College of Accountancy
Subject Code:
Module No./Title: Retained Earnings
Subject Description: CFAS
Period of Coverage:
Introduction: Corporation - RE
Objectives:
Content:
In the shareholders’ equity section, net income earned through the years are accumulated in an account
title called Retained Earnings and distributed to the shareholders as dividends. RE is also called
Accumulated Profits or Losses.
The shareholders’ equity shows 2 rights over the corporate assets:
1. Right over contributed capital or shareholders’ investments and
2. Right over earned capital or retained earnings
The Corporation Code of the Philippines requires a corporation to maintain separately its contributed
capital from retained earnings since contributed capital represents legal capital or committed capital
which cannot be taken out from the corporation without special legal action, while retained earnings
represents accumulated profits which could be distributed as dividend to the shareholders.
Retained Earnings___________
Dr.
Cr.
Net Loss for the period
Net Income for the period
Dividends
Reversal of Appropriation reserves
Appropriation reserves
When the result of operation is a net income, the closing entry is
Income Summary
xxx
RE
xxx
When the result of operation is a net loss, the closing entry is
RE
xxx
Income Summary
xxx
DIVIDENDS
The decision to distribute profits in the form of dividends rests with the Board of Directors.
2 Kinds of Dividends:
1. Ordinary dividends are dividends out of earnings, are distributed periodically based on
accumulated earnings.
2. Liquidating dividends are dividends out of capital, distribution of net assets or return of
shareholders’ investment which takes place when the corporation is to be terminated.
Distribution of earnings or dividends to the shareholders are based on the number of shares held by
them. No corporation shall make or declare any dividend except from the surplus profits arising from its
business. Stock corporations are prohibited from retaining surplus profits in excess of 100% of their paid
in capital except when justified by the circumstances. All outstanding capital stock are entitled dividends.
Outstanding stock as the total shares issued to subscribers or shareholders, whether fully or partially
paid except treasury shares. Holders of subscribed shares which are not delinquent shall have all the
rights of a shareholder. Subscribed shares may be given cash dividends but the dividends paid in cash
shall be applied first to the unpaid balance. If the dividend declared is in the form of stocks (stock
dividend), it shall be withheld until the subscription is paid in full.
3 significant dates to be considered:
1. Date of Declaration – formally declared by the Board.
RE
xxx
Dividends Payable
xxx
2. Date of Record – based on the stock and transfer book, the corporation determines the
shareholders who will be entitled to the dividends, no journal entry is required on this date.
3. Date of Distribution – date the dividends are actually distributed to the shareholders.
Dividends Payable
xxx
Cash, Property or Share Capital
xxx
Common forms of Ordinary Dividends:
1. Cash Dividends – most common type of dividend
To illustrate: assume that the board of directors declared a cash dividend of 5% per share on June 1,
2021 to shareholders of record as of July 15, 2021, payable on August 31, 2021.
June 1 - RE
500,000
Cash Dividends Payable
500,000
August 31 – Cash Dividends Payable
Cash
500,000
500,000
2. Property Dividends – where there is no available cash, other assets such as acquired shares may
be distributed as dividends.
To illustrate, assume that on July 1, Peng Corporation acquired 50,000 of Meralco shares at a cost of
P750,000 or P15 each. The board of directors of Peng Corporation declared on Nov. 15 a dividend of 1
share of Meralco stock for every 10 shares of Peng Corporation stocks owned. On this date, the Meralco
shares are selling at P20 per share. Peng Corp. has 100,000 ordinary shares issued and outstanding, P100
Par value. The Meralco shares were distributed on Dec. 15.
Nov. 15 - RE
200,000
Property Dividends Payable (100,000/10 x P20)
200,000
Dec. 15 – Property Dividends Payable 200,000
Investment in Meralco stocks
200,000
3. Liability Dividends – a deferred cash dividend payable in some future time because at the time of
dividend declaration cash is unavailable. A “scrip” or a written promise to pay at a certain future
date is given to a shareholder. Usually, additional interest is paid by the corporation for the
waiting period from date of declaration to date of payment.
To illustrate, assume that Zet Corporation declared a scrip dividend of P10 on January 30,2021 to
shareholders of record as of Feb. 15,2021 payable at 10% interest on Mar. 31, 2021. The stock and
transfer book shows 10,000 shares issued and outstanding on date of record.
Jan. 30 - RE (P10 x 10,000)
Scrip Dividends Payable
100,000
100,000
Mar. 31 – Scrip Dividends Payable
100,000
Interest Expense (10% x 100,000 x 60/360)
1,667
Cash
101,667
4. Stock Dividends – distribution of the corporation’s own stock coming from the unissued shares.
Unlike cash or property dividend the corporation retains its assets. There is simply a capitalization
of retained earnings (transfer from earned capital to contributed capital), with total shareholders’
equity remaining the same. This is done by decreasing retained earnings and increasing paid in
capital. When the number of additional shares issued as a stock dividend is so great it has, or may
reasonably expected to have, the effect of materially reducing the share’s market value, the
transaction partakes of the nature of a stock split. An issuance of additional shares of less than
20% is considered a small stock dividend and can be charged to retained earnings at the fair
market value creating an additional paid in capital. An issuance of 20% or more is large stock
dividend and should be capitalized to retained earnings at the par value. Stock Dividends for
Distribution is not a liability account unlike Cash Div. Pay, Prop. Div. Pay. And Scrip Div. Pay. It is
presented in the SHE section as part of paid-in-capital after subscribed share capital. As such it
should be at par value.
To illustrate, 10,000 ordinary shares, issued and outstanding at P100 par value.
1. A 15% stock dividend was declared when the market value of the stock was P150 per share.
RE (15% x 10,000 x P150)
225,000
Stock Div. for Distribution (15% x 10,000 x P100)
Share Premium
Stock Div. for Distribution
Share Capital
150,000
75,000
150,000
150,000
2. A 20% stock dividend was declared when the market value of the stock was P150 per share.
RE (20% x 10,000 x P100)
200,000
Stock Div. for Distribution (20% x 10,000 x P100)
Stock Div. for Distribution
Share Capital
200,000
200,000
200,000
Dividend distribution to preference and ordinary shareholders
When dividends are declared, the preference shares will have preferential treatment based on the
priorities enjoyed by their stocks. If the stock is cumulative, previous dividends not declared will
automatically be included as soon as there is a declaration. It means that dividends in arrears including
current dividends (on year of declaration) will be distributed to them. If the share is participating, aside
from the dividends computed based on the dividend rate, they will also receive a pro-rata distribution on
the remaining dividends together with the ordinary shareholders. Cumulative and participating rights are
not implied, these must be specifically stated.
To illustrate, 18% Pref. shares, PV of P100, 10,000 shares issued and outstanding
P1,000,000
Ordinary shares, PV of P50; 5,000 shares issued and outstanding
250,000
Retained Earnings
1,850,000
No dividends were declared for the past 2 years. The board declared cash dividends of P600,000 in 2021.
Case A – Pref. share is non-cumulative and non-participating
18% x P100 x 10,000 x 1year
Remainder to Ordinary
TOTAL
Preference
P180,000
P180,000
Ordinary
P420,000
P420,000
Total
P180,000
420,000
P600,000
Div. per share 10,000sh; 5,000sh
P18
P84
Case B – Pref. share is cumulative but non-participating
18% x P100 x 10,000 x 3 years
Remainder to Ordinary
TOTAL
Div. per share 10,000sh; 5,000sh
Preference
P540,000
P540,000
P54
Ordinary
P 60,000
P 60,000
P12
Total
P540,000
60,000
P600,000
Case C – Pref. share is cumulative and fully participating
18% x P100 x 10,000 x 3 years
18% x P250,000 x 1 year
Remainder P15,000 (600,000-540,000-45,000)
P.S. (1,000,000/1,250,000) x 15,000
O.S. (250,000/1,250,000) x 15,000
TOTAL
Div. per share
Preference
P540,000
Ordinary
P 45,000
12,000
P552,000
P55.20
3,000
P 48,000
P9.60
Total
P 540,000
45,000
12,000
3,000
P 600,000
Case D – Pref. share is non-cumulative but fully participating
Preference
P180,000
18% x P100 x 10,000 x 1 year
18% x P250,000 x 1 year
Remainder P375,000 (600,000-180,000-45,000)
P.S. (1,000,000/1,250,000) x 375,000
300,000
O.S. (250,000/1,250,000) x 375,000
TOTAL
P480,000
Div. per share
P48
Ordinary
P 45,000
75,000
P120,000
P24
Total
P 180,000
45,000
300,000
75,000
P 600,000
Case E – Pref. share is non-cumulative but participating up to 20%
18% x P100 x 10,000 x 1 year
18% x P250,000 x 1 year
2% x P1,000,000
Preference
P180,000
Ordinary
P 45,000
20,000
Total
P 180,000
45,000
20,000
Remainder to ordinary
TOTAL
Div. per share
Pro-forma entries are: Case D
RE
P600,000
Cash Div. Pay. – P.S.
Cash Div. Pay. – O.S.
To record div. declaration
Cash Div. Pay. - P.S.
P480,000
Cash Div. Pay. – O.S.
120,000
Cash
To record payment of dividends
P200,000
P20
355,000
P400,000
P80
355,000
P600,000
P480,000
120,000
P600,000
LIQUIDATING DIVIDENDS
When the dividend declared is in excess of retained earnings, the implication is that there is a return of
capital which is not legal or binding as per CPP, unless the corporation is in its liquidating or terminating
stage. However, it is permitted that a distribution or return of capital be made during the life of a wasting
assets corporation. These are corporations exploiting and extracting natural resources such as the mining
corporations.
APPROPRIATION OF RETAINED EARNINGS
Unless there is a restriction, the total amount of RE may be available for dividends. However, there may
be instances when a corporation may need its resources so that it would not be advisable to declare and
distribute all of its amount as dividends.
To illustrate, Pan Corp. has RE of P1,000,000 and the company plans to reacquire its own shares
amounting to P400,000. The CCP provides that an equal amount of RE must be set aside and must not be
available for dividends. Entry is
RE
P400,000
Appropriation Reserve for Treasury Shares
P400,000
Presentation in the SHE will appear as follows:
Unappropriated RE
P600,000
Appropriation Reserve for Treasury Shares
400,000
TOTAL
P1,000,000
Other appropriations usually created are as follows:
1. Appr. For Contingencies – if the company has a pending lawsuit which is probable of losing, thus
resources must be available to meet such contingency in case the company will be liable to pay in
the future.
2. Appr. For Plant Expansion – if there is a plan to acquire land or plant facilities, thus resources
must be available for such project.
3. Appr. For Bonds and Stock Redemption – if there is a provision in the bond issue or stock issue,
that an equal amount of RE be appropriated, thus resources must be set aside to ensure the
eventual payment of the bonds or redemption of the stocks.
Voluntary Appropriations – appr. Covered by the Board as approved by the shareholders such as for
contingencies and plant expansion.
Contractual Appropriations – appr. Covered by bond issues or stock issues.
Legal Appropriations – those covered by law such as for treasury shares.
Presentation of Statement of Retained Earnings
Jomz Corporation
Statement of Retained Earnings
For the year ended December 31, 2021
Unappropriated:
Balance, Jan. 1
Add: Net Income
Reversal of Appr. For Treas. Shares
Total
Less: Div. Declared
Appr. Reserve for Plant Expansion
Appropriated for Plant Expansion
RE, Dec. 31
References: PACOAC by Vera Cruz
P500,000
P350,000
50,000
P250,000
100,000
400,000
P900,000
350,000
P550,000
100,000
P650,000