1. Financing company operations
Chapter 2
Financing company operations
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2. Issue of shares
A company can issue shares on any terms or conditions it determines
Share capital may include different classes:
Ordinary
Preference
To issue preference shares a constitution setting out the rights is necessary (s254A(2))
Shares can be issued at any price, payable in full or by instalment
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3. Key features of share capital
Shares may have different rights in respect of voting, sharing in profits or return of capital
Rights of shareholders include:
The right to vote for directors of the company
The right to share in assets on the winding-up/liquidation of the company
The right to share in new share issues (for the same class of shares)
Ordinary shareholders have no specific right to dividends.
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4. Accounting for share issues
The following slides contain a number of examples of the accounting process involved when a company issues new shares.
Most of the following examples assume that shares are issued via an IPO /prospectus process. Such processes involve the shareholders applying for a number of shares in response to a prospectus issued by the company. The company will then issue the shares to new shareholders based on the applications it has received.
Initial Public Offering
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5. Accounting for share issues
Such share issues are accompanied by disclosure documents. Commonly the disclosure documents specify a minimum number of applications which must be received in order for the share issue to proceed.
The Corporations Act requires:
That the minimum subscription be achieved within 4 months of the issue of the disclosure document; and
shares be allotted within 13 months of the issue of the disclosure document.
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6. Accounting for share issues
On issuing new shares the company may require the full amount owing on the shares to be paid at the time of application. Alternatively it may require a portion to be paid on application, with the balance being due at some time in the future (on allotment and/or at call).
There are a number of different account used to facilitate this application, allotment and call process.
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7. Issue of shares – Payable in full on application (Example 1)
ABC issued a prospectus for the issue of 100,000 $5 shares on 1 January 2011.
The prospectus specified that the $5 was payable in full on application.
The company received applications for a total of 100,000 shares – these applications were received throughout the month of January.
On 31 January 2011 ABC issued 100,000 shares.
Share issue costs of $1,500 were incurred by ABC.
Required:
Prepare the journal entries to account for the issue of shares by ABC.
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8. Issue of shares – Payable in full on application (Example 1)
1-30 January 2011
Dr Cash trust 500,000
Cr Application ,000
To record receipt of application monies prior to issuing the shares
Cash account trust is used to record cash prior to the shares being issued
- the cash is held in a trust account on behalf of the applicants
Represents a liability of the company prior to the shares being issued
(100,000 shares x $5)
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9. Issue of shares – Payable in full on application (Example 1)
31 January 2011
Dr Application 500,000
Cr Share capital 500,000
Issue of shares applied for
Dr Cash 500,000
Cr Cash trust 500,000
Transfer from cash trust on issue of shares
Dr Share capital 1,500
Cr Cash 1,500
To record share issue costs
Share issue costs are not expensed, but offset
against the proceeds of the equity issue in
accordance with AASB 132
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10. Issue of shares – Deposit on application, balance on allotment (Example 2)
ABC issued a prospectus for the issue of 100,000 $5 shares on 1 January 2011.
The prospectus specified that $3 was payable on application, with the balance payable on allotment.
The company received applications for a total of 120,000 shares – these applications were received throughout the month of January.
The Directors decided to issue 5 shares for every 6 applied for, refunding the money in relation to unsuccessful applications.
On 31 January 2011 ABC issued 100,000 shares.
Required:
Prepare the journal entries to account for the issue of shares and the subsequent receipt of allotment monies.
Compiled by: Maheshwari Chand; in Tri 2, 2012

11. Issue of shares – Deposit on application, balance on allotment (Example 2)
1 January 2011
Dr Cash trust 360,000
Cr Application 360,000
To record receipt of application monies prior to issuing the shares
31 January 2011
Dr Application 300,000
Dr Allotment 200,000
Cr Share capital 500,000
Issue of shares applied for
(120,000 shares x $3)
The allotment account is a temporary account used when further amounts
are owing when shares are issued – represents a receivable of the company
(100,000 shares x $5)
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12. Issue of shares – Deposit on application, balance on allotment (Example 2)
31 January 2011
Dr Application 60,000
Cr Cash trust 60,000
Refund of application monies to unsuccessful applicants
Dr Cash 300,000
Cr Cash trust 300,000
Transfer from cash trust on issue of shares
Dr Cash 200,000
Cr Allotment 200,000
Cash received on allotment
(20,000 shares x $3)
(100,000 shares x $3)
(100,000 shares x $2)
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13. Issue of shares – Deposit on application, instalment on allotment, balance on call (Example 3)
ABC issued a prospectus for the issue of 100,000 $5 shares on 1 January 2011.
The prospectus specified that $2.50 was payable on application, a further $1.25 was payable on allotment and the final $1.25 was payable at call.
On 31 January 2011 ABC issued 100,000 shares.
On 31 May 2011, the company made the call for the outstanding balance of $1.25 per share. The call was payable by 30 June 2011.
At 30 June 2011, the call on 10,000 shares remained unpaid.
Required:
Prepare the journal entries to account for the issue of shares and the subsequent receipt of allotment monies.
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14. Issue of shares – Deposit on application, instalment on allotment, balance on call (Example 3)
1 January 2011
Dr Cash trust 250,000
Cr Application 250,000
To record receipt of application monies prior to issuing the shares
31 January 2011
Dr Application 250,000
Dr Allotment 125,000
Cr Share capital 375,000
Issue of shares applied for
Dr Cash 250,000
Cr Cash trust 250,000
Transfer from cash trust on issue of shares
(100,000 shares x $2.50)
(100,000 shares x $3.75)
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15. Issue of shares – Deposit on application, instalment on allotment, balance on call (Example 3)
31 January 2011
Dr Cash 125,000
Cr Allotment 125,000
Cash received on allotment
31 May 2011
Dr Call 125,000
Cr Share capital ,000
Call of $1.25 per share on 100,000 shares issued
The call account is a temporary account used when further amounts
are owing when a call is made – represents a receivable of the company
Balance of share capital a/c now $500,000
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16. Issue of shares – Deposit on application, instalment on allotment, balance on call (Example 3)
30 June 2011
Dr Cash 112,500
Cr Call ,500
Cash received on call
At 30 June 2011 the balance in the call account is $12,500, representing $1.25 per share on 10,000 shares.
Such unpaid calls are referred to as calls in arrears and are shown as a reduction of share capital in the company’s financial statements.
As such the balance in the share capital account at 30 June,2011 is as follows:
Balance Sheet of ABC as at Extract ,30 June 2011.
Share capital (100,000 ordinary $5 per share) 500,000
Less: Calls in arrears (10,000 $1.25 per share) (12,500)
TOTAL SHARE CAPITAL ,500
(100,000 – 10,000 = 90,000 shares x $1.25)
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17. Oversubscription
The number of shares applied for may exceed the number of shares that the company has available for issue.
In such cases the directors of the company may decide to:
Reduce the number of share to be issued to each applicant (on a pro-rata basis)
To issue shares only to certain applicants (eg on a first-in-first-served basis)
The treatment of excess application monies depends on the terms of a company’s constitution. Options include:
Refunding excess application monies to unsuccessful applicants; or
Retaining the excess application money as an advance on future calls
The calls in advance account is treated as contributed
equity even though it is legally a liability
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18. Oversubscription (Example 4)
ABC issued a prospectus for 100,000 $5 shares on 1 January 2011.
The prospectus required payment of $3 on application and $2 in one years time.
The company received applications for a total of 125,000 shares – these applications were received throughout the month of January.
On 31 January 2011 ABC issued 100,000 shares.
Required:
Prepare the journal entries to account for the issue of shares assuming the excess money was offset against the call due in one years time.
Compiled by: Maheshwari Chand; in Tri 2, 2012

19. Oversubscription (Example 4)
1-30 January 2011
Dr Cash trust 375,000
Cr Application 375,000
To record receipt of application monies prior to issuing the shares
31 January 2011
Dr Application 375,000
Cr Calls in advance 75,000
Cr Share capital 300,000
Issue of shares applied for and transfer of excess to calls in advance account
Dr Cash 375,000
Cr Cash trust 375,000
Transfer from cash trust on issue of shares
(125,000 x $3)
(25,000 x $3)
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20. Forfeiture of shares
Directors may be given the power under the company’s constitution to forfeit (cancel) shares in respect of which calls are not made. Possible actions that can be taken in such circumstances are:
1. The balance of paid monies may be retained by the company.
In this case the balance is retained in an equity account (Forfeited Shares Reserve )
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21. Forfeiture of shares
2. The amount paid may be refunded back to the forfeiting shareholder.
In this case the balance is recorded in a liability account (Forfeited Shares Account).
Prior to refunding the balance the company could reissue the shares as fully paid shares to new shareholders with the new shareholders paying less than the fully paid value of the share.
The difference, as well as any costs of reissue are deducted from the amount to be refunded back to the forfeiting shareholders.
This option is only available if the company’s constitution states this fact. Where the constitution is silent, the company is entitled to keep any excess (option 1 above).
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22. Forfeiture of shares (Example 5)
This example continues on from example 3.
On 1 July 2011 the directors of ABC decided to forfeit the 10,000 shares in respect of which the call of $1.25 was not made.
The shares were cancelled and reissued as fully paid to $5 per share on payment of $4 per share.
Costs of $500 were incurred to reissue the shares.
Required:
Prepare the journal entries to account for the forfeiture and re issue of the 10,000 shares.
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23. Forfeiture of shares (Example 5)
1 July 2008
Dr Share capital 50,000
Cr Call ,500
Cr Forfeited shares a/c ,500
Cancel of forfeited shares
Dr Cash 40,000
Dr Forfeited shares a/c 10,000
Cr Share capital ,000
Re-issue of forfeited shares for $4 per share
Dr Forfeited shares a/c
Cr Cash
Costs incurred to reissue shares
Dr Forfeited shares account 27,000
Cr Cash ,000
Refund of balance to forfeiting shareholders
(10,000 x $5)
(10,000 x $1.25)
(10,000 x $3.75)
Discount of $1/share
(10,000 x $5
- fully paid)
– 10,
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24. Share issue and formation costs
Underwriting costs:
Arranging for the issue to be underwritten will avoid having to refund monies due to under-subscription
Underwriter agrees to purchase all excess shares in return for an upfront payment of an underwriting commission
Treated as a reduction against contributed equity
Other share issue costs:
Includes costs such as stamp duty, legal fees etc
Formation costs:
Treated as an expense
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25. Contributed Equity - summary
The contributed equity total shown on the Balance Sheet is the net of: $
Share Capital x
Less Calls in Arrears (x)
Add Calls in Advance x
Less Underwriting commission (x)
Less Share issue costs (x)
Total share capital x
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26. Subsequent issues of shares
Issued to raise funds to support expansion
1. RIGHTS ISSUE
Offer of shares to existing shareholders
Rights dependent on the number of shares held
Rights may be renounceable or non-renounceable
2. PRIVATE PLACEMENTS
Offer of shares to one entity only
Usually issued to institutional investors
Accounting for these types of issues is similar to public issues but does not use application/cash trust accounts
The entry required is:
Dr Cash xx
Cr Share capital xx
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27. Subsequent issues of shares
3. BONUS ISSUE
Shares granted only to existing shareholders
Issued at no cost in lieu of cash dividend
Number based on shareholding at date of declaration
No change in the net equity of the company.
The entry required is:
Dr Retained earnings/reserve xx
Cr Share capital xx
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28. Subsequent movements in share capital - options
A right (not obligation) to buy a certain number of shares by a set date at a set price.
Options may be issued for free – eg options may be issued to employees in lieu of cash bonuses.
Options may be sold to investors – similar to normal shares.
Where options are not exercised by a specific date they lapse.
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29. Subsequent movements in share capital - options (Example 6)
On 30 June 2011, ABC issued 10,000 options valued at $1 each to the CEO as payment for past services
Each option entitles the CEO to acquire a share in the company for $3
The options must be exercised within 12 months of issue date- after this time they will lapse
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30. Subsequent movements in share capital - options (Example 6)
Required:
Prepare the journal entries to account for the issue and exercising of the options assuming:
a) The options are issued for no consideration. On 1 May 2012, when the share price is $3.10, the CEO exercises the options.
b) The options are issued for no consideration. The options are not exercised by the CEO and lapse on 30 June 2012.
c) The options are issued for $1 each. By 30 June 2012, 9,000 of the options have been exercised.
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31. Subsequent movements in share capital - options (Example 6)
30 June 2012 (same entry for a) and b))
Dr Wages expense 10,000
Cr Options 10,000
Issue of options to CEO
a) 1 May 2012
Dr Cash 30,000
Dr Options 10,000
Cr Share capital 40,000
Exercising of options by CEO
b) 30 June 2012
Cr Reserve 10,000
Transfer of balance to a reserve account on the lapsing of the options
Could also be credited to Retained Earnings or Share Capital
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32. Subsequent movements in share capital - options (Example 6)
c) 30 June 2012
Dr Cash 10,000
Cr Options 10,000
Issuing of options
1 July June 2012
Dr Cash 27,000
Dr Options 10,000
Cr Share capital 36,000
Cr Reserve 1,000
Exercising of 9,000 options to 30 June 2007 and transfer of balance to a reserve account on the lapsing of the options
(10,000 x 50c)
(9,000 x $3)
(1,000 x $1) -
lapsed options
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33. Redeemable preference shares
Such shares either:
Give the holder the right to be repaid his/her capital Or
Give the company the right to repay the capital
Main issue is the classification of such shares
Are they equity or liabilities?
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34. Redeemable preference shares - equity
Shares can be redeemed from:
Proceeds of a fresh issue of shares Or
2. Retained earnings
Additionally, the constitution may specify payment of a redemption premium which is paid from profit
On redemption the shares are cancelled and cannot be reissued
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35. Redeemable preference shares - equity
Dr Share Capital - Preference $x Cr Shareholders redemption $x
Transfer of preference capital to redemption account
Dr Shareholders redemption $x
Cr Cash $x
Redemption of preference shares
Dr Cash/ Retained earnings $x Cr Share Capital - Ordinary $x Receipt of cash on issue of new shares
Cash a/c applies to issues of new shares; retained earnings a/c applies to redemption from profits
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36. Redeemable preference shares - liabilities
Redeemable preference shares with the following characteristics are more in the nature of liabilities:
Redeemable in cash on a certain date or at the option of the holder
Cumulative as to the payment of dividends
Non-participating in further dividends distributions
Priority capital return rights
Accounting process required when accounting for redeemable preference shares that are classified as liabilities depends on whether the redemption is:
From a fresh issue of shares (Fig 2.12 of text)
From profits at a premium (Fig 2.13 of text)
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37. Conversion of shares A company may change its issued capital by:
Consolidation
Involves grouping issued shares into larger parcels
Eg; 2 x $1.00 consolidated into 1 x $2.00 share
Split
Involves splitting issued shares into smaller parcels
Eg; 1 x $2.00 share split into 2 x $1.00 shares
Conversion
Involves converting an ordinary share to a preference share or vice versa
Governed by constitution
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38. Share buy-backs WHY BUY BACK SHARES? Change debt/equity ratio
Defence against takeover
Clear odd lots or employee share schemes
LEGAL REQUIREMENTS
Covered by Section 257A of Corporations Act
Allowed only if not prejudicial to creditors
Limited types of buy-backs allowed
ACCOUNTING FOR BUY-BACKS
Shares must be cancelled
Buy-back may generate a premium or a discount
These are adjusted against either reserves, retained profits or both (UIG Abstract 22)
Each company must adopt an accounting policy in respect of premiums or discount on buy-backs
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39. Share buy-backs 1. At a premium:
shares initially issued at $1.20 were bought back for $1.50 each
Dr Share Capital ,000
Dr Retained earnings 36,000 Cr Cash ,000
2. At a discount:
shares initially issued at $1.20 were bought back for $1.00 each. Write back firstly against reserves (balance $20,000)
Cr Reserves ,000
Cr Retained earnings ,000 Cr Cash ,000
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40. Accounting for debentures
Issuing debentures
May be issued at par/premium/discount
Issue preceded by disclosure document
Application monies held in trust until allotment
Can be listed on the stock exchange
Redemption of debentures
May be redeemable at company’s option before maturity
Redeemable on a set date or after a set period of time
Debentures may be redeemed at par/premium/discount
Premiums and discounts are treated as expenses and revenues
Funds to redeem debentures may come from:
Proceeds of new share issue or borrowing
Proceeds of asset sale
Assets currently held
May be convertible into shares
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41. Redemption of debentures
REDEMPTION AT A PREMIUM (LOSS)
Dr Debentures $x
Dr Redemption expense $x Cr Redemption revenue $x Cr Cash $x
CONVERSION TO EQUITY
Dr Debentures $x Cr Share Capital $x
Expense = redemption at a premium (loss)
Revenue = redemption at a discount (gain)
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42. Convertible notes Debt convertible to equity on maturity
Initial classification as liability or equity depends on characteristics.
Some may be partly debt, partly equity
Accounting for redemption depends on initial classification
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43. Refer to text for more information.
End of lecture 2
Refer to text for more information.
Compiled by: Maheshwari Chand; in Tri 2, 2012