Summary Financial Accounting from the book, Sintesi del corso di Contabilità Finanziaria

Scarica Summary Financial Accounting from the book e più Sintesi del corso in PDF di Contabilità Finanziaria solo su Docsity! Chapter 5 > Accounting for Merchandising Operations 1) Describe merchandising operations and inventory systems - Cost of goods sold equals gross profit less operating expenses equals net income or net loss - The beginning inventory plus cost of goods purchased equals the costs of goods available for sale which equals the cost of goods sold plus the ending inventory - Ina perpetual inventory systems companies keep detailed records of the costs of each inventory purchase and sale. These records continuously show the inventory that should be on hand for every item. Under a perpetual inventory system a company determines the cost of goods sold each time a sale occurs. - Inthe periodic inventory system companies do not keep detailed inventory records of the goods on hand throughout the period instead they determined the cost of goods sold only at the end of the accounting -that is periodically. e Tothe determine the cost of goods sold under a periodic inventory system the following steps are necessary: o 1) Determine the cost of goods on hand at the beginning of the accounting period o 2)Addtoitthe cost of goods purchased o 3) Subtract the cost of goods on hand as determined by the physical inventory count at the end of the accounting period. 2 Record purchases under a perpetual inventory system - A purchase invoice should support each credit purchase this invoice indicates the total purchase price and other relevant information. - Underthe perpetual inventory system companies record purchases of merchandise for sale inthe inventory account. not all purchases are debited to inventory however period companies record purchases of assets acquired for use and not for resale such as supplies equipment and similar items as increases to specific asset accounts rather than to inventory. - Freight costs: o FOB(Free on board) = FOBshipping point means that the seller places the goods free on board the carrier, and the buyer pays the freight costs. = FOB destination means that the seller places the goods free on board to the buyer's place of business, and the seller pays the freight. - Whenthe buyer incurs the transportation costs, these costs are considered part of the cost of purchasing inventory. Therefore, the buyer debits (increases) the inventory account. - Freight costs incurred by the seller on outgoing merchandise are an operating expense to the seller. These costs increase an expense account titled Freight-Out. - The purchaser may return the goods to the seller for credit (if the sale was made on credit), or for a cash refund (if the purchase was for cash). This transaction is known as a purchase return. Alternatively, the purchaser may choose to keep the merchandise if the seller is willing to grant an allowance from the purchase price. This transaction is known as a purchase allowance. - A purchase discount is known when the credit terms of a purchase on account may permit the buyer to claim a cash discount for prompt payment. o Credit terms specify the amount of the cash discount and time period in which it is offered. They also indicate the time period in which the purchaser is expected to pay the full invoice price. o When the buyer pays an invoice within the discount period the amount of the discount decreases inventory. 3) Record sales under a perpetual inventory system. - This seller makes 2 entries for each sale o The first entry records the sale = Thesellerincreases (debits) cash or accounts receivable and also increases (credits) sales revenue. o The second entry records the cost of the merchandise sold = The seller increases (debits) cost of goods sold and also decreases (credits) inventory for the cost of these goods. As a result, the inventory account will show at all times the amount of inventory that should be on hand. - Sales returns and allowances o These are transactions where the seller either accept goods back from the buyer (a return) or grants out of reduction in the purchase price (an allowance) so the buyer will keep the goods. = To record credit for returned goods: ® 1)an increase (debit) in sales returns and allowances (=a Contra account to sales revenue) and a decrease (credit) in accounts receivable at the selling price. ® 2)an increase (debit) in inventory and a decrease (credit) in cost of goods sold. Sales ‘Transactions Purchase Transactions Transactions Daily Recurring Entries Selling merchandise to customers. Granting sales returns or allowances to customers. Paying freight costs on sales; POB destination. Rccciving payment from customers within discount period Purchasing merchandise for resale. Paying freight costs on merchandise purchased; FOB shipping point. Recciving purchase returns or allowances from suppliers. Paying suppliers within discount period. Events Cash or Accounts Receivable Sales Revenue Cost of Goods Sold Inventory Sales Returns and Allowances Cash or Accounts Receivable Inventory Cost of Goods Sold Freight-Out Cash Cash Sales Discounts Accounts Receivable Inventory Cash or Accounts Payable Inventory Cash Cash or Accounts Payable Inventory Accounts Payable Inventory Cash Adjusting and Closing Entries Adjust because book amount is higher than the inventory amount determined to be on hand. Closing temporary accounts with credit balances. Closing temporary accounts with debit balances. Cost of Goods Sold Inventory Sales Revenue Income Summary Income Summary Sales Returns and Allowances Sales Discounts Cost of Goods Sold Freight-Out Expenses 6) Record purchases and sales under a periodic inventory system - Periodic Inventory System o One key difference between the two systems is the point at which the company computes cost of goods sold. Dr. xx cr XX A company using a periodic system does not determine cost of goods sold until the end of the period. At the end of the period the company performs a count to determine the ending balance of inventory. ® lItthen calculates costs of goods sold by substracting ending inventory from the cost of goods available for sale. ® Italsocreates different accounts for purchases, freight costs, returns and discounts. Beginning Inventory + Cost of Goods Purchased Cost of Goods Available for Sale — Ending Inventory Cost of Goods Sold - Ina periodic inventory system companies record revenues from the sale of merchandise when sales are made. o However, companies do not attend on the date of sale to record the cost of the merchandise sold. Instead, they take a physical inventory count of the end of the period to determine 1) the cost of good of the merchandise then on hand and 2) the cost of goods sold during the period. o Undera periodic system, companies record purchases of merchandise in the purchases account rather than the inventory account. Chapter 6 > Inventories 1) Discuss how to classify and determine inventory - Classifying Inventory o Inventory is classified bold into three categories 1) finished goods 2) work in process 3) raw materials. - Determining Inventory Quantities o 1)taking a physical inventory of goods on hand > at the end of the accounting period. o 2)determining the ownership of goods = Acomplication in determining ownership is goods in transit which is classified into: e FOB(free on board) shipping point: ownership of the goods passes to the buyer when the public carrier accepts the goods from the seller. e FOBdestination: ownership of the goods remains with the seller until the goods reached the buyer. 2) Apply inventory cost flows methods and discuss their financial effects. - Inventory is accounted for at cost. o for example freight costs incurred to acquire inventory are added to the cost of inventory, but the cost of shipping goods to a customer is a selling expense. - Cost flow assumptions: © 1)FIFO (First-in, first-out) o 2) Average Cost o 3)LIFO (Last-in, first-out) - Costof goods sold formula ina periodic system is: o (Beginning inventory + Purchases ) - Ending Inventory = Cost of Goods Sold - First-In, First-Out (FIFO o lt assumes that the earliest goods purchased are the first to be sold. o The costs of the earliest goods purchased or the 1st to be recognized in determining costs of goods sold. © Under FIFO, companies obtain the cost of the end inventory by taking the unit costs of the most recent purchase and working backwards until all units of inventory have been costed. = Itis calculated by the estimated selling price less estimated costs to complete the sell. - Inventory turnover: o lt measures the number of times on average the inventory is sold during the period. o The purpose is the measure the liquidity of the inventory. Cost of Goods Sold Average Inventory Ss Inventory Turnover - Daysin Inventory: o This measures the average number of days inventory is held. = Calculated as 365 / divided by the inventory turnover. 5) Applythe inventory cost flow methods to perpetual inventory records. - FIFO in perpetual inventory o The company charges to the cost of goods sold the cost the cost of the earliest goods on hand prior to each sale. - Average-Cost in perpetual inventory o The average-cost in perpetual inventory system is called moving-average method = The company computes a new average after each purchase by dividing the cost of goods available for sale by the units on hand. = The average cost is then applied to: ® 1)The units sold, to determine the cost of goods sold e 2)The remaining units on hand, to determine the ending inventory amount. 6) Describe the two methods of estimating inventories. - GrossProfit Method o Estimates the cost of ending inventory by applying a gross profit rate to net sales. Estimated Estimated Step 1: Net Sales - Gross = Cost of Profit Goods Sold Cost of Goods Estimated Estimated Step 2: Available for - Cost of = Cost of Sale Goods Sold Ending Inventory Retail Inventory Method o Itis used when having thousands of different types of merchandise at low unit costs. Goods Ending Step l: Available for _ Net Sales ci Inventory Sale at Retail at Retail Goods Goods Cost-to- Step 2: Available for ta Available for a Retail Sale at Cost Sale at Retail Ratio Ending Cost-to- Estimated Step 3: Inventory x Retail s Cost of at Retail Ratio Ending Inventory 7) Apply the LIFO inventory costing method. LIFO is used for financial reporting in the United States, and it is permitted for tax purposes in some countries. The first goods sold were those that were most recent recently purchased, ending inventory is based on the prices of the oldest units purchased. Under a periodic inventory system, all goods purchased during the period are assumed to be available for the first sale, regardless of the date of purchase. Nearline a major disadvantage is that in a period of rising prices, the costs allocated to ending inventory might be sentence significantly understated in the statement of financial position. Chapter 8 > Accounting for Receivables 1) Explain how companies recognize accounts receivable. - Receivables = amounts due from individuals and companies. © 1) Accounts receivable > Amounts customers owe on account. Companies expect to collect them within 30 to 60 days. o 2) Notes receivable + Written promise for amounts to be received. It usually requires the collection of interest and extends from time periods of 60-90 days or longer. = Trade receivables Notes and Accounts rec. that result from sales transactions. o 3) Other receivables + Include non-trade receivables such as: = Interest receivable = Loansto company officers = Advances to employees = Income taxes refundable - Recognizing Accounts Receivable: o Whena merchandiser sells goods, it increases (debits) accounts receivable and increases (credits) sales revenue. o The seller may offer terms that encourage early payment by providing a discount. Sales returns also reduce receivables. 2) Describe how companies value accounts receivable and record their disposition. - Valuing Accounts Receivable © Companies record credit losses as bad debt expense o 2 methods are used in accounting for uncollectible accounts = 1)Directwrite-off e Whena company determines a particular account to be uncollectible, it charges the loss to Bad Debt Expense. ® BadDebt Expense will only show actual losses. e However, its use can reduce relevance of the Income statement and Statement of Financial Position as companies records Bad Debt Expense in a period different from the one in which they record the revenue + Unless bad debt expense is insignificant, the direct write-off method is not acceptable for financial reporting purposes. Computing Interest: Annual Time in Face Value x Interest. x Termsof = Interest of Note Rate One Year 4) Describe the statement presentation and analysis of receivables. - Analysis: o Accounts Receivable Turnover to asses the liquidity of the receivables. The higher the turnover, the more liquid the company's receivables. A . Average Net _ Accounts Receivable Net ea aee n Accounts Receivable Turnover $38,707 + PABBSHRaI o _ 12.8 times o Average Collection Period in terms of days makes even more evident the liquidity. The collection period should not generally exceed the credit term period. DaysinVear 2 AccountsReceivable —_ Average Collection ° Turnover Period in Days 365 days + 12.8 times = 28.5 days Chapter 9 > Plan Assets, Natural Resources, and Intangible Assets 1) Explain the accounting for plant asset expenditures - Plant assets (€ called Property, Plant and Equipment; Plant and Equipment; Fixed Assets) are resources that have 3 characteristics: o 1)They have a physical substance o 2)Theyare used in the operations of a business o 3)Theyare not intended for sale to customers - Determining the cost of plant assets: o Historical cost principle requires that companies record plant asset at cost (€ cost consists of all expenditures necessary to acquire the asset and make it ready for its intended use) = Land:usedasa site for a manufacturing plant or office building. Companies record as debit (increase) to the Land account ass necessary costs. The cost of land includes: ® 1)Cash purchase price ® 2) Closing costs such as title and attorney's fees ® 3)Realestate brokers’ commissions e 4)Accrued property taxes and other liens assumed by the purchaser = Land improvements: Structured additions that are made to land. The cost of Land Improvements includes all expenditures necessary to make the improvements ready for their intended use. ® Theyhave limited useful lives. As a result, companies’ expense (depreciate) the cost of land improvements over their useful lives. * Buildings: facilities used in operations. e Debitto Buildings account all necessary expenditures related to the purchase or construction of a building. e Costs include expenditures for remodeling. e Whena building is constructed), it costs consist of the contract price plus payments for architect’s fees, building permits and excavation costs. e Companies charge interest costs to certain building accounts, the inclusion of interest costs in the cost of a constructed building is limited to interest costs incurred during the construction period. = Equipment: assets used in operations. ® The cost consists of the cash purchase price, sales taxes, freight charges and insurance during transit paid by purchaser. o Also includes the expenditures required for assembling, installing and testing the unit. e NOT include motor vehicle licenses and accident insurance È these represent annual recurring expenditures. - Expenditures during useful life: o Ordinary repairs are expenditures to maintain the operation efficiency and productive life of the unit. These expenditures are recorded as Maintenance and Repairs Expense. = These costs are often referred to as Revenue Expenditures. o Additions and Improvements are costs incurred to increase the operating efficiency, productive capacity or useful life of an asset. = These costs are often referred to as Capital Expenditures. o Materiality concept states that if an item would not make a difference in decision-making, the company does not have to follow IFRS in reporting that item. 2) Apply depreciation methods to plant assets - Depreciation is the process of allocating to expense the cost of a plant asset over its useful life (service) life in a rational and systematic manner. o Costallocation enables companies to properly match expenses with revenues in accordance with the expense recognition principle. o The book value (€ cost — accumulated depreciation) of a plant asset may be quite different from its fair value. o Depreciation applies to: = 1)Land improvements = 2)Buildings = 3)Equipment o Landis nota depreciable asset. © During a depreciable asset's useful life, its revenue-producing ability declines because of wear and tear. o Revenue-producing ability may also decline because of obsolesce which is the process of becoming out of date before the asset physically wears out. o Recognizing depreciation on an asset does not result in an accumulation of cash for replacement of the asset. o Depreciation is consistent with the going concern assumption (< states that the company will continue an operation for the foreseeable future) - Factors in computing depreciation: o 1) Cost: companies record plant acids at cost, in accordance with the historical cost principle. o 2) Useful life + Estimate of the expected productive life, also called service life, of the asset for its owner. = Maybe expressed in terms of time, units of activity, or units of output. o 3) Residual Value è estimate of the assets value at the end of its useful life. 4) = Loss on disposal occurs if the proceeds of the sale are less than the book value. ® Recordthe loss under Loss on Disposal of Plant Assets. = Companies report a loss or gain on disposal in the “Other income and expense” section of the income statement. o 3) Exchange > Existing equipment is traded for new equipment. Describe how to account for natural resources and intangible assets. Natural Resources consist of standing timber and resources extracted from the ground. o IFRS defines extractive industries as those businesses involved in finding and removing natural resources located in or near the earth's crust. = The acquisition cost of an extractable natural resource is the price needed to acquire the resource and prepare it for its intended use. Depletion + The allocation of the cost of natural resources in a rational and systematic manner over the resource’s useful life. o Itis used the units-of-activity method to compute depletion. = This is because depletion generally is a function of the units extracted during the year. Total Cost - Residual Value TA, =__—-_. = Pepletion Cost per Unit Total Estimated Units Available Intangible Assets + Rights, privileges and competitive advantages that result from the ownership of long-lived assets that do not possess physical substance. o Intangibles may result from the following sources: = Government grants, such as patents, copyrights, licenses, trademarks and trade names. = Acquisition of another business, in which the purchase price includes a payment for goodwill. = Private monopolistic arrangements arising from contractual agreements, such as franchises and leases. Accounting for Intangible Assets: o Intangible assets are recorded at cost and includes all expenditures necessary for the company to acquire the right, privilege, or competitive advantage. = Intangible with limited life + The cost is allocated over the asset’s useful life called amortization. = Intangible with indefinite life > They should not be amortized. o Intangible assets are typically amortized on a straight-line method. o Amortization expense is classified as an operating expense in the income statement. o IFRS permits revaluation of intangible assets to fair value, except goodwill. Patent > exclusive right issued by a Patent Office that enables the recipient to manufacture, cell, or otherwise control an invention from a specified number of years from the date of the grand. ® The general legal life is 20 years. ® A patentis not renewable. ® Legalcosts anowner incurs in successfully defending a patent in an infringement suit are considered necessary to establish the patents validity. o The owner adds those costs to the patents account and amortized them over the remaining life of the patent. o The patent Holder amortized the cost of a patent over its legal life or its useful life, whichever is shorter. Copyrights + government grant copyrights, which gives the owner the exclusive right to reproduce and sell an artistic or published work. e Theyextend forthe life of the creator plus a specified number of years, which is commonly 70 years. e Thecostofa Copyright is the cost of acquiring and defending it. e Copyrights usually amortized over a relatively short period of time. Trademarks & Trade Names + it is a word, phrase, Jingle, symbol that it identifies a particular enterprise or product. e Thecreatoror original user may obtain exclusive legal rights to the trademark by registering it with a Patent Office. ® lItprovides a specified number of years of protection which is commonly 20 years. The registration may be renewed indefinitely as long as the trademark art trade name is in use. ® lItscostisthe purchase price. They're not amortized. Franchises and Licenses + contractual agreement between a franchise and a franchisee. The franchiser grants the franchisee the right to sell certain products, perform specific services, or use certain trademarks or trade names usually within a designated geographic area. e Theymaybe granted for a definite period of time, and indefinite period, or perpetually. e Whenthe company incurs costs in connection with the purchase of a franchise or license, it should recognize an intangible asset. ® Annual payments made under franchise agreement are recorded as operating expenses in the period in which they are incurred. Goodwill + Represents the value of all favorable attributes that relate to a company that is not tide to any other specific asset. e Goodwill is recorded only when an entire business is purchased. In that case, goodwill isthe excess of cost over the fair value of the net assets acquired. 5) 6) e Goodwill is not amortized because it is considered to have an indefinite life e Goodwill must be written down if a company determines that its value has been permanently impaired. Research and Development Costs: o R&bD costs are expenditures that may lead to patterns, copyrights, new processes and new products. = Costsin the research phase are always expensed as incurred. = Costsinthe development phase are expensed until specific criteria are met, primarily that technological feasibility is achieved. = Development costs incurred after technological feasibility has been achieved are capitalized to Development Costs , which is considered an intangible asset Discuss how plant assets, natural resources, and intangible assets are reported and analyzed. Presentation o Plant assets and natural resources are combined under “Property, plant and equipment” in the statement of financial position. = Intangible assets are shown separately. Analysis o Asset turnover analyzes the productivity of a company's assets. Net Sales + Average Total Assets = Asset Turnover W58,140 W35,528 + W34,766 1.65 times 2 Explain how to account for the exchange of plant assets. Companies record a loss or gain on the exchange of plant assets. o The rationale for recognizing a gain or loss is that most exchanges have commercial substance. = Loss Treatment: Fair value of used trucks €26,000 Cash paid 17,000 Costof semi-truck €43,00 Book value of used trucks (£64,000 — €22,000) €42,000 Less: Fair value of used trucks 26,000 Loss on disposal of plant assets €16,000 = Income Tax Withholding: requires employers to withhold from each employee’s pay the applicable income tax due on those wages. Item Who Pays Income tax withholding Social Security taxes—employee share Employee Employer reports these Union dues amounts as liabilities sa n cr until remitted. Security taxes—employer share Employer = Profit-Sharing and Bonus Plans: a company may consider bonus payments to employees as additional salaries and wages and should include them as a deduction in determining the net income for the year. - Current Maturities of Long-Term Debt o Companies often have a portion of long term debt that comes due in the current year. It is considered a current liability. o Companies often identify current maturities of long-term debt in the statement of financial position as long-term debt due within one year. 2) Discuss how current liabilities are reported and analyzed. - Reporting Uncertainty o Provision > a liability of uncertain timing or amount. They are very common and may be reported either as a current or non-current depending on the date of expected payment. = Commontypesof provisions are obligations related to litigation expense, warranty expense or product guarantees and environmental damage. = The difference between a provision and other liabilities is that a provision has greater uncertainty about the timing or amount of the future expenditure required to settle the obligation. o Recognition of a Provision: = 1)A company hasa present obligation as a result of a past event = 2)lt is probable that an outflow of resources will be required to settle the obligation. = 3)A reliable estimate can be made of the amount of the obligation. o Reporting a Provision: = Product warranties are an example of that provision . Warranty contracts result in future costs that companies may incur and replacing defective units or repairing malfunctioning units. = The estimated cost of honoring product warranty contracts should be recognized as an expense in the period in which the sale occurs. = Warranty is recorded as warranty expense. Chapter 11 > Non-Current Lia Ss 1) Describe the major characteristics of bonds. - Bonds*>a formof interest-bearing note payable issued by companies, universities, and governmental agencies when a company issues bonds, it is borrowing money. The person who buys the bonds (the bond Holder) is lending money. o TIvpesof Bonds: = 1) Secured and Unsecured Bonds: e Securedbonds have specific assets of the issuer pledged as collectible for the bonds. ® Unsecuredbondsare issued against the general credit of the borrower. Companies with good credit ratings use these bonds extensively. = 2) Convertible and Callable Bonds: e Convertible bonds can be converted into ordinary shares of the bondholder”s option. e Callable bondsthe issuing company can redeem (buyback) at a stated currency amount (called price) prior to maturity. o Issuing procedures: = Anauthorizing the bond issue, the board of directors must stipulate the number of bonds to be authorized, total face value, and contractual interest rate. ® Facevalueisthe amountof principle the issuing company must pay at the maturity date. e Maturity date is the date that the final payment is due to the investor from the issuing company. e Contractual interest rate (or stated rate) is the rate used to determine the amount of cash interest the issuing company pays, and the investor receives. ® Bondindenture shows the terms and summarizes the rights of the bondholders and their trustees, and the obligations of the issuing company. ® Trustee (usually a financial institution) keeps records of each bondholder, maintains custody of initial bonds, and holds conditional title to pledge property. o Bond Trading = Bondprices are quoted as a percentage of the face value of the bond, which is usually $1000. = A company makes Journal entries only when it issues or buys back bonds, or when bondholders convert bonds into ordinary shares. o Determining the Market Price of a Bond = Zero-interest bond + A bond which pays no interest. = Time value of money is used to indicate the relationship between time and money — 1 euro received today is worth more than 1 euro promised at some time in the future. = Current market price (present value) of a bond is the value at which it should sell in the marketplace. = Market price is a function of 3 factors to determine present value: e 1)the amounts to be received ® 2)the length of time until the amounts are received e 3)the market interest rate. = Marketinterest rate is the rate investors demand for loaning funds. 2) Explain how to account for bond transaction. - Bondsmaybe issued at face value, below face value (discount), or above face value (premium). Bond prices for both new issues and existing bonds are quoted as a percentage of the face value of the bond. - Issuing bonds at face value o Company reports bonds payable inthe non-current liability section of the statement of financial position because the maturity date is more than one year away. o Overthe term (life) of the bonds, companies make entries to record bond interest. = interest on bonds payable is computed in the same matter as interest on notes payable. - Discount or premium on bonds Market Bonds Sell Interest Rate at re 8% ——> Premium Bond Issued whi Issued when Contractual (i 10% —» Face Value Rate 10% 12% _ > Discount o Issuing Bonds at Discount = The principal is the book value (or carrying value) of the bonds. = The issuing company must pay not only the contractual interest rate over the term of the bonds but also the face value at maturity. ® The difference between the issuance price and face value of the bonds — the discount- is an additional cost of borrowing. 6) Apply the straight-line method of amortizing bond discount and bond premium Under GAAP, companies are allowed to use an alternative approach, straight-line amortization. Amortizing bond discount: Bond Discount Amortizing bond premium: Bond Premium Number Bond ofiInterest = Discount Periods Amortization Number Bond of Interest = Premium Periods Amortization Chapter 12 > Corporations: Organizations, Share Transactions and Equity 1) Discuss the major characteristics of a corporation - Characteristics of a Corporation: o Separate legal existence > = Separate and distinct from its owners = Acts underits own name = Shareholder do not bind the corporation unless they are agents. o Limited liability of shareholders > = Liability of shareholders is normally limited to their investment in the corporation. = Creditors have no legal claim on the personal assets of the owners unless fraud occurred. o Transferable ownership rights + = Ordinary shares give ownership in a corporation and are transferable units. = Thetransfer of ownership rights has no effect on the daily operations of the business. o Ability to acquire capital > = Easyto acquire capital through the issuance of shares. o Continuous life + = The life may be perpetual or limited to a specific number of years. = Successful company can have a continuous and perpetual life. o Corporation management > = Shareholder indirectly manage the corporation through a board of directors they elect. o Additionaltaxes: = Double taxation + As corporations and individual owners pay the same taxes. Advantages Disadvantages Scparate legal existence Corporation management—scparation Limited liability of sharcholders of ownership and management Transferable ownership rights Government regulations Ability to acquire capital Additional taxes Continuous life Corporation management—professional managers - Forminga corporation: o Costs incurred in the formation of a corporation are called organizational costs. = They include legal, government fees, promotional expenditures involved in the organization of the business. = Corporations expense organization costs as incurred. - Shareholder Rights: o When the company has only 1 class of shares, they are > Ordinary Shares o Proof of ownership is evidenced by a form known as a share cei Shareholders have the right to: I. Vote in election of board of directors at annual meeting and vote on actions that require shareholder approval. È Dividends 2. Share the corporate earnings through receipt DI of dividends. [O Before After 3. Keep the same percentage ownership 14% | Newshares issued 14% When new shares 5 5 are issued n (preemptive right!). 4. Share in assets upon Lenders liquidation in proportion mo 0000 Da: <D Shareholders to their holdings. This is DO [conte] called a residual claim —> i > A because owners are paid (ee) (E) with assets that remain nre, _ Creditors after all other claims have been paid. - Share Issue Considerations: o Authorized shares > The charter indicates the amount of shares a corporation is authorized to sell. = The authorization of shares does not result in a formal accounting entry. The reason is that the event has no immediate effect on either corporate assets or equity. o Issuance of shares > A corporation can issue sales directly to investors or indirectly through an investment banking firm. = Indirectissue:the investment banking firm assumes the risk of reselling the shares in return of an underwriting fee. = The factors considered in pricing the new issues of shares: - Accounting for cash dividends: o Cash dividends are not paid from treasury shares. o In order for a corporation to pay a cash dividend, it must have the following: = 1) Retained earnings. e A dividend declared out of share capital or share premium is termed a liquidation dividend because such a dividend reduces or “liquidates” the amount originally paid in by shareholders. = 2) Adequate cash. e The company's board of directors must carefully consider both current and future demands of the company's cash resource. = 3)Declaration of dividends. e Once the boardof directors decide to pay dividends, they “declare” the dividend. e Dividendsare nota liability until declared. o Entries for cash dividends = Three important dates with usually 2-4 weeks between each other: ® 1)declaration date > Board of directors declare the dividends. o ltcommitsthe corporation to a legal obligation. o Make an entry debiting Cash Dividends which decreases Retained Earnings. o Make an entry crediting Dividends Payable e 2)record date > The company determines ownership of the outstanding shares. Ownership records are updated, and no entry is recorded. ® 3)payment date > Company makes cash dividend payments to the shareholders. o Makes an entry debiting Dividends Payable and crediting Cash - Dividends Preferences: o Preference shareholders have the right to receive dividends before ordinary shareholders. = The first claim to dividends does not guarantee the payment of dividends. o Cumulative Dividend > A feature which stipulates that preference shareholders must be paid both current-year dividends and any unpaid prior-year dividends before ordinary shareholders are paid dividends. = When preference shares are cumulative, preference dividends not declared in a given period are called dividends in arrears. = Dividendinarrears is not considered a liability. No obligation exists until the board of directors formally declares that the corporation will pay a dividend. © Accounting for share dividends Share dividend > pro rata distribution to shareholders of the corporation’s own shares. A share dividend results in a decrease in retained earnings and an increase in share capital and share premium. Corporations issue share dividends generally for one or more of the following reasons: e 1)Tosatisfy shareholder's dividend expectations without spending cash. ® 2)To increase the marketability of the corporation’s shares. When the number of outstanding increases, the market price per share decreases. Decreasing the market price of the shares makes it easier for smaller investors to purchase the shares. e 3)To emphasize that a portion of equity has been permanently reinvested in the business (and is unavailable for cash dividends) Small share dividend (between 20-25% of the corporation’s issued shares) the value assigned to each share is the fair value (market price) per share. Large share dividend (greater than 20-25%) the price assigned to the dividend is the par or stated value. o Entries for share dividends Declaration entries: e Debit Share Dividends for the fair value of the shares issued. e Credit Ordinary Share Dividends Distributable for the par value of the dividend shares ® Credits (or debits) Share Premium-Ordinary for the excess paid on the shares. Issuing entries: e Debits Ordinary Share Dividends Distributable ® Credits Share Capital-Ordinary o Effects on Share Dividends They change the composition of equity because they transfer a portion of retained earnings to share capital and share premium. However total equity remains the same. - Accounting for Share Splits o Share split + Issuance of additional shares to shareholders according to their percentage ownership. However, it results in a reduction in the par or stated value per share. The purpose is to increase the marketability of the shares by lowering the market price per share. The number of shares outstanding increases and par value per share decreases. No need to journalize a share split. 4) Discuss how equity is reported and analyzed. - Retained earnings: o Retained earnings is an equity account with a normal credit balance. © When a company has net income, it closes net income to retained earnings. The closing entry is a debit to Income Summary and a credit to retained earnings. o When a company hasa net loss, it also closes this amount to retained earnings. The closing entry is a debit to retained earnings and a credit to income summary. - Presentation of the statement of financial position: © Ordinary Share Dividends Distributable is shown under Share Capital- Ordinary. © Under FRS, companies often use the term “reserves” for forms of equity other than that contributed by shareholders. o Many companies present a Statement of changes in Equity which shows the changes = 1)in each equity account = 2)in total that occurred during the year ® Recording acquisition of shares o Debit Share Investments (asset account) o Credits Cash - Holdings of more of 50% o Parent company > Company that own more of 50% of the shares of another company called subsidiary (affiliated) company. o The parent company has a controlling interest in the subsidiary. o The parent company has to prepare consolidated financial statements in addition to the financial statements for the parent and individual subsidiary company. = Consolidated statements are useful to the shareholders, board of directors and managers of the parent company. These statements indicate the magnitude and scope of operations of the companies under common control. 3) Indicate how debt and share investments are reported in financial statements - Categories of securities: o IFRS9 > Requires that companies determine how to measure their financial assets based on 2 criteria: = 1)The company's business model for managing its financial assets. = 2)Contractual cash flow characteristics of the specific financial asset. o Debt Investments = Classified as: ® 1) Trading securities are bought and held primarily for sale in the near term to generate income on short-term price differences. o Atthe financial reporting date, they are adjusted to their fair value with changes reported in net income. ® 2)Held-for-collection securities are debt investments that a company intends to hold, to collect the contractual cash flow. o Atthe financial reporting date, these securities are reported at amortized cost. o Share Investments = Classified as: ® 1) Trading securities ® 2)Non-trading securities are share investments held for purpose other than trading (as for example strategic reasons). o Accounted for at fair value. Their change in fair value during the year is not reported in net income. Non-Trading Heldor-Collection Trading (both debr and shares) li hold DN \ to see how ter perkermo Acfair value with changes At ir value with changes reported At amortized cost reported in net income 13 other comprehensive income in che comprehensive income statement o Trading securities = Trading means frequent buying and selling. Intention to sell them in a short period (generally less than a month). = Reportedatfair value at the end of each period (mark-to-market accounting) e Changes from cost are as part of net income reported under Unrealized gains and losses as the securities have not been sold. ® Before preparing financial statements, the company debits (increases) or credits (decreases) the account Fair Value Adjustment-Trading (Asset account) and increases (credits) or decreases (debits) Unrealized Gain or Loss — Income. = Classified as current assets. o Non-trading securities " Iftheintentisto sellthe securities within the year, it is classified as current assets, otherwise as non-current asset in the investment section of the statement of financial position. = Reportedat fair value. ® The adjusting entries is the same as for Trading securities. However, the accounts are called Unrealized Gain or Loss — Equity and Fair Value Adjustment-Noon trading. - Statementof Financial Position Presentation o Investments are classified as either short-term or long-term. = Short term investments e Becauseoftheir high liquidity, short-term investments appear immediately above cash in the “Current Assets” section of the statement of financial position. ® Also called marketable securities, are held by a company that are (most meet both criteria) o 1) Readily marketable + When it can be sold easily whenever the need for cash arises. = Short-term paper meets this criteria as well as bonds and shares traded on organized securities exchanges. o 2)Intended to be converted into cash within the next year or operating cycle + Management intends to sell the investment within one year. = Longterm investments e Reportedina separate section of the Statement of Financial Position immediately above “Current Assets”. - Presentation of Realized and Unrealized Gain or Loss: o Companies must present in the financial statements gains and losses on investments, whether realized or unrealized. = Income Statement: Other Income and Expense Interest Revenue Unrealized Gain—Income Dividend Revenue Loss on Sale of Investments Gain on Sale of Investments Unrealized Loss—Income