ACCOUNTING FOR

COMPANIES

BCM 1204: ACCOUNTING IN BUSINESS II

 INTENDED LEARNING
OUTCOMES
• Understand the capital structure of a company.
• Compare and contrast a Company and other forms of business
• Prepare financial statements for a limited liability company and
understand the true and fair view requirements
• Understand the nature of reserves.
• Understand issue of share capital.

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 INTRODUCTION
• A company is a form of business formed by a group people called
the promoters. Once formed, the law recognizes the company as a
legal person separate from the owners by all means.
• This means that it can sue or be sued in its own name; it can borrow
funds in its own name or even enter into contract in its own name.
This concept is sometimes referred to as the veil of incorporation.
• A company is greater in size and complexity than either the sole
proprietorship or the partnership
• It’s also a more recent form of business. It actually came into
existence after the partnership in an effort to cover the shortfalls
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of a
partnership form of business.
FACTORS DISTINGUISHING
COMPANIES
• Separate legal entity concept: the company is a separate
entity in law
• Separation of the ownership (shareholders) from the
management (directors) of the company
• Limited liability of shareholders for the debts of a
company. Generally speaking, their liability will be limited to
any portion of the nominal value of shares which is unpaid.
• Formalities required. These vary from country to country
but frequently require public availability of financial
statements and annual audit by qualified auditors.
 TYPES OF LIMITED
LIABILITY COMPANY

• Public Limited Company: The company can offer its shares to the
public and its shares which are traded on the securities exchange.
• The company name must end with "public limited company“ or “plc.”
• They can invite the members of the public to invest in their ownership
• Private Limited Company: The company may only offer shares to
business associates, friends and family.
• Being private, they cannot invite the members of the public to invest
in their ownership.
• Shares will not be traded on the securities exchange. The company
name will end with "limited" or “ltd”

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 REGULATORY FRAMEWORK FOR
LISTED COMPANIES
• The listed companies are regulated by Kenya Companies Act of
2015. The Act guides listed companies in the preparation and
publication of final accounts.
• Kenya Companies Act sets out the general framework for
accounting and reporting by all the listed companies and stipulates
the minimum requirements with regard to financial reporting.
• The Company Act requires all the listed companies to prepare
proper books of account that give a true and fair view of the state of
company. affairs and transactions
• The Act requires annual financial statements to contain profit and
loss account, balance sheet, statement of cash flow, statement of
changes in equity, directors report, and auditors report in line with
the prescribed accounting standard. 6
 Continuation…
• Kenya adopted International Financial Reporting Standards
(IFRS) from the International Accounting Standards Board
(IASB) in 1999 to enhance transparency and uniformity in
corporate reporting.
• All public companies’ shares are traded on the Securities
Exchange (NSE). NSE It offers a world class trading facility
for local and international investors looking to gain exposure to
Kenya and Africa’s economic growth.
• NSE is playing a vital role in the growth of Kenya’s economy
by encouraging savings and investment, as well as helping
local and international companies access cost-effective capital.
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 Continuation…
• The ones that are traded are known as ‘listed companies’ meaning
that their shares have prices quoted (i.e. quoted shares) on the NSE
• They have to comply with Nairobi Securities Exchange requirement.
• NSE operates under the jurisdiction of the Capital Markets Authority
of Kenya.
• The Capital Markets Authority is the Government Regulator charged
with licensing and regulating the capital markets in Kenya.
• It also approves public offers and listings of securities traded at the
Nairobi Securities Exchange.
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 Means of funding/sources of
finance
• Share Capital
• Loan stock and bonds
• Reserves

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 SHARE CAPITAL

• To become an owner of any company a person must have

contributed to its capital.
• To facilitate this the total capital required by the company
is divided into small units or shares. One becomes a
member of a company (shareholder) by purchasing one or
more of the shares.
• Share capital is thus the capital raised from members of
the company. As expected shareholders expect return on
their capital/investment.
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 Types of Share Capital

• The share capital is the capital of a company which

is divided into preference and ordinary shares
which are then bought and owned by the
shareholders.
• There are two main types of share capital
• Preference Shares
• Ordinary Shares
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 Preference Shares
• Preference shares are shares which confer certain
preferential rights on their holder.
• They usually do not have voting rights
• Preference shares are entitled to a fixed percentage of
dividends before any ordinary dividends are paid
• receive their dividends of profit before the ordinary share
dividend (higher priority).
• receive capital before ordinary shareholders in the event the
company is closed down.

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 Classification of preferences

• Preference shares may be classified in one of two

ways.
• Redeemable
• Irredeemable

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 Redeemable preference shares

• mean that the company will redeem (repay) the nominal

value of those shares at a later date. For example,
'redeemable 5% $1 preference shares 20X9' means that
the company will pay these shareholders $1 for every
share they hold on a certain date in 20X9.
• The shares will then be cancelled and no further dividends
paid. Redeemable preference shares are treated like loans
and are included as non-current liabilities in the statement
of financial position.
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 Irredeemable preference shares

• Irredeemable preference shares are treated just

like other shares. They form part of equity and their
dividends are treated as appropriations of profit.

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 Ordinary shares

• Ordinary shares are by far the most common type of

shares. They carry no right to a fixed dividend but are
entitled to all profits left after payment of any preference
dividend. Generally, however, only a part of such remaining
profits is distributed, the rest being kept in reserve.
• Ordinary shares are shares which are not preferred with
regard to dividend payments. Thus a holder only receives a
dividend after fixed dividends have been paid to preference
shareholders

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 Ordinary Shares

• The dividends of ordinary shares are not fixed.

They depend on the return of the company
• Ordinary shareholders are paid only after all other
claim (e.g. loan interest and preference share
dividends) have been met
• Ordinary shareholders usually have voting rights

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 Loans stock and bonds

• Limited liability companies may issue loan stock or

bonds. These are long-term liabilities.
• In some countries they are described as loan capital
because they are a means of raising finance, in the same
way as issuing share capital raises finance.

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 Difference between share capital and
loan capital
• Shareholders are members of a company, while providers of loan
capital are creditors.
• Shareholders receive dividends (appropriations of profit) whereas
the holders of loan capital are entitled to a fixed rate of interest
(an expense charged against revenue).
• Loan capital holders can take legal action against a company if
their interest is not paid when due, whereas shareholders cannot
enforce the payment of dividends.
• Loan stock is often secured on company assets, whereas shares
are not.

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 Continuation…

• The holder of loan capital is generally in a less

risky position than the shareholder.
• They have greater security, although their income
is fixed and cannot grow, unlike ordinary
dividends.
• As remarked earlier, preference shares are in
practice very similar to loan capital, not least
because the preference dividend is normally fixed.
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 Reserves

• Reserves are profits or gains which accrue to

ordinary shareholders
• They are undistributed profits which have been
retained within the company
• There are two types of reserves:
• Revenue reserves
• Capital reserves

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 Revenue reserves

• They are undistributed trading profits

• They can be used to pay dividends
• E.g. the balance on the profit and loss account and
general reserve

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 Capital reserves

• They are gains or profits arising from non-trading

or non-operating activities
• They are not available for distribution as dividends
• E.g. Share premium, revaluation reserve, capital
redemption reserve and debenture redemption
reserve

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 Share premium

• When a company issues shares at a price above par, the excess

amount is called share premium
• The reserve is restricted to be used in the following ways:
• To write off preliminary expenses
• To write off expenses of issuing shares
• To write off commission paid and discounts on shares
• To pay up a bonus issue
• To provide premium on redemption of debentures
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 Revaluation reserve

• This is the unrealized gain from an increase in the

value of an asset after revaluation.

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 Capital redemption reserve and
Debenture redemption reserve

• This arises as a result of a company redeeming its

shares or loan bonds/debentures by using its
retained profits

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 Capital Structure

• Authorized (or legal) capital is the maximum

amount of share capital that a company is
empowered to issue. The amount of authorized
share capital varies from company to company, and
can change by agreement.
• Issued capital is the par amount of share capital
that has been issued to shareholders. The amount of
issued capital cannot exceed the amount of
authorized capital.
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 Capital Structure
• Called-up capital. When shares are issued or allotted, a
company does not always expect to be paid the full amount
for the shares at once. It might instead call up only a part of
the issue price, and wait until a later time before it calls up
the remainder.
• Paid-up capital. Like everyone else, investors are not
always prompt or reliable payers. When capital is called up,
some shareholders might delay their payment (or even
default on payment). Paid-up capital is the amount of called-
up capital that has been paid.

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Financial Statements of
Public Limited
Companies

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 Presentation of financial
statements
• IAS 1 lists the required contents of a company's
financial statements. It also gives guidance on how
items should be presented in the financial statements.
• A complete set of financial statements includes a
statement of financial position, a statement of profit
or loss and other comprehensive income, a statement
of changes in equity, a statement of cash flows and
disclosure notes.

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 IAS 1 Presentation of financial
statements
• A complete set of financial statements includes the
following.
• Statement of financial position
• Statement of profit or loss and other comprehensive income
(either as a single statement or as two separate statements: the
statement of profit or loss and the statement of other
comprehensive income)
• Statement of changes in equity
• Statement of cash flows
• Notes, including a summary of significant accounting policies
and other explanatory information
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 Ledger accounts and limited liability
companies
• Limited companies keep ledger accounts.
• The only difference between the ledger accounts of
companies and sole traders is the nature of some of the
transactions, assets and liabilities for which accounts need
to be kept.
• For example, there will be an account for each of the
following items.

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 Taxation
• For example, there will be an account for each of the following
items.
• Tax charged against profits will be accounted for by:
Dr. I/S
Cr. Taxation payable account
The outstanding balance on the taxation payable account will be a
liability in the statement of financial position, until eventually paid, when
the accounting entry would be:
Dr. Taxation payable account
Cr. Cash account
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Dividends

• A separate account will be kept for the dividends

for each different class of shares (e.g.
unredeemable preference, ordinary).
• Dividends declared out of profits will be disclosed in the
notes if they are unpaid at the year end.
• When dividends are paid, we have:
Dr. Dividends paid account
Cr. Cash

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 Loan stock

• Loan stock being a long-term liability will be shown as a

credit balance in a loan stock account.
• Interest payable on such loans is not credited to the loan
account, but is credited to a separate payables account for
interest until it is eventually paid: i.e.
Dr. Interest account (an expense, chargeable against profits)
Cr. Interest payable (a current liability until eventually
paid)
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Share capital and reserves

• There will be a separate account for:

• Each different class of share capital (always a credit
balance b/d)
• Each different type of reserve (always a credit balance
b/d)

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Finance costs

• Finance costs mean interest paid. They include

interest on bank loans, the loan stock interest and
the dividend paid on redeemable preference shares.
The entries are exactly the same.
Dr. Interest account (an expense, chargeable
against profits)
Cr. Interest payable (a current liability until
eventually paid)
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Statement of profit or loss and other comprehensive income

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Statement of changes in equity

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 XX Ltd. Company
Statement of financial position as at 31 Dec XXXX
Non-current Assets Cost Dep Net
Machinery X X X
Furniture X X X
X X X
Current Assets
Stock X
Debtors X
Bank X
X
Less: Current Liabilities
Creditors X
Debenture interest accrued X
Provision for taxation X
Working Capital X
X
Financed by:
Share Capital Authorized Issued
XXXX Ordinary Shares of $1 each X X
XXXX 8%Preference Shares of $1 each X X
X 40 X
No. of shares Par value
Reserves
Share Premium X
General Reserve X
Retained profit c/d X
X
Long-term Liabilities
10% Debentures X
X

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 IAS 1 minimum requirements

• As a minimum, IAS 1 requires the following items

to be disclosed on the face of the statement of
profit or loss and other comprehensive income.
Revenue
• There are important rules on revenue recognition
and these are the subject of IFRS 15 Revenue
recognition.

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IAS 1 minimum requirements

Cost of sales
•This represents the summary of the detailed
workings we have used in a sole trader's financial
statements.
Expenses
•Notice that expenses are gathered under a number of
headings. Any detail needed will be given in the notes
to the financial statements.
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IAS 1 minimum requirements
Managers' salaries
•The salary of a sole trader or a partner in a partnership is
not a charge to the statement of profit or loss but is an
appropriation of profit.
•The salary of a manager or member of management
board of a limited liability company, however, is an
expense in the statement of profit or loss, even when the
manager is a shareholder in the company.
• Management salaries are included in administrative
expenses.
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IAS 1 minimum requirements

Finance cost
•This is interest payable during the period.
Remember (from the previous slides) that this may
include accruals for interest payable on loan stock.

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 Taxation

• Taxation affects both the statement of financial position and

the statement of profit or loss.
• All companies pay some kind of corporate taxation on the
profits they earn, which we will call income tax in line with
the terminology in IAS 1, but which you may find called
'corporation tax'.
• The rate of income tax will vary from country to country.
There may be variations in rate within individual countries
for different types or size of company
• Note that because a company has a separate legal
personality, its tax is included in its accounts

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 Treatment for taxation

a) The charge for income tax on profits for the

year is shown as a deduction from profit for the
year.
b) In the statements of financial position, tax
payable to the Government is generally shown as
a current liability, as it is usually due within 12
months of the year end.

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 Gains on property revaluation

• Gains on property revaluation arise when a

property is revalued.
• The revaluation is recognized in the other
comprehensive income part of the statement of
profit or loss and other comprehensive income and
shown in the statement of changes in equity as a
movement in the revaluation surplus.

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THANK YOU

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