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FA3 – Lesson 3Shareholders’ Equity
1. Definitions
2. Issuance of share capital
3. Retirement of share capital
4. Treasury stock
5. Dividends
6. Stock dividends and stock splits
7. Other
1. Definitions
Equity (or net assets)Ownership interests in the assets of a profit oriented enterprise after deducting its liabilities
Common sharesRepresent residual ownership interest in the company
Preferred sharesHave some priority regarding dividends and/or assets upon dissolution
1. Definitions (continued)
Issued share capital
Shares that have been issued by the company
Outstanding share capital
Shares that are in the hands of investors; this may differ from issued share capital if the company is holding treasury stock (i. e., holding its own shares).
2. Issuance of share capital• When shares are issued, equity increases by
fair value of assets received (valuation issues)• Non-monetary transactions: First, try to use
fair value of shares to value transaction; if that does not work, fair value of consideration received; or an average of the two
• Share issue costs: Can be deducted from share capital account (U. S. approach); or debited to retained earnings
• Example: A14-1
3. Retirement of share capital
“Gains” or “losses” on retirement of shares (difference between reacquisition cost paid for retired shares and book value) do not flow through the income statement:
• “gains” create contributed capital
• “losses” first reduce any contributed capital previously created, and then reduce retained earnings directly
Example: A14-4
4. Treasury stock
Treasury stock are issued shares of the company that have been repurchased and temporarily held by the company for: eventual retirement, distribution to company employees.
• Treasury stock is a reduction in shareholders’ equity; it is not an asset
• Treasury shares are not entitled to cash dividends
Example: A14-9
5. Dividends
Dividends are distributions of cash (usually) or other assets to shareholders.
• Preferred shareholders generally have preference regarding dividends, i. e., preferred shareholders usually get their dividends before any dividends can be paid to common shareholders
• Things get complicated if preferred shares are cumulative and/or participating
Example: A14-13
6. Stock dividends and stock splits
• Stock dividends are generally recorded as a debit to retained earnings and a credit to share capital (most common), or simply as a memo
• Stock dividends are valued at fair value of shares (most common) or stated value
• Stock dividends can give rise to fractional share rights
• Stock split – only a memorandum note
• Example: A14-17
7. Bonds issued between interest dates
• Must record accrued interest (interest that has accumulated between last interest date and bond issue date); this is not interest expense since the bonds have not been outstanding
• Any bond discount or premium is amortized only over the period during which the bond is outstanding
Example: A13-17