Module 3: Shareholders’ equity

Mabuhay and welcome to Module 3: Shareholders’ equity

Class, the owner’s equity section of every Corporation is the Shareholders’ equity.
As future CPAs, you need to fairly present Shareholders’ equity in the financial statements. 
But before we start, let us first read the ILOs.
Reminder: Always have a calculator, paper, and pen while studying every module. It is a good thing that you practice the illustrations in
your handwriting. As they say, practice makes perfect.
Intended Learning Outcomes (ILOs):
At the end of the topic, the students are expected to be able to:     

1. Articulate the nature and concept of shareholders' equity;

2. Prepare a Shareholders' equity section;
3. Account for the subscription of shares and issuance share capital transactions;
4. Account for treasury shares transactions,
5. Account for Share split up and split down.

3.1 Corporation and Shareholders' equity

Shareholders' equity is the owner's equity of the corporation. It is also called Stockholders' equity.
Since shareholder's equity is the owner's claim on the corporation; it is the residual interest of owners in the net assets of a corporation.
Corporation is:          

1. An artificial being - it has an entity separate and distinct from its owners;
2. Created by operation of law - all its rights and powers are created by operation of law;
3. Having the right of succession - it can continue to operate regardless if they are changes in the ownership structure;
4. Powers expressly authorized by law - Corporation can enter into a contract, can sue and be sued.

Corporation Code of the Philippines is a general law that governs a private corporation. The new corporation code of the Philippines
took effect on February 23, 2019.           

3.2 Articles of Incorporation

The articles of Incorporation is proof of the corporation’s existence. It is filed and granted by the Security Exchange Commission
(SEC).                                    
Important details of Articles of Incorporation:                                                         

1. Name of the corporation

2. Place and date of Incorporation - pertains to the corporation's citizenship. Domestic corporation - when the place of
incorporation is within Philippines Foreign corporation - when the place of incorporation is outside the Philippines                  
3. List of incorporators - these are the people who form the corporation.

Old Corporation code: Incorporators are minimum of 5 but not more than 15 only.
New Corporation code: Single person (whether natural or artificial) can form a corporation, provided, it can pay the P1,000,000
minimum capitalization lump sum only.

4. Purpose of the corporation - It is the legal reason why the corporation exists. Example: Educational institution's primary
purpose is to give quality education.                                    
5. Officers - These are the immediate people needed before a corporation start the operation.
 
o Generally, Incorporators are the directors who comprise the board of directors (BOD).               
o The BOD is the governing body of the corporation.                                     
o From the BOD, they will elect the following:                                    
o Chief Executive Officer (CEO) / President- the chief governing officer            
o Corporate secretary - responsible to account for the minutes of meetings and the board's resolution.
o Treasurer - the officer who will hold the corporation's finances including the minimum paid-up capital deposited in a
trust fund.
o Compliance Officer - responsible for the corporation's compliance with government agencies.

7. Provision to the term of corporate existence - Under the Old corporation code, the corporation exists for only up to 50 years.
Under New corporation code, the corporation can exist perpetually.           
8. Capitalization - it pertains to the corporations' sources of capital.              

3.3 Shares and shareholders

Shares represent the interest or ownership in the corporation.                                          

Share capital / Capital stock is the amount fixed in the Articles of incorporation to be subscribed and paid up.                                          
The four rights of a shareholder (generally ordinary shareholders):

1. Share in the earnings of the corporation

2. Vote in the election of directors and the determination of certain corporate policies (ordinary shareholders only)
3. Subscribe for additional share issues or the Right of pre-emption
4. Share in the net assets of the corporation upon liquidation

Share capital may be:

1. Par value - as specific value fixed in the articles of incorporation and appearing on the share certificate.
2. No par value - no specific amount appearing on the face of the share certificate.

The minimum Par value is P5.00 if no amount is indicated in the articles of incorporation and no stated value.
Ordinary shareholders bear the ultimate risk of loss and receive the benefits of the success of the corporation.
Preference shareholders have preferences granted.

1. The preference usually pertains to the preference shareholders' claim on dividends and net assets in event of liquidation.
2. The preference shareholders have only limited or fixed return on investment.

3.4 Component of shareholders' equity

Authorized shares - The maximum number of shares that the corporation may issue as indicated in the Articles of
Incorporation.                                           
Issued shares - The number of shares issued to shareholders and are fully paid by the shareholders or the corporation
itself.                                          
Outstanding shares - The number of shares issued by the corporation and still in the hands of shareholders as of a specific
date.                                      
Treasury shares - The shares reacquired by the corporation from its shareholders. The corporation holds the
shares.                                    
            Issued shares               100,000                                  
            Less: Treasury shares  10,000                        
            Outstanding shares     90,000                        
 
Subscribed shares - Shares subscribed by the shareholders but are paid in installment (not yet fully paid).                                               
Subscription receivable - Amount still unpaid by the shareholder upon subscription of shares.                                       
Share premium - Excess of cost of shares over the par value.                                                                  
Legal capital - It is the portion of paid-in capital that cannot be returned to the shareholders during the lifetime of the
corporation.                                       
Trust fund doctrine - The Corporation cannot pay dividends over retained earnings                                           
Retained earnings - Cumulative earnings of the corporation. Dividends declared is debited to Retained
earnings.                                            
Contributed capital - It pertains to the consideration paid by the shareholders.                                      
Revaluation surplus - It is an account that resulted in a quasi-reorganization and is part of shareholders' equity.                                    

Terms used may interchange but would have the same meaning in Accounting parlance:            
US GAAP                                                                                             IAS                              
Common stock                                                                               Ordinary shares                                 
Preferred stock                                                                             Preference shares                              
Paid In Capital in excess of par                                             Share premium                                  
Paid In Capital in excess of treasury stocks                 Share premium - treasury shares
Treasury stocks                                                                            Treasury shares                                 
Retained earnings                                                                       Retained earnings                              
Pro-forma Shareholders' equity:                                                    
Authorized share capital              xxxxx                                      
Unissued share capital               (xxxxx)                                    
Share capital                                xxxxx                                      
Subscribed share capital          xxxxx                                      
Legal capital                                      xxxxx                                      
Share premium                                  xxxxx                                      
Subscription receivable                (xxxxx)                                    
Contributed capital                        xxxxx                                      
Retained earnings                            xxxxx                                      
Revaluation surplus                         xxxxx                                      
Shareholders' equity                      xxxxx              

3.5 Memorandum entry for subscription of shares

There are two methods in accounting for the authorized shares and incorporating transactions: 

1. Memorandum entry - Use only a memorandum entry in recording the authorized share capital of the corporation.
2. Journal entry method - Debited Unissued share capital and Credited Authorized share capital to record authorized share
capital of the corporation.

SUBSCRIPTION OF SHARES
Let us illustrate, Minorka Corporation-related data:                                                           
                                                            No. of shares   Par value   Total Amount
Authorized ordinary shares                1,000,000        P1            P1,000,000       
multiplied by minimum subscription                                             25%    
Minimum subscribed shares                                                        P 250,000          
multiplied by minimum payment                                                     25%    
Minimum paid-up capital                                                               P 62,500            
 
We record the minimum paid-up capital transactions using the memorandum entry:
Memorandum entry:  To record 1,000,000 authorized shares at P1 par value.
                                                                       Debit   Credit
To record subscribed shares:                         
Subscriptions receivable                     250,000                     
            Subscribed capital                                          250,000          
 
To record the initial payment of subscribed shares:                                                 
            Cash                                                   62,500                        
            Subscriptions receivable                                 62,500           
 
To record full payment of subscribed shares:                                                           
            Cash                                                 187,500            
            Subscriptions receivable                                 187,500
 
To record issued shares for fully paid shareholders:                                                
            Subscribed capital                            250,000              
            Share capital                                                  250,000 

3.6 Journal entry method for subscription of shares

We again, use the data of Minorka Corporation regarding capitalization for journal entry method:                                
 
To record authorized shares:                          Debit               Credit
            Unissued share capital                        1,000,000      
            Authorized share capital                                            1,000,000
 
To record subscribed shares:                                     
            Subscriptions receivable                     250,000         
            Subscribed capital                                                      250,000
 
To record the initial payment of subscribed shares:                                     
            Cash                                                   62,500            
            Subscriptions receivable                                            62,500
 
To record full payment of subscribed shares:                                               
            Cash                                                   187,500  
            Subscriptions receivable                                            187,500
To record issued shares for fully paid shareholders:                                    
            Subscribed capital                             250,000 
            Unissued share capital                                                           250,000
 
Take note: Regardless, whether you use the Memorandum entry method or Journal entry method, the same result should be provided.
The only differences are the account used in the journal entry.                                   
Can you identify the different accounts used in the 2 methods?

3.7 Issuance of shares in exchange of cash

Share capital is credited only when the shares are fully paid.                                                         
Subscribed capital is credited on the point of subscription and shares have not been fully paid yet.                                                         
Share premium - When the purchase price of the shares is higher than the par value amount of the shares, the excess of which is
credited share premium.
                                               
To illustrate: Kylie Company issued 10,000 shares at P1 par value in exchange for cash of P15,000.                                                        
Related journal entry:                                                
                                                Debit   Credit 
            Cash                            15,000            
            Share capital                           10,000
            Share premium                       5,000  

3.8 Issuance of shares in exchange of noncash assets

Shares issued for noncash consideration are measured in priority:                                     

1st priority      Fair value of noncash consideration received                                   
2nd priority     Fair value of the shares issued                                  
3rd priority      Par value of the shares issued                                   
 
The Pro-forma journal entry to record issuance of shares in exchange of noncash consideration:            
                                                                                                              Debit   Credit 
Land / Equipment / (or related Noncash asset)         xxxxx              
Share capital                                                                                                xxxxx  
Share premium                                                                                           xxxxx  
Again, if there is an excess on the amount debited over the par value of shares issued, it is credited to share
premium.                                          

Illustration: Artista issued additional shares of 5,000 in exchange for equipment.

Par value of the share            P10                 
The fair value of the share     P50                 
The fair value of the equipment          P225,000                   
 
What is the related journal entry?                            
                                    Debit               Credit
Equipment                   225,000         
Share capital                                      50,000
Share premium                                   175,000
            To record issued shares.                    
 
Assuming, no available data for the fair value of the equipment, what would be the related journal entry?

3.9 Issuance of shares in exchange of services rendered

According to PFRS No.2, shares issued in exchange of services shall be recorded at:                     

1. The fair value of services rendered or

2. The fair value of the shares issued
Note: It is not a priority but choose the one that is reliably determinable.                                     
Organization costs - Outright expense of all costs related to the incorporating of a corporation and before the full
operation.                              
The Pro-forma journal entry to record issuance of shares in exchange for services:                                               
                                    Debit   Credit 
Expense                       xxxxx              
Share capital                           xxxxx  
Share premium                                   xxxxx  
Again, if there is an excess on the amount debited over the par value of shares issued, it is credited to the share
premium.                                           

Artista issued additional shares of 1,000 for the service rendered by

the independent lawyer of the corporation concerning Organization cost.                         
Contract with the lawyer P200,000               
The fair value of the shares          P250               
Par value                                 P100               
What is the related journal entry?                            
                                                Debit   Credit
Legal expense                        250,000          
Share capital                                      100,000
Share premium                                   150,000
            To record issued shares.                    
 
Why do you think that the fair value of the shares became the basis and not the contract with the lawyer?

3.10 Share issuance costs

Share issuance costs are transaction costs that are directly attributable to the issuance of new shares. It shall be deducted from equity,
net of any related income tax benefit.                                           
Hence, it is debited to Share premium or to Retained earnings (if no related share premium are available).                                               
Example of share issuance costs generally are:                                           

1. Legal fees,
2. CPA fees,
3. Underwriting fees,
4. Commission fee,
5. DST,
6. Filing fee (SEC),
7. Advertising cost,
8. Printing cost of the certificate,
9. Publication fee (in the newspaper).

Share listing fees are stock market listing costs that are treated as an outright expense. Examples of share listing fees are roadshow
presentation and public relations (PR) fees.                                           
Joint costs are costs incurred partly as share issuance costs and stock market listings costs. (related to share issuance) . Example of
joint costs generally are:                                          

1. Audit and other professional advice about share issuance.

2. Opinion of counsel
3. Tax opinion
4. Fairness opinion and valuation report
5. Prospectus design and printing

Note: Joints costs are allocated pro-rata based on outstanding issued & listed new shares and outstanding newly listed old existing
shares                                                        
Pro-forma journal entry:                                                       
                                                Debit   Credit             
To record share issuance costs:                                                         
Share premium              xxxxx                          
Cash                                                    xxxxx              
 
To record share listing costs:                                                 
Share listing fee (Expense) xxxxx                          
Cash                                                        xxxxx              
 
To record joint costs related to share issuance:                                                       
Share premium                       xxxxx                          
Share listing fee                     xxxxx                          
Cash                                                    xxxxx              

3.10.1 Share issuance cost (Illustrative problem)

Let us apply the concepts by solving the illustrative problem:

Artista Company undertakes an initial public offering (IPO) for the listing and issuance of 75,000new shares and listing of 25,000 old
existing shares.                  
 
Consultant fee - PR                             P60,000
Documentary stamp tax                     10,000
Listing fee                                           300,000
Newspaper publication fee                 200,000
Fairness Opinion & valuation report  130,000
Other joint costs                                 375,000
SEC filing fee                                       15,000
Tax opinion                                         100,000
Underwriting fees                               80,000

3.11 Delinquent shares

Delinquent Subscription is unpaid and defaulted subscription of shares.

In case, the subscriber of share defaulted on payment, a public auction will occur for the unpaid subscription.               
Offer Price includes unpaid subscriptions, interest accrued, and other expenses incurred related to the delinquent
sale.                                             
Highest Bidder - the person willing to pay the offer price at the smallest number of shares.              The excess share given to the
highest bidder will be given to the original subscriber.                                    
In case there is no bidder, the corporation will reacquire the share making the offer price as the cost of treasury
shares.                                                         
To record payment of delinquent shares:                                                     
                                                              Debit   Credit             
Cash or Treasury shares                    xxxxx                          
Subscription receivable                                  xxxxx              
Interest income                                               xxxxx              
Advances on delinquency sale                       xxxxx              
 
To record issued shares:                                                        
Subscribed share capital              xxxxx                          
Share capital                                                      xxxxx  

3.12 Treasury shares

Treasury shares (T/S) are shares issued by the corporation to its shareholders but reacquired by the corporation either through
purchase or donation.                                                           
 
Keynotes:                                                        

1. Treasury shares are recorded at cost regardless if it is above or below its par value.
2. Treasury shares have a debit balance and are a deduction to total shareholders' equity.
3. Treasury shares must be Appropriated in Retained earnings to be legally allowed.
4. When treasury shares are reissued at above their original cost, the excess is credited to Share premium - Treasury shares.
5. When treasury shares are reissued at below their original cost, the difference is a charge to a)Share premium of the same
treasury share class and then b) Retained earnings.
6. When treasury shares are retired, the related share capital is debited at par value, together with the related share premium on
the issuance of shares and the related shares premium on treasury shares.

Illustrative problem (Reacquisition of shares):

ABS-CBN Company reacquired the shares of stockholder Angel Locsin for 200,000. The number of shares held by Angel is 10,000 with
a P10 par value.
                                                          Debit        Credit
Treasury shares                                200,000
Cash                                                                 200,000
Assuming, ABS-CBN reissued the 5,000 shares for P150,000.
                                                      Debit           Credit
Cash                                             150,000
Treasury shares                                             100,000
Share premium- T/S                                        50,000
Assuming, ABS-CBN reissued the remaining 5,000 treasury shares for P40,000.
                                                     Debit          Credit
Cash                                           40,000
Share premium-TS                     50,000
Retained earnings                       10,000
Treasury shares                                            100,000
Illustrative journal entries (Retirement of treasury shares):  
Treasury shares for retirement are P12,000, Share capital 10,000 and the related share premium of the original share is P2,000.           
Scenario 1: No gain or loss (All balances are only assumed) SC + SP = TS   
                                                                                       Debit    Credit 
            Share capital                                                   10,000            
            Share premium (original issuance)                2,000              
            Treasury shares                                                            12,000
           
Scenario 2: Gain exist. Any gain is recorded at Share premium - treasury shares.                         
Treasury shares for retirement are P11,000, Share capital 10,000 and the related share premium of the original share is P2,000.   
 
SC + SP > TS
                                                                                  Debit     Credit 
            Share capital                                                10,000            
            Share premium (original issuance)              2,000              
            Treasury shares                                                         11,000
            Share premium - treasury shares                             1,000  
           
Scenario 3: Loss exist  SC + SP < TS    
The Loss is debited in order of priority (if related Share premium is fully exhausted, then, Retained earnings is
debited):                                      

1. Share premium from original issuance

2. Share premium from treasury shares
3. Retained earnings

 
Treasury shares for retirement are P15,000, Share capital 10,000 and the related share premium of the original share is P2,000 while
the share premium - treasury share is P1,000.   
 
                                                                                 Debit         Credit 
            Share capital                                              10,000            
            Share premium (original issuance)            2,000              
            Share premium - treasury shares             1,000  
            Retained earnings                                      2,000
           Treasury shares                                                           15,000

3.13 Share split

Share split- A corporation restructures its capital without capitalizing retained earnings or changing the amount of legal capital but
increasing or decreasing the number of shares outstanding.             
1. Split up - Increasing no. of shares issued and decreasing par value per share.
2. Split down - Decreasing no. of shares issued and increasing par value per share.            

Regardless, if Split up or Split down, the total investment cost will still be the same. A memo entry will suffice.                                   
For example, Rapunzel Corporation owns 10,000 shares of Belle Company with a par value per share of 100. Assuming, it is 2 for 1,
determine the no. of shares, par value per share, and total investment cost, under split up and split down.          
                                                                Original                 Split up                 Split Down                         
Number of shares                           10,000                  20,000                   5,000                    
Par value per share                         100                         50                           200                        
Total Investment Cost                  1,000,000              1,000,000          1,000,000