Chapter 22 - Retained Earnings

Challenges are
what make life

interesting.
Overcoming
them is what
makes life
meaningful. –
CHAPTER 22
Joshua J.
Marine
RETAINED EARNINGS
E.F.M.
Let’s review!
Retained earnings represents the cumulative profits which are retained in the
business and not yet distributed to the shareholders.
It is the cumulative balance of the following:
• Net income or loss of the period
• Dividend distributions
• Prior period errors
• Changes in accounting policy
• Reclassification of some components of other comprehensive income
• Other capital adjustments
IFRS term for retained earnings – Accumulated Profits
Retained earnings consist of:

 Unappropriated retained earnings (Unrestricted)- represents the portion of
retained earnings that is available for future distribution of dividends to
shareholders.
 Appropriated retained earnings (Restricted)- represents the portion of retained
earnings that is not available for distribution unless the restriction is
subsequently reversed.
E.F.M.
What are appropriated retained earnings?
Appropriated retained earnings maybe a result of
a. Legal requirement – like retained earnings appropriated for treasury
shares.
b. Contractual requirement – like retained earnings appropriated in
compliance with loan agreements or bond indentures for the protection
of creditors.
c. Voluntary - such as retained earnings appropriated for probable
contingencies, business expansion and the like.
Pro forma entry to record the appropriation:

Retained Earnings unrestricted xxx
Retained Earnings appropriated xxx
Note:
When restrictions no longer exists, the entry above is simply reversed.
Appropriations of retained earnings do not mean that a corresponding cash fund has been set
aside, it only indicate the amounts that are not available for distribution to the shareholders.
E.F.M.
Negative balances - equity
• When the retained earnings account has a debit balance
(negative balance), it is described as deficit. It is a deduction
from shareholder’s equity.
• When total shareholder’s equity has a negative balance (such

as when liabilities exceed assets), it is described as capital
deficiency.
E.F.M.
Dividends
• Dividends are distributions of earnings to the shareholders.

• Dividends may be declared :
a. out of unrestricted retained earnings (return on capital) or
b. out of capital (return of capital)
Legal limitation in the declaration of dividend

• Legally dividends can be declared only from retained earnings
(unrestricted) in accordance with the trust fund doctrine.
• It is illegal for the entity to declare dividends if it has a deficit or it is
in excess of the retained earnings balance, the excess is a return of
capital and therefore violates the trust fund doctrine.
• SEC ruled that stock or share dividend can be declared only from
premium on par value share. Technically share premium in excess of
par is not part of legal capital.
E.F.M.
For accounting purposes, the following are the relevant dates when
dividends are formally declared by the board of directors:
• Date of declaration – the date on which the directors formally announce

the distribution of the dividends.
• Date of record – the date on which the stock and transfer book of the
corporation is closed for registration. Only shareholders listed on this
date are entitled to receive dividends. No entry is required on this date.
• Date of payment - the date of the distribution of the dividend and the
dividend liability is settled.
Recognition of dividends
• Liability for dividend must be recognized on the date of declaration . (IFRIC
17)
• A liability is recognized only for cash dividends or property dividends.
No liability is recognized for share dividends. Share (Stock) dividends
payable is presented as an addition to share capital.
E.F.M.
Forms of dividends:
Dividends out of earnings are usually in the form of the
following:
1. Cash dividend
2. Property dividend
3. Liability dividend in the form of bond and scrip
4. Share dividends or bonus issue
E.F.M.
Accounting for cash dividends
• The most common type of dividends are cash dividends.

• Dividends can be expressed as follows:
1. A certain amount of peso per share
2. A certain percentage of the par or stated value
• Only outstanding shares are entitled to dividends.
• Outstanding shares are shares issued and subscribed less
treasury shares.
• Cash dividends on delinquent share are first applied to the
unpaid balance on the subscription plus costs and expenses,
while share dividends are withheld from the delinquent
subscriber until his unpaid subscription is fully paid. (Corporation Code)
E.F.M.
Illustrative problem:
The shareholder’s equity of XYZ Corp. shows the following
information:
Share capital, authorized capital 100,000
shares at P100 par
P4,000,000
Subscribed share capital 1,600,000
Share premium 840,000
Retained earnings 1,000,000
Treasury shares ( cost P80 per share) 320,000
On March 1, 2020, the board of directors declared P5 dividend per share

to shareholders of record as of March 15, 2020 for distribution on April
1, 2020.
Required:
1. Compute for the outstanding shares and the cash dividend.
2. Prepare the necessary journal entries to record the transaction.
E.F.M.
Answers:
1. Computation for outstanding shares and cash dividends:
Shares issued (P4,000,000÷P100) 40,000
Shares subscribed( P1,600,000÷P100) 16,000
Treasury shares ( P320,000÷P80) ( 4,000)
Outstanding shares 52,000
Multiply by: Dividend per share P 5
Total cash dividends P260,000
2. Journal entries:
Date of declaration:
March 1 Retained Earnings 260,000
Cash dividends Payable 260,000
Date of payment:
April 1 Cash dividends Payable 260,000
Cash 260,000
Note:
No entry is required on March 15, 2020, the date of record.
E.F.M.
Accounting for liability dividends
• Liability dividends can be in the form of scrip or bond.
• A scrip is like a note which is a formal evidence of indebtedness to pay a sum of
money at some future time.
Illustrative problem:
The shareholder’s equity of XYZ Corp. shows the following information:
shares at P100 par P4,000,000
Case 1: Scrip dividend

On March 1, 2020, the board of directors declared 20% scrip dividends to shareholders
of record as of March 15, 2020 for distribution on April 1, 2020. The scrip dividends
bear 12% interest per annum.
Required:
1. Compute for the outstanding shares and the cash dividend.
E.F.M.
Answers:
1. Computation for outstanding shares and cash dividends:
Shares issued (P4,000,000÷P100) 40,000
Multiply by: par value per share P 100
Aggregate par value of outstanding shares P5,200,000
Multiply by: Dividends as percentage of par value 20%
Total scrip dividends declared P1,040,000
2. Journal entries:
March 1 Retained Earnings 1,040,000
Scrip dividends Payable 1,040,000
Date of payment:
April 1 Scrip dividends Payable 1,040,000
Interest Expense 10,400
Cash 1,050,400
Note:
No entry is required on March 15, 2020, the date of record.
E.F.M.
Case 1: Bond dividend
The board of directors declared dividends in the amount of
P2,000,000 in entity’s own bonds, 10%, P2,000,000 face
value. The bonds mature in 4 years. Interest is payable
semi annually.
Required:
1. Prepare the necessary journal entries to record the
transaction.
E.F.M.
Journal entries:
 To record the dividend payable on the date of declaration:

Retained Earnings 2,000,000
Bond Dividends Payable 2,000,000
 To record the issuance of bonds in payment for the dividends.

Bond dividends payable 2,000,000
Bonds Payable 2,000,000
 To record the payment of periodic semiannual interest on the bonds.

Interest Expense 100,000
Cash(2M x 10% x 6/12) 100,000
 To record the redemption of the bonds on maturity date.

Bonds Payable 2,000,000
Cash 2,000,000
E.F.M.
Accounting for property dividends
• Property dividends or dividends in kind are distribution of earnings of the entity

to the shareholders in the form of non cash assets.
• IFRIC 17 covered the accounting for property dividend.
• There are two issues in accounting for property dividend:
1. measurement for property dividend payable
2. measurement of the non cash asset to be distributed as property
dividend
• Measurement of property dividend payable:
a. Property dividend payable is initially recognized at the fair value of
the non cash asset on date of declaration
b. Property dividend payable is adjusted at year end and on date of
settlement for changes in fair value. The changes are recognized as
gain or loss, directly in retained earnings.
c. On settlement date, any difference between the carrying amount of
the dividend payable and the asset distributed is recognized in profit
or loss.
E.F.M.
Measurement of non cash asset distributed
• PFRS 5, p 5A, provides that the classification, presentation, and

measurement requirements in this PFRS apply also to non current asset
to be distributed to owners as property dividend.
• According to the provisions of PFRS 5, non current assets declared as
property dividends are reclassified as “ Non current asset held for
distribution to owners”
• Under PFRS5, a non current asset held for distribution to owners is
initially and subsequently measured at the lower of its carrying
amount and fair value less cost to distribute.
• If the fair value less cost to distribute is lower than the carrying
amount of the asset at the end of the reporting period , the difference is
accounted for as impairment loss.
E.F.M.
Illustrative problem 1: Non current asset declared as property dividend
An entity owned 20,000 shares of another entity held as investment in equity
securities with carrying amount of P1,500,000. On November 30, 2020, the
entity declared these shares as property dividend to be distributed on February
1, 2021.
The investment had the following fair value less cost to distribute:
Date Fair value less cost to distribute

November 30, 2020 P 1,600,000
December 31, 2020 1,700,000
February 1, 2021 1,400,000
E.F.M.
Journal entries:
November 30 Retained Earnings 1,600,000
2020 Property Dividends Payable 1,600,000
 To record the adjustment in fair value at the end of the reporting period.
December 31 Retained Earnings 100,000
2020 Property Dividends Payable 100,000
 To record the adjustment in fair value on the date of settlement.

February 1 Property Dividends Payable 300,000
2020 Retained Earnings 300,000
 To record the settlement of the dividend payable on February 1, 2020.

February 1 Property Dividends Payable 1,400,000
2020 Loss on Distribution of Property Dividend 100,000
Investment in Equity Securities 1,500,000
E.F.M.
Notes:
• Property dividend payable and retained earnings are recorded at fair value
on declaration date.
• At year end, the adjustment ( increase) in fair value to the property dividend
payable is recognized directly to retained earnings
• The carrying amount of the investment is not adjusted because this is lower
than the fair value of P1,700,000 on December 31, 2020.
• The investment is measured at carrying amount on December 31, 2020.
• On settlement date, the property dividend payable is again adjusted to fair
value.
• The difference between the carrying amount of the property dividend payable
and the asset distributed is recognized in profit or loss on settlement date. This
is presented as a separate line item on the statement of profit or loss.
Question:
What is the net effect of the declaration and settlement of property dividends on
retained earnings?
E.F.M.
Illustrative problem no. 2: Current asset declared as dividend
An entity declared inventory as property dividend on June 30, 2020
with carrying amount of P1,200,000 payable on August 31, 2020
Information on fair values follows:
Date Fair value less cost to distribute
June 30, 2020 P 1,000,000
August 31, 2020 1,300,000
Note: Assume the fair value is not materially different from net realizable value.
E.F.M.
Journal entries:
June 30 Retained Earnings 1,000,000
2020 Property Dividends Payable 1,000,000
 To record the write down of inventory to NRV (1.2M -1M)

(There is a write down of inventory because NRV is lower than the carrying amount)
June 30 Impairment loss 200,000
2020 Inventory 200,000
 To record the adjustment in fair value on settlement date.

August 31 Retained Earnings 300,000
2020 Property Dividends Payable 300,000
 To record the settlement of the dividend payable on August 31, 2020.

February 1 Property Dividends Payable 1,300,000
2020 Inventory 1,000,000
Gain on Distribution of Property Dividend 300,000
E.F.M.
Accounting for share dividends
• Share dividends are distributions of the earnings of the entity in the
form of the entity’s own shares.
• Share dividends are accounted for as follows:
1. If the share dividends declared are less than 20%(small) of the
outstanding shares, the share dividends are accounted for at fair value.
Retained earnings is debited for the fair value of the share dividends
on declaration date. The difference between the fair value and the par
value is credited to share premium.
2. If the share dividends declared are 20% or more (large) the
share dividends are accounted for at par value.
Retained earnings is debited for the par value of the share dividends
on declaration date.
E.F.M.
Illustrative problem 1:
On March 1, 2020, the board of directors declared share dividend of “1 share

for every 10 shares held” to shareholders of record as of March 15, 2020
for distribution on April 1, 2020.
The fair value per share on declaration date is P120.
Required:
1. Compute for the outstanding shares and the share dividends.
E.F.M.
Answers:
1. Analysis of the share dividend declared:
Declared share dividend = 1 share for every 10 shares held
Ratio = 1/10 , Percentage = 10%
Conclusion: The share dividends are considered small
Accounting = at fair value, any excess of fair value over par value is credited to share
premium
Computation for outstanding shares and cash dividends:

Shares issued (P4,000,000÷P100) 40,000
Multiply by: Dividend declared .10
Number of shares declared as dividends 5,100
Multiplied by: Fair value per share P 120
Total share dividends P612,000
E.F.M.
2. Journal entries:
2020 Share dividends Payable 520,000
Share Premium 92,000
Date of distribution:
April 1 Share dividends Payable 520,000
2020 Share Capital 520,000
Note:
• No entry is required on March 15, 2020, the date of record.
Questions:
1. What is the effect of share dividends on shareholder’s equity?
2. What is the proper classification of share dividend payable?
E.F.M.
On March 1, 2020, the board of directors declared share dividend of “1 share

for every 4 shares held” to shareholders of record as of March 15, 2020 for
distribution on April 1, 2020.
Required:
E.F.M.
Answers:
1. Analysis of the share dividend declared:
Declared share dividend = 1 share for every 5 shares held
Ratio = 1/4 , Percentage = 25%
Conclusion: The share dividends are considered large
Accounting = at par value
Computation for outstanding shares and cash dividends:

Shares issued (P4,000,000÷P100) 40,000
Multiply by: Dividend declared .25
Multiplied by: Par value per share P 100
Total share dividends P1,275,000
E.F.M.
2. Journal entries:
2020 Share dividends Payable 1,275,000
April 1 Share dividends Payable 1,275,000
2020 Share Capital 1,275,000
Note:
Questions:
1. What is the effect of share dividends on shareholder’s equity?
2. What is the proper classification of share dividend payable?
E.F.M.
Treasury shares declared as dividends
• Treasury shares may be declared as dividends.
• When treasury shares are declared as dividends, the cost method is used.
• The accounting for small and large share dividends do not apply.
• Retained earnings is debited for the cost of the treasury declared and no share premium
arises.
On March 1, 2020, the board of directors declared share dividend of “1 share for every shares
held” from its treasury shares to shareholders of record as of March 15, 2020 for distribution
on April 1, 2020.
Required:
E.F.M.
Answers:
1. Computation for outstanding shares and share dividend payable:
Shares issued (P4,000,000÷P100) 40,000
Treasury shares ( P800,000÷P80) (10,000)
Multiply by: Dividend declared 1/10
Multiplied by: cost per treasury share P 80
Total share dividends P368,000
E.F.M.
2. Journal entries:
2020 Share dividends Payable 368,000
April 1 Share dividends Payable 368,000
2020 Treasury Shares 368,000
Retained Earnings – appropriated 368,000

Retained Earnings – unrestricted 368,000
To reverse the restriction on retained earnings
for the treasury shares issued as dividends
Note:
Questions:
1. What is the effect of treasury dividends on shareholder’s equity?
E.F.M.
Fractional shares
• When share dividends are issued, it is sometimes impossible to issue full

shares to share holders.
• For example, when an entity declares share dividends on a 1 share for every
10 shares held, a shareholder with shareholdings not divisible by ten will
not receive full shares for any fractional shares held, like a shareholder
holding 75 shares will not receive one full share for the 5 shares held.
• To deal with the problem of fractional shares, the corporation may:
1. issue fractional share rights evidenced by share warrants and give
the holders thereof an enough time to accumulate sufficient warrants
for a full share.
2. pay cash in lieu of fractional share but only if the share dividend
were declared out of retained earnings. If the share dividend were
declared out of share premium, cash payment in lieu of fractional
share rights is illegal.
E.F.M.
On March 1, 2020, the board of directors declared 25% share dividend to

shareholders of record as of March 15, 2020 for distribution on April 1,
2020.
Additional information:
Share capital, P100 par, 40,000 share issued and outstanding P4,000,000
Share dividends declared 25%
Share dividends on full shares issued 7,000
Share dividends on fractional shares issued 3,000
Required:
E.F.M.
Journal entries:
2020 Share dividends Payable 1,000,000
April 1 Share dividends Payable 1,000,000
2020 Share Capital(7,000xP100) 700,000
Share premium-fractional
warrants outstanding(3,000xP100) 300,000
 On May 1, 2020, 2,000 full share were issued on the exercise of the share warrants.
 The remaining 1,000 share warrants expired.
May 1 Share premium-fractional

2020 warrants outstanding 200,000
Share Capital(2,000xP100) 200,000
Share premium-fractional
warrants outstanding 100,000
Share Premium(1,000xP100) 100,000
Note:
E.F.M.
God Bless!
Stay Safe and Healthy!
Sources:
Valix, Conrado T., Peralta, Jose F. and Valix, Christian Aries M. (2020) Intermediate Accounting Volume 2/
Phils: GIC Enterprises (prescribed textbook)
Milan, Zeus Vernon B., Intermediate Accounting 2(2019) (reference textbook)
E.F.M.

Chapter 22 - Retained Earnings

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Chapter 22 - Retained Earnings

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Challenges are

what make life

Retained earnings consist of:

Pro forma entry to record the appropriation:

• When total shareholder’s equity has a negative balance (such

• Dividends are distributions of earnings to the shareholders.

Legal limitation in the declaration of dividend

• Date of declaration – the date on which the directors formally announce

• The most common type of dividends are cash dividends.

On March 1, 2020, the board of directors declared P5 dividend per share

Case 1: Scrip dividend

 To record the dividend payable on the date of declaration:

 To record the issuance of bonds in payment for the dividends.

 To record the payment of periodic semiannual interest on the bonds.

 To record the redemption of the bonds on maturity date.

• Property dividends or dividends in kind are distribution of earnings of the entity

• PFRS 5, p 5A, provides that the classification, presentation, and

Date Fair value less cost to distribute

 To record the adjustment in fair value on the date of settlement.

 To record the settlement of the dividend payable on February 1, 2020.

 To record the write down of inventory to NRV (1.2M -1M)

 To record the adjustment in fair value on settlement date.

 To record the settlement of the dividend payable on August 31, 2020.

On March 1, 2020, the board of directors declared share dividend of “1 share

Computation for outstanding shares and cash dividends:

On March 1, 2020, the board of directors declared share dividend of “1 share

Computation for outstanding shares and cash dividends:

Retained Earnings – appropriated 368,000

• When share dividends are issued, it is sometimes impossible to issue full

On March 1, 2020, the board of directors declared 25% share dividend to

May 1 Share premium-fractional

Stay Safe and Healthy!

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