Fall 2010 Class 3

Fall 2010 Class 3 - CHAPTER 15 Shareholders’ Equity...

Info iconThis preview shows page 1. Sign up to view the full content.

View Full Document Right Arrow Icon
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: CHAPTER 15 Shareholders’ Equity Questions We Need to Answer Questions We Need to Answer 1. What are the common types of shares? 2. What are the major components of What shareholders’ equity shareholders’ 2. How to record and disclose equity 2. transactions? transactions? 3. How to determine dividends payable to 3. different types of shares. Components of Shareholders’ Equity Share Capital Common And/or Preferred shares Contributed Capital Capital Contributed Contributed Surplus Surplus Accum. Other Accum. Comp. Income Comp. Retained Retained Earnings Earnings Earned Earned Capital Capital Major Sources of Changes in Shareholders’ Equity All Transactions and Events That Cause All Changes in Shareholders’ Equity Changes Net Income Revenues Revenues & Expenses Expenses Gains Gains and Losses Losses Transfers Between Entity and Transfers Owners Owners Investments Investments by Owners by Distributions Distributions to Owners to Defining Capital • Legal capital (stated capital) – the full price received for shares issued • If par value shares are issued, then legal/stated If capital = par value capital – Par value shares are not permitted under Canada not Business Corporations Act (CBCA) Business – Permitted under some provincial jurisdictions Rights of Shareholders Rights of Shareholders • As a minimum each share has three basic or As inherent rights inherent 1. To share proportionately in profits and losses 1. profits 2. The right to vote for directors 2. right for 3. To share proportionately in assets upon 3. liquidation liquidation CBCA allows a fourth right: *4. Preemptive right for any new share issues Preemptive http://www.hugovandermolen.nl http://www.hugovandermolen.nl Shares Shares • Common shares • -- Represent basic ownership interests Preferred Shares Preferred -- Certain inherent rights given up or exchanged -for other rights for -- Preference given on Dividends or Claim to assets on dissolution assets Features of Preferred Shares Features of Preferred Shares • Cumulative – Dividends not paid in previous years (dividends in arrears) will be accumulated will – No liability exists until dividend is declared • Participating – gets the prescribed dividends, and prescribed – share ratably with common shares for the ratably rest of the dividends declared. rest • • • Callable/redeemable Convertible Retractable Shares Issuance ­ Basic Full amount of proceeds received is credited to the respective share capital account (preferred/common/class type) (preferred/common/class 500 common shares are sold for $10.00 each: Cash 5,000 Common Shares 5,000 Share Issue Costs 500 shares sold for $10.00 each, with $500 issue costs issue Cash 4,500 Common Shares 4,500 Shares Sold by Subscription • Shares are sold with “instalment” payments • Shares are not issued, and any rights are not Shares given (e.g., voting, dividends) until the full price is paid and the contract is settled is • Subscription Receivable and Shares Subscribed are Subscription and the accounts used. the Example: Shares Sold by Subscription 500 common shares are sold on subscription for $20.00 each. 50% is due as initial payment. $20.00 The initial journal entries would be: Subscription Receivable 10,000 Common Shares Subscribed Cash 10,000 5,000 Subscription Receivable 5,000 Example: Shares Sold by Subscription Example: Shares Sold by Subscription If all payments are made as scheduled, the If entries would be: entries Cash 5,000 Subscription Receivable Common Shares Subscribed Common Share Common 5,000 10,000 10,000 10,000 Defaulted Subscription • If a subscription contract is defaulted there are If generally three possible consequences: generally – – – Refund Refund Shares issued for the amount paid Forfeit Defaulted Subscription Solution 1: funds refunded with no penalty. Solution Common Shares Subscribed 10,000 Cash 5,000 Subscription Receivable 5,000 Solution 2: shares issued for amount paid. Common Shares Subscribed 10,000 Common Share 5,000 Subscription Receivable 5,000 Defaulted Subscription Solution 3: Funds held by corporation. Solution Common Shares Subscribed 10,000 Subscription Receivable 5,000 Contributed Surplus 5,000 Shares Repurchase • Once repurchased, shares may be – retired (required by CBCA), or – become Treasury Shares or Authorized-but-Unissued become Shares (in limited circumstances and jurisdictions) . • In either case, the accounts affected are: – – – – Share Capital Contributed Surplus Retained Earnings Treasury Shares (for Treasury Shares only) Loss / Gain of Shares Repurchase • When the reacquisition price is less than original cost When original Gains: Gains Dr. Share Capital Cr. Cash Cr. Contributed Surplus • When the reacquisition price is higher than original cost When original Loss: Loss Dr. Share Capital Dr. Contributed Surplus (never has a debit balance) (never Retained Earnings Retained Cr. Cash Reacquisition of Shares In January 2005, Cooke Corp. repurchased and retired 500 shares at $4 per share. There are 10,500 shares issued and outstanding, with total share capital of $63,000 share Common Shares (500*[ $63,000/10,500 ]) Common $63,000/10,500 Cash (500 shares@ $4.00) Cash Contributed Surplus (500 @$2.00) Contributed 3,000 2,000 1,000 Assigned share value = $63,000/10,500 = $ 6.00 Acquisition cost = per share price/cost 4.00 Acquisition Value over assigned value $2.00 Reacquisition of Shares In February 2005, the company repurchased and retired an additional 1,000 shares at $8 per share. Common Shares (1000*$6) Contributed Surplus Contributed Retained Earnings Retained Cash (1000 shares@ $8.00) Cash 6,000 1,000 1,000 8,000 Formality of Profit Distribution Formality of Profit Distribution • No amounts may be distributed unless corporate No capital is maintained intact capital – Sufficient capital remains after the dividend (in Sufficient order to pay liabilities as they are due) order – The realizable value of the total assets > the total The liabilities liabilities • Formal approval of the Board of Directors required • Dividends are in full agreement with share provisions Dividend Distributions Dividend Distributions • Types of dividends 1. Return on capital Return on – – – 1. • Cash dividends Property dividends (Dividends in kind) Stock dividends Return of capital Return of – Liquidating dividends Important dates – Date of declaration – Date of record – Date of payment Cash Dividends Cash Dividends • First journal entry is on Date of Declaration First Date – Dividend becomes legal obligation of the Dividend legal corporation corporation Dr. Retained Earnings (or Dividends Declared) Cr. Dividends Payable / Stock Dividends Distributable – No journal entry for Date of record No Date – On Date of Payment liability is reduced On Date Dr. Dividends Payable Cr. Cash / Common Shares Cr. Common Dividend Preferences Dividend Preferences Example: • The firm declared a total of $50,000 cash dividends The $50,000 • Common shares have a carrying value of $400,000 Common $400,000 • Preferred shares: Preferred – – – • 1,000 share outstanding, iissued at $100,000 ssued $100,000 $6 dividend for each share, or 6% dividend $6 6% Assume the preferred shares are Assume 1. cumulative with dividends in arrears for 2 yrs and non1. participating, 2. cumulative and fully participating, 1. Cumulative but Non­Participating 1. Cumulative but Non­Participating • First, allocate dividends in arrears =$6*1000 shares*2yrs= $12,000 • Second, allocate current year preferred share Second, dividends dividends = $6*1,000 shares=$6,000 • Third, The remaining declared dividends (if Third, any), will be assigned to common shares. = $50,000-($12,000+$6,000)=$32,000 $50,000-($12,000+$6,000)=$32,000 2. Cumulative and Fully Participating 2. Cumulative and Fully Participating • First, allocate dividends in arrears, First, • Second, allocate current year preferred share Second, dividends, dividends, • Third, Common share will be assigned dividends that Third, yield the same return rate as preferred shares. same • Fourth, The remaining declared dividends (if any), will Fourth, be shared between common and preferred shares, in proportion to their carrying value. proportion Calculation (1) Calculation (1) Step 1. allocate dividends in arrears $12,000 $12,000 Step Step 2. Second, allocate current year preferred share dividends $6,000 $6,000 Step 3. Common share will be assigned dividends that Step yield the same return rate as preferred shares. same – Prescribed dividend rate of preferred shares =$6 dividend / $100 = 6% =$6 6% -- at this stage, Common shares will get the same rate: -$400,000* 6% =$24,000 6% Calculation (2) Calculation (2) Step 4. The remaining declared dividends (if any), will Step be shared between common and preferred shares, in proportion to their carrying value. proportion Remaining Dividends Remaining =$50,000-$12,000-$6,000-24,000=$8,000 Participating rate = $8,000 / ($400,000+$100,000)=1.6% $8,000 Preferred Shares will get $1,600=$100,000* 1.6% Preferred 1.6% Common Shares will get $6,400=$400,000* 1.6% Common 1.6% Allocating Procedure Allocating Procedure Preferred Shares Dividends R2% Common Shares Dividends 1 4 4 2 R1% 3 1.Dividends in Arrears 2. Current year preferred share dividends at prescribed rate 3. Common share dividends that yield the same prescribed rate as preferred shares 4. Dividends allocated to preferred and common shares in proportion to their carrying value Exercise: P15­10 on page 1010 Exercise: P15­10 on page 1010 2010 2011 2012 2013 Answers Answers Exercise: P15-10 (b), page 1010 Assumption: Preferred shares are cumulative and fully participating Dividends Amount Year Paid-out Dividends per share Dividends in Arrears Preferred Preferred Preferred Common Common 2010 $8,000 $8,000.00 $0.00 $1.60 $0.00 $2,000.00 2011 $24,000 $12,000.00 $12,000.00 $2.40 $0.40 0 2012 $60,000 $12,855.00 $47,135.00 $2.57 $1.57 0 2013 $126,000 $27,000.00 $99,000.00 $5.40 $3.30 0 Prescribe dividend rate for preferred shares = $2/($150,000/5,000)= Carrying value of preferred shares = $150,000 Carrying value of common shares = $550,000 Total value of preferred and common shares = $700,000 Prescribe preferred share dividend=$150,000*6.67%=$10,005 6.67% dividend on common shares=$550,000*6.67%=$36,685 The minimum amount of dividend to yield 6.67% for both shares=6.67%*$700,000=$46,690 2012 dividend rate 8.57% = $60,000/$700,000 2013 dividend rate 18.00% = $126,000/$700,000 6.67% Stock Dividends Stock Dividends • No assets distributed • Unlike with cash, or other asset, dividends, Unlike total shareholders equity does not change total not – Amounts of dividends transfer from Retained Amounts Earning to Share Capital Earning – Amount transferred = fair value of the Amount of dividend shares at declaration date dividend Example: Stock Dividend Example: Stock Dividend • • • • 1,000 shares outstanding Retained earnings = $50,000 10% stock dividend declared Fair (market) value of share = $130 per share Retained Earnings (1000*10%*$130) Retained (1000*10%*$130) Common Shares Common 13,000 13,000 Stock Dividends vs. Stock Splits Stock Dividends vs. Stock Splits Stock Split • Done to manipulate share price • Only memorandum, no journal entries needed • Amount of share capital is not affected Amount not Stock Dividend • A llarge stock dividend (>20%) will also reduce arge share price share A Stock Split Example A Stock Split Example Lowe’s declares 2-for-1 stock split Lowe’s 2-for-1 MAY. 25 9:43 A.M. ET Lowe's Cos., the second-largest home improvement MAY. chain in the U.S. behind Home Depot, said Thursday its board approved a 2-for-1 stock split. On June 30, stockholders will receive an additional share for each one they owned as of June 16. they Lowe's also raised its quarterly dividend 67 percent to 10 cents per share, or 5 cents per share after the stock split. The dividend will be paid Aug. 4 shareholders of record on July 21. shareholders As of May 5, the company had about 777 million shares outstanding. As Shares rose 95 cents to $61.61 in early trading. Shares Disclosure of Share Capital • Note disclosure will contain the following Note information: information: – – – – – – Number of shares authorized Number shares Unique rights attached to each class of shares Number of shares issued, and the amount received Number shares Whether the shares are par-value or no-par value Whether par-value Amount of any dividends in arrears Amount dividends Changes during the year, including new issuances, redemptions and resale of treasury shares redemptions Exercise: Calculate the carrying Exercise: Calculate the carrying cost of shares Date Transactions January 10, 2010 Issue 20,000 common shares at $4 May 31, 2011 Issue 15,000 common shares to acquire a land with a fair value of $45,000. Dec., 15, 2012 Declare and distribute 5% stock dividends for outstanding common shares. The shares are trading at $5 per share. May., 20, 2013 Announce a 2 for 1 stock split. June 22, 2014 Purchase 40,000 common shares at $1.50 and retire them. Required: Calculate the average cost of outstanding common shares on Dec 15, 2012, and June 22, 2014 Answer: Dec 15, 2012: [20,000*$4+$45,000+(20,000+15,000)*5%*$5]/ [(20,000+15,000)*105%]=$133,750/36,750=$3.64 June 22, 2014: $133,750/(36,750*2)=$1.82 Summary of Shareholders’ Equity • The basic rights of shareholders. • • Voting. Share profit/loss. Share assets upon liquidation. Major features of preferred shares • • • Give up basic rights to exchange for privilege on dividends or Give liquidation priority Dividend preference The accounting procedures for • Issuing shares, • Reacquiring shares Case for next week Case for next week • CA15-2, in page 1015 of the textbook • Question of the case change to: “If you were the auditor of Centre Corporation, what is If your analysis of the situation described, how would you respond to Young’s proposal about dividends and loans to executives?” to ...
View Full Document

This note was uploaded on 03/15/2012 for the course BUS 303 taught by Professor Brown during the Spring '11 term at Simon Fraser.

Ask a homework question - tutors are online