Intermediate Accounting 3
1. Chapter 2: Shareholders' Equity (Part 2)
2. Learning Outcome
a. Account for distributions to owners.
b. Account for recapitalization and quasi-reorganization.
3. Learning Content
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. Unrestricted — the portion of retained earnings that is available for future distribution to the shareholders.
b. Appropriated (Restricted) — the portion of retained earnings that is not available for distribution unless the
restriction is subsequently reversed.
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 retained earnings appropriated for the cost of treasury shares reacquired and
those transferred to statutory reserves.
2. Contractual requirement — such as retained earnings appropriated in compliance with loan agreements or bond
indentures for the protection of creditors.
3. Voluntary – such as retained earnings appropriated, for probable contingencies, business expansion and the
like.
The appropriation of retained earnings is recorded as follows.
Date
Retained earnings— unrestricted
Retained earnings — appropriated
xx
xx
When the restriction on the retained earnings, no longer exists, the entry above is simply reversed as follows:
Date
Retained earnings— appropriated
Retained earnings — unrestricted
xx
xx
The entries above do not affect total shareholders’ equity or total retained earnings. Both the unrestricted and
appropriated’ retained earnings comprise total retained earnings. However, appropriations for statutory reserves
are presented separately from retained earnings.
Appropriations of retained earnings do not mean that a corresponding cash fund has been set aside. Appropriations
only indicate amounts that are not available for distribution to the owners.
Negative balances in equity
• When the retained earnings account has a negative balance (i.e., 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.”
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Chapter 2 | Intermediate Accounting 3
Dividends
Distributions to shareholders are called dividends. Dividends 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 maybe either:
• Scrip dividends - short-term and may or may not bear interest.
• Bond dividends – long-term and bear interest
2. Property dividends – distributions in the form of noncash assets.
3. Share dividends – distributions in the form of the entity’s own shares.
Dividends may be declared:
a. Out of unrestricted retained earnings (return on capital), or
b. Out of capital (return of capital).
Corporations normally declare dividends out of unrestricted retained earnings in accordance with the trust fund
doctrine. Share dividends (stock dividends), however, may be declared out of share premium in excess of par value
because technically share premium in excess of par is not part of the legal capital.
However, wasting asset corporations or those that are engaged in the extraction of mineral resources are permitted
to declare dividends out of capital. In this case, the wasting asset doctrine applies (see discussion in other Intermediate
Accounting subject). Dividends declared out of capital are called liquidating dividends.
Dates relevant, to the accounting for dividends
a. Date of declaration - the date when he board of directors formally announces the distribution of dividends.
b. 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 shall 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 the 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 exdividend date. No entry is also made on these dates.
c.
Date of distribution — the date when the dividends declared are distributed to the shareholders who are entitled
to the dividends.
Recognition of liability for dividends
A corporation incurs an obligation to pay dividends only when it declares them. No obligation arises for dividends
not declared, even for dividends that accumulate.
Under IFRIC 17, the liability to pay a dividend shall be recognized when the dividend is appropriately authorized
and is no longer at the discretion of the entity, which is:
a. 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.
Dividends declared by banks are subject to the approval of the Bangko Sentral ng Pilipinas (BSP).
Example 1: The board of directors of ABC Bank, Inc. declares P1M cash dividends on April 1, 20x1 subject to the
approval of the BSP. On April 15, 20x1, ABC receives approval from the 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 P1M cash dividends on April 1, 20x1.
Dividends declared are not subject to further approval by a relevant authority.
Question: When should ABC recognize a liability for the dividends declared?
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Chapter 2 | Intermediate Accounting 3
Answer: April 1, 20x1, the date of declaration by the board of directors because further approval is not required.
Under the Corporation Code, share dividends declared by 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” is presented in equity as an addition to share capital.
Accounting for cash dividends
Cash dividends are the most common form of distribution to owners. Cash dividends may be declared as a certain
amount per share or as a certain percentage of the par value of the shares.
Only the outstanding shares are entitled to dividends. Outstanding shares are share issued plus subscribed shares
minus treasury shares.
Under the Corporation Code, cash dividends due on delinquent shares are first applied to the unpaid balance on
the subscription plus costs and expenses while share dividends (stock dividends) are withheld from the delinquent
subscribers until his unpaid subscription is fully paid.
Illustration 1: Cash dividends
On April 1, 20x1, the board of directors of ABC Co. declares P50 dividends per share to shareholders of record as
of April 15, 20x1 for distribution on May 1, 20x1. The shareholders’ equity of ABC as of April 1, 20x1 is as follows:
Share capital, authorized capital 10,000 shares, P100 par
Subscribed share capital
Share premium
Retained earnings
Treasury shares (at cost of P120 per share)
Other components of equity
Total shareholders’ equity
800,000
220,000
100,000
454,000
(144,000)
70,000
1,500,000
The outstanding shares are computed as follows:
Shares issued (P800,000 ÷ P100 par)
Shares subscribed (P220,000 ÷ P100 par)
Treasury shares (P144,000 ÷ P120 cost).
Outstanding shares
8,000
2,200
(1,200)
9,000
The cash dividends payable is computed as follows:
Outstanding shares
Multiply by: Dividends per share
Total cash dividends
9,000
P50
P450,000
The pertinent entries are as follows:
April 1, 20x1
(Date of
declaration)
April 15,20x1
(Date of
Record)
May 1, 20x1
(Date of
Distribution)
Retained Earnings (or Dividends*)
Cash Dividends Payable
450,000
450,000
No Entry
Cash Dividends Payable
Cash
450,000
450,000
*Alternatively, the “dividends” account may be debited in lieu of “retained earnings.” The “dividends” account may
be used if dividends are declared more than once within a year (e.g. semi-annual or quarterly dividends). The
“dividends” account is closed to the retained earnings at year-end.
In practice, dividends out of profits for a certain 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).
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Chapter 2 | Intermediate Accounting 3
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.
Audits of financial statements for entities using the calendar year period are normally finalized and are authorized
for issue before May 15 (last day of filing of income tax return ‘ITR’ with the Bureau of Internal Revenue ‘BIR’) or
before the last day of filing of audited financial statements with the Securities and Exchange Commission (SEC).
The last day of filing of audited financial statements with the SEC depends on the dates prescribed by a SEC
Memorandum Circular (which may periodically change). Normally, the last day of filing with the SEC depends on
the last numerical digit of the corporation’s SEC registration or license number.
Businesses with gross annual sales or receipts exceeding P3,000,000 are required to file audited financial
statements with the BIR.
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 and SEC, regulated entities also file audited financial statements with other relevant
regulatory bodies, e.g. banks also file audited financial statements with the Bangko Sentral ng Pilipinas (BSP) and
the Philippine Deposit Insurance Company (PDIC). The last day for filing of audited financial statements with other
regulatory bodies id governed by regulations issued by the relevant regulatory body.
Illustration 2: Liability dividends
On Apri1 1, 20x1, the board of directors of ABC Co. declared 50% scrip dividends to shareholders of record as of
April 15, 20x1 for distribution on September,30 20x1. The scrip dividends bear 10% interest per annum. The
shareholders’ equity of ABC as of April 1, 20x1 is as follows:
Share capitals authorized capital 10,000 shares, P100 par
Subscribed share capital
Share premium
Retained earnings
Treasury shares (at cost of P120 per share)
Other components of equity
Total shareholders’ equity
800,000
220,000
100,000
454,000
(144,000)
70,000
1,500,000
The scrip dividends payable is computed as follows:
Shares issued (P800,000 + P100 par)
Shares subscribed (P220,000 ÷ P100 par)
Treasury shares (P144,000 ÷ P120 cost)
Outstanding shares
Multiply by: Par value per share
Aggregate par value of outstanding shares
Multiply by: Dividends as percentage of par value
Total scrip dividends declared
8,000
2,200
(1,200)
9,000
100
900,000
50%
450,000
The pertinent entries are as follows:
April 1, 20x1
(Date of
declaration)
April 15,20x1
(Date of
Record)
Sept. 30,
20x1
(Date of
Distribution)
Retained Earnings or Dividends
Scrip Dividends Payable
450,000
450,000
No Entry
Scrip Dividends Payable
Interest Expense(450k x 10% x 6/12)
Cash
450,000
22,500
472,500
Accounting for property dividends
Instead of cash dividends, an entity may declare property dividends in the form of noncash assets (e.g., inventory,
investment in shares of stocks of another entity, and the like)
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Chapter 2 | Intermediate Accounting 3
The accounting for property dividends by the following:
1. Accounting for the resulting property dividends payable, and
2. Accounting for the non-cash assets declared as property dividends.
Accounting for property dividends payable
The liability recognized on the declaration of property dividends is accounted for as follows:
a. The property dividends payable is initially measured at the fair value of the non-cash assets at date of
declaration.
b. At the end of each reporting period and also on the settlement date, the property dividends payable is adjusted
for changes in fair value. The changes are recognized as gain or loss, directly in retained earnings.
c. On settlement (distribution) date, any difference between the carrying amounts of the dividends payable sand
the assets distributed is recognized in profit or loss.
Accounting for non-cash assets declared as property dividends
The accounting for the non-cash asset declared as property dividends depends on whether, the non-cash asset
was previously classified as noncurrent asset or current asset.
If the property dividend is a noncurrent asset, it shall be subject to the requirements of PFRS 5 Non-current Assets
Held for Sale and Discontinued Operations reclassified as “Non-current asset held for distribution to owners” and
subsequently accounted for under PFRS 5.
Under PFRS 5, a “Non-current asset held for distribution to owners” is initially and subsequently measured at the
lower of its carrying amount and fair value less costs to distribute.
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 periods. In no case shall the assets be measured in excess of its original carrying amount. Gains and
losses on measurement are recognized in profit or loss. Moreover, depreciation ceases during the period that the
asset is classified as “Non-current asset held for distribution to owners”
If the property dividend is a current asset, it shall be accounted for under its previous accounting. No reclassification
is needed.
Illustration 1: Noncurrent asset declared as property dividends
On July 1, 20x1, ABC Co declared as property dividends 10,000 shares held as investment in associate with carrying
amount of P1,000,000. Information on fair values is shown below:
Date
July 1, 20x1
Dec. 31,20x1
Feb. 1, 20x1
Fair Value*
800,000
1,100,000
950,000
*Assume costs to distribute are immaterial.
The pertinent entries on July 1, 20x1 are as follows:
July 1,
20x1
Retained Earnings
Property dividends payable
To record the declaration of property dividends
July 1,
NCA held for distribution to owners
20x1
Impairment Loss
Investment in associate
To record the reclassification of investment in shares
declared as property dividends.
NCA= Noncurrent Assets
800,000
800,000
800,000
200,000
1,000,000
Notes:
✓ “Retained earnings”, and “Property dividends payable are recognized at fair value on declaration date.
✓
The investment in associate is reclassified to “Non-current asset held for distribution to Owners” arid measured
at the lower of its carrying amount and fair value less costs to distribute (P1M vs. P800K: the lower amount
is P800K).
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Chapter 2 | Intermediate Accounting 3
✓
The excess of the carrying amount over the declaration date fair value is recognized impairment loss (P1M –
P800K= P200K).
The property dividends are not yet distributed to the owners as of December 31, 20x1. The pertinent entries are as
follows:
Dec. 31,
20x1
Dec. 31,
20x1
Retained Earnings
Property dividends payable (1.1M – 800K)
To adjust dividends payable for the change in the fair
value of the non-cash assets
NCA held for distribution to the owners
Gain on impairment recovery
To recognize gain on impairment recovery
300,000
300,000
200,000
200,000
Notes:
✓ The fair value adjustment to the “property dividends payable” is recognized directly in retained earnings. Notice
that this entry is similar to the entry on July 1, 20x1 (i.e., debit/credit to ‘retained earnings’ and ‘property dividends
payable’).
✓ The gain on impairment recovery is. recognized only to the extent of the previous impairment loss.
The property dividends payable is settled on February 1, 20x2.
The pertinent entries are as follows:
Feb. 1,
20x2
Feb. 1,
20x2
Property dividends payable
Retained earnings (1.1M – 950K)
To adjust dividends payable for the change in the fair value of
the non-cash assets
Property dividends payable
Loss on distribution of property dividend
NCA held for distribution to owners
To record the distribution of property dividends.
150,000
150,000
950,000
50,000
1,000,000
Notes:
✓ The “property dividends payable” is again remeasured to fair value on settlement date.
✓ The difference between the carrying amounts of the property dividends payable and the asset distributed is
recognized in profit or loss on settlement date. This is presented as a separate line item in the statement of
profit or loss.
✓ The net effect of the declaration and settlement of property dividends on the retained earnings is a net debit
equal to the non-cash asset’s carrying amount on the date of declaration. Analyze the T-account shown
below.
July 1, 20x1
July 1, 20x1
Dec. 31, 20x1
Feb. 1, 20x2
Retained Earnings
800,000
200,000
300,000
200,000
50,000
150,000
1,000,000
Dec. 31, 20x1
Feb. 1, 20x1
Net debit effect
The net debit to retained earnings of P1M is equal to the carrying amount of the investment in associate on
declaration date P1M.
Illustration 2: Current asset declared as property dividends
On July 1, 20x1, ABC Co. declared as property dividends inventory with carrying amount of P1,000,000. Information
on fair values is shown below.
July 1, 20x1
July 31, 20x1
Fair Value*
800,000
1,100,000
*Assume fair value is not materially different from net realizable value.
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Chapter 2 | Intermediate Accounting 3
The pertinent entries are as follows:
July 1,
20x1
Retained earnings
Property dividends payable
Top record the declaration of property dividends
Impairment loss
Inventory
To write-down the inventory to NRV
July 1,
20x1
800,000
800,000
200,000
200,000
Notes:
✓ “Retained earnings” and “Property dividends payable” are recognized at fair value on declaration date.
✓ No reclassification is made because the non-cash asset declared as property dividend is a current asset
✓ If the net realizable value of the inventory exceeds the carrying amount, no write-down is necessary.
The property dividends payable is settled on July 31, 20x1. The pertinent entries are as follows:
July
31,20x1
July
31,20x1
Retained Earnings (1.1M – 800K)
Property dividends payable
To adjust dividends payable for the change in the fair value of
the non-cash assets.
Property dividends payable
Inventory
Gain on distribution of property dividends
To record the distribution of property dividends.
300,000
300,000
1,100,000
800,000
300,000
If in case the property dividends are not distributed as at the end of a reporting period, the “property dividends
payable” must be adjusted for any fair value change. Any gain or loss is recognized directly in retained earnings.
Choice between property and cash dividends
If shareholders are given a choice of receiving either property dividend 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 April 1, 20x1 ABC Co. declared P1,000,000 cash dividends. However, the shareholders were given the option
of receiving property dividends in the form of shares held by ABC as investment in held for trading securities of XYZ,
Inc. The investment in held for trading securities has a carrying amount of P1,000,000 on April 1, 20x1. Information
on fair values of the held for trading securities is shown below.
April 1, 20x1
April 30, 20x1
Fair Value*
800,000
1,100,000
On April 1, 20x1, ABC estimates that the probability that the probability that the shareholders will opt to receive cash
dividends is 60% while the probability that they will opt to receive property dividends is40%.
The fair values of each alternative adjusted for associated probability is computed as follows:
Alternatives
Cash dividends
Property dividends
Fair Value*
1,000,000
800,000
Probability
60%
40%
100%
Dividends payable
600,000
320,000
920,000
The pertinent entries are as follows:
April 1,
20x1
April 1,
20x1
Retained earnings
Cash dividends
Property dividends payable
To record the declaration of dividends
Unrealized loss on fair value change- P/L
Held for trading securities
To recognize the change in fair value of investment.
920,000
600,000
320,000
200,000
200,000
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Chapter 2 | Intermediate Accounting 3
The dividends are settled on April 30, 20x1 as follows: 30% opted to receive cash while 70% opted to receive
property dividends.
Alternatives
Cash dividends
Property dividends
Fair Value*
1,000,000
1,100,000
Probability
30%
70%
100%
Dividends payable
300,000
770,000
1,070,000
The pertinent entries are as follows:
April 30,
20x1
April 30,
20x1
Retained earnings
Cash dividends payable (600K – 300K)
Property dividends payable (770K – 320K
To adjust dividends payable for the change in the fair value of
the non-cash assets
Cash dividends payable
Property dividends payable
Cash
Held for trading securities (800K x 70%)
Gain on distribution of property dividends
To record the settlement of dividends
150,000
300,000
450,000
300,000
770,000
300,000
560,000
210,000
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.
The 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.
b. To make an impression to the public because many consider share dividends as return on capital.
c. To decease e fair value per share. This makes the shares more affordable to potential investors and easier for
the corporation to issue them. Actually, this is also one of the reasons for the varying accounting treatments for
“small” and “large” share dividends.
When the share dividends declared are “large”, there is a presumption that the market price per share will be largely
affected. The market price per share after the declaration is largely decreased because the fair value of the net
assets of corporation will be divided by a greater number of outstanding shares. This makes fair value accounting
inappropriate. As such, “Iarge” share dividends are accounted for at par value.
On the other hand, when the share dividends declared are “small,” there is a presumption that the market price per
share would not be largely affected. Thus, fair value accounting is appropriate.
Listed entities account for “small” shire dividends at par value if par value per share exceeds the market price per
share.
Close corporations (closely held) account for all share dividends, whether small” or “large” at par value. A close
corporation is 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
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Chapter 2 | Intermediate Accounting 3
Illustration 1: “Small” share dividends
On April 1, 20x1, ABC Co. declared 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. The fair value per share on declaration date is P140. ABC’s
shareholders’ equity immediately before the dividend declaration is shown below:
Share Capital, P100 par value
Subscribed share capital
Share premium
Retained earnings
Treasury shares (at cost of P120 per share)
Total shareholders’ equity
800,000
220,000
100,000
524,000
(144,000)
1,500,000
The share dividends declared are analyzed as follows:
1. Share dividends declared:”1 sh. for every 10 shares held”
2. Ratio: 1/10
3. Percentage: 10%
4. Conclusion: The share dividends are considered “small”
5. Accounting: At fair value; credit share premium for the excess of fair value over par value.
The outstanding shares are computed as follows:
Share issued (P800,000 ÷ P100 par)
Shares subscribed (P200,000 ÷ P100 par)
Treasury shares (P144,000 ÷ P120 cost)
Outstanding shares
8,000
2,200
(1,200)
9,000
The stock dividends payable or share dividends distributable is computed as follows:
Outstanding shares
Multiply by: Dividends declared
Number of shares declared as dividends
Multiply by: Fair value per share
Total share dividends
9,000
1/10
900
140
126,000
The pertinent entries are as follows:
April 1, 20x1
(Date of
declaration)
April 15, 20x1
(Date of
record)
May 1,20x1
(Date of
distribution)
Retained earnings (900 sh. x P140)
Stock dividends payable (900 sh. xP100 par value)
Share premium
No Entry
Stock dividends payable
Share capital
126,000
90,000
36,000
90,000
90,000
The shareholders’ equity as of April 1, 20x1 immediately before and after the declaration is shown below:
Share capital
Subscribed share capital
Stock dividends payable
Share premium
Retained earnings
Treasury shares
Total shareholders’ equity
Before
declaration
800,000
220,000
100,000
524,000
(144,000)
1,500,000
After
declaration
800,000
220,000
90,000
136,000
398,000
(144,000)
1,500,000
Increase/
(decrease)
90,000
36,000
(126,000)
-
Notes:
✓ Share dividends do not affect total shareholders’ equity. A portion of the retained earnings is just transferred to
the share capital and share premium accounts.
✓ The stock dividends payable or share dividends distributable account is an adjunct equity account (i.e.,
addition to equity) and not a liability account.
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Chapter 2 | Intermediate Accounting 3
Illustration 2: Accounting for “large” share dividends
On April 1, 20x1, ABC Co. declared share dividends of “1 share for every 5 shares held” to shareholders of record
as of April 15, 20x1, for distribution on May 1, 20x1. The fair value per share on declaration date is P140. ABC’s
shareholders’ equity immediately before the dividend declaration is shown below:
Share capital, P100 par value
Subscribed share capital
Share premium
Retained earnings
Treasury shares (at Cost of P120 per share)
Total shareholders’ equity
800,000
220,000
100,000
524,000
(144,000)
1,500,000
The share dividends declared are analyzed as follows:
1. Share dividends declared: “1 sh. for every 5 shares held”
2. Ratio: 1/5
3. Percentage: 20%
4. Conclusion: The share dividends are considered “large.”
5. Accounting: At par value; no share premium arises.
The outstanding shares are computed as follows:
Shares issued (P800,000 ÷ P100 par)
Shares subscribed (P220,000 + P100 par)
Treasury shares (P144,000 ÷ P120 cost)
Outstanding shares
8,000
2,200
(1,200)
9,000
The stock dividends payable or share dividends distributable is computed as follows:
Outstanding shares
Multiply by: Dividends declared
Number of shares declared as dividends
Multiply by: Par value per share
Total share dividends
9,000
1/5
1,800
100
180,000
The pertinent entries are:
April 1, 20x1(Date
of declaration)
April 15, 20x1
(Date of record)
May 1,20x1 (Date
of distribution)
Retained earnings (1,800 x P100)
Stock dividends payable
No Entry
180,000
Stock dividends payable
Share capital
180,000
180,000
180,000
Treasury shares declared as dividends
When treasury shares are declared as dividends, the accounting procedures for “small” or “large” share dividends
do not apply. Instead, the cost method is used. “Retained earnings” is debited for the cost of the treasury shares
declared. No share premium arises.
Illustration:
On April 1, 20x1, ABC Co. declared share dividends of “1 share for every 10 shares held” from its treasury shares,
to shareholders of record as of April 15, 20x1, for distribution on May1, 20x1. The fair value per share on declaration
date is P140. ABC’S shareholders’ equity immediately before the dividend declaration is shown below:
Share capital, P100 par value
Subscribed share capital
Share premium
Retained earnings
Treasury shares (at Cost of P120 per share)
Total shareholders’ equity
800,000
220,000
100,000
524,000
(144,000)
1,500,000
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Chapter 2 | Intermediate Accounting 3
The outstanding shares are computed as follows:
Shares issued (P800,000 ÷ P100 par)
Shares subscribed (P220,000 + P100 par)
Treasury shares (P144,000 ÷ P120 cost)
Outstanding shares
8,000
2,200
(1,200)
9,000
The stock dividends payable or share dividends distributable is computed as follows:
Outstanding shares
Multiply by: Dividends declared
Number of shares declared as dividends
Multiply by: cost per treasury share
Total share dividends
9,000
1/10
900
120
108,000
The pertinent entries are as follows:
April 1, 20x1(Date
of declaration)
April 15, 20x1
(Date of record)
May 1,20x1 (Date
of distribution)
May 1,20x1
Retained earnings (900 sh. x P120)
Stock dividends payable
No Entry
108,000
Stock dividends payable
Treasury shares
Retained earnings – appropriated
Retained earnings – unrestricted
To reverse the restriction on retained earnings for the
treasury shares issued as dividends.
108,000
108,000
108,000
108,000
108,000
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 instance, a
shareholder holding 105 shares will not receive one full share for the 5 shares held.
This is one of the reasons 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 the share rights wherein holders may
buy or sell fractional share rights to enable, buyers to accumulate sufficient share rights to acquire full share; or
2. Pay cash in lieu of fractional share rights but only if the share dividends were declared out of retained earnings.
If the share dividends were declared out of share premium, cash payment in lieu of fractional share rights is
illegal.
Illustration: Fractional share rights
On April 1, 20x1, ABC Co. declared 20% share dividends to shareholders of record as of April 15, 20x1 for
distribution on May 1, 20x1. Additional information is as follows:
Share capital, P100 par, 10,000 shares issued and outstanding
Share dividends declared
Share dividends on full shares issued
Share dividends on fractional shares issued
P1,000,000
20%
1,700
300
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Chapter 2 | Intermediate Accounting 3
The pertinent entries are as follows:
April 1,
20x1(Date of
declaration)
April 15,
20x1 (Date of
record)
May 1,20x1
(Date of
distribution)
Retained earnings (1Mx 20%)
Stock dividends distributable
200,000
200,000
No Entry
Stock dividends distributable
Share capital (1,700 x P100)
Sh. prem. – warrants outs. (300 x P100)
200,000
170,000
30,000
On June 1, 20x1, 250 full shares were issued on the exercise of the share warrants. The remaining 50 share
warrants expired.
June 1, 20x1
June 1, 20x1
Share premium- warrants outstanding
Share capital (P250 x P100)
To record the issuance of the 250 full shares
Share premium- warrants outstanding
Share capital (P50 x P100)
To transfer the share premium arising from expired warrants
directly within equity.
25,000
25,000
5,000
5,000
Share dividends of different class
Corporations may sometimes declare share dividends that at different from the class of shares held by the recipients.
For example, an entity may declare share dividends in the form preference shares on its outstanding ordinary
shares, or vice-versa. Share dividends of different class are accounted for at fair value.
Illustration: Share dividends of different class
On April 1, 20x1, ABC Co. declared 1,000 share dividends in the form of preference shares to its ordinary
shareholders of record as of April 15, 20x1 for distribution on May 1, 20x1. The market price of the preference
shares on date of declaration is P150. ABC Co. has 10,000 ordinary shares outstanding. The par value of preference
shares is P100.
The pertinent entries are as follows:
April 1, 20x1
(Date of
declaration)
April 15, 20x1
(Date of
record)
May 1,20x1
(Date of
distribution)
Retained earnings (1,000 x P150)
Sh. div. distributable (1,000 x P100)
Share premium- PS
No Entry
150,000
Stock dividends distributable
Preference share capital
100,000
100,000
50,000
100,000
Choice between share and cash dividends
Again, current PFRSs do not specifically address the accounting for share dividends. If shareholders are given a
choice of receiving cash in lieu of share dividends, a similar accounting procedure is adopted from both IFRIC 17
and US GAAP.
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.
Compound instruments are required under the standards to be accounted for separately. Therefore, the entity
estimates the dividend payable by considering both the fair value of each alternative and the associated probability
of shareholders selecting each alternative.
If the share dividends declared or the expected shares to be distributed under the share alternative is considered:
a. “Small” — fair value shall be used
b. “Large”— par value shall be used
For the cash alternative, the entity shall use the amount of the optional cash dividend.
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Chapter 2 | Intermediate Accounting 3
Preference shares
Preference shares have one or both of the following preference over ordinary shares:
a. Preference in the distribution of assets in case of corporate liquidation (preferred as to assets)
b. Preference in the distribution of dividends (preferred as to dividends)
Preference over assets
Upon corporate liquidation and after the creditors’ claims (liabilities) are settled, preference shares that are
preferred as to assets are settled first and any remaining amount is paid to the ordinary shareholders.
If the preference shares are not preferred as to assets, the remaining amount after settlement of liabilities is shared
proportionately by the preference and ordinary shareholders.
Preference shares that are “preferred as to assets” are normally entitled to a liquidation value. Liquidation value
pertains to the amount which preference shareholders are entitled to receive in case of corporate liquidation. The
liquidation value is usually more than the par value of the preference shares.
In case where the net assets of the corporation after settlement of creditors’ claims are insufficient to pay the
liquidation value, the preference shares will be entitled only to the remaining net assets: Consequently, none will
be paid to the ordinary shareholders, but they will not be obliged to provide any additional capital. This is in
accordance with the “limited liability” characteristic of a corporation, in which the personal assets of the owners are
not subjects to corporate claims.
Preference over dividends
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.
• 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 multiplied 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 maybe 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 value (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.
b. Specific monetary amount per share. For example, a “P5 preference share” with par value of P100 is entitled
to a dividend of P5 when dividends are declared.
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Chapter 2 | Intermediate Accounting 3
In the absence of evidence to the contrary, preference shares are presumed to be “preferred s to dividends” with
dividend preference of “noncumulative and nonparticipating.”
Illustration 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
Ordinary share capital, P100 par
Retained earnings
Total shareholders’ equity
2,000,000
8,000,000
5,000,000
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.
Observe the following steps in the allocation of dividends:
Step 1: Provide the dividends of the preference shares first.
- If the preferences shares are noncumulative, provide one-year dividends only.
- If the preferences shares are cumulative, provide all dividends in arrears.
Step 2: Any excess paid to the ordinary shareholders.
Total dividends declared
Allocation:
1. Allocation of preference shares (P2M par x 10% x 1yr. (a))
2. Excess allocated to ordinary shares (P1.8M – P200K)
As Allocated
1,800,000
200,000
1,600,000
-
(a) Only
the current year dividend is paid because the preference shares are noncumulative. The unpaid dividends
from previous years are forfeited.
Case #2: Cumulative and Nonparticipating
The preference shares are cumulative and nonparticipating.
Total dividends declared
Allocation:
1. Allocation of preference shares (P2M par x 10% x 3yrs. (b))
2. Excess allocated to ordinary shares (P1.8M – P600K)
As Allocated
(b)
1,800,000
600,000
1,200,000
-
All the unpaid dividends from 20x1 to 20x3 are paid because the shares are cumulative.
Case #3: Noncumulative and Fully Participating
The preference shares are noncumulative and fully participating.
For participating preference shares, we will observe the following steps in the allocation of
dividends:
Step 1: Provide the dividends of the preference shares first.
- If the preferences shares are noncumulative, provide one-year dividends only.
- If the preferences shares are cumulative, provide all dividends in arrears.
Step 2: Provide the basic dividends of the ordinary shares using the preference share rate.
Step 3: Allocate the excess dividends after deducting the amounts computed in Steps 1 & 2 above
to the preference and ordinary shares pro rata based on the aggregate par values of the outstanding
shares.
Page 14 of 30
Chapter 2 | Intermediate Accounting 3
Total dividends declared
Allocation:
1. Basic allocation of preference sh. (P2M par x 10% x 1yr.)
2. Basic allocation to ordinary sh. (P8M x 10%) (c)
Excess subject to participation (P1.8M – 200K – 800K)
3. Participation of preference sh. (800K x 2M par ÷ 10M par) (d)
3. Participation of ordinary sh. (P800K x 8M par ÷ 10M par) (e)
As Allocated
1,800,000
200,000
800,000
800,000
160,000
640,000
-
Basic allocation to ordinary shares: (P8M aggregate par value of ordinal shares ‘see shareholders’ equity above’
x 10% preference rate) = P800,000.
(c)
Participation of PS [800K excess x 2M aggregate par value of preference shares ‘see shareholders’ equity above’
÷ (P2M aggregate par value of preference shares + P8M aggregate par value of ordinary shares)] = P160,000.
(d)
(e)
Participation of OS: [P800K excess x P8M aggregate par value of ordinary shares ÷ (P2M aggregate par value
of preference shares + P8M aggregate par value of ordinary shares)] = P640,000.
❖ The total dividends received by each class of shares are as follows:
Preference shares: (P200,000 basic + P160,000 participation)
ordinary shares (P800,000 basic + P640,000 participation)
Total dividends
360,000
1,440,000
1,800,000
Case #4: Cumulative and Fully Participating
The preference shares are cumulative and fully participating.
Total dividends declared
Allocation:
1. Basic allocation of preference sh. (P2M par x 10% x 3yrs.)
2. Basic allocation to ordinary sh. (P8M x 10%)
Excess subject to participation (P1.8M – 600K – 800K)
3. Participation of preference sh. (400K x 2M par ÷ 10M par)
3. Participation of ordinary sh. (P400K x 8M par ÷ 10M par)
As Allocated
1,800,000
600,000
800,000
400,000
80,000
320,000
-
Notice that the ordinary shares are allocated only one year dividends regardless of dividend in arrears.
❖ The total dividends received by each class of shares are as follows:
Preference shares: (P600,000 basic + P80,000 participation)
ordinary shares (P800,000 basic + P320,000 participation)
Total dividends
680,000
1,120,000
1,800,000
Case #5: Cumulative and participating up to 16%
The preference shares are cumulative and participating up to 16%
Total dividends declared
Allocation:
1. Basic allocation of preference sh. (P2M par x 10% x 3yrs.)
2. Basic allocation to ordinary sh. (P8M x 10%)
Excess subject to participation (P1.8M – 600K – 800K)
3. Participation of preference sh. [(16% – 10%) x P2M par) (f)
3. Participation of ordinary sh. (P400K – 120K)
As Allocated
1,800,000
600,000
800,000
400,000
120,000
280,000
-
(f)
When preference shares are participating only up to a certain percentage (i.e., partially participating), the
participation is computed as the excess of the participation percentage over the fixed dividend rate multiplied by
the aggregate par value of preference shares outstanding.
Page 15 of 30
Chapter 2 | Intermediate Accounting 3
❖ The total dividends received by each class of shares are as follows:
Preference shares: (P600,000 basic + P120,000 participation)
ordinary shares (P800,000 basic + P280,000 participation)
Total dividends
720,000
1,080,000
1,800,000
Illustration 2: More than one class of preference shares
ABC Co. declared P4,000,000 cash dividends to its preference and ordinary shareholders in 20x3. No dividends
have been declared since 20x1. ABC’s shareholders’ equity immediately before dividend declaration is as follows:
10% Preference share capital, P200 par, cumulative and participating
12% Preference share capital, P300 par, noncumulative and participating
Ordinary share capital, P100 par
Retained earnings
Total shareholders’ equity
2,000,000
6,000,000
8,000,000
4,000,000
20,000,000
Requirement: Compute for the dividends to be received by each of different classes of share capital.
Solution:
Total dividends declared
Allocation:
1. Basic allocation to 10% PS (P2M par x 10% x 3yrs.)
1. Basic allocation to 12% PS (P6M x 12% x 1yr.)
2. Basic allocation to ordinary sh.(P8M par x 10%) (g)
Excess subject to participation (P4M – 600K – 800K)
3. Participation of 10% PS (P1.880M x 2M par ÷ 16M par)
3. Participation of 12% PS (P1.880M x 6M par ÷ 16M par)
3. Participation of ordinary sh. (P1.880M x 8M par ÷ 16M par)
As Allocated
(g)
4,000,000
600,000
720,000
800,000
1,880,000
235,000
705,000
940,000
-
The lower preference rate is used in the allocation of basic dividend to ordinary shares.
❖ The total dividends received by each class of shares are as follows:
10% PS (P600,000 basic + P235,000)
12% PS (P720,000 basic + P705,000)
Ordinary sh.(P800,000 basic + P940,000)
Total dividends
835,000
1,425,000
1,740,000
4,000,000
Illustration 3: Total dividend
ABC Co. is contemplating on declaring cash dividends to its preference and ordinary shareholders out of its profits
in 20x3.
Dividends are in arrears for three years. ABC’s shareholders’ equity immediately before dividend declaration is as
follows:
10% Preference share capital, P200 par, cumulative and fully participating
Ordinary share capitals 80,000 shares issued and Outstanding, P100 par
Retained earnings
Total shareholders’ equity
2,000,000
8,000,000
5,000,000
15,000,000
Requirement: If ABC would like to pay dividends of P14 per share to ordinary shareholders, how much total dividend
should be declared?
Page 16 of 30
Chapter 2 | Intermediate Accounting 3
Solution:
Step 1: Prepare the pro forma computations
Total dividends declared (squeeze)
Allocation:
1. Basic allocation to preference sh.
2. Basic allocation to ordinary sh.
Excess subject to participation
3. Participation of preference sh.
3. Participation of ordinary sh.
As Allocated
?
?
(a)
?
(a)
-
Step 2: Analyze the requirement and the given information
(a) The total dividend to ordinary shares is P1,120,000 (P14 given x 80,000 outstanding ordinary shares).
The PS is cumulative and participating. Therefore, the dividend to the PS is inclusive of both the PS’s basic dividend
and its share in the participation.
It follows that the total dividend of P1,120,000 to the OS is also inclusive of both the OS’S (2) basic dividend and
(3) participation.
Step 3: Squeeze for some missing information
Total dividends declared (squeeze)
Allocation:
1. Basic allocation to preference sh.
2. Basic allocation to ordinary sh. (start) (8M par x 10% PS rate)
Excess subject to participation
3. Participation of preference sh.
4. Participation of ordinary sh. (next) (1.12M see step 2 – 800K)
As Allocated
?
?
800,000
?
320,000
-
Step 4: Squeeze some more ‘till you can’t squeeze no more.
Recall that the amount of participation is computed by multiplying the “excess subject to participation” by a ratio of
aggregate par values. Therefore, we can derive the amount of “excess subject to participation” by using the formula
below:
Amount of participation
=
Excess subject to participation
x
320,000
=
Excess subject to participation
x
Excess subject to participation
Excess subject to participation
=
=
320,000
400,000
x
Total dividends (final squeeze)
Allocation:
1. Basic allocation to preference sh. (next, next) (2M x 10% x 3)
2. Basic allocation to ordinary sh.
Excess subject to participation (start)
3. Participation of preference sh. (next) (400,000 x 2/10)
3. Participation of ordinary sh.
As Allocated
Ratio based on aggregate par
values
8M par
10M pars
10/8
1,800,000
600,000
800,000
400,000
80,000
320,000
-
❖ Answer to the requirement: P1,800,000
Notice that this problem is just variation of “Illustration 1: Case #4” above.
Dividends recognized as expense
Dividends declared on equity / instruments are charged to retained earnings. However, dividends declared on
financial liabilities such as redeemable preference shares are charged to profit or loss as interest expense.
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Chapter 2 | Intermediate Accounting 3
Dividends recognized as interest expense may be presented on the statement of profit or loss and other
comprehensive income separately or together with interest expense recognized from other financial liabilities.
Illustration: Dividends on redeemable preference shares
ABC Co, declared one-year cash dividends on its outstanding 6% redeemable preference shares with aggregate
par value of P1,000,000.
The pertinent entries are as follows:
Date of
declaration
Date of record
Date of
distribution
Interest expense (1M x 6%)
Interest payable
No Entry
Interest payable
Cash
60,000
60,000
60,000
60,000
Liquidating dividends
Liquidating dividends are dividends declared out of capital, rather than from retained earnings. Liquidating dividends
are normally declared only upon corporate liquidation. However, the wasting asset doctrine permits wasting asset
corporations (i.e., those who are engaged in mining mineral resources) to declare dividends out of capital during
their existence.
There may be instances where unintentional liquidating dividends occur such as when dividends are declared ‘out
of retained earnings that is overstated. When unintentional liquidating dividends are subsequently discovered, a
correcting entry is made to adjust the retained earnings and other affected accounts.
Illustration:
On December 31, 20x1, ABC Co. declares P1,000,000 cash dividends to shareholders to record as of January 31,
20x2. Since ABC is undergoing liquidation, 80% of the dividends declared are liquidating dividends.
The pertinent entries are as follows:
Dec. 31, 20x1
(Date of
declaration)
Jan. 15, 20x2
(Date of record)
Jan. 31, 20x2
(Date of
distribution)
Capital liquidated (1M x 80%)
Retained earnings (1M x 20%)
Cash dividends payable
No Entry
Cash dividends payable
Cash
800,000
200,000
1,000,000
1,000,000
1,000,000
Dividends declares in excess of the balance of unrestricted retained earnings are considered liquidating dividends.
Liquidating dividends are charged to the capital liquidated account which is a deduction from total shareholders’
equity (i.e., contra equity account).
Disclosure of dividends
Dividends declared and the related amount per share disclosed either in the statement of changes in equity or in
the notes.
Events after the reporting period.
Dividends declared after the reporting period but before the financial statements are authorized for issue are not
recognized as a liability at the end of the reporting period because no obligation exists at that time. The dividends
are disclosed only in the notes.
Other Components of Equity
Other components of equity pertain to non-owner changes in equity which are required by standards, to be directly
recognized in equity rather than through profit or loss. Examples include:
a. Revaluation surplus
b. Cumulative unrealized gams/losses on fair value changes in investments in FVOCI equity securities
c. Exchange differences on translating foreign operations.
d. Effective portion of cash flow hedges
Page 18 of 30
Chapter 2 | Intermediate Accounting 3
Recapitalization
Recapitalization refers to the change in the capital structure of an entity brought about by the, cancellation of old
shares and issuance of new shares as replacement. Recapitalization is accomplished through any of the following:
a. Change from par to no-par, or vice-versa
b. Reduction of par value or stated value
c. Share splits or reverse splits
Recapitalization does not affect, assets liabilities, or total shareholders’ equity.
Illustration 1: Change from par to no-par
The shareholders’ equity of ABC Co. before recapitalization is as follows:
Share capital, P100 par, 10,000 shares
Share premium
Retained earnings
1,000,000
200,000
300,000
1,500,000
Case 1: ABC recalls and cancels the 10,000 shares and replaces them with 20,000 no-par shares with the stated
value of P5 per share.
Date
Share capital
Share premium
Share capital (20,000 x P5)
Share premium – recapitalization
1,000,000
200,000
100,000
1,100,000
Case 2: ABC recalls and cancels the 10,000 shares and replaces them with 20,000 no-par shares with stated value
of P65 per share.
Date
Share capital
Share premium
Retained earnings
Share capital (20,000 x P65)
1,000,000
200,000
100,000
1,300,000
Illustration 2: Reduction of par value
The shareholders’ equity of ABC Co. before recapitalization is as follows:
Share capital, P100 par, 10,000 shares
Share premium
Retained earnings
1,000,000
200,000
300,000
1,500,000
ABC reduces the par value to P80 per share.
The entry to record the recapitalization is as follows:
Date
Share capital
Share premium
Share capital (10,000 x P80)
Share premium – recapitalization
1,000,000
200,000
800,000
400,000
Share split
Share splits may be in the form of:
1. Split up or share split.
2. Split down or reverse share split.
Split up occurs when old shares are cancelled and replaced by a larger number of new share but with a reduced
par value (stated value) per share.
Entities may use share split as an equity financing tool. Share split increases the number of shares available for
issuance while decreasing the fair value per share. This is because, after a share split, the fair value of the entity’s
net assets will be divided by a larger number of outstanding shares. With a decreased fair value per share, the
entity’s share become more affordable to potential investors.
Split down is the opposite of split up whereby old shares are cancelled and replaced by a smaller number of new
shares but with an increased par value (stated value) per share.
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Chapter 2 | Intermediate Accounting 3
Share splits affect only the number of outstanding shares and par value per share. They do not affect assets,
liabilities, equity, or the aggregate par value of issued shares. Share splits are recorded only through memo entry.
Examples: Split up and Split down
ABC Co; has 10,000 shares with par value per share of P100.
Case 1: Split up
ABC Co. declares a “2-for-1 share split.”
The memo entry to record the split up is as follows:
“Issued 20,000 shares with par value of P50 as a result of a “2-for-1” split of 10,000 old shares with par value of
P100.”
Case 2: Split down
ABC declares a “1-for-2 reverse share split.”
The memo entry to record the split up is as follows:
“Issued 5,000 shares with par value of P200 as a result of a “1-for-2” reverse share split of 10,000 old shares with
par value of P100.”
In both cases above, the aggregate par value of the shares before and after the share split is unaffected:
No. of shares outstanding
Par value
Total par value
Before share split
10,000
P100
P1,000,000
After split up
20,000
P50
P1,000,000
After split down
5,000
P200
P1,000,000
Quasi-reorganization
Quasi-reorganization is an accounting procedure whereby a financially troubled corporation, but with favourable
future prospects, is permitted, but not required, to revalue its assets and liabilities, and realign its equity, subject to
the provisions of relevant regulations, in order to establish a “fresh start” in accounting sense.
Quasi-reorganization may be effected through:
1. Revaluation of property, plants, and equipment; and/or
2. Recapitalization
The basic approach to quasi-reorganization is as follows:
1. Assets (and liabilities) are revalued upwards or downwards.
2. Any resulting credit balance in revaluation surplus is used to wipe out any deficit (i.e.,. negative balance in
retained earnings).
3. If a recapitalization is made, any resulting share premium shall also be used to wipe out any deficit.
4. Disclosures required by relevant regulations are provided in the financial statements for a minimum period’ of
three (3) years.
SEC guidelines for quasi-reorganization
The following are the guidelines provided by the Securities and Exchange Commission (SEC) for quasireorganization:
1. The company is allowed to undergo quasi-reorganization only if it is in financial distress.
2. Any revaluation surplus from fixed assets as appraised by a reputable licensed appraiser is used to absorb the
company’s accumulated past losses (i.e., deficit).
3. The revaluation surplus to be considered in the plan shall be limited to real properties, permanently installed
fixed assets, and other machineries and equipment directly needed and actually used in the operations of the
company.
4. Revaluation surplus on fixed assets undergoing repair or will require repair before the same can be put into
productive use shall not be included for purposes of quasi-reorganization.
5. The company shall present a project study on its future operations to support its quasi-reorganization.
6. Any remaining revaluation surplus after quasi-reorganization shall not be used to absorb future losses without
prior approval of the Commission.
7. For purposes of dividend declaration, the retained earnings of the company shall be restricted to the extent of
the deficit wiped out of the revaluation surplus. Any subsequent piecemeal transfer of revaluation surplus to
retained earnings shall not be used for dividend declaration.
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Chapter 2 | Intermediate Accounting 3
8. The company shall disclose in the financial statements the mechanics, purpose and effect of a quasireorganization on its financial condition for a minimum period of three (3) years.
Illustration 1: Quasi-reorganization
ABC Co. has been incurring losses for several years. On December 31, 20x1, the SEC permitted ABC to implement
a quasi-reorganization after due approval of ABC’S shareholders and creditors. ABC’s statement of financial position
immediately before the quasi-reorganization is shown below:
Assets
Cash
Receivables
Inventory
Building- net
Goodwill
Total assets
Liabilities and Equity
Liabilities
Share capital, P100, 50,000 shares
Retained earnings (deficit)
Total liabilities and equity
100,000
2,000,000
1,550,000
800,000
50,000
4,500,000
1,470,000
5,000,000
(1,970,000)
4,500,000
The quasi-reorganization plan provides the following:
1. The building shall be revalued at an appraised value of P1,500,000.
2. Thirty per cent (30%) of the receivables shall be written off.
3. Inventory shall be written down to its net realizable value of P1,000,000.
4. Goodwill shall be written off in full.
5. A P30,000 probable loss on a pending lawsuit shall be recognized.
6. Share capital shall be reduced to P2,500,000 or 25,600 shares with par value per share of P100.
7. Any resulting balance in share premium and/or revaluation surplus shall be used to wipe out the deficit.
The entries to effect the quasi-reorganization are as follows:
1
2
3
4
5
6
7
Building (1.5M – 800,000)
Revaluation surplus
To record the revaluation of building.
Retained earnings
Receivables (2,000,000 x 30%)
To record the write-off of receivable
Retained earnings
Inventory (1.550M – 1M)
To record the write-down of inventory
Retained earnings
Goodwill
To record the write-down of goodwill
Retained earnings
Estimated liability on pending lawsuit
To recognize provision for probable loss on pending lawsuit
Share capital
Share premium
To record the recapitalization effected through reduction of share
capital
Revaluation surplus
Share premium
Retained earnings
700,000
700,000
600,000
600,000
550,000
550,000
50,000
50,000
30,000
30,000
2,500,000
2,500,000
700,000
2,500,000
3,200,000
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Chapter 2 | Intermediate Accounting 3
After recording the entries above, the deficit in the retained earnings is wiped out as shown in the T-account analysis
below:
Before quasi-reorganization
(2)
(3)
(4)
(5)
Retained earnings (deficit)
1,970,000
600,000
550,000
50,000
30,000 3,200,000
-
(7)
ABC Co.’s statement of financial position after the quasi-reorganization would appear as follows:
Assets
Cash
Receivables
Inventory
Building- net
Goodwill
Total assets
100,000
1,400,000
1,000,000
1,500,000
4,000,000
Liabilities and Equity
Liabilities
Share capital, P100, 50,000 shares
Retained earnings (deficit)
Total liabilities and equity
1,500,000
2,500,000
4,000,000
Illustration 2: Quasi-reorganization — Comprehensive
The
shareholders’
equity
of
the
ABC
Co.
on
June
30,
20x1
10% Preference shares, P100 par, cumulative; 10,000 shares
issued and outstanding, dividends are in arrears for 5. years
Ordinary shares, P100 par, 20,000 shares issued and outstanding
Deficit
Total shareholders’ equity
is
shown
below:
1,000,000
2,000,000
(500,000)
2,500,000
On July 1, 20x1, the following transactions occurred:
•
•
•
ABC Co. effected a quasi-reorganization through recapitalization whereby the ordinary shares were recalled
and one new ordinary share was issued in exchange for every 2 shares of the old. The par value per share of
the new shares remained at P100.
One-half share of the new ordinary shares was issued to each outstanding preference share in liquidation of
the dividends in arrears.
The share premium arising from the recapitalization is used to wipe out the deficit.
Transactions for the remainder of the year affecting shareholders’ equity were as follows:
Sept. 30, 20x1
Oct. 30, 20x1
Dec. 31, 20x1
5,000 preference shares were called in at a premium of P10. Dividends for 3 months were paid
on the shares recalled. The shares were formally retired.
3,000 new ordinary shares were sold at P150.
Profit for the 6 months ended on this date amounted to P1,100,000. ABC declared semi-annual
dividend on the preference shares and P0.50 dividend on ordinary shares. The dividends are
payable on January 27, 20x2.
Requirements: Prepare the shareholders’ equity section of ABC Co. as of (a) July 1, 20x1 and (b) December 31,
20x1.
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Chapter 2 | Intermediate Accounting 3
Solutions:
Requirement (a): Shareholders’ equity on July 1, 20x1
The recapitalization on July 1, 20x1 are recorded as follows:
July 1, 20x1
July 1, 20x1
July 1, 20x1
Ordinary share capital – old
OS capital – new (20,000 ÷ 2) x P100
Share premium
To record the recapitalization
Retained earnings (10,000 x ½ x P100)
Ordinary share capital- new
To record the ordinary share dividends issues to
preference shareholders
Share premium
Retained earnings
To wipe out the deficit
2,000,000
1,000,000
1,000,000
500,000
500,000
1,000,000
1,000,000
The number of outstanding ordinary shares after the recapitalization is computed as follows:
New shares issued to replace old shares recalled, [20,000 old shares x (1 new share / 2 old shares)]
New shares issued as share dividend to pret. shareholders (10,000 outstanding PS x ½ new OS)
Outstanding ordinary shares — July 1, 20x1
10,000
5,000
15,000
The shareholders’ equity of ABC on July 1, 20x1 would appear as follows:
10% preference shares, P100 par, cumulative, 10,000 shares issued and outstanding
Ordinary shares, P100 par, 15,000 shares issued and outstanding
Retained earnings
Total shareholders’ equity
1,000,000
1,500,000
___-____
2,500,000
Notice that the total of shareholders’ equity is not affected by the recapitalization.
Requirement (b): Shareholders’ equity on December 31, 20x1
The transactions for the remainder of the year e recorded as follows:
Sept.
30,
20x1
Sept.
30,
20x1
Oct. 31,
20x1
Dec.
31,
20x1
Dec.
31,
20x1
Dec.
31,
20x1
Preference shares (5,000 x P100 par value
Retained earnings
Cash [5,000 x (P100 +P10 premium)]
To record the recall and retirement of 5,000 preference shares
Retained earnings
Cash (5,000 x P100 x 10% x 3/12)
To record the 3-month dividends paid on preference shares
retired.
Cash (3,000 x P150)
OS capital – new (3,000 x P100)
Share premium
To record the issuance of ordinary shares
Income summary
Retained earnings
To close profit to retained earnings
Retained earnings
Retained earnings- appropriated*
To restrict retained earnings for the deficit wiped out during quasireorganization
Retained earnings
Dividends payable – PS a
Dividends payable – OS b
To record the dividend declaration
500,000
50,000
550,000
12,500
12,500
450,000
300,000
150,000
1,100,000
1,100,000
1,000,000
1,000,000
34,000
25,000
9,000
*Retained earnings after quasi-reorganization is restricted to the extent of the deficit wiped out during quasireorganization (P500K deficit + P500 liquidation of dividends arrears). See journal entry on July 1,20x1.
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Chapter 2 | Intermediate Accounting 3
a
b
The dividends to the preference shares are computed as follows:
Number of preference shares outstanding on July 1, 20x1
Number of preference shares recalled on Sept. 30, 20x1
Number of preference shares outstanding on Dec. 31, 20x1
Multiply by: Par value per share
Aggregate par value of outstanding preference shares
Multiply by: Preference dividend rate
Annual preference dividend
Multiply by:
Semi-annual preference share dividend
10,000
(5,000)
5,000
100
500,000
10%
50,000
6/12
25,000
The dividends to the ordinary shares are computed as follows:
Number of OS outstanding after recapitalization on July. 1, 20x1 (see previous computation)
Number of ordinary shares. issued on October31, 20x1
Number of ordinary shares outstanding on Dec. 31, 20x1
Multiply by: Declared cash dividends per share
Ordinary share dividends
The shareholders’ equity of ABC on December 31,20x1 would like to appear as follows:
10% Preference shares, P100 par, cumulative, 5,000 shares issued and outstanding
Ordinary shares, P100 par, 15,000 shares issued and outstanding
Share premium
Retained earnings appropriated
Retained earnings unrestricted
Total shareholders’ equity
15,000
3,000
18,000
0.50
9,000
500,000
1,800,000
150,000
1,000,000
3,500
3,453,500
An analysis on the movements of retained earnings is shown below:
Retained Earnings
Sept. 30, 20x1
Sept. 30, 20x1
Appropriation
Year-end dividends
Dec. 31, 20x1
50,000
12,500
1,000,000
34,000
3,500
1,100,000
July 1, 20x1
Dec. 31, 20x1-profit
Alternative solution:
Using the concept that a recapitalization does not affect total shareholders’ equity, the total shareholders’ equity
as of December 31, 20x1may also be computed as follows:
Total shareholder& equity (before and after recapitalization)
Retirement price of PS - Sept. 30, 20x1 (5,000 x 110)
Dividends to PS retired - Sept. 30, 20x1 (5,000 x 100 x 10% x 3/12)
Proceeds from issuance of OS on Oct. 31, 20x1 (3,000 x 150)
Profit for the 6 months ended Dec. 31,20x1
Dividends to PS- Dec. 31, 20x1 (5,000 x 100 10% 6/12)
Dividends to OS - Dec. 31, 20x1 (18,000 x 0.50)
Total shareholders’ equity. - Dec. 31, 20x1
2,500,000
(550,000)
(12,500)
450,000
1,100,000
(25,000)
(9,000)
3,453,500
4. Assessment Tasks
1. The stockholders' equity section of Jessie Corp. is presented below.
Common stock, P20 par value, authorized 1,000,000 shares, issued and outstanding 400,000 shares
Additional paid-in capital
Retained earnings
Total stockholders' equity
P8,000,000
2,400,000
10,800,000
P21,200,000
Requirements:
a. Provide the journal entries for each of the following independent transactions.
b. Complete the following table to depict the number of shares of stock and balances in the stockholders'
equity accounts after each of the following independent transactions.
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Chapter 2 | Intermediate Accounting 3
(a) 15 percent stock dividend, fair value P25 per share
(b) 2-for-l stock split
(c) 100 percent stock dividend, fair value P25 per share
TABLE:
Outstanding
Shares
Common Stock
Additional Paid-ln
Capital
Total Retained
Earnings
Stockholders’
Equity
(a)
(b)
(c)
2. The following information pertains to Rondo Corp. for the year ended September (30, 2002).
Net income
Retained earnings, Oct. 1, 2001
Cash dividends declared
Stock dividends declared
Overstatement of depreciation expense of 1998 and 1999 - pretax
Tax rate
P 75,000
860,000
16,400
41,000
62,000
30%
Requirement: Compute for the retained earnings balance on September 30, 2002.
3. On September 20, 2002, Nozzle Corporation declared the distribution of the following dividend to its
stockholders of record as of September 30, 2002:
•
Investment in 100,000 shares of Astro Corporation stock classified as held for trading securities, carrying
amount P1,600,000; fair value on September 20, P1,450,0000; fair value on September 30, P 1,575,000.
Requirement: Provide the entries on dividend declaration date,
4. On June 1, 2001, Patriot Corporation declared a stock dividend entitling its stockholders to one additional share
for each share held. At the time the dividend was declared, the fair value of the stock was P10 per share and
the par value was P5 per share. On this date Patriot had 1,000,000 shares of common stock authorized of which
600,000 shares were outstanding.
Requirement: Provide the entry on dividend declaration date.
5. Bennett Company paid cash dividends totaling P150,000 in 2000 and P75,000 in 2001. In 2002, Bennett intends
to pay cash dividends of P800,000.
Requirements: Compute the amount of cash dividends per share to be received by common stockholders in
2002 under each of the following assumptions. Treat each case independently. There were no dividends in
arrears as of January 1, 2000.
1) 25,000 shares of common; 100,000 shares of 6 percent, P50 par cumulative preferred.
2) 25,000 shares of common; 50,000 shares of 6 percent, P50 par noncumulative preferred.
3) 25,000 shares of common; 70,000 shares of 6 percent, P 100 par cumulative preferred.
6. On January 1, 2002, the records of the Gerrard Corporation showed these balances:
Common stock--authorized 78,000 shares at P100 par; issued 30,800 shares
Paid-In capital in excess of par
Retained earnings
P3,080,000
264,800
2,960,000
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Chapter 2 | Intermediate Accounting 3
During 2002 and 2003, these transactions occurred:
July 1, 2002
June 1, 2003
Declared stock dividend (from unissued stock) of 1 share for each 2 shares outstanding,
issued September 1. (Prior to the declaration, the market value of the unissued stock was
P115 per share.)
Declared stock dividend (from unissued stock) of 1 share for each 10 shares outstanding,
issued August 1. (Prior to the declaration, the market value of the unissued stock was P120
per share.)
Requirement: Provide the entries to record the declaration and Payment of the stock dividends during 2002 and
2003.
7. Upon organization on January 1, 2002, Okra Inc. was authorized to issue 200,000 shares of P10 par common
stock in multiples of 100 shares. During 2002, 110,000 shares were sold at P65 per share; 6,000 shares were
later reacquired as treasury stock at P72 per share. A stock split of 2-for-1 on all issued shares was approved
on December 31, 2002.
During 2003, these dividend and treasury stock transactions occurred:
April 12
Oct. 17
Dec. 4
Declared and paid a 10 percent stock dividend on all outstanding shares.
All treasury stock was sold at P81 per share.
Declared and paid these dividends:
• P1 cash dividend per share for common stock outstanding
• Property dividend of 1 share of Hall Co. common stock for each 10 shares of Okra stock
held. The cost to the company for 1 share of Hall Co. common stock was P25 with a
current market value of P30.
Requirement: Provide the entries to record the declaration and payment of the dividends on December 4, 2003.
8. During 2002, the following transactions related to the capital stock of the Buffet-Line Corp, occurred:
Jan. 7
Feb. 7
March 4
Mar. 18
June 30
July 9
Sept. 10
Sept. 18
Declared a P0.75 cash dividend on 150,000 shares of preferred stock.
Paid dividends on preferred stock.
Declared a P0.50 cash dividend on 200,000 shares of common stock with a P20 par value.
Paid dividends on common stock.
Split common stock 4-for-1.
Purchased 12,000 shares of Buffet-Line’s own common stock at P32 per share; acquisition
recorded at cost.
Declared a cash dividend of P0.40 per share on common stock outstanding.
Paid dividends on common stock.
Requirement: Provide the entries to record the above transactions.
9. The board of directors of Logan Piano Co. decided that the company should undergo a quasi-reorganization
effective on December 31, 2002. On that date, the company determined the following asset values.
Machinery
Building
Equipment
Carrying amount
P 40,000
300,000
95 000
P435,000
Fair Value
P 40,000
175,000
80 000
P295,000
The stockholders' equity section at December 31, 2002, is presented below.
Common stock, P25 par, 25,000 shares issued and outstanding
Additional paid-in capital
Retained earnings (deficit)
Total
P625,000
250,000
(225,000)
P650,000
The quasi-reorganization is to be accomplished by reducing the par value of the stock to P20 per share.
Requirements:
1) Prepare the journal entry required to adjust the assets.
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Chapter 2 | Intermediate Accounting 3
2) Prepare the journal entry to record the recapitalization.
3) Prepare the journal entry to record the elimination of the deficit.
10. SUCCOR HELP AID RELIEF co. declared P3,600,000 cash dividends to its preference and ordinary
shareholders out of its Profits in 20x3. No dividends have been declared since 20x1. SUCCOR's shareholders'
equity immediately before dividend declaration is as follows:
10% Preference share capital, P200 par
Ordinary share capital, P100 par
Retained earnings
Total shareholders' equity
4,000,000
16,000,000
10,000,000
30,000,000
Requirements: Compute for the dividends to (1) Preference shareholders and (2) Ordinary shareholders under
each of the following scenarios:
1) Preference share is noncumulative
2) Preference share is cumulative
3) Preference share is noncumulative and fully participating
4) Preference share is cumulative and fully participating
5) Preference share is cumulative and participating up to 16% '
11. Olivia Company was formed on July 1, 2017. It was authorized to issue 500,000 shares of P10 par value
common stock and 100,000 shares of 8%, P25 par value, cumulative and nonparticipating preferred stock.
Olivia Company has a July 1–June 30 fiscal year. The following information relates to the stockholders’ equity
accounts of Olivia Company.
Common Stock: Prior to the 2019–2020 fiscal year, Olivia Company had 110,000 shares of outstanding common
stock issued as follows.
1. 95,000 shares were issued for cash on July 1, 2017, at P31 per share.
2. On July 24, 2017, 5,000 shares were exchanged for a plot of land which cost the seller P70,000 in 2011
and had an estimated fair value of P220,000 on July 24, 2017.
3. 10,000 shares were issued on March 1, 2019, for P42 per share.
During the 2019–2020 fiscal year, the following transactions regarding common stock took place.
November 30,
2019
December 15,
2019
June 20,
2020
Olivia purchased 2,000 shares of its own stock on the open market at P39 per share. Olivia
uses the cost method for treasury stock.
Olivia declared a 5% stock dividend for stockholders of record on January 15, 2020, to be
issued on January 31, 2020. Olivia was having a liquidity problem and could not afford a cash
dividend at the time. Olivia’s common stock was selling at P52 per share on December 15,
2019.
Olivia sold 500 shares of its own common stock that it had purchased on November 30, 2019,
for P21,000.
Preferred Stock: Olivia issued 100,000 shares of preferred stock at P44 per share on July 1, 2018.
Cash Dividends: Olivia has followed a schedule of declaring cash dividends in December and June, with
payment being made to stockholders of record in the following month. The cash dividends which have been
declared since inception of the company through June 30, 2020, are shown below.
Declaration Date
12/15/18
6/15/19
12/15/19
Common Stock
P0.30 per share
P0.30 per share
-
Preferred Stock
P0.50 per share
P0.50 per share
P0.50 per share
No cash dividends were declared during June 2020 due to the company’s liquidity problems.
Retained Earnings: As of June 30, 2019, Olivia retained earnings account had a balance of P550,000. For the
fiscal year ending June 30, 2020, Olivia reported net income of P120,000.
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Chapter 2 | Intermediate Accounting 3
Requirement: Prepare the stockholders’ equity section of the balance sheet for Olivia Company as of June 30,
2020 using the template below.
Olivia Company
Stockholder’s Equity
June 30, 2020
Capital stock
4% preferred stock, P25 par value, cumulative and nonparticipating, 100,000
shares authorized, 100,000 shares issued and outstanding
Common stock, P10 par value, 500,000 shares authorized, 115,400 shares
issued, with 1,500 shares held in the treasury
Additional paid-in capital
On preferred stock
On common stock
On treasury stock
Total paid-in capital
Retained earnings
Total paid-in capital and retained earnings
Less: Treasury stock, 1,500 shares at cost
Total stockholders’ equity
_________
_________
_________
_________
_________
12. The following are selected transactions that may affect stockholders’ equity.
1) Recorded accrued interest earned on a note receivable.
2) Declared a cash dividend.
3) Declared and distributed a stock split.
4) Approved a retained earnings restriction.
5) Recorded the expiration of insurance coverage that was previously recorded as prepaid insurance.
6) Paid the cash dividend declared in item 2 above.
7) Recorded accrued interest expense on a note payable.
8) Declared a stock dividend.
9) Distributed the stock dividend declared in item 8.
Requirement: In the following table, indicate the effect each of the nine transactions has on the financial
statement elements listed. Use the following code: I = Increase, D = Decrease, NE = No effect.
Page 28 of 30
Chapter 2 | Intermediate Accounting 3
13. Berto Corporation’s post-closing trial balance at December 31, 2020, is shown below.
BERTO CORPORATION
POST-CLOSING TRIAL BALANCE
DECEMBER 31, 2020
At December 31, 2020, Berto had the following number of common and preferred shares.
The dividends on preferred stock are P4 cumulative. In addition, the preferred stock has a preference in
liquidation of P50 per share.
Requirement: Prepare the stockholders’ equity section of Berto’s balance sheet at December 31, 2020.
14. Anne Ganda Company reported the following amounts in the stockholders’ equity section of its December 31,
20119, balance sheet.
Preferred stock, 10%, P100 par (10,000 shares authorized, 2,000 shares issued)
Common stock, P5 par (100,000 shares authorized, 20,000 shares issued)
Additional paid-in capital
Retained earnings
Total
P200,000
100,000
125,000
450,000
P875,000
During 2020, Ganda took part in the following transactions concerning stockholders’ equity.
a. Paid the annual 20119 P10 per share dividend on preferred stock and a P2 per share dividend on common
stock. These dividends had been declared on December 31, 20119.
b. Purchased 1,700 shares of its own outstanding common stock for P40 per share. Ganda uses the cost
method.
c. Reissued 700 treasury shares for land valued at P30,000.
d. Issued 500 shares of preferred stock at P105 per share.
e. Declared a 10% stock dividend on the outstanding common stock when the stock is selling for P45 per
share.
f. Issued the stock dividend.
g. Declared the annual 2020 P10 per share dividend on preferred stock and the P2 per share dividend on
common stock. These dividends are payable in 2015.
Instructions
(a) Prepare journal entries to record the transactions described above.
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Chapter 2 | Intermediate Accounting 3
(b) Prepare the December 31, 2020, stockholders’ equity section. Assume 2020 net income was P330,000.
15. Caja Company has outstanding 2,500 shares of P100 par, 6% preferred stock and 15,000 shares of P10 par
value common. The following schedule shows the amount of dividends paid out over the last 4 years.
Requirements: Allocate the dividends to each type of stock under assumptions (a) and (b). Express your
answers in per share amounts using the format shown below.
5. References
Kieso, D. et al 2013. Intermediate Accounting. John Wiley & Sons, Inc.
Millan, Z. 2019. Intermediate Accounting. Bandolin Enterprises
Philippine Financial Reporting Standards (PFRS)
ISUE__ __ Syl ___
Revision: 02
Effectivity: August 1, 2020
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Chapter 2 | Intermediate Accounting 3