amount per share to be entered in the share capital account. (CONSIDERATIONS FOR ISSUANCE OF SHARES Share capital may be issued in exchange for any of the following considerations: ‘Actual cash paid to the corporation; Tangible or intangible properties actually received by the corporation; Labor already performed for or services actually rendered to the corporation; Previously incurred indebtedness by the corporation; Amounts transferred from unrestricted retained earnings to stated capital; ‘Qutstanding shares exchanged for stocks in the event of reclassification or conversion; L 2. 3, 4. 5. 6. 7. Shares of stock in another corporation; and/or 8. Other generally accepted form of consideration (Sec. 61, RCCP). In issuing its share capital, a corporation may avail of the services of an investment banker who is a specialist in marketing shares to investors. The investment banker may underwrite a share issue which means that the banker agrees to buy the shares of the corporation and to sell them to investors. The corporation considers the shares as sold because the underwriter will buy the shares that he,is not able to sell. The underwriter bears this risk in return for gains from selling the shares at a price higher than that paid to the corporation. An investment banker who is not willing to underwrite may handle a share issue on a best efforts basis, In this case, the banker undertakes to sell as many shares as possible at a set price but the corporation bears the risk on unsold shares. Share issue costs can be quite substantial given the work involved. The costs include costs associated with preparing, printing and filing the relevant documentation and marketing the share issue. Various experts are consulted to ensure a successful issue.Corporations: Share Capital, Retained Earnings and Financial Reporting | 549 —— ‘Accounting for share issue costs is covered in paragraph 37 of International Accounting Standards (IAS) No. 32, Financial Instruments: Presentation: {An entity typically incurs various costs in issuing or acquiring its own equity instruments. Those costs might include registration and other regulatory fees, amounts paid to legal, accounting and other professional advisers, printing costs and stamp duties, The transaction costs of an equity transaction are accounted far as a deduction from equity (net of any related income tax benefit) to the extent they are incremental costs directly attributable to the equity transaction that otherwise would have been avoided. The costs of an equity transaction that is abandoned are recognised as an expense. Per Philippine Interpretations Committee (PIC), the costs of listing shares in the stock market are not considered as costs of an “equity transaction” since no equity instrument has been issued and, hence, such costs are recognized as an expense in profit or loss when incurred. They are as follows: road show presentation, public relations consultant's fees, and stock exchange listing fees. Per 1AS 32, paragraph 38, transaction costs that relate jointly to more than one transaction (for example, costs of a concurrent offering of some shares and a stock exchange listing of other shares) should be allocated on a rational and consistent basis. Examples of joint costs are as follows: Audit and other professional advice relating to prospectus, opinion of counsel, tax opinion, fairness opinion and valuation report, and prospectus design and printing. SHARE ISSUANCES FOR CASH Most share issues are for cash since the primary reason for issuing shares is to raise capital for a corporation’s ‘operating activities. The entries to record the issuance of shares for cash will depend on whether the share is with or without par value. With Par Value Issuing Share Capital at Par Mlustration. Narsan Holdings is authorized to issue P1,000,000 ordiriary shares divided into 10,000 shares, with a par value of P100 per share. The diversified corporation issued on cash basis 2,000 shares at par. The share issuance entry will be: Cash a 200,000 Ordinary Shares i 200,000 The amount of P200,000 invested in the corporation is called paid-in capital or contributed capital. The credit to Ordinary Shares increases the share capital of the corporation. :2021 Edition by Prof. WIN Ballada 550 | Basic Financial Accounting and Repor Issuing Share Capital Above Par Ilustration. Suppose the 2,000 shares were sold at P150 per share, the entry follows: Cash 300,000 Ordinary Shares 200,000 Share Premium 100,000 This sale of shares increases the corporation’s contributed capital by P300,000. When the shares with par value are sold, the proceeds should be credited to the Ordinary Shares account to the extent of the par value—in this case, P200,000; with any excess to’ be reflected in the Share Premium account. The excess of P100,000 is not a “gain”. The corporation can neither earn a profit nor incur a loss when it issues shares to Or acquires shares from its shareholders. Without Par Value Issuing No-Par Share Capital Mlustration. Morning Star Travel is a domestic corporation engaged in the business of ‘organizing tour packages for Asian and European visitors to the Philippines. The entity which is located at J. Bocobo St., Manila, has two classes of shares—preference shares and no-par ordinary shares. 5,000 ordinary shares were issued for P85,000. The entry to record the issue of these no-par shares will be: Cash 85,000 Ordinary Shares 85,000 When shares without par value are sold, the proceeds should be credited to. the Ordinary Shares account. Accounting for issuance of preference shares is basically the same as that of ordinary shares. Note, however, that Section 6 of the RCCP prohibits the issue of no-par value preference shares. Issuing No-Par Share Capital with Stated Value Illustration. Suppose that Morning Star Travel’s.no:par ordinary shares have a stated value of P20. The entity issued 5,000 shares at P25 per share. The entry will be: Cash 125,000 Ordinary Shares 125,000 When shares without par value are sold, the proceeds should be credited to the Ordinary Shares account. If the no-par stack has a stated value, the excess proceeds ‘over stated value—in this case, P5 per share, may alternatively be credited to share premium. Cash 125,000 Ordinary Shares Share Premium 100,000 25,000Corporations: Share Capital, Retained Earnings and Financial Reporting | 551 a SUBSCRIPTION OF SHARES There are times when 2 corporation sells its shares directly to investors on a subscription basis. The subscription contract is a legally binding contract which provides for the number of shares subscribed, the subscription price, the terms of payment and other conditions of the transaction. A subscriber becomes a shareholder upon subscription but the stock certificates evidencing ownership over shares of stocks are not issued until the full collection of the subscription. Illustration. Warranty Auto Shop, Inc. is a quality car care center located at St. Paul St., San Antonio Village, Makati City. Assume that 5,000 shares of P10 par value ordinary shares of the corporation were sold on subscription at P12 per share on Sept. 1, 2020 to Ashley Langga. Subscription installments of P24,000 and P36,000 will be due on Sept. 16 and 30, respectively. » The related entries follow: Subscriptions Receivable 60,000 Subscribed Ordinary Shares* 50,000 Share Premium 10,000 To record subscriptions above par. Cash * 24,000 Subscriptions Receivable “ 24,000 To record initial installment. ‘ Cash 36,000 Subscriptions Receivable 36,000 To record final installment. Subscribed Ordinary Shares* 50,000 Ordinary Shares ; 50,000 To record issuance of stock certificates. ‘The subscribed ordinary shares account represents the par value of the subscribed shares. Subscriptions Receivable is a shareholders’ equity’ account. . It is presented in the statement of financial position asa deduction from the related subscribed ordinary shares; however, when it is collectible within one year, this may be shown as a current asset. It is debited for the total proceeds of the subscriptions to the ordinary shares and credited for the collections on the subscriptions. There are instances when a subscriber fails to settle the subscriptions in full on the date specified in the subscription contract or in the “call” made by the board of directors. In such case, the subscribed shares are declared delinquent shares. The usual remedy is to dispose of these shares in a public auction for the account of the delinquent subscriber.552 _| Basic Financial Accounting and Reporting 2021 Edition by Prof. WIN Ballada These shares will be sold to the person who is willing to pay the “offer price” which includes the full amount of the subscription balance plus accrued interest, cost of advertisement and expenses of auction sale in exchange for the smallest number of shares. This person is referred to as the highest bidder. Illustration, Assuming the same facts as above except that the subscriber failed to settle part of his subscriptions in the amount of P48,000. After complying with the legal procedures pertaining to delinquency sale, a public auction was held. The offer price is 56,000 Including P3,000 accrued interest and PS,000 expenses of sale. Three bidders are willing to pay the offer price, namely: . Lenore Loqueloque 4,300 shares tuz Un 4,500 shares Winnie Villanueva 4,700 shares Loqueloque is the highest bidder. The 5,000 shares are deemed’ fully paid. Ashley Langga, the original subscriber, gets 700 shares and Loqueloque receives 4,300 shares. Subscriptions Receivable 60,000 Subscribed Ordinary Shares 50,000 Share Premium + 10,000 To record subscriptions above par. Cash 12,000 Subscriptions Receivable ; 12,000 To record partial intial installment. Receivable from Highest Bidder 3,000 Interest Revenues 3,000 To record accrued interest on delinquent shares. Receivable from Highest Bidder 5,000 Cash . 5,000 To record auction expenses. Cash 56,000 Receivable from Highest Bidder 8,000 Subscriptions Receivable’ 48,000 To record sale at public auction. Subscribed Ordinary Shares 50,000 Ordinary Shares 50,000 ' To record issuance of stock certificates. If there is no bidder, the corporation may bid for the delinquent shares and the total amount due shall be credited as paid in full in the books of the corporation. These shares shall be considered as treasury shares. All the other entries will be the same except for the following: |Corporations: Share Capital, Retained Earnings and Financial Reporting | 553 Treasury Stock 56,000 , Receivable from Highest Bidder 8,000 Subscriptions Receivable 48,000 To record purchase of own shares. A shareholder may be sued directly by creditors to the extent of their unpaid subscriptions to the corporation (Keller vs, COB Marketing, 141 SCRA 86). TREASURY STOCKS Treasury stocks are shares of stock which have been issued and fully paid for, but subsequently reacquired by the issuing corporation either by purchase, redemption, donation or through other lawful means. Such shares may again be disposed of for a reasonable price fixed by the board of directors. Section 40 of the Revised Corporation Code provides that a stock corporation has the power to purchase its own'shares for a legitimate purpose provided it has unrestricted retained earnings. Some of the reasons for the purchase of treasury stock are as follows: (1) to eliminate fractional shares arising out of share dividends; (2) to improve the stock market price by decreasing the supply of shares; (3) to’ pay dissenting, or withdrawing shareholders entitled to payment for their shares. Paragraph 33 of International Accounting Standards (IAS) No. 32, Financial Instruments: Presentation, states: that, if an entity reacquires its own equity instruments, these instruments (‘treasury shares’) shall bé deducted from equity. No gain or loss shall be recognised in profit or loss on the purchase, sale, issue or cancellation of an entity's own equity instruments. Such treasury shares may be acquired and held by the entity or by other members of the consolidated group. Consideration paid or received shall be recognised directly in equity. Treasury stock is not an asset because the corporation may not own shares of itself. To reiterate, it is reported as a deduction from the total shareholders’ equity. There are two methods of accounting for treasury stock transactions, namely: (1) par or stated value method and (2) cost method. In the first method, treasury stock is debited for an amount equal to the par or stated value of the stock reacquired. The cost method is the referred method of accounting for treasury stacks by the Accounting Standards Council as stated in SFAS No. 18, par. 6. Only the cost method will be illustrated. Purchase of Treasury Stock’ When the cost method is used, treasury stock is recorded at cost regardless of whether the share is acquired below or above par or stated value. If treasury stock is purchased for cash, the cost is equal to the cash payment. If the treasury stock is acquired for non- cash consideration, the \cost is usually measured by the recorded amount of the non- cash assets surrendered or given in exchange.554 | Basic Financial Accounting and Reporting 2021 Edition by Prof. WIN Ballada ‘The purchase of treasury shares does not decrease the number of shares issued; only ‘the outstanding shares decrease. The effect of the purchase is to decrease both total /. Treasury stock transactions may affect cash flows assets and total shareholders’ eq but they have no effect on the profit of the corporation. Ilustration. Plantation EcoResort is a world class destination in indang, Cavite. The operations have been successful. To consolidate control over the enterprise and thus avoid a corporate takeover by outsiders, the board of directors decided to minimize outstanding shares by purchasing 1,500 shares with a par value of P1,000 for 2,000. The entry will be: Treasury Stock 3,000,000 3,000,000 Cash To record acquisition of treasury shares. Reissuance of Treasury Stock ‘At Cost, Assume that the treasury shares were subsequently reissued at cost. Cash 3,000,000 + 3,000,000 Treasury Stock To record reissue of treasury shares at cost. Above Cost. Assume that all treasury shares were reissued at P2,500 per share. Cash 3,750,000 Treasury Stock 3,000,000 Share Premium-Treasury 750,000 7 To record reissue of treasury shares above cost. Treasury stock is always debited for the cost of the shares purchased or credited for the cost of the shares reissued. There is no reference to par value. The excess over cost of P750,000 is not regarded as a “gain” but as a component of share premium. Below Cost. Assume that the 1,500 treasury shares were reissued at P1,500 per share. Cash , 2,250,000 z < Retained Earnings 750,000 Treasury Stock 3,000,000 To record reissue of treasury shares below cost. . The excess of the cost over reissue price of P750,000 should be debited. to share premium-treasury to the extent ‘of its. balance. In the absence of any balance .in this account, the “loss” is debited to retained earnings. It is assumed in the above illustration that the share premium-treasury has a zero balance.Corporations: Share Capital, Retained Earnings and Financial Reporting | 555 Retirement of Treasury Stock ‘ The shares purchased may be subsequently retired. The Ordinary Shares account is reduced by its par value. The number of shares issued is reduced by the stock retired. The treasury stock account is credited at cost. Retirement may result in a “gain” or “oss” (note IAS 32, par. 33). With Gain on Retirement. Assume that Plantation EcoResort purchased the treasury shares for P750 per share, Observe that there is a “gain” on retirement if the cost of treasury shares is less than par value. Ordinary Shares (1,500 shs. x P1,000 par) 3,500,000 Share Premium e 375,000 ‘Treasury Stock (1,500 shs. x P750 cost) 41,125,000 To record retirement of treasury shares. With Loss on Retirement. Assume that a total of 10,000 shares have been issued at P1,500 per share prior to the purchase. of treasury shares. Plantation EcoResort purchased 1,500 treasury shares for P2,000 per share; these were not reissued and were ultimately retired, Ordinary Shares (1,500 shs. x P1,000 par) 1,500,000 Share Premium* 750,000 Retained Earnings * 780,000 Treasury Stock (1,500 shs. x P2,000 cost) 3,000,000 To record retirement of treasury shares. A * 1,500 retired shares x (P2,500 issue -P1,000 par)] = P750,000. The “loss” on retirement of P1,500,000 should be debited to the following accounts in the order given: (2) share premium to the extent of the credit when the share is issued; (2) share premium from treasury stock transactions of the same class of share; (2) retained earnings. In relation to the illustration above, the credit to share premium applicable to the 1,500 shares when originally issued was P750,000 [(P1,500 issue - P1,000 par’) x 1,500 shares]. Hence, when the shares are retired the debit to share premium is only to the extent of P750,000. The first priority was satisfied after taking special notice of the limitation. There is no share premium-treasury so the balance of P750,000 was debited to retained earnings. : ( Illustration. Thé accounts below appeared in the trial balance of Jocelyn Cruz Events Managenient Corporation.as at Dec. 31, 2020: : Ordinary Shares, P150 par, 20,000 shares. 2,700,000 authorized, 18,000 shares issued Subscriptions Receivable 170,000SS6_| Basic Financial Accounting and Reporting 2021 Edition by Prof. WIN Ballada Subscribed Ordinary Shares 270,000 Retained Earnings 2,000,000 Share Premium 950,000 Treasury Stock, 1,000 shares, at cost 250,000 Total authorized ordinary shares: 20,000 shs. x P150 = P3,000,000 Js 2. Total unissued ordinary shares: 2,000 shs. x P150 3, Total issued ordinary shares: 18,000 shs. x P150 = P2,700,000 ‘ 4, Ordinary shares subscribed: P270,000 5. Total Shareholders’ Equity: Ordinary Shares 2,700,000 Share Premium 950,000 ‘Subscribed Ordinary Shares 270,000 Less: Subscriptions Receivable 170,000 100,000 Retained Earnings 2,000,000 Total 5,750,000 Less: Treasury Stock 250,000 Total Shareholders’ Equity 5,500,000 Number of shares issued: 18,000 shares ‘Number of shares subscribed: P270,000 / P150 = 1,800 shares ‘Number of treasury shares: 1,000 shares Number of outstanding shares: 18,000 - 1,000= 17,000 shares SUMMARY OF THE EFFECTS ON ASSETS, LIABILITIES AND EQUITY At this point, it is useful to summarize the effects of the basic shareholders’ equity transactions on the elements of the statement of financial position: ders’ Transactions Assets Liabilities Shareholders Equity Issuance of Shares Increase No Effect Increase . Purchase of Treasury Stock Decrease No‘ffect Decrease 7 Reissuance of Treasury Stock Increase No Effect Increase OVERVIEW OF RETAINED EARNINGS Retained éarnings represent the, componént of the shareholders’ equity arising from the retention of assets generated from the profit-directed activities of the corporation. At the end of an accounting period, the Income Summary account of d corporation is closed to the Retained Earnings account. The retained earnings account is credited with the corporation's profit or debited with the loss. The basic source of retained earnings is profit. 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.Corporations: Share Capital, Retained Earnings and Financial Reporting | 557 $$ Other less common situations that cause increases or decreases in retained earnings are as follows: debits resulting from reissuance of treasury stocks below cost and loss on retirement of treasury stocks; and debits or credits for prior period errors. Prior period errors are errors discovered in the current period that are of such significance that the financial statements of one or more prior periods can no longer be considered to have been reliable at the date of their issue. Note that 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 declared as dividends. Retained earnings restrictions may be legal, contractual or voluntary. DIVIDENDS in GENERAL Retained earnings is not a cash fund waiting to be distributed as dividends. Instead, it is an owners’ equity account representing claim on all assets in general and not on any asset in particular. In fact, the corporation may have a sizeable balance in this account but may not have cash to pay a cash dividend. Shareholders are not guaranteed dividends and dividends do not become a liability of the corporation until the board of directors has forinally declared a.dividend distribution. Section 43 of the Corporation Code states that dividends should only be declared out of the unrestricted retained earnings. Thus, dividends cannot be declared out of the legal capital of the corporation for the security of its creditors. Dividends may take the form of cash, property or additional shares of stock of the Corporation. As a general rule, 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. The dectaration and payment of dividends involve three important dates and they are: Date of Declaration On the 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 become a liability on this date. Shares distributable is also recognized. An entry is'made debiting Retained Earnings and crediting a dividend’ liability or Shares‘al Accounting and Reporting 2021 Edition by Prof. WIN Balada Distributable account. Some corporations debit a Dividends Declared account instead of 'e Retained Earnings account. This account is nevertheless closed to the Retaineg Earnings account at the end of the year. Paragraph 10 of IFRIC 17 provides that the liability to pay a dividend shall be recognizeg when the dividend is appropriately authorized and is no longer at the discretion of the entity, which is the date: (a) when declaration of the dividend, eg. by management or the board of directors, is the shareholders, if the jurisdiction requires approved by the relevant authority, such approval, or {b) when the dividend is declared, e.g. by management or the board of directors, ifthe jurisdiction does not require further approval. (Author's Note: this is the one applicable in our jurisdiction.) IFRIC 17 Distributions of Non-cash Assets to Owners was developed by the International Financial Reporting Interpretation Committee and issued by the International Accounting Standards Board in November 2008. Its effectivity date is 1 July 2009. Date of Record A list of shareholders entitled to the declared di record. if an investor buys a share of stock after this date, he will not receive the dividend. The share is said to be traded ex-dividend. No entry is required on this date. idends is prepared at the date of 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. In declaring cash dividends, a corporation must have both an appropriate amount of retained earnings and the necessary amount of cash. Some investors view that a large retained earnings balance automatically permits generous dividend distributions. A corporation, however, may successfully accumulate earnings and at the same time not be sufficiently liquid to pay large dividends. Many corporations, especially new firms in growth industries, finance their expansion from assets generated through earnings and © pay out small cash dividends or none at all. 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Corporations: Share Capital, Retained Earnings and Financial Reporting | 559 CT board of directors declares a cash dividend, an entry is made debiting Retained Earnings and crediting Cash Dividends Payable. Illustration. Made Easy Bookstore, Inc., a nationally-known business books distribution entity, declared a cash dividend of P12 per share of ordinary shares on July 1. The dividends are payable on August 1 to shareholders of record on July 21. The entity 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 Earnings* 1,116,000 Cash Dividends Payable 1,116,000 To record declaration of dividend. * P12 per share (100,000 issued shares ~ 7,000 treasury shares) = P1,116,000, The account, Cash Dividends Declared, 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. Note that cash dividends decrease total assets and total shareholders’ equity. It is worthwhile to reiterate that with the exception of treasury shares, all issued and fully paid shares, and all subscribed par value shares are entitled to dividends when declared. The subscribed shares must be par value shares. 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 di SHARE DIVIDENDS A corporation may distribute to shareholders additional shares of the entity's own share as share dividends. Share dividends or bonus issues are fundamentally different from cash or property dividends because share dividends do not transfer assets to the shareholders. 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. The accounting entries depend'upon the size of the share dividend.560. | Basic Financial Accounting and Reporting 2021 Edition by Prof. WIN Ballada ‘Small Share Dividends ‘Small share dividends are dividends in which the additional shares issued are.less than 20% of the previously outstanding shares. . These share dividends are 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. : Mlustration. Siobe! Your Japanese Fastfood, Inc. chain is blessed with years of profitable operations for its commitment to serve affordable and healthy Japanese food favorites. The shareholders’ equity before declaration of a 10% share dividend is as follows: Ordinary Shares, P50 par, 20,000 shares E issued and gutstanding 1,000,000 Share Premium . 200,000 Total Share Capital 1,200,000 Retained Earnings ‘650,000 P1,850,000 ‘Total Shareholders’ Equity The declaration of 2 10% share dividend will require the issuance of an additional 2,000 shares, Assume that the corporation’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 the 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. When the share is distributed, only the components of the shareholders’ equity changes; retained earnings decreased by P220,000 (P650,000 minus P430,000) and total share capital increased by P220,000 (P1,420,000 minus P1,200,000). , The total shareholders’ equity did not change. yCorporations: Share Capital, Retained Earnings and Financial Reporting | S64 A comparison of the shareholders’ equity and outstanding shares before and after the share dividend appears below: Ordinary Shares, P50 par, 20,000 shares issued and outstanding Share Premium Total Share Capital , Retained Earnings Total Shareholders’ Equity + Shares Issued and Outstanding The receipt of a share dividend does not alter the relative position of a shareholder. Ifa 10% share dividend is distributed, all shareholders increase their proportionate holdings * by 10%, and the total share outstanding is increased by the same proportion. No profit is realized by the shareholders. Large Share Dividend If the share dividend is 20% or more of the previously dutstanding shares such that thé 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. Mlustration. Assume instead that Siobe! Your Japanese Fastfood, Inc. chain declared a 20% share dividend on its 20,000 issued and outstanding PSO par value shares. The corporation will issue additional 4,000 shares due to the share dividend. The entries will Before After Increase Dividends. Dividends (Decrease) 1,000,000 1,100,000 P100,000 200,000 320,000" _ 120,000 1,200,000" . P1,420,000 . P220,000 650,000 , 430,000 __(220,000) 1,850,000 __P1,850,000 : 20,000 22,000 2,000 be: ' Retained Earnings 200,000 Shares Distributable 200,000 To record declaration of 20% share dividends. Shares Distributable 200,000 Ordinary Shares 200,000 Torecord issuance of share dividends. The account titles used to record a large share dividend are the same as those for small share dividends. Note.though, that the balance in the account—Share Premium remained the same; this is because large share dividends are recorded at par value.562 | Basic Financial Accounting and Reporting 2021 Ealtion by Prof. WIN Ballada Before After Increase . Dividends Dividends (Decrease) Ordinary Shares, P50 par,’20,000 P1,000,000 1,200,000 —_P200,000 shares issued and outstanding Share Premium Total Share Capital Retained Earnings 650,000 200,000_,.’_ 200,000 z 1,200,000 1,400,000 200,000 450,000 __ (200,000) Total Shareholders’ Equity 1,850,000 _P1,850,000 : Shares Issued and Outstanding 20,000 24,000 4,000 SUMMARY OF THE EFFECTS OF DIVIDENDS The following table summarizes and compares the effects of various types of dividends on various elements of the financial statements: Declaration Paymentof Declaration and Distribution of of Cash Cash ‘SmallShare Large Share Rect Ore Dividends Dividends fends Dividends Retained Earnings Decrease : Decrease? Decrease? Ordinary Shares - = Increase? Increase? ‘Share Premium : : Increase® = Total Shareholders’ Equity Decrease = : Total abilities Increase Decrease 5 - Total Assets i Decrease zi = ! Shares Outstanding - —_ Increase Increase in excess of par or stated value Legend: a= far market value of shares; STATEMENT OF RETAINED EARNINGS * This statement is not required per revised International Accounting Standards (IAS) No. 1. The required financial statements were enumerated in an earlier chapter. A retained earnings statement is normally divided into two major sections: + Appropriated. This section presents the beginning balance of the retained eatnings appropriated account, any additions or deductions during the period, and ending balance. + Unappropriated. This section shows the beginning balance of the retained earhings Uunappropriated account, correction of prior period error, profit or loss for the period, dividends,. transférs to. and from the appropriated and unappropriated accounts, and the ending balance.Corporations: Share Capital, Retained Earnings and Financial Reporting | 563 The statement concludes with the total retained earnings as of the end of the period. ‘An example of a retained earnings statement follows: Dynasty BookSoirce Asia Corporation Statement of Retained Earnings For the Year Ended Dec. 31, 2020 Appropriated: : ; Balance, 1/1/2020, as reporte For Plant Expansion P. 180,000 For Treasury Stocks, 4/8/2020 100,000 Retained Earnings Appropriated, 12/31/2020. 280,000 Unappropriated: Balance, 1/1/2020, as previously reported P4,414,500 Correction of Prior period error 100,000 Balance, 1/1/2020, as restated P1,514,500 Add: Profit 480,000 Total P1,994,500 Less: Cash Dividends Declared P 65,000 Share Dividends Declared 60,000 Transfer to Approp. for Treasury Stocks ‘100,000 225,000 Retained Earnings Unappropriated, 12/31/2020. 1,769,500 Total Retained Earnings 2,049,500 STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY Significant changes in shareholders’ equity should be reported in the period in which they occur. The statement of changes in shareholders’ equity may be prepared in columnar format, where each ‘column represents a major shareholders’ equity classification. The statement for SuySan Corporation follows: SuySan Property Corporation Statement of Changes in Shareholders’ Equity For the Year Ended December 31, 2020 Preference Ordinary Share ‘Unapprop.’ Approp. ‘Treasury ‘Total Shares SharesP10:Premium- Retained Retained Preference 100 Par Par °. ‘Ordinary Eamings Earnings Shares Balance, Jan. 1 500,000 1,000,900." 300,000," PIs0,000 . - ? 1,980,000 Profi 85,000 85,000 Cash Dividends on a Preference (25,000) (25,000) ash Dividends on . ' Ordinary ot (40,000) (40,000) Issue of Ordinary, 5,000 shares 2° 80g00, 5,000 55,000564 | Basic Financial Accounting aid Reporting 2021 Edition by Prof. WIN Ballada ¥ '5% Share Dividend ‘on Ordinary, 5,250 shares* 52500 26250 (78,750) Purchase of Treasury Stock : (30,000) (30,000) Appropriation for 3 Treasury Stock (20,000) . _ 30,000 Balance, Dec. 31 _P500,000 ‘The far market value ofthe ordinary shares at the date of declaration is P1S per share, 1,102,500 _P33,250 61,250 30,000 _P(30,000)_ 1,995,000 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: Shareholders’ Equity Share Capital Preference Shares—P100 par, 10,000 shares P 500,000 authorized, 5,000 shares issued and 4,750 shares outstanding . Ordinary Shares—P10 par, 150,000 shares authorized, 110,250 shares issued and outstanding Share Premium—Ordinary 1,102,500 1 331,250 __ 1,433,750 Total Share Capital P1,933,750 Retained Earnings ‘ Unappropriated P 61,250 Appropriated for Treasury Stock 91,250, Total Share Capital and Retained Earnings 2,025,000 Less: Treasury—Preference, 250 shares at cost —— 30,000 1,995,000 Total Shareholders’ Equity