Chapter Five - Accounting For Corporations

Fundamentals of Accounting II
Chapter 5
Accounting for Corporations

Learning Objectives
• Discuss the major characteristics of a corporation.
• Explain how to account for ordinary, preference, and
treasury shares.
• Explain how to account for cash dividends, share
dividends, and share splits.
• Discuss how equity is reported and analyzed.
2
The Corporate Form of Organization
• Corporation is an artificial legal being created by government
charter and possessing many of the rights of a natural person
• It has many of the rights that natural person possesses
An entity separate and distinct from its owners.

Classified by Purpose Classified by Ownership
 Not-for-Profit  Publicly held
 For Profit  Privately held
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Characteristics of Corporation (1 of 10)
Characteristics that distinguish corporations from
proprietorships and partnerships.
Separate Legal Existence
Limited Liability of Shareholders
Transferable Ownership Rights
Advantages
Ability to Acquire Capital
Continuous Life
Corporate Management
Government Regulations Disadvantages
Additional Taxes
Corporation acts
Separate Legal Existence under its own
Limited Liability of Shareholders name rather than
Transferable Ownership Rights in the name of its
shareholders
Continuous Life
Government Regulations
Additional Taxes
Limited to their
investment
Continuous Life
Additional Taxes
Transferable Ownership Rights Shareholders may
sell their shares
Continuous Life
Additional Taxes
Transferable Ownership Rights Corporation can
Ability to Acquire Capital obtain capital
through the
Continuous Life issuance of shares
Additional Taxes
Transferable Ownership Rights Continuance as a
going concern is
Ability to Acquire Capital not affected by the
Continuous Life withdrawal, death,
or incapacity of a
Corporate Management shareholder,
Government Regulations employee, or
officer
Additional Taxes
Ability to Acquire Capital Separation of
ownership and
Continuous Life management often
Corporate Management reduces an owner’s
Government Regulations ability to actively
manage the
Additional Taxes company
Characteristics Shareholders
of Corporation Corporation
(8 of 10)
Chairman and
organization
Board of chart
Directors
President and
Chief Executive
Officer
General Vice President Vice President

Vice President Vice President
Counsel/ Finance/Chief Human
Marketing Operations
Secretary Financial Officer Resources
Treasurer Controller

Continuous Life A corporation is
Corporate Management subject to
Government Regulations numerous
governmental
Additional Taxes regulations
Transferable Ownership Rights Corporations pay
Ability to Acquire Capital income taxes as a
separate legal
Continuous Life entity and in
Corporate Management addition,
Government Regulations shareholders pay
taxes on cash
Additional Taxes dividends
Forming a Corporation
Initial Steps:
File application with governmental agency in the jurisdiction
in which incorporation is desired
Government grants charter
Corporation develops by-laws

Shareholder Rights
1. Vote in election of board of directors at annual
meeting and vote on actions that require
shareholder approval.
2. Share the corporate earnings through receipt of
dividends.
3. Keep the same percentage ownership when new
shares are issued (preemptive right).
4. Share in assets upon liquidation in proportion to
their holdings. This is called a residual claim.
Share Issue Considerations (1 of 6)
When a corporation decides to issue shares, it must
resolve a number of basic questions:
1. How many shares should it authorize for sale?
2. How should it issue the shares?
3. What value should the corporation assign to the
shares?

Authorized Shares
Charter indicates amount of shares that a
corporation is authorized to sell
Number of authorized shares is often reported in
equity section
No formal accounting entry

Issuance of Shares
Companies issue ordinary shares directly to
investors or indirectly through an investment
banking firm
Factors in setting price for a new issue of shares:
1. Company’s anticipated future earnings
2. Expected dividend rate per share
3. Current financial position
4. Current state of economy
5. Current state of ©2019
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Market Price of Shares
Shares of publicly held companies are traded on
organized exchanges
Interaction between buyers and sellers determines
the prices per share
Prices tend to follow the trend of a company’s
earnings and dividends
Factors beyond a company’s control may cause day-
to-day fluctuations in market prices
Par and No-Par Value Shares
Par value determined legal capital per share that a
company must retain in business for protection of
corporate creditors
Today many governments do not require a par value
No-par value shares is fairly common today
In many countries, the board of directors assigns a
stated value to no-par shares

Corporate Capital (1 of 3)
Equity is identified by various names:
stockholders’ equity,
shareholders’ equity, or
corporate capital.
The equity section of a corporation’s statement of
financial position consists of two parts:
1. share capital and
2. retained earnings (earned capital).
Share Capital
Share capital is the total amount of cash and other
assets paid in to the corporation by shareholders in
exchange for shares.

Retained Earnings
Net income that a corporation retains for future use.
Net income is recorded in Retained Earnings by a
closing entry. For example, assuming that net income
for Delta Robotics in its first year of operations is
HK$1,300,000, the closing entry is:
Income Summary 1,300,000
Retained Earnings 1,300,000

Corporate Capital
Comparison of the equity accounts reported on a
statement of financial position for a proprietorship
and a corporation.

Accounting for Ordinary Shares
Issuing Par Value Ordinary Shares for Cash
Par value does not indicate a share’s market price
Cash proceeds from issuing par value shares may be
equal to, greater than, or less than par value
Issuance of ordinary shares for cash
 Credit par value of shares to Share Capital—
Ordinary
 Record in a separate account portion of proceeds
that is above or below par value
Issuing Par Value Ordinary Shares for
Cash (1 of 3)
Example 1
Assume that C Corporation issues 20,000 shares of $10 per
common stock for cash at $ 10, the entry to record the
transaction is:

Cash (2 of 3)
Example 2
Assume that C Corporation issues 20,000 shares of $10 per
common stock for cash at $ 15, the entry to record the
transaction is:

Cash
Example 3
Assume that C Corporation issues 20,000 shares of
$10 per common stock for cash at $ 8, the entry to
record the transaction is:

Issuing No-Par Ordinary Shares (1 of 2)
Example 1 No par, stated value
Assume that C Corporation issues 20,000 shares of
$15 stated value common stock for cash at $ 18, the
entry to record the transaction is:

Issuing No-Par Ordinary Shares (2 of 2)
Example 2 No par, stated value
Assume that C Corporation issues 20,000 shares of no
par, no stated value common stock for cash at $ 18,
the entry to record the transaction is:

Issuing Ordinary Shares for Services or
Non-cash Assets
Corporations also may issue shares for:
Services (attorneys or consultants)
Non-cash assets (land, buildings, and equipment)
Cost is either the fair market value of the
consideration given up, or the fair market value of the
consideration received, whichever is more clearly
determinable.

Ordinary Shares for Services
Example 1
Assume C Corporation issues 500 shares of $ 10 par common
stock with a current market price of $12 to buy a land and
assume further that the market value of the land is not
objectively determinable. The transaction is to be recorded
as:

Ordinary Shares for Non-Cash Assets
Example 2
Assume that the attorneys for C Corporation agree to accept
400 shares of $ 10 par common stock in payment for their bill
of $5,000 for services performed in helping the corporation to
incorporate. At the time of the exchange there is no
established market price for the stock. The transaction is to be
recorded as:

Accounting for Preference Shares (1 of 2)
Typically, preferred shareholders have a priority as to:
1. Distributions of earnings (dividends).
2. Assets in event of liquidation.
Generally do not have voting rights.
Accounting for preference shares at issuance is similar
to that for ordinary shares.

Accounting for Treasury Shares
Treasury shares are a corporation’s own shares that it
has reacquired from shareholders but not retired.
Corporations acquire treasury shares for various
reasons:
1. To reissue the shares to officers and employees
under bonus and share compensation plans.
2. To enhance the share’s market value.
3. To have additional shares available for use in the
acquisition of other companies.
4. To increase earnings per share.
Purchase of Treasury Shares (1 of 3)
Companies generally use cost method
Debit Treasury Shares for price paid to reacquire
shares
Treasury shares is a contra equity account
Reduces equity

Purchase of Treasury Shares
Example
Assume C Corporation repurchases 500 shares of its
$10 par common stock at $25 per share:

Sale of Treasury Shares At Cost
Example
Assume C Corporation sells 200 shares of treasury stock for

$25 per share. The treasury stock had been purchased for $25
per share. The entry to record the transaction is:
A corporation does not realize a gain or suffer a loss from

shares transactions with its own shareholders.

Sale of Treasury Shares Above Cost (1 of 2)
Example
Assume C Corporation sells the 200 additional shares of
treasury stock for $30 per share. The entry to record the
transaction is:

Sale of Treasury Shares Below Cost (2 of 2)
Example
Assume C Corporation sells the 200 additional shares of
treasury stock again for $18 per share. The entry to record the
transaction is:

Treasury Shares
Salvador SA purchases 3,000 shares of its R$50 par value
ordinary shares for R$180,000 cash on July 1. It will hold the
shares in the treasury until resold. On November 1, the
corporation sells 1,000 treasury shares for cash at R$70 per
share. Journalize the treasury share transactions.

Dividends and Splits
Distribution of cash or shares to shareholders on a
pro rata (proportional to ownership) basis.
Types of Dividends:
1. Cash
2. Property
3. Shares
4. Scrip (promissory note to pay cash)

Accounting for Cash Dividends (1 of 3)
For a corporation to pay a cash dividend, it must
have:
1. Retained earnings - Payment of cash dividends from
retained earnings is legal in all jurisdictions.
2. Adequate cash.
3. A declaration of dividends by Board of Directors.

Three dates are important:

Illustration: On December 1, 2020, the directors of Media
General declare a €0.50 per share cash dividend on 100,000
shares of €10 par value ordinary shares. The dividend is
payable on January 20 to shareholders of record on December
22.
Dec. 1 Cash Dividends 50,000
Dividends Payable 50,000
Dec. 22 No entry
Jan. 20 Dividends Payable 50,000
Cash 50,000
Dividend Preferences (1 of 3)
Right to receive dividends before ordinary
shareholders
Per share dividend amount is stated as a percentage
of preference shares par value or as a specified
amount
Cumulative Dividend - Preference shareholders
must be paid both current-year dividends and any
unpaid prior-year dividends before ordinary
shareholders are paid dividends

Cumulative Dividend
Illustration: Scientific Leasing has 5,000 shares of 7%, €100
par value, cumulative preference shares outstanding. Each
€100 share pays a €7 dividend (.07 × €100). The annual
dividend is €35,000 (5,000 × €7 per share). If dividends are
two years in arrears, preference shareholders are entitled to
receive the following dividends.
Dividends in arrears (€35,000 × 2) € 70,000
Current-year dividends 35,000
Total preference dividends €105,000

Allocating Cash Dividends between Preference
and Ordinary Shares
Holders of cumulative preference shares must be paid any
unpaid prior-year dividends and their current year’s dividend
before ordinary shareholders receive dividends.

Allocating Cash Dividends (1 of 3)
Illustration: On December 31, 2019, IBR Inc. has 1,000 shares
of 8%, €100 par value cumulative preference shares. It also
has 50,000 shares of €10 par value ordinary shares
outstanding. At December 31, 2019, the directors declare a
€6,000 cash dividend. Calculate the annual preferred
dividend.
€100 par x 8% x 1,000 shares = €8,000
Prepare the entry to record the declaration of the dividend.

Illustration: At December 31, 2020, IBR declares a €50,000
cash dividend. Show the allocation of dividends to each class
of stock.
Total dividend €50,000

Allocated to preference shares
Dividends in arrears, 2019 (1,000 × €2) €2,000
2020 dividend (1,000 × €8) 8,000 10,000
Remainder allocated to common shares €40,000

Illustration: At December 31, 2020, IBR declares a €50,000
cash dividend. Prepare the entry to record the declaration of
the dividend.

DO IT! 3a: Dividends on Preference and
Ordinary Shares (1 of 3)
Master Mind Gaming has 2,000 shares of 6%, ¥100 par value
preference shares outstanding at December 31, 2020. At December
31, 2020, the company declared a ¥60,000 cash dividend.
Determine the dividend paid to preference shareholders and
ordinary shareholders under each of the following scenarios.
1. The preference shares are non-cumulative, and the company
has not missed any dividends in previous years.
Preference shareholders are paid only this year’s dividend
Preference shareholders = ¥12,000 (2,000 x .06 x ¥100)
Ordinary shareholders = ¥48,000 (¥60,000 - ¥12,000)
2. The preference shares are non-cumulative, and the company
did not pay a dividend in each of the two previous years.
Past unpaid dividends do not have to be paid
Preference shareholders = ¥12,000 (2,000 x .06 x ¥100)
3. The preference shares are cumulative, and the company did
not pay a dividend in each of the two previous years.
Dividends that have been missed (arrears) must be paid
Preference shareholders = ¥36,000 (3 x 2,000 x .06 x ¥100)
Accounting for Share Dividends (1 of 2)
A pro rata (proportional to ownership) distribution of the
corporation’s own shares to shareholders.
Reasons why corporations issue share dividends:
1. Satisfy shareholders’ dividend expectations without
spending cash
2. Increase marketability of corporation’s shares
3. Emphasize a portion of shareholders’ equity has
been permanently reinvested in business

Accounting for Share Dividends (2 of 2)
a. Small share dividend (less than 20–25% of
corporation’s issued shares, recorded at fair market
value)
 Accounting based on assumption that a small
share dividend will have little effect on market
price of outstanding shares
b. Large share dividend (greater than 20–25% of issued
share, recorded at par value)

Entries for Share Dividends (1 of 2)
Illustration: Danshui Ltd. declares a 10% share dividend on its
50,000 shares of NT$100 par value ordinary shares. The current fair
market value of its shares is NT$150 per share. Record the entry on
the declaration date:
Share Dividends 750,000
Ordinary Share Dividends Distributable 500,000
Share Premium—Ordinary 250,000
Equity Section Statement Presentation:

Share capital NT$5,000,000
Ordinary share dividends distributable 500,000
NT$5,500,000
Entries for Share Dividends (2 of 2)
Illustration: When Danshui issues the dividend shares, it debits
Ordinary Share Dividends Distributable and credits Share Capital—
Ordinary as follows.
Ordinary Share Dividends Distributable 500,000
Share Capital—Ordinary 500,000

Effects of Share Dividends
Before After
Dividend Change Dividend
Equity
Share capital—ordinary NT$5,000,000 NT$500,000 NT$5,500,000
Share premium—ordinary — 250,000 250,000
Total share capital 5,000,000 +750,000 5,750,000
Retained earnings 3,000,000 −750,000 2,250,000
Total equity NT$8,000,000 NT$0 NT$8,000,000
Outstanding shares 50,000 +5,000 55,000
Par value per share NT$100.00 NT$0 NT$100.00

Share Dividends (1 of 2)
Review Question
Which of the following statements about small share
dividends is true?
a. A debit to Retained Earnings should be made for
the par value of the shares issued.
b. A small share dividend decreases total equity.
c. Market price per share should be assigned to the
dividend shares.
d. A small share dividend ordinarily will have an
effect on par value per share.
Share Dividends (2 of 2)
Review Question
Which of the following statements about small share
dividends is true?
a. A debit to Retained Earnings should be made for
the par value of the shares issued.
b. A small share dividend decreases total equity.
c. Market price per share should be assigned to the
dividend shares.
d. A small share dividend ordinarily will have an
effect on par value per share.
Accounting for Share Splits (1 of 3)
a. Issuance of additional shares to shareholders
according to their percentage ownership
b. Reduction in par or stated value per share
c. Increase in number of shares outstanding
d. Reduces market value of shares
e. No journal entry recorded, no effect on the balances
in any equity accounts

Effect of 4-for-1 stock split for shareholders

Effects for Danshui Ltd., assuming that it splits its 50,000
ordinary shares on a 2-for-1 basis.
Before After
Share Split Change Share Split
Equity
Share capital—ordinary NT$5,000,000 NT$ –0– NT$5,000,000
Share premium—ordinary –0– –0– –0–
Retained earnings 3,000,000 –0– 3,000,000
Total equity NT$8,000,000 NT$ –0– NT$8,000,000
Outstanding shares 50,000 +50,000 100,000

Par value per share NT$100.00 −NT$50.00 NT$50.00

DO IT! 3b: Share Dividends and Splits (1 of 2)
Sing CD has had five years of record earnings. Due to this success,
the market price of its 500,000 shares of £2 par value ordinary
shares has tripled from £15 per share to £45. During this period,
the sum of share capital and share premium remained the same at
£2,000,000. Retained earnings increased from £1,500,000 to
£10,000,000. CEO Joan Elbert is considering either a 10% share
dividend or a 2-for-1 share split. She asks you to show the before-
and-after effects of each option on retained earnings, total equity,
shares outstanding, and par value per share.

DO IT! 3b: Share Dividends and Splits (2 of 2)
Sing CD has had five years of record earnings. Due to this success,
the market price of its 500,000 shares of £2 par value ordinary
shares has tripled from £15 per share to £45. CEO Joan Elbert is
considering either a 10% share dividend or a 2-for-1 share split.
Original After After
Balances Dividend Split
Share capital/premium £2,000,000 £4,250,000 £2,000,000
Retained earnings 10,000,000 7,750,000 10,000,000
Total equity £12,000,000 £12,000,000 £12,000,000
Shares outstanding 500,000 550,000 1,000,000
Par value per share £2.00 $2.00 $1.00

Reporting and Analyzing Equity
Retained earnings
Includes net income that a company retains in the
business.
a. Part of shareholders’ claim on total assets of
corporation
b. Does not represent a claim on any specific asset
c. Amount cannot be associated with the balance of any
asset account

Retained Earnings (1 of 3)
a. If cumulative losses exceed cumulative income over a
company’s life, a debit balance in Retained Earnings
results
b. Debit balance is identified as a deficit
Statement of Financial Position (partial)
Equity
Share capital—ordinary €800,000
Retained earnings (deficit) (50,000)
Total equity €750,000

In some cases there may be retained earnings restrictions.
a. These make a portion of the retained earnings balance
currently unavailable for dividends
b. Companies generally disclose retained earnings
restrictions in the notes to the financial statements.
Tektronix Inc.
Notes to the Financial Statements
Certain of the Company’s debt agreements require compliance with debt
covenants. Management believes that the Company is in compliance with such
requirements. The Company had unrestricted retained earnings of $223.8 million
after meeting those requirements.

Statement for Graber SA, based on assumed data.
Graber SA
Statement of Retained Earnings
For the Year Ended December 31, 2020
Balance, January 1 €1,050,000
Add: Net income 410,000
1,460,000
Less: Cash Dividends 100,000
Share Dividends 200,000
Balance, December 31 €1,160,000

Statement of Financial Position
Graber SA
Statement of Financial Position (partial)
Equity
Share capital—preference, 9% €100 par value,
cumulative, callable at €120, 10,000 shares
authorized, 6,000 shares issued and outstanding € 600,000
Share capital—ordinary, no-par, €5 stated
value, 500,000 shares authorized,
400,000 shares issued and 390,000 outstanding €2,000,000
Ordinary share dividends distributable 50,000 2,050,000
Share premium—preference 30,000
Share premium—ordinary 1,050,000 1,080,000
Retained earnings (see Note R) 1,160,000
Less: Treasury shares (10,000 shares) 80,000
Total equity €4,810,000
Note R: Retained earnings is restricted for the cost of treasury
shares, €80,000.

DO IT! 4a: Equity Section (1 of 2)
Jennifer NV has issued 300,000 shares of €3 par value
ordinary shares. It is authorized to issue 600,000 shares. The
share premium on the ordinary shares is €380,000. The
corporation has reacquired 15,000 shares at a cost of €50,000
and is currently holding those shares. The corporation also
has 4,000 shares issued and outstanding of 8%, €100 par
value preference shares. It authorized 10,000 shares. The
share premium on the preference shares is €25,000. Retained
earnings is €610,000.
Prepare the equity section of the statement of financial
position.

DO IT! 4a: Equity Section (2 of 2)
Jennifer NV
Statement of financial position (partial)
Equity
Share capital, preference 8%, €100 par value, 10,000 shares
authorized, 4,000 shares issued and outstanding € 400,000
Share capital, ordinary, €3 par value, 600,000 shares
authorized, 300,000 shares issued, and 285,000
shares outstanding 900,000
Share premium—preference € 25,000
Share premium—ordinary 380,000
Share premium—treasury 72,000 477,000
Retained earnings 610,000
Less: Treasury shares (15,000 shares) 50,000
Total equity €2,337,000

Analysis
Return on Ordinary Shareholders’ Equity
a. Indicates how many euros of net income the
company earned for each euro invested by ordinary
shareholders
Carrefour’s (FRA) beginning and ending ordinary
shareholders’ equity was €8,047 and €8,597 million
respectively. Net income
Net Income minus wasOrdinary
Average €1,263 million, no
Return on Ordinary
Preference ÷ Shareholders’
preference shares were outstanding. =
Dividends Equity Shareholders’ Equity
(€8,047 + €8,597)
(€1,263 - €0) ÷ = 15.2%
2

DO IT! 4b: Return on Shareholders’
Equity (1 of 2)
On January 1, 2020, Siena purchased 2,000 treasury shares. Other
information regarding Siena is provided below.
2019 2020
Net income €110,000 €110,000
Dividends on preference shares 10,000 10,000
Dividends on ordinary shares 2,000 1,600
Weighted-average number of shares outstanding 10,000 8,000
Ordinary shareholders’ equity, beginning of year 500,000 400,000*
Ordinary shareholders’ equity, ending of year 500,000 400,000*
*Adjusted for purchase of treasury shares.
Compute return on ordinary shareholders’ equity for each year.

DO IT! 4b: Return on Shareholders’
Equity (2 of 2) 2019 2020
Net income €110,000 €110,000
Dividends on preference shares 10,000 10,000
Dividends on ordinary shares 2,000 1,600
Weighted-average number of shares outstanding 10,000 8,000*
Ordinary shareholders’ equity, beginning of year 500,000 400,000*
Ordinary shareholders’ equity, ending of year 500,000 400,000
*Adjusted for purchase of treasury shares.
Compute return on ordinary shareholders' equity for each year.

2019 2020
(€110,000 – €10,000) (€110,000 – €10,000)
= 20% = 25%
(€500,000 + €500,000)/2 (€400,000 + €400,000)/2

Appendix 12A Statement Presentation of
Equity (1 of 2)
When statements of financial position and income statements are
presented by a corporation, changes in the separate accounts
comprising equity should also be disclosed.
Disclosures are made in an additional statement called the
statement of changes in equity.
Statement shows the changes in each equity account and in total
equity during the year
When a statement of changes in equity is presented, a retained
earnings statement is not necessary because the retained
earnings column explains the changes in this account
Appendix 12A Statement Presentation of
Equity (2 of 2)

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Fundamentals of Accounting II

Accounting for Corporations

An entity separate and distinct from its owners.

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General Vice President Vice President

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Assume C Corporation sells 200 shares of treasury stock for

A corporation does not realize a gain or suffer a loss from

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Prepare the entry to record the declaration of the dividend.

Total dividend €50,000

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Equity Section Statement Presentation:

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Par value per share NT$100.00 NT$0 NT$100.00

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Outstanding shares 50,000 +50,000 100,000

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Par value per share £2.00 $2.00 $1.00

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