14-1 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Chapter 14 Share capital and reserves

14-2 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Learning objectives Understand that the owners’ equity of an organisation can consist of several different accounts Understand that within owners’ equity there can be various classes of shares, each providing different rights to holders Be able to provide the journal entries to recognise the issue of both fully paid and partly paid shares by a company Be able to provide the journal entries necessary when preference shares are to be redeemed

14-3 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Learning objectives (cont.) Be able to provide the necessary journal entries when shares are forfeited by their owners Be able to provide the journal entries to account for rights issues and option issues Understand what constitutes a share split and a bonus issue of shares Know the disclosure requirements of AASB 101 ‘Presentation of Financial Statements’ in relation to share capital and reserves

14-4 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Relevant accounting standards and other guidance AASB 101 ‘Presentation of Financial Statements’ AASB 132 ‘Financial Instruments: Presentation’ AASB 2 ‘Share-Based Payments’ AASB 108 ‘Accounting Policies, Changes in Accounting Estimates, and Errors’ The AASB’s ‘Framework for the Preparation and Presentation of Financial Statements’

14-5 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Owners’ equity as a residual claim on net assets Owners’ equity –owners’ share of the business calculated by subtracting the entity’s liabilities from its assets Shareholders’ funds –in a company this represents the difference between total assets and total liabilities The AASB Framework defines equity as –the residual interest in the assets of the entity after deducting all of its liabilities

14-6 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Owners’ equity as a residual claim on net assets (cont.) The definition and recognition of equity are directly a function of the definition and recognition of assets and liabilities Total owners’ equity is made up of a number of accounts –share capital relating to one or several classes of shares –reserves (e.g. revaluation reserve, general reserve, forfeited share reserve) –retained earnings (or accumulated losses)

14-7 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Retained earnings Retained earnings often makes up a significant proportion of shareholders’ funds –represents the accumulation of prior period profits and losses –reduced by dividends declared and paid –reduced by any transfers to other reserves –could be reduced by a bonus issue of shares –changes in accounting policies as the result of the initial adoption of a new accounting standard can result in a direct adjustment in retained earnings in accordance with AASB 108 –the recognition of prior period errors can result in a reduction in retained earnings in accordance with AASB 108

14-8 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Accounting for the issue of share capital Share capital –balance of owners’ equity within a company comprising the capital contributions made by owners Par value –the face value of a security Share premium –the difference between the issue price of a share and its par value Under section 254C of the Corporations Act 2001 shares of a company have no par value Shares no longer issued at a premium or a discount

14-9 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Accounting for the issue of share capital (cont.) To recognise receipt of application monies DebitBank trust CreditApplication To recognise the issue of shares and to close application account DebitApplication CreditShare capital

14-10 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Accounting for the issue of share capital (cont.) To transfer cash from trust account to general operating bank account DebitCash at bank CreditBank trust Refer to Worked Examples 14.1 and 14.2 (pp. 484 and 485)

14-11 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Oversubscription of shares When more shares are applied for than the number to be issued – quite common Two approaches to manage oversubscription include 1.satisfy full demand of a certain number of subscribers and refund the funds advanced by others 2.issue shares to all subscribers on a pro rata basis - excess monies on application can either be refunded or used to reduce further monies owing on allotment Refer to Worked Example 14.3 (p. 485)

14-12 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Oversubscription of shares (cont.) Accounting for oversubscription of shares partly paid - recognise aggregate applications for shares DebitBank trust CreditApplication - to allot shares as partly paid DebitApplication CreditShare capital

14-13 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Oversubscription of shares (cont.) To recognise amount due on allotment DebitAllotment CreditShare capital To offset excess amounts paid on application against amount due on allotment DebitApplication CreditAllotment

14-14 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Oversubscription of shares (cont.) To transfer funds to operating bank account DebitCash at bank CreditBank trust To recognise receipt of amounts due on allotment DebitCash at bank CreditAllotment

14-15 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Oversubscription of shares (cont.) Accounting for call made on shares subsequent to allotment To record call DebitCall Credit Share capital To record receipt of amounts due on call DebitCash at bank CreditCall

14-16 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Different classes of shares Ordinary shares –provide a claim against the entity that ranks behind the claims of creditors and some preference shareholders –confer voting rights on shareholders –entitle their owners to distribution of profits in the form of dividends –entail, however, no guarantee of dividends –if dividends not paid in one year, do not accrue the right to dividends until dividends are paid

14-17 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Different classes of shares (cont.) Preference shares –subject to preferential treatment, often with receipt of dividends or order of ranking for asset distributions –some have voting rights –some have voting rights if dividends unpaid –others have no voting rights –if participating, holders may, after receiving preference dividend at fixed rate, participate with ordinary shareholders in further profits distributed

14-18 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Different classes of shares (cont.) Preference shares (cont.) –if convertible, have a right of conversion to ordinary shares –if redeemable, have the ability to redeem shares for cash at later date –some have the characteristics of equity and others have the characteristics of debt –preference shares that are redeemable on a fixed date, or at the option of the shareholder, provide a fixed rate of return, and provide no voting rights, should be disclosed as debt (AASB 132) –if disclosed as debt then the ‘dividend’ payments will be classified as treated as expenses (interest)

14-19 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Redemption of preference shares Under sections 254 (J) and (K) of the Corporations Act shares are to be redeemed –out of profits that would otherwise be available for dividends; or –out of proceeds of a fresh issue of shares made for the purposes of the redemption Refer to Worked Example 14.4 (p. 490)

14-20 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Redemption of preference shares (cont.) To recognise issue of preference shares DebitCash at bank CreditShare capital—preference shares To eliminate preference shares and create ‘capital redemption reserve’ DebitShare capital—preference shares CreditCapital redemption reserve

14-21 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Redemption of preference shares (cont.) To redeem shares out of profits DebitRetained earnings CreditCash Further entry required pursuant to amendments to the Corporations Law DebitCapital redemption reserve CreditShare capital

14-22 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares Shares can be forfeited if –shares are issued as partly paid and shareholders do not subsequently pay the amounts due on allotment or on calls –a shareholder ceases to be a member of the company at that time Shareholders who have forfeited shares might be entitled to a full or partial refund of monies paid before forfeiture

14-23 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares (cont.) Various outcomes –if company is listed on the ASX or if company’s operating rules allow it, a refund is paid to the investor less costs incurred in reissuing shares  amounts paid are recorded in a forfeited shares account (liability) until refunded

14-24 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares (cont.) If company is not listed on the ASX and constitution says nothing about refunds, company can retain the amounts paid less costs of reissuing shares - amounts paid are held in a forfeited shares reserve (part of shareholders’ funds) Refer to Worked Example 14.5 (p. 492)

14-25 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares (cont.) To record the call DebitCall CreditShare capital To record receipt of call monies DebitCash at bank CreditCall

14-26 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares (cont.) To record forfeiture of shares DebitShare capital Credit Call CreditForfeited shares account To recognise amount received on sale of forfeited shares: DebitCash at bank DebitForfeited shares account CreditShare capital

14-27 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Forfeited shares (cont.) To recognise payment of costs relating to sale of shares Debit Forfeited shares account CreditCash at bank To recognise return of remaining monies to original shareholders DebitForfeited shares account CreditCash at bank

14-28 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Share splits and bonus issues Share splits –subdivision of the company’s shares into shares of smaller value –result in no change to owners’ equity –companies may undertake share splits because they feel that lower priced shares will be more marketable –no journal entries required –company must amend share register

14-29 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Share splits and bonus issues (cont.) Bonus shares –existing shareholders receive additional shares, at no cost, in proportion to their shareholding at the date of the bonus issue –journal entry DebitRetained earnings CreditShare capital—ordinary shares –bonus shares from retained profits often referred to as a bonus share dividend

14-30 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Rights Issues and Share Options A rights issue provides existing shareholders with the right to acquire additional shares typically at an ‘attractive’ price Some rights might be tradeable, some are not See Worked Example 14.6 (p. 496) Share options give the holder the right to acquire shares in the future at a particular price Are typically sold by the entity, or provided to employees as part of their salary See Worked Example 14.7 (p. 497)

14-31 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Required disclosures for share capital AASB 101 requires disclosure of the following For each class of share capital –number of shares authorised –number of shares issued and fully paid, and issued but not fully paid –par value per share, or that shares have no par value –reconciliation of number of shares outstanding at beginning and end of period –rights, preferences and restrictions of the class

14-32 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Required disclosures for share capital (cont.) –shares reserved for issue under options and contracts for sale of shares –shares in the entity held by the entity or by subsidiaries or associates Description of nature and purpose of each reserve within equity

14-33 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Reserves Include –revaluation reserve –general reserve: may be used as a means of transferring profits out of retained profits for future expansion plans Required to disclose (AASB 101) –reconciliation between carrying amount of each reserve at the beginning and end of the period, separately disclosing each change

14-34 Copyright  2007 McGraw-Hill Australia Pty Ltd PPTs t/a Australian Financial Accounting 5e by Craig Deegan Slides prepared by Craig Deegan Summary The chapter addresses various issues associated with share capital and reserves Owners’ equity is the residual interest in the assets of an entity after deduction of its liabilities When shares are issued to the public, funds must be placed in trust prior to allotment of shares Preference shares should be disclosed as debt or equity depending on the conditions of issue Forfeiture of shares, share splits and bonus issues were also discussed