3/23/2011
Topic list
1. Share capital
2. Capital paid-in in excess of par value (share
premium)
Shareholders’ Equity
3. Revaluation surplus
4. Retained earnings/(losses)
5. Other reserves
1. Share capital
The proprietors' capital in a limited liability company
consists of share capital.
The 'face value' of the shares is called their par value
or legal value (or sometimes the nominal value).
The amount at which the shares are issued may exceed
their par value is described not as share capital, but as
share premium or capital paid-up in excess of par
value.
The share premium account
A share premium account is an account into which
sums received as payment for shares in excess of their
nominal value must be placed (capital paid-in in
excess of par value).
The share premium account cannot be distributed as
dividend under any circumstances.
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Example
If X Co issues 1,000 $1 ordinary shares at $2.60 each the
book entry will be:
$
$
DEBIT Cash
2,600
CREDIT Ordinary shares
1,000
Share premium account
1,600
Authorized, issued share capital
(a) 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.
Ordinary shares and preferred shares
(b) 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.
Preferred shares are shares which confer certain
preferential rights on their holder.
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 preferred shareholders.
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(a) Preferred shareholders have a priority right
over ordinary shareholders to a return of their
capital if the company goes into liquidation.
(b) Preferred shares do not carry a right to vote.
(c) If the preferred shares are cumulative, it
means that before a company can pay an
ordinary dividend it must not only pay the
current year's preferred dividend, but must also
make good any arrears of preferred dividends
unpaid in previous years.
EXAMPLE
SOLUTION
The market value of shares
Profit after tax
8,400
Preferred dividend (7% of $1 × 20,000)
1,400
Earnings (profit after tax and preference dividend)
7,000
Ordinary dividend (50% of earnings)
3,500
Retained profit (also 50% of earnings)
3,500
The ordinary dividend is 7 cents per share ($3,500 ÷ 50,000 ordinary
shares).
The appropriation of profit would be shown as follows:
$
$
Profit after tax
8,400
Dividends:
preferred
1,400
ordinary
3,500
4,900
Retained profit
3,500
Garden Gloves Co has issued 50,000 ordinary shares
of 50 cents each and 20,000 7% preference shares of
$1 each. Its profits after taxation for the year to 30
September 20X5 were $8,400. The management
board has decided to pay an ordinary dividend (ie a
dividend on ordinary shares) which is 50% of profits
after tax and preferred dividend.
Required
Show the amount in total of dividends and of
retained profits, and calculate the dividend
per share on ordinary shares.
There are certainly no accounting entries to be made
for the transfer of existing shares (changing the register
of members only)
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2. Revaluation surplus
The result of an upward revaluation of non-current
assets is a 'revaluation surplus'. This is
non-distributable as it represents unrealized
profits on the revalued assets. It is another
capital reserve.
The revaluation surplus may fall, however,
if an asset which had previously been revalued
upwards suffered a fall in value in the next
revaluation.
3. Reserves
(a) Statutory reserves, which are reserves which a
company is required to set up by law, and which are
not available for the distribution of dividends
(b) Non-statutory reserves, which are reserves
consisting of profits which are distributable as
dividends, if the company wishes
Example
Profits are transferred to these reserves by making an
appropriation out of profits, usually profits for the year.
Typically, you might come across the following.
$
$
Profit after taxation
100,000
Appropriations of profit
Dividend
60,000
Transfer to general reserve
10,000
70,000
Retained profit for the year
30,000
Retained earnings b/f
250,000
Retained earnings c/f
280,000
Retained earnings
This is the most significant reserve and is variously
described as:
(a) Retained earnings (as in IAS 1)
(b) Revenue reserve
(c) Retained profits
(d) Accumulated profits
(e) Undistributed profits
(f) Unappropriated profits
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Distinction between reserves and
provisions
A reserve is an appropriation of distributable profits
for a specific purpose (eg plant replacement) while
a provision is an amount charged against revenue
as an expense.
A provision (allowance) relates either to a
diminution in the value of an asset (eg doubtful
debts) or a known liability (eg audit fees), the
amount of which cannot be established with any
accuracy.
At the end of an accounting year, a company's
managers may have proposed a final dividend
payment, but this will not yet have been paid.
This means that the final dividend should be
appropriated out of profits and shown as a
current liability in the balance sheet.
Note that only dividends declared by the balance
sheet date are included. Under IAS 10 dividends
declared after the balance sheet are nonadjusting and are disclosed by way of note.
4.
Dividends
Dividends are appropriations of profit after tax. Many
companies pay dividends in two stages during the course
of their accounting year.
(a) In mid year, after the half-year financial results are
known, the company might pay an interim dividend.
(b) At the end of the year, the company might pay a
further final dividend.
Example
A company has authorized share capital of 1,000,000 50c
ordinary shares and an issued share capital of 800,000
50c ordinary shares. If an ordinary dividend of 5% is
declared, what is the amount payable to shareholders?
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The terminology of dividend payments can be expressed
either in the form, as 'x cents per share' or as 'y%.
If the managers wish to pay a dividend of $5,000, they
may propose either:
(a) a dividend of 5c per share (100,000 × 5c = $5,000); or
(b) a dividend of 10% (10% × $50,000 = $5,000).
Revision
Accounting process
Cash and receivables
Inventories
Fixed assets
Shareholders’ equity
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... preference dividend) 7,000 Ordinary dividend (50 % of earnings) 3 ,50 0 Retained profit (also 50 % of earnings) 3 ,50 0 The ordinary dividend is cents per share ($3 ,50 0 ÷ 50 ,000 ordinary shares) The appropriation... managers wish to pay a dividend of $5, 000, they may propose either: (a) a dividend of 5c per share (100,000 × 5c = $5, 000); or (b) a dividend of 10% (10% × $50 ,000 = $5, 000) Revision Accounting process... after tax 8,400 Dividends: preferred 1,400 ordinary 3 ,50 0 4,900 Retained profit 3 ,50 0 Garden Gloves Co has issued 50 ,000 ordinary shares of 50 cents each and 20,000 7% preference shares of $1 each