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TENTH CANADIAN EDITION INTERMEDIATE ACCOUNTING Prepared by: Lisa Harvey, CPA, CA Rotman School of Management, University of Toronto CHAPTER 15 Shareholders’

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Presentation on theme: "TENTH CANADIAN EDITION INTERMEDIATE ACCOUNTING Prepared by: Lisa Harvey, CPA, CA Rotman School of Management, University of Toronto CHAPTER 15 Shareholders’"— Presentation transcript:

1 TENTH CANADIAN EDITION INTERMEDIATE ACCOUNTING Prepared by: Lisa Harvey, CPA, CA Rotman School of Management, University of Toronto CHAPTER 15 Shareholders’ Equity Kieso Weygandt Warfield Young Wiecek McConomy

2 CHAPTER Copyright © John Wiley & Sons Canada, Ltd. 15 After studying this chapter, you should be able to: Discuss the characteristics of the corporate form of organization, rights of shareholders, and different types of shares. Explain how to account for the issuance, reacquisition, and retirement of shares, stock splits, and dividend distribution. Understand the components of shareholders’ equity and how they are presented. Understand capital disclosure requirements. Calculate and interpret key ratios relating to equity. Identify the major differences in accounting between ASPE and IFRS, and what changes are expected in the near future. SHAREHOLDERS’ EQUITY 2

3 3 Copyright © John Wiley & Sons Canada, Ltd. Shareholders’ Equity Understanding the Corporate Form, Share Capital and Profit Distribution Corporate law and the share capital system Types of shares Limited liability of shareholders Formality of profit distribution Presentation, Disclosure, and Analysis Components of shareholders’ equity Capital disclosures Analysis Recognition, Derecognition, and Measurement Issuance of shares Reacquisition and retirement of shares Dividends IFRS/ASPE Comparison Comparison of IFRS and ASPE Looking Ahead

4 4 Copyright © John Wiley & Sons Canada, Ltd. Primary Forms of Business Organization Proprietorship Partnership Corporation Not-for-profit No shares issued; created to provide services for members or society Profit-oriented Engaged in making financial returns for their owners Shares publicly traded Shares privately held Private Sector Public Sector Crown Created by government statute to provide public services Municipalities, Cities, Etc.

5 5 Copyright © John Wiley & Sons Canada, Ltd. Corporate Law Articles of Incorporation Corporation Charter Issued Corporation Recognized as Legal Entity

6 6 Copyright © John Wiley & Sons Canada, Ltd. Corporate Law The Canada Business Corporation Act (CBCA) is a relevant business corporation act –Provincial business corporation acts also exist but vary from province to province Articles of incorporation prepared and submitted –Company name –Location of registered office –Classes and authorized shares –Share transfer restrictions (if any) –Directors –Business restrictions

7 7 Copyright © John Wiley & Sons Canada, Ltd. Share Capital System Shares grouped by “class” (e.g. Class A Common) –Within each class, each share equal Each share contains certain rights and privileges Ease of transfer of ownership –Advantage to both issuing corporation and investor –Share becomes more attractive investment

8 8 Copyright © John Wiley & Sons Canada, Ltd. Share Capital System As a minimum each share has these basic or inherent rights 1.To share proportionately in profits and losses 2.The right to vote for directors 3.To share proportionately in assets upon liquidation Preemptive right for any new share issues can also be assigned under CBCA

9 9 Copyright © John Wiley & Sons Canada, Ltd. Types of Shares Common Shares Represent basic ownership interest Represents residual ownership interest - have ultimate risk of loss and benefit from success Dividends or assets on dissolution are not guaranteed True advantage is in the right of Common Shares to ultimately control by way of voting

10 10 Copyright © John Wiley & Sons Canada, Ltd. Types of Shares Preferred Shares Certain inherent rights given up or exchanged for other special rights or privileges Preference given on –Dividends (usually at a stated rate) –Claim to assets on dissolution Preferred shares features (some or all may be attached to a preferred share) –Cumulative  Callable/redeemable –Convertible  Retractable –Participating

11 11 Copyright © John Wiley & Sons Canada, Ltd. Types of Shares Preferred Shares Features Cumulative: Dividends in arrears must be paid before any profits can be distributed to common shareholders Convertible: The company or holder can exchange the shares for common shares at a predetermined ratio Callable/Redeemable: The issuing company can “call” at its option the preferred shares at specified future dates at stipulated prices Retractable: The holders can “put” (or sell) their shares to the company Participating: Holders can participate with common shareholders in any profit distributions higher than the prescribed rate

12 12 Copyright © John Wiley & Sons Canada, Ltd. Limited Liability Limited Liability of Shareholders –Unlike partnership or proprietorship form of business –Shareholders not generally liable for the obligations of the corporation Shareholders losses restricted to the amount invested in the corporate shares

13 13 Copyright © John Wiley & Sons Canada, Ltd. Formality of Profit Distribution No amounts may be distributed unless corporate capital is maintained intact Under the CBCA: 1.There needs to be sufficient capital after the dividend to pay liabilities as they are due 2.The realizable value of the corporate assets does not fall below the total of the liabilities and the stated and legal capital for all classes of shares Formal approval of the Board of Directors required Dividends must be in full agreement with share capital contracts Before declaration of a dividend, management should consider availability of funds to pay the dividend

14 14 Copyright © John Wiley & Sons Canada, Ltd. Shareholders’ Equity Understanding the Corporate Form, Share Capital and Profit Distribution Corporate law and the share capital system Types of shares Limited liability of shareholders Formality of profit distribution Presentation, Disclosure, and Analysis Components of shareholders’ equity Capital disclosures Analysis Recognition, Derecognition, and Measurement Issuance of shares Reacquisition and retirement of shares Dividends IFRS/ASPE Comparison Comparison of IFRS and ASPE Looking Ahead

15 15 Copyright © John Wiley & Sons Canada, Ltd. Share Issue - Basic Full amount of proceeds received is credited to the respective share capital account (preferred/common/class type) 500 common shares are sold for $10.00 each (issuance costs not included in this transaction). The journal entry is: Cash5,000 Common Shares5,000

16 16 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis Shares are sold, with “instalment” payments Shares are not issued, and any rights are not given (e.g., voting, dividends) until the full subscription price is received Dividends may be attached to some subscription shares, once the initial payment is received

17 17 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis Accounts in share subscription transaction –Common Shares Subscribed Set up a separate one for each type/class of share An equity account, reported below the respective share capital account –Subscriptions Receivable Normally considered a current asset May be reported as a contra account to the Shares Subscribed account in equity section –Share Capital Credited only when the subscription is paid in full, or settled in some other manner in the case of default

18 18 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis 500 shares are sold on subscription for $20 each. 50% is due as initial payment. The initial journal entries would be: Subscriptions Receivable10,000 Common Shares Subscribed10,000 Cash 5,000 Subscription Receivable 5,000

19 19 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis If all payments are made as scheduled, the entries would be: Cash 5,000 Subscription Receivable 5,000 Shares Subscribed 10,000 Share Capital10,000

20 20 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis If a subscription contract is defaulted there are generally three possible consequences: –Funds paid to date are refunded, often with a deduction for expenses, and the balance of the contract is cancelled –Funds paid to date are forfeited transferring it to the Contributed Surplus account, with no refund or shares being issued; balance of the contract is cancelled –Shares are issued for the amount paid to date, with the balance of the contract cancelled

21 21 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis Default after first payment – funds refunded with no penalty. Default after first payment – shares issued for amount paid. Shares Subscribed10,000 Accounts Payable (or Cash)5,000 Subscription Receivable5,000 Shares Subscribed10,000 Share Capital5,000 Subscription Receivable5,000

22 22 Copyright © John Wiley & Sons Canada, Ltd. Shares Sold on a Subscription Basis Default after first payment – funds held by corporation Shares Subscribed10,000 Subscription Receivable5,000 Contributed Surplus5,000

23 23 Copyright © John Wiley & Sons Canada, Ltd. Shares Issued With Other Securities When two or more classes of shares are sold for a lump sum Accounting problem is the allocation of the funds received to the respective share classes Two methods available –Proportional method (relative market value method) –Incremental method

24 24 Copyright © John Wiley & Sons Canada, Ltd. Accounting for Share Issue Costs Direct incremental costs incurred to sell shares include legal fees, accounting fees, underwriter fees & commissions, printing and mailing costs, taxes, etc. These amounts are considered to be capital transactions (rather than operating transactions) and therefore should not be included in net income calculation Accounting treatment: debit to Share Capital

25 25 Copyright © John Wiley & Sons Canada, Ltd. Accounting for Share Issue Costs Reduction of the amount paid in 1,000 shares sold for $10.00 each, with $500 in issue costs Cash9,500 Share Capital 500 Share Capital10,000

26 26 Copyright © John Wiley & Sons Canada, Ltd. Reacquisition and Retirement of Shares Major reasons for the reacquisition of a corporation’s own shares –Reduce the shares outstanding to increase EPS –Have enough shares on hand to meet employee share compensation contracts –Buy out a particular ownership interest –Meet the needs of a potential merger –Stop (or slow down) takeover attempts –Reduce number of shareholders –Make a market in the company’s shares –Return cash to shareholders

27 27 Copyright © John Wiley & Sons Canada, Ltd. Reacquisition and Retirement of Shares Shares may be retired when reacquired May also (in limited circumstances and jurisdictions) become Treasury Stock (held in treasury for reissue) In Canada, the CBCA requires repurchased shares be cancelled and restored to status of authorized but unissued if a limit to authorized shares exists

28 28 Copyright © John Wiley & Sons Canada, Ltd. Reacquisition and Retirement of Shares Share capital debited with the original issue or assigned value only The difference then allocated to equity accounts: –Contributed Surplus –Retained Earnings

29 29 Copyright © John Wiley & Sons Canada, Ltd. Reacquisition and Retirement of Shares - Example In January 2013, Cooke Corp. purchased and cancelled 500 Class A shares at $4 per share. There are 10,500 shares issued and outstanding, with total share capital of $63,000 Common Shares (500 [$63,000/10,500] ) 3,000 Cash(500 $4.00) 2,000 Contributed Surplus 1,000 Assigned share value = $63,000/10,500 = $ 6.00 Acquisition cost = per share price/cost 4.00 Value over assigned value$2.00

30 30 Copyright © John Wiley & Sons Canada, Ltd. Dividends Two basic classes of dividends: 1.Return on capital 2.Return of capital Important dates: –Date of declaration –Date of record –Date of payment

31 31 Copyright © John Wiley & Sons Canada, Ltd. Cash Dividends First journal entry is on Date of Declaration –Dividend becomes legal obligation of the corporation Dividends (or Retained Earnings)xxx Dividends Payable xxx –On Date of Payment, the liability is reduced

32 32 Copyright © John Wiley & Sons Canada, Ltd. Cash Dividends Before the dividend is paid, a current list of shareholders needs to be prepared (as at the date of record) If a Dividends account is used rather than Retained Earnings at the date of declaration, this account is closed to Retained Earnings at year end

33 33 Copyright © John Wiley & Sons Canada, Ltd. Dividends in Kind Dividends payable in corporation assets other than cash These dividends are normally measured at the “fair value” of the asset given up Fair value can be determined by referring to estimated realizable value of same or similar assets, quoted market prices, independent appraisals etc.

34 34 Copyright © John Wiley & Sons Canada, Ltd. Stock Dividends No assets distributed (unlike cash dividends) Unlike with cash dividends or dividends in kind, total shareholders equity does not change –Amounts are “re-arranged” as a result of the stock dividend –The transaction is measured at the fair value of the shares at declaration date –Each shareholder has the same proportionate interest in the corporation –However, book value per share decreases

35 35 Copyright © John Wiley & Sons Canada, Ltd. Stock Dividends - Example 1,000 common shares outstanding Retained earnings = $50,000 10% stock dividend declared Fair (market) value of share = $130 per share Stock Dividends Declared 13,000 Common Shares 13,000 1,000 x 10% = 100 Fair value $13,000 Total $13,000

36 36 Copyright © John Wiley & Sons Canada, Ltd. Liquidating Dividends Any dividends paid in excess of the accumulated income of the company represents a liquidating dividend –Results in a return of the shareholders’ investment

37 37 Copyright © John Wiley & Sons Canada, Ltd. Dividend Preferences Given: $50,000 total declared as dividends Common share capital: $400,000 1,000 $6 Preferred shares: $100,000 Preferred share dividends have been paid for the past 2 years Calculate the dividend distribution to common and preferred shareholders based on the different types of dividend preferences

38 38 Copyright © John Wiley & Sons Canada, Ltd. Non-cumulative If shares are non-cumulative and non- participating: –Dividends are distributed only when declared, up to the stated amount of the share –No amount is paid for years where dividends were not declared The dividend distribution is therefore: –Preferred Shareholders are paid $6,000 ($6 x 1000) –Common Shareholders are paid the remaining amount of $44,000

39 39 Copyright © John Wiley & Sons Canada, Ltd. Cumulative If the preferred shares are cumulative and non-participating: –The dividends that were not paid to preferred shareholders in the previous 2 years must also be paid The dividend distribution is therefore: –Preferred Shareholders are paid $18,000 ( ($6 x 1000 x 2) + $6,000) –Common Shareholders are paid the remaining $32,000 ($50,000 - $18,000)

40 40 Copyright © John Wiley & Sons Canada, Ltd. Participating If preferred shares are non-cumulative and fully participating, using the previous data: Preferred Common 1.Current year’s: –Preferred ($6 x 1000) $6,000 –Common (6% x $400,000) $24,000 2.Remaining $20,000 at a rate of $20,000/$500,000 (i.e. 4%): –Preferred (4% x $100,000) $4,000 –Common (4% x $400,000) $16,000 TOTAL $10,000 $40,000

41 41 Copyright © John Wiley & Sons Canada, Ltd. Stock Dividends vs. Stock Splits Stock Dividend A form of dividend must follow the requirements of a dividend Both the number of shares and the amount of share capital generally affected Shares are not exchanged Stock Split Increases the number of shares outstanding Amount of share capital is not affected Results in a market price manipulation

42 42 Copyright © John Wiley & Sons Canada, Ltd. Shareholders’ Equity Understanding the Corporate Form, Share Capital and Profit Distribution Corporate law and the share capital system Types of shares Limited liability of shareholders Formality of profit distribution Presentation, Disclosure, and Analysis Components of shareholders’ equity Capital disclosures Analysis Recognition, Derecognition, and Measurement Issuance of shares Reacquisition and retirement of shares Dividends IFRS/ASPE Comparison Comparison of IFRS and ASPE Looking Ahead

43 43 Copyright © John Wiley & Sons Canada, Ltd. Components of Shareholders’ Equity Contributed Capital Earned Capital Share Capital: Common And/or Preferred shares Contributed Surplus Retained Earnings Accumulated other Comprehensive Income

44 44 Copyright © John Wiley & Sons Canada, Ltd. Contributed Surplus Contributed Surplus transactions Par value share issue and/or retirement Treasury share transactions Liquidating dividends Financial reorganization Stock options and warrants Issue of convertible debt Share subscriptions forfeited Donated assets by a shareholder Redemption or conversion of shares

45 45 Copyright © John Wiley & Sons Canada, Ltd. Retained Earnings DEBITS 1.Net loss 2.Prior period adjustments, accounting principle changes 3.Cash, property, stock dividends 4.Some treasury share transactions CREDITS 1. 1.Net Income 2. 2.Prior period adjustments, accounting principle changes 3. 3.Adjustments from financial reorganization

46 46 Copyright © John Wiley & Sons Canada, Ltd. Accumulated Other Comprehensive Income (AOCI) Cumulative change in equity from non- shareholder transactions which are excluded from net income Considered to be earned income Note that the concept of comprehensive income is not applicable under ASPE

47 47 Copyright © John Wiley & Sons Canada, Ltd. Disclosure of Share Capital Following basic disclosure is required: –Authorized share capital –Issued share capital –Changes in share capital since the last statement of financial position date

48 48 Copyright © John Wiley & Sons Canada, Ltd. Disclosure of Share Capital Additional disclosures include: –Authorized number of shares (if no limit, then so stated) –The existence of unique rights –Number of shares issued and the amount received –Whether the shares are par value or no par value –Amount of any dividends in arrears for cumulative preferred shares –Changes during the year, including new issuances and redemptions (under IFRS, presented in statement of changes in equity) –Restrictions on retained earnings

49 49 Copyright © John Wiley & Sons Canada, Ltd. Shareholders’ Equity Ratios 1.Rate of return on common shareholders’ equity Net income – Preferred dividends Average common shareholders’ equity 2.Payout ratio Cash Dividends Net income – Preferred dividends 3.Price earnings ratio Market price per share Earnings per share 4.Book value per share Common shareholders’ equity Number of outstanding shares

50 50 Copyright © John Wiley & Sons Canada, Ltd. Shareholders’ Equity Understanding the Corporate Form, Share Capital and Profit Distribution Corporate law and the share capital system Types of shares Limited liability of shareholders Formality of profit distribution Presentation, Disclosure, and Analysis Components of shareholders’ equity Capital disclosures Analysis Recognition, Derecognition, and Measurement Issuance of shares Reacquisition and retirement of shares Dividends IFRS/ASPE Comparison Comparison of IFRS and ASPE Looking Ahead

51 51 Copyright © John Wiley & Sons Canada, Ltd. Looking Ahead There are several projects being undertaken by IASB and FASB that may impact accounting for shareholders’ equity These include financial statement project, and project on liabilities and equity

52 52 Copyright © John Wiley & Sons Canada, Ltd. COPYRIGHT Copyright © 2013 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (The Canadian Copyright Licensing Agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained herein.


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