Financial Accounting - Corporations

Chapter 13

Organization and Operation of Corporations

Corporate Form of Organization:

A corporation is an entity created by law and it is legally separate from its owners.

Owners are called shareholders. 

A publicly held corporation offers its shares for public sale

A privately held corporation does not offer its share to public.

A. Characteristics of a Corporation –

Advantages

1. Separate legal entity
2. Limited liability of shareholders
3. Transferable ownership rights
4. Continuous life
5. Lack of mutual agency for shareholders
6. Ease of capital accumulation.

Disadvantages

1. Governmental regulation
2. Corporate taxation

Creation of an In-Corporation

1. Provincial or Federal law.
1. A legal document known as a charter,
2. An articles/memorandum of incorporation signed by prospective shareholders.
2. Start-up Costs:
1. Legal fees,
2. Promoters' fees, and
3. Amounts paid to obtain a charter.
3. Management of a Corporation
1. Shareholders have to vote to elect board of directors
2. Board of directors (BOD) has final managing authority.
3. Executive officers (appointed by the BOD) manage the operation.

Shareholders of Corporations

1. Rights of Shareholders: 
1. Vote at shareholders' meeting.
2. Sell or otherwise dispose of their shares.
3. Purchase their proportional shares of any common shares later issued
4. Receive the same dividend
5. Share equally after creditors are paid in liquidation.
6. Receive timely financial reports.

Corporate Financial Statements:  

1. Income Statement: identical except for income tax expense
2. Statement of Changes in Equity: includes

a)      net incomes or losses,

b)      distributions of income called dividends

Recorded in the retained earnings account while the

Shareholder (owner) investments are recorded in a share capital account

3. Balance Sheet The equity is called Shareholders' Equity for a corporation

Issuing Shares

Issuing Capital Shares: equity financing as assets increased through shareholder investment

1. Authorized shares: The Maximum shares the charter authorizes for sale.
1. Outstanding shares refer to issued shares held by shareholders.
2. Accounting for shares: can be sold directly or indirectly to shareholders.
3. Market value of shares: the price at which a share is bought or sold.

4. No-Par value shares: CBCA requires that all shares be of no par value
5. Par value: an arbitrary value a corporation places in each share
6. Shareholder's Equity:

1. Contributed capital: cash received from the shareholders
2. Retained earnings: the cumulative net income retained by a corporation.

Common Shares: Issuance of shares affects only asset accounts, not retained earnings accounts.
Preferred Shares: Has special rights that give it priority over common shares.

1. Issuance of Preferred Shares: usually have a par value; can be sold at a price different from par.
1. Separate contributed capital accounts are used to record preferred shares.
2. Preferred Shares account is used to record the par value of shares issued.
3. Paid-in in Excess of Par Value, Preferred Shares is used to record any value received above the par value.
2. Motivation for Preferred Shares

1. To raise capital without sacrificing control of the corporation.
2. To boost the return earned by common shareholders on corporate assets. Called financial leverage or trading on equity.

Dividends

Cash Dividends: BOD decide the dividend amounts of retained earnings; dividend is contra equity a/c.

1. Accounting for cash dividends
1. Declaration date: the directors vote to pay a dividend in future; accountant create liability
2. Record date: future date for identifying listed shareholders
3. Payment date: corporation makes payment; shareholders received payment.
2. Cash Dividend Entries: reduce in equal amounts both cash and the retained earnings

1. At declaration: Debit Retained Earnings and credit Dividends Payable.
2. At payment: Debit Dividends Payable and credit Cash.
3. Outstanding shares: issued/sold shares and in the market; look for dividends
4. Retrieve shares: issued/sold and call back.
2. Deficit and Cash Dividends:

1. Cumulative losses and/or dividends are greater than total profits earned in prior years.
2. Deducted on the balance sheet.

Special Features of Preferred Shares

Dividend Preference of Preferred Shares: Preferred shareholders are allocated their dividends first

1. Cumulative preferred shares

It has a right to be paid both current and all prior periods' unpaid dividends first

2. Non-cumulative preferred shares no right to prior periods' unpaid dividends
3. Full-disclosure principle disclosure of preferred dividends in arrears in a note.

Other Features of Preferred Shares

1. Non-participating preferred shares have dividends limited to a maximum amount
2. Participating preferred shares share with common shareholders in any dividends paid in excess of the dollar amount specified for the preferred shares.
3. Convertible Preferred Shares
1. The option of exchanging preferred shares into common shares at a sp. rate.
2. Offers investors a higher potential return
4. Callable Preferred Shares

1. Gives the issuing corporation the right to purchase (retire) these shares from its holders at specified future prices and dates.
2. Amount paid to call and retire a preferred share is its call price, or redemption value, and is set when shares is issued.
3. Dividends in arrears must be paid when share is called.

Closing Entries for Corporations

1.       Close the revenue and expense account balances to Income Summary.

2.       Close Income Summary balance to Retained Earnings.

3.       Close Dividends balances to Retained Earnings.