Accounting I Lecture 10

Limited liability companies

1. Limited liability company

This type of business is owned by shareholders and run by a board of appointed directors. A
company is a legal entity in its own right, and therefore the shareholders only have limited
liability for any business debts.

Limited liability company financial statements

The format of limited company financial statements is slightly different to those of sole traders,
but the principles are still the same. IAS 1 lays out the preform a financial statements, including
a new financial statement, the statement of changes in equity (SOCIE) which we will be
presented later.

Statement of Comprehensive Income

Julius Ltd Statement of Comprehensive Income

for the year ended at 31 December 2019
$000
Sales revenue 385,000
Cost of sales (188,000)
Gross Profit 197,000
Other income 2,000
Distribution cost (38,500)
Administrative expenses (37,700)
Profit Before Interest and Tax 122,800
Finance Cot (8,000)
Profit Before Tax 114,800
Income Tax expense (53,000)
Profit For the Year 61,800

Other Comprehensive Income

Gains on property revaluation 38,000

Total Comprehensive Income 99,800

1
Accounting I Lecture 10

Statement of Financial Position

Julius Ltd Statement of Financial Position

As at 31 December 2019
$000
Non-Current Assets
Property, plant and equipment 200,000
Intangible assets 187,999
387,999

Current Assets
Inventory 88,432
Trade receivables 88,935
Prepayments 8,520
Cash 13,400
199,287

TOTAL ASSETS 587,286

Equity
Share capital 50,000
Share premium 50,000
Revaluation reserve 38,000
Retained earnings 220,497
358,497

Non-Current Liabilities
8 % loan note 75,000
Redeemable preference shares 25,000
100,000
Current Liabilities
Trade payables 70,539
Accrual 7,250
Tax payable 51,000

Total Equity & Liabilities 587,286

2. Capital structure

The main difference between sole trader and limited company financial statements is the way
the equity capital of the business is structured. Because of this, we need to consider some key
terms:
Issued share capital: This is the nominal (par) value of shares issued to shareholders. Shares
can be issued at a price equal to or greater than the nominal (par) value. Any amounts of issued
shares over and above the par value is held in the share premium account.

2
Accounting I Lecture 10

Ordinary and preference shares

Ordinary shares:
- Standard shares with no special rights or restrictions
- Receive discretionary dividend determined by the company’s directors

Preference shares:
- Preferred share that usually carry no voting rights
- A fixed dividend is paid (% of share par value) in priority to ordinary shares
(redeemable or irredeemable)

Class Example 1

Big Boss Ltd issues 150,000 25c shares at par value.

Required: Show the double entry journal to record the share issue.

Class Example 2

Big Boss Ltd issues a further 50,000 25c ordinary shares at $1.25 per share.

Required: Show the double entry journal to record the share issue.

3
Accounting I Lecture 10

Class Example 3

Big Boss Ltd now issues 25,000 6% 2014 preference shares for 25c each. Big Boss Ltd also
decides to pay a dividend of 5c per share to ordinary shareholders.

Required:
(a) Show the journal entry to record the share issue.
(b) Calculate how much dividend will be payable at the year end and the journal entries.

Bonus issue
A bonus issue is the issue of new shares to existing shareholders in the same proportion as their
existing holding (i.e. a 1 for 4 bonus issue). The key fact here is that these shares are issued for
free and no cash is received. A bonus issue can be used by a company to restructure its equity
and reserves.

Class Example 4

Banana Bread Ltd has issued ordinary share capital of 50,000 shares with a par value of 50c
each. Banana Bread Ltd has an opening balance on its share premium account of $50,000.

On 1 January 2009 the company makes a 1 for 2 bonus issue to its existing shareholders funded
from the share premium account.

Required:
Show the double entry journal to account for the issue.

4
Accounting I Lecture 10

Rights issue
A rights issue is the issue of new shares to existing shareholders in the same proportion to their
existing holding at a price equal to or above its par value (usually at a discount compared to its
market value). A rights issue can be used by a company to raise cash in the business.

Class Example 5

Continuing with the previous example, on 1 May 2009 Banana Bread Ltd made a 1 for 3 rights
issue to existing shareholders for $1.50 per share when shares were trading at $1.75 per share.
The issue was fully subscribed.
On 31 December 2009 (Banana Bread Ltd’s year-end) the directors decided to pay a dividend
of 5 cents per share to all ordinary shareholders.
Note: The opening balance on Banana Bread’s retained earnings was $100,000 and profit for
the year was $15,000.
Required:
(a) Show the double entry journal to account for the rights issue
(b) Show the double entry for the dividend payment
(c) Show the balances at 31 December 2009 on the following accounts:
- Share capital
- Share premium
- Retained earnings

5
Accounting I Lecture 10

3. Statement of changes in equity

As per IAS 1 a complete set of financial statements for a limited company are made up not only
of the SOFP and SOCI but also the statement of cash flows and the statement of changes in
equity.

A statement of changes in equity is just a reconciliation of the movements between the

company’s opening and closing balances of share capital and reserves.

Julius Ltd Statement of Changes in Equity for the year ended 31 December 2019
Share Share Revaluation Retained Total
capital premium reserve earnings
Opening balance at 1 Jan 2019 25,000 0 38,000 188,697 251,697
Share issue 25,000 50,000 75,000
Gains/losses on revaluation 0 0
Profit For the Year 61,800 61,800
Dividend paid/payable (30,000) (30,000)
Closing balance at 31 Dec 2019 50,000 50,000 38,000 220,497 358,497

6
Accounting I Lecture 10

Class Example 6

Required: Using the information given and your answer to Class Example 5, prepare the
statement of changes in equity for Banana Bread Ltd for the year ended 31 December
2009.

4. Loan and bonds

To fund a company’s operations or expansion the directors may choose to issue debt finance
by way of loan notes rather than issuing shares. These loan notes may have a set nominal issue
value which will be repaid by the company at a specified time.
Interest will be payable to the loan note holder on the nominal value.
In the exam you may be asked to calculate the interest expense for the year to be shown as
finance costs in the SOCI.

Class Example 7

Moodle Ltd issues 30,000 $150 10% loan notes on 1 July 2009. Interest is paid annually in
arrears on the 30 June each year.

Required: Assuming Moodle Ltd has a year end of 31 December 2009 what is the double
entry required to fully account for the loan notes.

7
Accounting I Lecture 10

5. Taxation

All companies have to pay tax on taxable profits. The tax charge is normally ESTIMATED at
the end of the financial year and charged to the statement of comprehensive income, and paid
in the following year.

The double entry for taxation would be:

Dr Taxation expense (SOCI)
Cr Taxation liability (SOFP)

The double entry for when the tax is paid a few months later:
Dr Taxation liability (SOFP)
Cr Bank

Since the amount paid is likely to differ from the estimated tax charge originally recognised, a
balance will be left on the taxation liability account being an under or over provision of the tax
charge.

8
Accounting I Lecture 10

Class Example 8
The City Ltd estimated last year’s tax charge to be $250,000 at 31 December 2017. On 1
October 2018, The City Ltd settled their income tax bill and paid cash to the tax authorities of
$255,000.

At 31 December 2018 The City Ltd estimated that this year’s income tax charge to be $270,000.

Required:
Show how this should be accounted for in the books of The City Ltd, showing clearly the
journal entries required and the taxation liability account.

9
Accounting I Lecture 10

References

BPP Learning Media: Financial Accounting Study Text. 2016

Frank Wood: Business Accounting. 13th Edition. Pearson Education 2008

Emile Wolf International: Financial Accounting F3 INT Study Text. 2010

LSBF: ACCA Paper F3 Financial Accounting Class Notes. 2011

10