Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Prepared by: Debbie Musil Kwantlen Polytechnic University Chapter 14 Corporations: Income and Equity Reporting

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Corporations: Income and Equity Reporting Dividends Dividends Cash and stock dividends; Stock splitsCash and stock dividends; Stock splits Corporate Income Statements Corporate Income Statements Corporate income taxes; Discontinued operationsCorporate income taxes; Discontinued operations Comprehensive income statementComprehensive income statement Retained Earnings Retained Earnings Prior period adjustmentsPrior period adjustments Statement of retained earningsStatement of retained earnings Reporting Changes in Shareholders’ Equity Reporting Changes in Shareholders’ Equity Summary of transactionsSummary of transactions Statement of changes in shareholders’ equityStatement of changes in shareholders’ equity Analyzing Shareholders’ Equity Analyzing Shareholders’ Equity Earnings performance; Dividend recordEarnings performance; Dividend record

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Dividends Pro-rata distribution of a portion of corporation’s retained earnings to shareholders Pro-rata distribution of a portion of corporation’s retained earnings to shareholders Pro-rata: based on the proportion of shares ownedPro-rata: based on the proportion of shares owned Common types of dividends Common types of dividends Cash dividendsCash dividends Stock dividends (normally common shares)Stock dividends (normally common shares)

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Cash Dividends To pay dividends, a corporation must: To pay dividends, a corporation must: Have enough retained earnings and cashHave enough retained earnings and cash Declare a dividend payableDeclare a dividend payable Declaration date: Declaration date: Board of directors formally declares dividendBoard of directors formally declares dividend Commits company to a legal obligationCommits company to a legal obligation Declaration is recorded:Declaration is recorded:

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Cash Dividends 2 Record date: Record date: Ownership of shares is determinedOwnership of shares is determined Shareholders of record on this date will receive dividendShareholders of record on this date will receive dividend No journal entry requiredNo journal entry required Payment date: Payment date: Dividend is paid to shareholders and recorded:Dividend is paid to shareholders and recorded:

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Stock Dividends Distribution of corporation’s own shares to its shareholders Distribution of corporation’s own shares to its shareholders Paid in shares instead of cashPaid in shares instead of cash Does not change assets or shareholders’ equity Does not change assets or shareholders’ equity Decreases retained earnings and increases share capital by the same amountDecreases retained earnings and increases share capital by the same amount Total amount is therefore the sameTotal amount is therefore the same

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Stock Dividends: Purpose and Benefits Satisfies shareholders' dividend expectations without spending cash Satisfies shareholders' dividend expectations without spending cash Increases marketability of corporation’s shares Increases marketability of corporation’s shares Increasing number of shares will cause market price to decrease and make shares more affordableIncreasing number of shares will cause market price to decrease and make shares more affordable Emphasizes that a portion of shareholders’ equity has been permanently retained in the business Emphasizes that a portion of shareholders’ equity has been permanently retained in the business Therefore unavailable for cash dividends Therefore unavailable for cash dividends

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Entries for Stock Dividends Declaration date: Declaration date: Record date: no entry required Record date: no entry required Issue (payment) date: Issue (payment) date:

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Stock Splits Involves the issue of additional shares to shareholders Involves the issue of additional shares to shareholders Similar to a stock dividendSimilar to a stock dividend Increases the marketability of shares by lowering market value per share Increases the marketability of shares by lowering market value per share Effect on share price is generally inversely proportional to size of splitEffect on share price is generally inversely proportional to size of split Does not affect shareholders’ equity Does not affect shareholders’ equity Therefore no entries are requiredTherefore no entries are required

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Comparison of Dividends and Stock Splits Cash dividends reduce assets and shareholders’ equity (retained earnings) Cash dividends reduce assets and shareholders’ equity (retained earnings) Stock dividends increase share capital and decrease retained earnings Stock dividends increase share capital and decrease retained earnings Stock dividends have no effect (but do increase number of shares issued) Stock dividends have no effect (but do increase number of shares issued)

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Corporate Income Statements Income statement for corporations are similar to proprietorship or partnership statements Income statement for corporations are similar to proprietorship or partnership statements One major difference is income taxes One major difference is income taxes Since corporation is a separate legal entitySince corporation is a separate legal entity Affects income statement (income tax expense) and balance sheet (income tax payable or receivable)Affects income statement (income tax expense) and balance sheet (income tax payable or receivable) Other differences: Other differences: Discontinued operationsDiscontinued operations Other comprehensive income (under IFRS only)Other comprehensive income (under IFRS only)

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Corporate Income Taxes Interperiod tax allocation: Dividing income tax between amounts payable now and payable later Interperiod tax allocation: Dividing income tax between amounts payable now and payable later Intraperiod tax allocation: Associating income taxes in a period with their related items of profit Intraperiod tax allocation: Associating income taxes in a period with their related items of profit

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Discontinued Operations Disposal or reclassification to “held for sale” of a major component of entity Disposal or reclassification to “held for sale” of a major component of entity Reported separately on income statementReported separately on income statement Profit (loss) from discontinued operations and profit (loss) from disposalProfit (loss) from discontinued operations and profit (loss) from disposal

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Statement of Comprehensive Income Additional statement required under IFRS Additional statement required under IFRS All-inclusive format or as a separate statementAll-inclusive format or as a separate statement No “other comprehensive income” under Canadian GAAP for Private EnterprisesNo “other comprehensive income” under Canadian GAAP for Private Enterprises All changes in shareholders’ equity except from sale/purchase of shares and dividend transactions All changes in shareholders’ equity except from sale/purchase of shares and dividend transactions

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Retained Earnings The cumulative total of profit less losses and less declared dividends since incorporation The cumulative total of profit less losses and less declared dividends since incorporation Represents part of shareholder’s claim on total assets of a corporation Represents part of shareholder’s claim on total assets of a corporation Not a claim on any specific asset (including cash)Not a claim on any specific asset (including cash) May be subject to restrictions that limit the amount that can be paid out as dividends: May be subject to restrictions that limit the amount that can be paid out as dividends: Contractual restrictions such as debt covenantsContractual restrictions such as debt covenants Voluntary restrictions imposed by the Board of DirectorsVoluntary restrictions imposed by the Board of Directors

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Prior Period Adjustments A prior period adjustment results from: A prior period adjustment results from: A correction of a material error in reporting profit in a prior year, orA correction of a material error in reporting profit in a prior year, or A change in an accounting policyA change in an accounting policy Accounting treatment: Accounting treatment: Use corrected amount or new principle in reporting results for the current yearUse corrected amount or new principle in reporting results for the current year Disclose cumulative effect of correction/change as an adjustment to opening retained earnings, net of taxDisclose cumulative effect of correction/change as an adjustment to opening retained earnings, net of tax Correct/restate financial statements for prior periodsCorrect/restate financial statements for prior periods Disclose effect of change in financial statementsDisclose effect of change in financial statements

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Correction of Prior Period Errors Correction is made directly to Retained Earnings Correction is made directly to Retained Earnings Since effect of error is now located there (all revenues and expenses have been closed to retained earnings)Since effect of error is now located there (all revenues and expenses have been closed to retained earnings) Net of any income tax effect Net of any income tax effect Example: overstatement of cost of goods sold Example: overstatement of cost of goods sold Understatement of inventory, profit (now retained earnings), and income tax payableUnderstatement of inventory, profit (now retained earnings), and income tax payable

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Change in Accounting Policy Occurs when the policy used in current year is different that that used in prior year Occurs when the policy used in current year is different that that used in prior year Only occurs when change: Only occurs when change: Is required by GAAPIs required by GAAP Provides more reliable and relevant informationProvides more reliable and relevant information Must be applied retroactively (prior years restated) unless not practical to do so Must be applied retroactively (prior years restated) unless not practical to do so Using a new accounting method due to a change in circumstances is not a change in accounting policy Using a new accounting method due to a change in circumstances is not a change in accounting policy

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Presentation of Prior Period Adjustments Adjustment is added to (or deducted from) opening balance of retained earnings, net of income tax effect Adjustment is added to (or deducted from) opening balance of retained earnings, net of income tax effect Financial statements of prior years are restated to reflect the change Financial statements of prior years are restated to reflect the change Details of the change and its impact disclosed in a note to the financial statements Details of the change and its impact disclosed in a note to the financial statements

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Statement of Retained Earnings Shows the changes in retained earnings during the year Shows the changes in retained earnings during the year Transactions that affect retained earnings: Transactions that affect retained earnings: Earning a profit (incurring a loss)Earning a profit (incurring a loss) Declaring cash and stock dividendsDeclaring cash and stock dividends Prior period adjustmentsPrior period adjustments Losses from reacquisition of shares (if necessary)Losses from reacquisition of shares (if necessary)

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Sample Statement of Retained Earnings

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Statement of Changes in Shareholders’ Equity Required for companies following IFRS Required for companies following IFRS Shows changes in shareholders’ equity during year Shows changes in shareholders’ equity during year Including contributed capital, retained earnings, other comprehensive incomeIncluding contributed capital, retained earnings, other comprehensive income Companies following Canadian GAAP for Private Enterprises: Companies following Canadian GAAP for Private Enterprises: Continue to use a Statement of Retained EarningsContinue to use a Statement of Retained Earnings Other changes are reported in notes to the statementsOther changes are reported in notes to the statements

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Summary of Shareholders’ Equity Transactions

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Earnings Performance: Earnings per Share Indicates profit earned by each common share Indicates profit earned by each common share Used under IFRS not under Private Entity GAAP Used under IFRS not under Private Entity GAAP Formula to calculate: Formula to calculate: Weighted average number of common shares = shares issued during the year x the fraction of the year they are outstanding Weighted average number of common shares = shares issued during the year x the fraction of the year they are outstanding Example: April 1 = 3/12 months if calendar year usedExample: April 1 = 3/12 months if calendar year used Profit less Preferred Dividends Weighted Average Number of Common Shares Earnings per Share ÷ =

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Earnings per Share: Complex Capital Structure When a company has securities that can be converted into common shares When a company has securities that can be converted into common shares Example: convertible preferred sharesExample: convertible preferred shares If converted, the additional common shares will result in a reduced (diluted) EPS figureIf converted, the additional common shares will result in a reduced (diluted) EPS figure Two EPS amounts are calculated: Two EPS amounts are calculated: Basic EPS: calculation on preceding pageBasic EPS: calculation on preceding page Fully diluted EPS: calculated as if all securities were converted into common sharesFully diluted EPS: calculated as if all securities were converted into common shares

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Earnings Performance: Price-Earnings Ratio Helps investors compare earnings of different companies Helps investors compare earnings of different companies Formula to calculate: Formula to calculate: A high PE ratio is an indicator that investors believe the company has good earnings potential A high PE ratio is an indicator that investors believe the company has good earnings potential Market Price per Share Earnings per Share Price-Earnings Ratio ÷ =

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Payout Ratio Indicates what percentage of profit a company is distributing to its shareholders Indicates what percentage of profit a company is distributing to its shareholders Can be calculated for common, preferred and all dividends: Can be calculated for common, preferred and all dividends: Payout ratios vary with the industry Payout ratios vary with the industry High payout ratios can indicate that a company is not reinvesting enough in its operations High payout ratios can indicate that a company is not reinvesting enough in its operations Cash Dividends Payout Ratio ÷ = Profit

Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. COPYRIGHT Copyright © 2010 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.