Accounting & Financial

Reporting

EQUITY
Rick Kaenen
Outline --- Shareholders’ equity

• What is Shareholders’ equity?

• Accounting for the issuance of shares
• Treasury shares
• Dividends
What is shareholders’
equity?
What is shareholders’ equity?
• Definition
- Residual interest in the assets of the entity after
deducting all its liabilities

• We will focus on the equity transactions of

corporations, as those are the most elaborate

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What is shareholders’ equity?
• Different parts of shareholders’ equity
- Share capital (also called paid-in capital)
- Amount of shareholders’ equity the owners have
contributed to the corporation

- Retained earnings
- Amount of shareholders’ equity the corporation has
earned through profitable operations
- Calculated as: All previous revenues – All previous
expenses – All previous dividends
- Dividends: rewards paid to owners, to provide a return on
their investment

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Shareholders’ rights
• Next to being the owners of the company,
shareholders have the following 4 basic rights:
- Vote  right to vote on matters that are presented
during the general meeting of shareholders
- Dividends  right to receive a proportionate part of
any dividend
- Liquidation  right to receive a proportionate share
of any assets remaining upon liquidation
- Preemption  right to maintain one’s proportionate
ownership in the corporation

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Classes of shares
• Different types of shares exist
• These different types differ in the rights that
they give to their holders

- Ordinary shares
- Preference shares
- Different voting rights

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Classes of shares
• Ordinary Shares
- Basic form of share
- Have the four basic rights

• Preference Shares
- Certain advantages over ordinary shares
- Receive dividends first
- Receive assets first in liquidation
- Often do not have voting rights
- Can be convertible into ordinary shares, or can contain a
clause that the company has to buy them back

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Classes of shares
• Voting rights:
- Some shares can be assigned differing voting rights
- Can be done to protect the voting rights of a certain group
(the owners, family members, the government)

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Classes of shares
• An example of differing voting rights happens at
Facebook Inc.
• Mark Zuckerberg owns only 1% of the outstanding
shares
• His shares, however, give him 60% of the voting rights
over the company
• That way he is able to keep full control over the
decisions made

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 Accounting for
issuance of shares
Accounting for issuance of shares
• When a company needs financing, it can issue
shares to the market.
• Important concept = Par Value
• The par value is a nominal amount assigned to a
share by the company.
• Due to market fluctuations the par value holds
little practical significance
• It does however influence the way companies
account for share issuance using IFRS
• See page 12-8 for the history on par values
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Example: Issuance ordinary shares
• Assume ABC Inc. issues 1,000,000 ordinary
shares for €10,000,000 on July 1 st 2019. Each
share has a par value of €1
Jul. 1 Cash (A +) 10,000,000
Share Capital – Ordinary 1,000,000
. (SE +)
Share Premium – . . . 9,000,000
. . . Ordinary (SE +)
Issuance of 1,000,000 €1 par value ordinary shares for €10,000,000
Example: Issuance preference shares
• Assume ABC Inc. issues 500,000 preference
shares for €2,000,000 on July 1 st 2019. Each
share has a par value of €1
Jul. 1 Cash (A +) 2,000,000
Share Capital – 500,000
. Preference (SE +)
Share Premium – . . . 1,500,000
. . . Preference (SE +)
Issuance of 500,000 €1 par value preference shares for €2,000,000
Treasury shares
Treasury shares
• There are 3 important numbers in relation to a
firm’s shares.
- Authorized share capital: The maximum number of shares a
company can issue (based on its own constitution)

- Issued shares: The number of shares that a company issued

to its shareholders

- Outstanding shares: The number of shares actually owned by

the shareholders. Consists of the issued shares minus shares
bought back by the company (treasury shares)

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Treasury shares
• What are treasury shares?
- A company’s own shares that it had issued and later
reacquired. A company buys back its own shares in the
market
• Reasons to buy back treasury shares:
- Need shares for distributions to employees (a company can
pay these shares as a bonus to its employees)
- Buying its shares low and selling at a higher price (signaling
to the market that the shares are undervalued)
- Avoid takeover (others cannot buy these shares anymore)
- Repurchase program to return excess cash to shareholders
(as an alternative to paying dividends)
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Example: purchase treasury shares
• Assume ABC Inc. decides to buy back 500,000
shares in the market on October 31st 2019. The
current market value for these shares is €15
per share
Oct. 31 Treasury Shares (SE -) 7,500,000
Cash (A -) 7,500,000
Acquire treasury shares for cash

Note that the account “Treasury shares” is a contra-equity account

as it lowers equity. It carries a debit balance
Example: (re)selling treasury shares
• Assume ABC Inc. decides to resell 100,000 of
the treasury shares on December 15th. The
market value at that date is €20 per share
Dec. 15 Cash (A +) 2,000,000
Treasury Shares (SE +) 1,500,000
Share Premium – 1,500,000
. Treasury (SE +)
Selling treasury shares for more than the original cost (€20 > €15)

Note that no profit or revenue can be recorded as this increase in

equity results from a transaction with the owners. Furthermore no
assets are being sold
Example: (re)selling treasury shares
• Assume ABC Inc. decides to resell 70,000 of the
treasury shares on December 22th. The market
value at that date is €10 per share
Dec. 22 Cash (A +) 700,000
Share Premium – Treasury 350,000
(SE -)
Treasury Shares (SE +) 1,050,000
Selling treasury shares for less than the original cost (€10 < €15)

Note that no loss or expense is recorded.

Dividends
Dividends
• Distribution by a corporation to its shareholders
• Provides the shareholders a return on their
investment in the company
• The owners of the company can decide whether
or not to pay dividends (to themselves)
• Since dividends are transactions with the
owners, it does not affect the income
statement. Dividend is not an expense

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Dividends
• To pay dividends a firm needs:
- A positive balance in retained earnings
(retained earnings represent all past profits that
belong to the owners and that have not been paid as
dividends yet)

- An adequate cash balance

(a company is allowed to pay dividends if it has past
profits, but it must also have enough cash)

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Dividends
• When paying dividends, there are 3 important
dates:
- Declaration date: The date at which the dividend
payment is announced and the liability is created

- Record date: Whoever owns shares on this date will

receive the dividend (so no entry required)

- Payment date: The date at which the dividend is

paid to the shareholders

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Example: cash dividends
• A company decides to pay a dividend of €100,000.
It declares the dividend payment on November 1st
2019

Nov. 1 Cash dividends (SE -) 100,000

Dividends payable (L +) 100,000
Record the liability that exists after declaring the dividend

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Example: cash dividends
• The record date is November 20th 2019. Everyone
owning shares on this date will receive an
proportionate share of the dividend.

• No entry required

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Example: cash dividends
• On December 20th 2019 the company pays the
dividend (the payment date)

Dec. 20 Dividends payable (L -) 100,000

Cash (A -) 100,000
Record the actual payment of the dividend, removing the liability

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Dividends on preference shares
• Preference shares usually have special dividend
arrangements
• Preference shareholders often receive dividend
before ordinary shareholders
• Preference shares often have a fixed dividend
amount stated on the share (a % of par value)

• This does not mean that preference

shareholders always receive dividends, the
company still has to declare it first
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Dividends on preference shares
• Preference shares may have cumulative
dividends
- Receive all dividends in arrears before
ordinary shareholders get any dividend
- Preference dividends not paid in year 1
should be added to the preference dividends
of year 2 (if dividends are paid in year 2)

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Example: preference dividends
• DEF co. has 20,000 ordinary shares outstanding
at December 31st 2018.
• It also has 5,000 8% cumulative preference
shares outstanding with a par value of €60 each
• On January 10th 2019 the company declares
€18,000 in cash dividends

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Example: preference dividends
• The cumulative preference dividend amounts to: 8% x
€60 x 5,000 = €24,000
• DEF co. only pays €18,000. This means the preference
shareholders receive €18,000. The ordinary
shareholders do not receive anything
• The preference shareholders still need to receive the
additional €6,000 the next time dividends are paid
Jan. 10 Cash dividends (SE -) 18,000
Dividends payable (L +) 18,000
Record the liability that exists to the preference shareholders after
declaring the dividend
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Example: preference dividends
• On December 31st 2019 the amount of shares
outstanding is equal to 2018
• On January 22nd 2020 the company declares
€35,000 in dividends

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Example: preference dividends
• The cumulative preference shareholders are entitled to
their €24,000 and the €6,000 they did not receive last
year (dividend in arrears).
• The ordinary shareholders will receive: €35,000 -
€24,000 - €6,000 = €5,000

Jan. 22 Cash dividends (SE -) 35,000

Dividends payable (L +) 35,000
Record the liability that exists to the preference shareholders (30,000)
and the ordinary shareholder (5,000) after declaring the dividend

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Thank you for your
attention!