Chapter 11 Shareholders’ Equity (Part 2) Learning Objectives 1. Account for distributions to owners. 2. Account for recapitalization and quasi-reorganization. Retained earnings Retained earnings represent the cumulative profits (net of losses, distribution to owners, and other adjustments) which are retained in the business and not yet distributed to the shareholders. Total retained earnings may consist of: a. Unappropriated (Unrestricted) =the portion of retained earnings that is available for future distribution to the shareholders. b. Appropriated (Restricted) - the portion that is not available for distribution until the restriction is removed. Appropriations are disclosed in the notes. In the absence of such disclosure, the retained earnings are deemed unrestricted. Appropriation may be a result of: 1. Legal requirement — such as appropriations for treasury shares and statutory reserves. : 2. Contractual requirement — such as appropriation in conjunction with a bond issue. 3. Voluntary - such as appropriations for probable contingencies, business expansion, and the like. Journal entries: : Date ‘| Retained earnings - unrestricted x Retained earnings ~ appropriated xx to record the appropriation of retained earnings : Retained earnings - appropriated xXx Retained earnings —-unrestricted xx] fo remove. the restriction on retained earnings * Dat.520 Chapter 11 Appropriations do not affect total shareholders’ equity or total retained earnings. Total retained earnings include both the restricted arid. unrestricted portions. Appropriations for statutory reserves, however, are usually presented separately from retained earnings. Appropriations do not mean that 4 corresponding cash fund has been set aside, Appropriations only indicate amounts that are not available for distribution to the owners. Stock corporations are prohibited from accumulating retained earnings in excess of 100% of their paid-in capital, except when this is justified by a valid appropriation. (Sec. 42, corporation Code) Negative balances in equity > When the retained earnings account has a negative balance (ie, debit balance), it is ‘described in the financial statements as “deficit.” > When total shareholders’ equity has a negative balance (such as when liabilities exceed assets), it is described in the financial statements as “capital deficiency.” Dividends Dividends (distributions to shareholders) may be in the form of: 1. Cash dividends — distributions in the form of cash. > Liability dividends — are dividends issued by a corporation that has a temporary cash shortage. Liability dividends may be either: i. - Scrip dividends - short-term and may or may not bear interest ii. Bond dividends - long-term and bear interest 2. Property dividends - distributions in the form of noncash assets. 3. Share dividends (Stock dividends) - distributions in the form of the entity’s own shares.olders’ Equity (Part 2) sat Dividends are normally declared out of unrestricted ings (retum on capital) in accordance with the trust fund ine. However, wasting asset corporations of mining panies, where the wasting asset doctrine applies, and orations undergoing liquidation are permitted to declare vidends out of capital (retum of capital), Dividends declared it of capital are called liquidating dividends, relevant to the accounting for dividends Date of declaration - the date when the board of directors formally announces the distribution of dividends Date of record - the date on which the stock and transfer book ‘of the corporation is closed for registration. Only those who are listed as of this date will be entitled to receive dividends. Thus, it is only on this date that the entity determines the exact amount of dividends to be distributed on date of distribution. No entry is made on this date, except when there are adjustments to the initially recognized amount of dividends on date of declaration. > Ex-dividend date - to provide shareholders ample time to register, they are normally allowed to register about three to five days prior to the date of record. This period prior to the date of record is referred to as the ex-dividend date. No entry is also made on these dates. Date of distribution - the date when the dividends are distributed to the shareholders, inition of liability for dividends corporation incurs an obligation to pay dividends only when it res them. No obligation arises for dividends not declared, for dividends that accumulate. The liability to pay a vidend is recognized when the dividend is appropriately jorized and is no longer at the discretion of the entity, which522 Chapter 11 2 . The date when the dividend declared by management is approved by a relevant authority, if further approval is required, or b, The date when management declares dividends, if further approval is not required, (rric17) Example 1; The board of directors of ABC Bank, Inc. declares PIM cash dividends on April 1, 20x1, subject to the approval of the | BSP, ABC receives approval from the BSP on April 15, 20x1. 4 © Dividends declared by banks are subject othe approval ofthe Bangko Sentral ng Pilipinas (BSP). Question: When should ABC recognize a liability for the dividends declared? Answer: April 15, 20x1, the date of approval by a relevant authority. Example 2: The board of directors of ABC Manufacturing Co. declares PIM cash dividends on April 1, 20x1:Dividends declared | are not subject to further approval bya relevant authority. | Question: When should ABC recognize a liability for the dividends | declared? | Answer: April 1, 20x1, the date of declaration by the board of directors because further approval is not requ _¥F Under the Corporation Code, share dividends declared b the board of directors are subject to the approval of shareholders representing at least two-thirds (2/3) of the outstanding share — capital at a regular or special meeting duly called for the purpose. A liability is recognized only for cash dividends or property dividends. No liability is recognized for share dividends (stock dividends). “Stock dividends payable” (‘Share dividends distributable’) is presented in equity as an addition to share capital.jolders’ Equity (Part 2) ccounting for cash dividends sh dividends are the most common form of distribution to fers, Cash dividends may be declared as a certain amount per ‘are or as a certain percentage of the par value of the shares. Only the outstanding shares are entitled to dividends. Dutstanding shares are issued shares plus subscribed shares minus asury shares. Under the Corporation Code, cash dividends due on jelinquent shares are first applied to the'unpaid balance on the Ibscription plus costs and expenses, while share dividends (stock lividends) are withheld from the delinquent subscriber until his unpaid subscription is fully paid. [lustration 1: Cash dividends n April 1, 20x, an entity declared P50 cash dividend per share to areholders of record as of April 15, 20x1, for distribution on ay 1, 20x1. The entity’s equity as of April 1, 20x1 is as follows: Share capital (authorized capital 10,000 shares, P100 par) 800,000 jubscribed share capital 220,000 are premium 100,000 Retained earnings ' 454,000 asury shares (at cost of P120 per share) (144,000) Other components of equity 70,000 fotal shareholders’ equity 1,500,000 Outstanding shares: issued shares (P800,000 + P100 par) 8,000 Shares subscribed (#220,000 + P100 par) 2,200 Treasury shares (P144,000 + P120 cost) 1,200) Outstanding shares ‘ 9,000 Cash dividends payable: Outstanding shares 9,000 Multiply by: Dividends per share 50 Total cash dividends 450,000Sat Seseoeeene Chapter 11 > Journal entries: 2 ee SS Eee Gut 2a] Retained earings (or Dividends") ] 450,000 (ateof | _Cash dividends payable 450,000 April 15, 20x1 }————— (Date ofrecond | No entry _| Mey 120s) Cash dividends payable 450,000 ] ate of | distribution) | sae 450,000 *Altematvely, the “Dividends” account may be debited in liew of “Retained earnings.” ‘The “Dividends” account may be used if dividends are declared more than once within 2 year (eg. semiannual or quarterly dividends). Te “Dividends” account is closed to retained earings at year-end, In practice, dividends out of profits for a certain year are normally declared in the | following year after the financial statements are audited (e.g,, dividends on 20x1’s profit are declared in 20x2 after the 20x1 financial statements are audited). | Generally, it is not advisable to declare dividends out of unaudited Profits | | because the dividends declared may be overstated. Audit adjustments may | change reported profits. “Audited financial statements (with a calendar year period) are usually | authorized for issue before May 15 (last day for filing of income tax return ‘TTR’ with the Bureau of Internal Revenue ‘BIR’) or before the last day for filing of | audited financial statements with the Securities and Exchange Commission (SEC). The last day of filing of audited financial statements with the SEC is based on the dates prescribed by a SEC Memorandum Circular (which may be periodically changed). Normally, the last day of filing depends on the last | | numerical digit of the corporation's SEC registration or license number. | Businesses with gross annual sales or receipts exceeding 3,000,000 are | required to file audited financial statements withthe BIR, i ‘Audited financial statements are filed first, together with the ITR, with the BIR because the SEC accepts only audited financial statements with the BIR stamp. This ensures that the financial statements used to compute income taxes are the same financial statements being filed with the SEC. Penalties are imposed for late filing of ITR or audited financial ‘statements. In addition to filing with the BIR arid SEC, regulated entities also file audited financial statements with other relevant regulatory bodies, e.g, barks also file audited financial statements with the BSP and the Philippine Deposit Insurance Company (PDIC). The last day for filing of audited financial statements with other regulatory bodies is governed by regulations issued by the relevant regulatory body.Shareholders’ Equity (Part 2) 525 Mllustration 2: Liability dividends n April 1, 20x1, an entity declared 50% scrip dividends to areholders of record as of April 15, 20x1, for distribution on ptember 30, 20x1. The scrip dividends bear a 10% per annum interest rate. The entity’s equity as of April 1, 20x1 is as follows: Share capital (authorized capital 10,000 shares, P100 par) 800,000 Subscribed share capital 220,000 Share premium 100,000 Retained earnings 454,000 Treasury shares (at cost of P120 per share) (144,000) Other components of equity 70,000 Total shareholders’ equity 1,500,000 > Scrip dividends payable: Issued shares (P800,000 + P100 par) 8,000 Shares subscribed (220,000 + P100 par) 2,200 Treasury shares (P144,000 + P120 cost) . (1,200) Outstanding shares 9,000 Multiply by: Par value per share 100 "Aggregate par value of outstanding shares 900,000 Multiply by: Dividends as a percentage of par value 50% Total scrip dividends 450,000 >_ Journal entries: : April 1, 20x1 | Retained earnings or Divider 480,000 (Date of * ip divid I 450,000 bicclarahins Scrip dividends payable April 15, 20x1 (ate of record Ae cre Sept 30,20x1 | Scrip dividends payable 450,000 | @ateof | Interest expense (450K x 10%x 6/12) | 22,500 / distribution) Cash 472,500 | Accounting for property dividends Property dividends are in the form of non-cash assets (e.g. inventory, investment in shares of stocks of another entity, PPE, etc.). The accounting for property dividends involves two parts —Chapter 11 (1) accounting for the ‘tiability (property dividends payable), and (2) accounting for the non-cash asset declared as property dividend. Accounting for property dividends payable The liability (property dividends payable) is accounted for as follows: a. Initially measured at the fair value of the non-cash asset at the date of declaration. Subsequently measured at fair value at the end of each reporting period and also on the settlement date. Changes in fair value are recognized directly in retained earnings. On settlement date, any difference between the property dividends payable and the carrying amount of the non-cash asset is recognized as gain or loss in profit or loss. | Accounting for non-cash asset declared as property dividend The non-cash asset declared as property dividend is accounted for as follows: a If the non-cash asset is a noncurrent asset, it is accounted for under PFRS 5 Non-current Assets Held for Sale and Discontinued Operations, provided the non-cash asset is available for immediate distribution in its present condition and the distribution is highly probable. Under PFRS 5, the non-cash asset is: . i, reclassified as “Non-current asset held for distribution to owners.” ii. initially and subsequently measured at the lower of its carrying amount and fair value less costs to distribute. - Changes in fair value are recognized as gains or ~ losses in profit or loss. - A loss is recognized if the fair value less costs to distribute is below the carrying amount. - A subsequent increase in fair value less costs to distribute is recognized as a gain but only to the extent of the cumulative losses recognized in previousreholders’ Equity (Part 2) periods. In no case shall the non-cash asset be measured in excess of its original carrying amount. iii, not depreciated anymore. If the non-cash asset is a current asset, it shall be accounted for ‘under its previous accounting. No reclassification is needed. lustration 1: Non-curtent asset declared as property dividend July 1, 20x1, an entity declared 10,000 shares held as investment associate as property dividend. The investment has a carrying ount of P1,000,000. Information on fair values is as follows: Date Fair value* July 1, 20x1 800,000 Dec. 31, 20x1 1,100,000 Feb. 1, 20x2 950,000 costs to distribute are immaterial, July 1, 20x1: Date of declaration Liability Niw-cock aunt i NCA held for distribution to owners 800,000 Impairment oss 200,000 Investment in associaté 1,000,000 torecord he recasifatioo i roestned Notes: Property dividends payable is recognized at fair value, with a corresponding debit to Retained earnings. Because the intestment in associate is a noncurrent asset, itis reclassified to "Non-current asset held for distribution to owners” and measured at the lower of its carrying amount and fair value less costs to distribute (1M 0s, 800K: the lower amount is 800K). The P200K difference is recognized as impairment loss. Dec. 31, 20x1: End of reporting period Non-cash asset NCA held for distribution to owners 200,000 | Property dividends payable 300,000] Gain on impairment recovery 200,000 Ae veeasie the ity fer ae to reciguie gin ow incre offer alles to distide528 Chapter 11 & Notes: «© The 300K (1.1M - 800K) change in the fair value of the Property dividends payable is recognized directly in retained earnings, Notice that the adjusting entry is similar to the initial entry on July 1, 20x1. © The gain on impairment recovery is recognized only to the extent of the previous impairment loss. (1.1M — 800K = 300K increase; 300K increase vs. 200K previous loss; gaint recognized is 200K)- > Feb. 1, 20x2: Date of distribution Liability Non-cash asset Property dividends payable 150,000 No entry. The non-cash asset Retained earnings 150,000] is stot remeasured to fair to remeasure the liability to fair value value on the settlement date. Property dividends payable 950,000 Loss on distribution of property dividend 50,000 . NCA held for distribution to owners 1,000,000 0 record the distribution of property dividends § Notes: + The Property dividends payable is remensured to fair value on the settlement date. (950K ~ 1.1M = 150K) © The difference between the adjusted Property dividends payable and the carrying amount of the non-cash asset is recognized as gain or loss. This is presented asa separate line item in the statement of profit or loss. C Additional notes: = The effect of the declaration of property dividends to retained earnings is a debit equal to the fair value (see the journal entry on July 1, 20x1).. The net effect of the declaration and settlement of property dividends to retained earnings is a net debit equal to the carrying amount of the non- cash asset on the date of declaration, Analyze the T-account below: Retained earnings July 1, 20x1 (debit) 800,000 July 1, 20e1 (impairment) 200,000 Dec. 31, 20x1 (debit) 300,000 | 200,000 Dec. 31, 20x1 (gain) Feb. 1, 20x2 (loss) 50,000 | _150,000_ Feb. 1, 20x2 (credit) Net debit 1,000,000 The PIM net debit to retained earnings is equal to the carrying amount of the investment in associate on date of declaration,Shareholders’ Equity (Part 2) 529 Illustration 2: Current asset declared as property dividend | On July 1, 20x1, an entity declared inventories with carrying _ amount of P1,000,000 as property dividend. Information on fair values is as follows: Date Fair value* July 1, 20x1 800,000 Dec. 31, 20x1 1,100,000 Feb. 1, 20x2 1,200,000 Assume fair value is not materially different from net realizable value (NRV). > _ July 1, 20x1: Date of declaration Liabilit Non-cash asset Retained earnings 800,000 Impairment loss 200,000 Property dividend payable 800,000) Inventory 200,000 to record the declaration to write-down the inoendory to NRV % Note: The inventory is not reclassified because it is a current asset. > Dec. 31, 20x1: End of reporting period Non-cash asset Inventory 200,000 Property dividends payable 300,000] Gain on impairment recovery 200,000 torancasure the ahilty fair oatue totmilerg Be iroerory % Note: Under PAS 2 Inventories, inventories are written-up if the NRV subsequently increases. However, the write-up shall not exceed the previous ‘write-down. (11M - 800K = 300K increase; 300K increase vs. 200K previous write- down; write-up recognized is 200K) > Feb. 1, 20x2: Date of distribution Liability Non-cash asset Retained earnings 100,000 No entry. The non-cash asset Property dividends payable 100,000 | is not remeasured to fair to remeasure the liability o fair value value on the settlement date. Property dividends payable 1,200,000 Inventory 1,000,000 Gain on distribution of propeity dividend 200,000 to record the distribution dividends530 Chapter 11 Choice between property and cash dividends If shareholders are given a choice of receiving either property dividends or cash dividends, the dividends payable is estimated by considering both the fair value of each alternative and the associated probability of shareholders selecting each alternative. Illustration: Choice between property and cash dividends On July 1, 20x1, an entity declared P1,000,000 cash dividends, The shareholders, however, were given the option to receive property dividends in the form of held for trading securities. The investment in held for trading securities has a carrying amount of P1,000,000 on July 1, 20x1, and the following fair values: Date Fair value July 1, 20x1 800,000 July 31, 20x1 1,100,000 On July 1, 20x1, the entity estimated that there is a 60% probability that shareholders will choose the cash dividends. > July 1, 20x1: Date of declaration Alternatives Fair value Probability Dividends payable Cash dividends 1,000,000 60% 600,000 Property dividends 800,000 40%, 320,000 100% 920,000 Liability Non-cash asset Retained earnings 920,000 ‘Unsealizedloss-P/L 200,000 Cash dividends payable 600,000 Held for trading secutities 200,000 Property dividends payable 320,000. to recognize the duange in fair value to record the declaration of dividends > July 31, 20x1: Date of distribution The actual settlement was as follows: 30% opted to receive cash dividends while 70% opted to receive property dividends.’s’ Equity (Part 2) 531 “Alternatives Fair value Settlement Dividends pa Cash dividends 1,000,000 W% 300,000 Property dividends 1,100,000 70% 770,000 100% 1,070,000 ‘Non-cash asset Noentry. Cash dividends payable @00K-600K) 300,000 ‘sProperty dividends payable (770K -320K) 450,000 to remeasure the liabilities to fair oalwes ‘Cash 300,000 sel for trading securities (800K x 70%) 560,000 Gain on distribution of property dividend 210,000 to record the settlement of dividends Accounting for share dividends Share dividends are accounted for as follows: a. If the share dividends declared are considered “small,” meaning less than 20% of the outstanding shares, the share dividends are accounted for at fair value. Retained earnings is debited for the fair value of the share dividends on declaration date. The difference between the fair value and par value is credited to share premium. b. If the share dividends declared are considered “large,” meaning 20% or more of the outstanding shares, the shares are accounted for at par value. Retained earnings is debited for the par value of the share dividends. Accordingly, no share premium arises. Reasons for declaring share dividends may include the following: a. To retain profits in the corporation. Share dividends involve only a transfer from retained earnings to share capital. There is no actual.outflow of assets,532, Chapter 11 b. To make an impression to the public because many consider share dividends as return on capital, c. To decrease the fair value per share, This makes the shares more affordable to potential investors and easier for the, corporation to issue them. This is one of the reasons. for the varying accounting treatments for “small” and “large” share dividends. When share dividends are “large,” a dilution in the market price per share is expected because the fair value of the net assets of the corporation will be divided into a greater number of outstanding shares. The fair value per share on the * date of declaration is expected to be significantly different from the fair value per share after the issuance date, which naturally will be lower. Accordingly, the “large” share dividends are accounted for at par value. When share dividends are “small,” the dilution effect is not expected to be significant; thus, fair value accounting is appropriate. Special cases: ¢ Listed entities account for “small” share dividends at par value if the fair value per share is less than the par value. * Close corporations. (closely held) account for all share dividends, whether “small” or “large,” at par value. A close corporation ig one whose shares are to be held by a limited number of persons not exceeding twenty (20) and the transfer of its shares is subject to specific restrictions under the Corporation Code. Share dividends reduce retained earnings but do not affect total shareholders’ equity, total assets or total liabilities. Share dividends increase outstanding shares but do not affect the par value per share. 4Shareholders’ Equity (Part 2) 533 Illustration: Share dividends An entity's equity as of April 1, 20x1 is as follows: Share capital (authorized capital 10,000 shares, P100 par) * 800,000 Subscribed share capital 220,000 Share premium 100,000 Retained earnings 454,000 Treasury shares (at cost of P120 per share) (144,000) Other components of equity 70,000 Total shareholders’ equity 1,500,000 : The fair value per share on April 1, 20x1 is P140. Case 1: “Small” share dividends On April 1, 20x1, the'entity declares share dividends of “1 share for every 10 shares held” to shareholders of record as of April 15, 20x1, for distribution on May 1, 20x1. > Analysis: Ti 2. 3. 4. 5j Share dividends declared: “1 sh. for every 10 shares held” Ratio: 1/10 Percentage: 10% Conclusion: The share dividends are considered “small.” Accounting: At fair value; credit share premium for the excess of fair value over par value. > Outstanding shares: Issued shares (800,000 + P100 par) 8,000 Shares subscribed (P220,000 + P100 par) 2,200 Treasury shares (P144,000 + P120 cost) 1,200) Outstanding shares 9,000 > Total share dividends: Outstanding shares , 9,000 Multiply by: Dividends declared 410 Number of shares declared as dividends 900 Multiply by: Fair value per share i Total share dividends 126,000SM Sapa > Journal entries: April, 20x | Retained earnings (900 sh. x P140) 126,000 | btees | Stock dividends payable © | 90,000) | eclaration) (200 sh. x P100 par value) j Share premium 36,000 ‘April 15,2051 . Gendreed Noentry May 1,20:1_ | Stock dividends payable 90,000 (Date of i etal | Share capital 90,000 > The shareholders’ equity as of April 1, 20x1 immediately before and after the declaration is analyzed as follows: Before After Increase! declaration _| declaration _| (Decrease) ‘Share capital 800,000 800,000 : Subscribed share capital 220,000 220,000 : Stock dividends payable - 90,000 90,000 Share premium 100,000 136,000 36,000 Retained earnings 524,000 398,000 | (126,000) Treasury shares (144,000) (144,000) : Total shareholders’ 1,500,000 [1,500,000 - Notes: © Share dividends do not affect total shareholders’ equity. A portion of retained eamings is just transferred to the share capital and sha premium accounts. The stock dividends payable or share dividends distributable account is ‘Large” share dividends On April 1, 20x1, the entity declares share dividends of “1 share fo eoery | 5 shares held” to shareholders of record as of April 15, 20%:Shareholders’ Equity (Part 2) 535 > Analysis: Share dividends declared: “1 sh. for every 5 shares held” Ratio: /5 Percentage: 20% Conclusion: The share dividends are considered “large.” Accounting: At par value; no share premium arises. open > Total share dividends: Quistanding shares (see previous computation) 9,000 Multiply by: Dividends declared 5 Number of shares declared as dividends 7,800 ‘Multiply by: Par value per share 100 Total share dividends 180,000 > _Journal entries: April 1, 20x1 | Retained earnings (1,800 x P100) 180,000 ate of Stock dividends payable 180,000 declaration) ( ieee Me a ‘April 15, 201 Wate of record) Noone . May 1,20x1 | Share dividends payable 180,000 (ate of Share capital 180,000 distribution) Treasury shares declared as dividends When treasury shares are declared as dividends, the accounting procedures for “small” and “large” share dividends do not apply. Instead, the cost method is used. This because the declaration of share dividends in the form of treasury shares usually does not lower the market price of the shares.” Retained earnings is debited for the cost of the treasury shares declared. No share premium arises. “hitp://bizhub.vn/markets/treasury-shares-used-as-dividend-payments_909839.Ntmt Illustration: On April 1, 20x1, an entity has 9,000 (P100 par) outstanding shares and 1,200 treasury shares previously acquired at P120 per share. On this date, the entity declared share dividends of “1 treasury share for every 10 shares held” to shareholders of record as of April536 Chapter 11 15, 20x1, for distribution on May 1, 20x1. The fair value per share on declaration date is P140. > Total share dividends: Outstanding shares 9,000 Multiply by: Dividends declared 0. | Number of treasury shares declared as dividends 900 ‘Multiply by: Cost per treasury share 120 Total share dividends 108,000 > Journal entries: “April, oa Retained earnings (900sh.xP120) | 108,000 ate of ivi i 2 airs Stock dividends payable 108,000 “April 15, 20x1 ate ofrcord)| « No enty, vay. Stock dividends payable - | 108,000 | Cate o distro) ‘Treasury shares 108,000 May1,20x1 | Retained earnings - appropriated | 108,000 Retained earnings - unrestricted 108,000 to reverse the restriction om retained earnings for the treasury shares issued as dividends Fractional shares It is sometimes impossible to issue full shares to all shareholders when share dividends are declared. For example, when an entity declares share dividends on a “1 share for every 10 shares held” basis, a shareholder with shareholdings not divisible by 10 will not receive full shares for any fractional shares held. For i instance, % a shareholder who owns 105 shares will not receive one full share for the 5 shares held. This is why corporations often sell shares of + stocks in “blocks” (e.g., minimum purchase of 100 shares) To deal with the problem of fractional shares, corporations - may:' 1. Issue fractional share rights (evidenced by share warrants) and give the holders.thereof an ample time to accumulate sufficient warrants for a’full share. A market may develop for — : iShareholders’ Equity (Part 2) 537 ——— the share rights wherein holders may buy or sell fractional share rights to enable buyers accumulate sufficient share rights to acquire full shares; or 2. Pay cash in lieu of fractional share rights, Illustration: On April 1, 20x1, an entity declared 20% share dividends to shareholders of record as of April 15, 20x1, for distribution on May 1, 20x1. Information on the share dividends is as follows: Outstanding shares (100 par) 10,000 Total share dividends: Share dividends on full shares 1,700 Share dividends on fractional shares 300 2,000 > _Journal entries: ‘ April 1, | Retained earnings (10,000 x 20% x P10), 200,000 a Share dividends distributable. 200,000 il 15, . s Roca May1, | Share dividends distributable ; 200,000 20x1 Share capital (1,700 x 100) 170,000 Share premium - warrants outstanding 30,000 (300 x P100) : On June 1, 20x1, 250 full shares were issued on the exercise of the share warrants. The remaining 50 share warrants expired. > _Journal entries: June 1, | Share premium - warrants outstanding | 25,000 20x1 Share capital (250 x P100) 25,000 to record the issuance ofthe 250 full shares June 1, | Share premium - warrants outstanding 5,000 ' add Share premium (50 x P100) 5,000 to transfer the share premium arising from expired warrants directly within equity58 Chapter 11 Share dividends of different class Corporations may sometimes declare share dividends that are different from the class of shares held by the recipients. For example, preference shares are given to ordinary shareholders as share dividend, Share dividends of different class are accounted for at fair value, Illustration: An entity declares 1,000 share dividends in the form of preference shares (P100 par) to its ordinary shareholders, The preference shares have a fair value per share of P150 on declaration date, > Journal entries: Date of | Retained earnings (1,000 x P150) 150,000 declaration | Share div. distributable (1,000 x P100) 100,000 Share premium-PS 50,000 my [tty Date of | Share dividends distributable 100,000 distribution | Preference share capital 100,000 Choice between share and cash dividends . When shareholders’ are given a choice of receiving cash in lieu of share dividends, a compound ‘instrument is originated - (1) a financial liability for the cash alternative and (2) an equity instrument for the shares to be issued. The entity estimates the dividend payable by considering both the fair value of each alternative and the associated probability of shareholders selecting each alternative. The entity then applies the accounting procedures for cash dividends and share dividends separately to each of those alternatives. Preference shares Preference shares have one or both of the following preferences over ordinary shares: 1. Preference in the distribution of assets in case of corporate liquidation (preferred as to assets)Shareholders’ Equity (Part 2) 539 =e 2, Preference in the distribution of dividends (preferred as to dividends) Preference over assets Preferred as to assets means the preference shareholders are paid first before anything is paid to the ordinary shareholders in case of corporate liquidation. Without that preference, the preference shareholders would only be entitled to a pro rata payment with the ordinary shareholders. Preference shares that are preferred as to assets usually have a liquidation value (i.e., an amount more than the par value that the preference shareholders are entitled to receive in case of corporate liquidation). Preference over dividends Preferred as to dividends means the preference shareholders are paid first before ordinary shareholders when dividends are declared. Preference over dividends may be: 1, Noncumulative - a noncumulative preference share is one which the dividend entitlement for a year is forfeited when dividends are not declared in that year. 2. Cumulative - a cumulative preference share is one which the dividend entitlement accumulates each year until paid. Accumulated unpaid dividends are disclosed as dividends in arrears but not accrued as liability unless the dividends are declared. 3. Nonparticipating — a nonparticipating preference share is one which is entitled only to a fixed amount of dividends. 4. Participating — a participating preference share is one which is entitled to an amount in excess of the fixed amount of dividends, The amount of participation is computed after both the preference and, ordinary shares are allocated their basic dividends, " The basic dividend of cumulative preferred shares includes dividends in arrears,540 ‘ : Chapter 11 © The basic dividend of noncumulative preferred shares includes only the current-year dividend entitlement. + The basic dividend of ordinary shareholders is equal to the aggregate par value of the outstanding ordinary shares multipliod by the preference rate, If there is more than one class of preference shares with different preference rates, the lowest preference rate is used to compute'for the basic dividend of ordinary shareholders, Any excess of the dividends declared after deducting the basic dividends is the amount subject to participation which is allocated depending on the nature of participation of the preference shares. Participating preference shares may be either: . a. Fully participating - participates on a pro rata basis (based on aggregate par values of' outstanding shares) with ordinary shareholders. b. Partially participating - participates only up to a certain amount or percentage. Preference shares may have more than one dividend preference. For example, preference shares may be both cumulative and participating. The dividend entitlement of preference shares may be expressed as: a. Percentage of par valug (fixed rate based on par value). For example, a “12% preference share" with par value of P100 is entitled to a dividend of P12 (12% x P100) when dividends are declared, 1 b. Specific monetary amount per share. For example, a “PS preference share” with par value of P100 is entitled to a dividend of P5 when dividends are declared, @/ In the absence of evidence to the contrary, preference shares ave | presumed to be “preferred as to dividends" with dividend preference of | “noncumulative and nonparticipating.”Shareholders’ Equity (Part 2) MI Mlustration 1: Dividends on preference shares ABC Co. declared P1,800,000 cash dividends to its preference and ordinary shareholders in 20x3, No dividends have been declared since 20x1. ABC's shareholders’ equity immediately before the dividend declaration is as follows: 10% Preference share capital, P200 par 2,000,000 Ordinary share capital, P100 par 8,000,000 Retained earnings 5,000,000 Total shareholders’ equity 15,000,000 | Requirements: Compute for the dividends received by the preference shareholders and ordinary shareholders, respectively, under each of the independent cases below. Case 1: Noncumulative and Nonparticipating The preference shares are noncumulative and nonparticipating. | a Observe the following steps'in the allocation of dividends: | Step 1: Provide the dividends of the preference shares first. i - If the preferences shares are noncumulative, provide i one-year dividends only. | | - If the preferences shares are cumulative, provide all | dividends in arrears. Step 2: Any excess is paid to the ordinary shareholders. Total dividends declared 1,800,000 | Allocation: © Allocation to preference shares (P2M par x 10% x 1 yr.) 200,000 @ Excess allocated to ordinary shares (P1.8M - P200K) 1,600,000 As allocated - Only the current year dividend is paid because the preference shares are ;cumulative. The unpaid dividends from previous years are forfeited,