1. FINANCIAL ACCOUNTING Unit 2 – COMPANIES I : Limited Companies and the Issue of Shares Unit 21Copyright © 2010 MDIS. All rights reserved.

2. Learning Objectives (1 of 2) Explain the legal nature of limited companies Explain the importance of the concept of limited companies Describe the major of characteristics of limited companies Explain the important terminology relating to issues of shares Unit 22Copyright © 2010 MDIS. All rights reserved.

3. Learning Objectives (1 of 2) Taxation in company financial statements Understand Provisions, reserves and liabilities Explain the various ways in which a limited company may alter share capital Explain how to present the financial statements of limited companies Unit 23Copyright © 2010 MDIS. All rights reserved.

4. Introduction The principle of limited liability has been of great importance in industry and commerce. Without it, it is inconceivable that large business units like GlaxoSmithKline plc or Marks and Spencer plc, could have existed. Unit 2Copyright © 2010 MDIS. All rights reserved.4

5. The Companies Act The Act of Parliament governing limited companies in the UK is the Companies Act 2006. The Companies Act makes the keeping of proper sets of accounting records and the preparation of final accounts (financial statements) compulsory for every companies. Unit 2Copyright © 2010 MDIS. All rights reserved.5

6. Memorandum of Association A Memorandum of Association is a memorandum stating that the subscribers wish to form a company under the Companies Act and agree to become members of the company and, in the case of a company that is to have a share capital, to take at least one share each. Unit 2Copyright © 2010 MDIS. All rights reserved.6

7. Articles of Association A company must have Articles of Association prescribing regulations for the company. A company’s constitution comprises the regulations contained in the Articles of Association and any resolutions or agreements passed subsequently by the company. Unit 2Copyright © 2010 MDIS. All rights reserved.7

8. Classes of Shares The main types of classes of shares are ordinary shares and preference shares. There is also a variety of other shares. The shares which carry the right to the whole of the profits remaining after dividends have been paid on any preference shares are often known as ‘equity share capital’ or as ‘equities’. Unit 2Copyright © 2010 MDIS. All rights reserved.8

9. Distributable Profits A company’s realised profits and losses are “those profits and losses which are treated as realised in the financial statements, in accordance with principles generally accepted with respect to the determination of realised profits and losses for accounting purposes at the time when those accounts are prepared ”. The above definition also applies for the purpose of calculating a company’s distributable profits. Unit 2Copyright © 2010 MDIS. All rights reserved.9

10. The Issue of Shares The cost of issuing shares can be very high. As a result the number of shares issued must be sufficient to ensure the cost of doing so is relatively insignificant compared to the amounts received. When shares are issued, they may be payable, either (a) immediately on application, or (b) by instalments. Unit 2Copyright © 2010 MDIS. All rights reserved.10

11. The Issue of Shares (cont’d) Issue of shares may take place on the following terms connected with the price of the shares: 1.Shares issued at par. This would mean that a share of $1 nominal value would be issued for $1 each. 2.Shares issued at premium. In this case a share of $1 nominal value would be issued for more than $1 each, say for $3 each. Unit 2Copyright © 2010 MDIS. All rights reserved.11

12. Oversubscription and under subscription of Shares When a company invites investors to apply for its shares, it is very rare that the applications for shares equal exactly the number of shares to be issued. Where more shares are applied for than are available for issue, then the issue is said to be oversubscribed. Where fewer shares are applied for than are available for issue, then the issues has been undersubscribed. Unit 2Copyright © 2010 MDIS. All rights reserved.12

13. Unit 2Copyright © 2010 MDIS. All rights reserved.13 Issue of shares payable by instalments The various stages, after the initial investment has been made to the public to buy shares by means of advertisements, etc. are as follows: (A) Applications are received together with the application monies (B) The applications are vetted and the shares allotted, letters of allotment being sent out. (C) Excess application monies from wholly unsuccessful applicants will be returned.

14. Unit 2Copyright © 2010 MDIS. All rights reserved.14 Issue of shares payable by instalments (cont’d) (D) Allotment monies are received. (E) The next instalment, known as the first call, is requested. (F) The monies are received from the first call. (G) The next instalment, known as the second call, is requested. (H) The monies are received from the second call.

15. Forfeited shares Sometimes, some shareholders fail to pay the calls requested. If drawn up with care, the Articles of Association will provide that the defaulting shareholders forfeits the shares allocated. In this case, the shares will be cancelled. The instalments already paid by the shareholders will be forfeited and retained by the company. Copyright © 2010 MDIS. All rights reserved.Unit 215

16. Calls in advance and in arrear At the balance sheet date some shareholders will not have paid all the calls made. These are collectively known as calls in arrear. On the other hand, some shareholders may have paid amounts in respect of calls not made by the balance sheet date. These are calls in advance. Copyright © 2010 MDIS. All rights reserved.Unit 216

17. Rights shares A company can also increase its issues share capital by making a rights issues. This is the issue of shares to existing shareholders at a price lower than the ruling market price. Copyright © 2010 MDIS. All rights reserved.Unit 217

18. Bonus shares Bonus shares are shares issued to existing shareholders free of charge. An alternative name often used is scrip issue. If the Articles give the power, and the requisite legal formalities are observed, the following may be applied in the issuing of bonus shares: 1.The retained profits; 2.Any other revenue reserve; 3.Any capital reserve, e.g. share premium. Copyright © 2010 MDIS. All rights reserved.Unit 218

19. Loan notes A loan note is a certificate acknowledging a loan to a company. It is usually issued under the company’s seal and bears a fixed rate of interest. However, unlike shares, which normally depends on profits out of which to appropriate dividends, interest on loan notes is payable whether on not profits are made. Copyright © 2010 MDIS. All rights reserved.Unit 219

20. Summary Unit 2Copyright © 2010 MDIS. All rights reserved.20 The principle of limited liability has been of great importance in industry and commerce. Without it, it is inconceivable that large business units such as GlaxoSmithKline plc or Marks and Spencer plc could have existed.

21. Questions? Unit 221Copyright © 2010 MDIS. All rights reserved.