LESSON 6 - STATEMENT OF FINANCIAL POSITION (PART 2)

Summary of the Effects on Assets, Liabilities, and Equity

At this point, it is useful to show the effects of the basic ‘shareholders’ equity
transactions on the elements of the statement of financial position:

Retained Earnings
Retained earnings represent the component of the shareholder’s equity arising from the
retention of assets generated from the profit-directed activities of the corporation. At the
end of an accounting period, in the income Summary account of a corporation is closed
to the Retained Earnings account. The retained earnings account is credited with the
corporation’s profit or debited with the loss. The basic source of retained earnings on
the basis of all issued and fully paid shares, and all subscribed par value shares except
treasury shares are called dividends. Dividend declaration reduce retained earnings.
other situations that cause increases or decreases in retained earnings are as follows
debits resulting from reissuance of treasury stock blow cost and loss on retirement of
treasury stock, and debits or credits for prior period errors.
Prior period errors are errors discovered in the current period that are of such
significance that the financial statement of one or more prior periods can no longer be
considered to have been reliable at the date of their issue. Note that credit entries
increases that retained earnings balance and debits decrease it
A debit balance in the retained Earnings account resulting from accumulated losses is
called a deficit. Retained earnings may be restricted or appropriated, and unrestricted or
unappropriated. Unrestricted retained earnings are free and can be declared as
dividends. Retained earnings restriction may be legal, contractual, or voluntary.

Dividends in General
Retained earnings is not a cash fund waiting to be distributed as dividends instead, it is
an owner’s equity account representing claim on all assets in general and not on any
asset in particular. In fact, the corporation may have been sizable balance in this
account buy may not have cash to pay a cash dividend. Shareholders are not
guaranteed dividends and dividends do not become a liability of the corporations until
the board of directors has a formally declared a dividend distribution. Section 43 of the
corporation Code states that dividends should only be declared out of the unrestricted
retained earnings. Thus, dividends cannot be declared out of the legal capital of the
corporation for the security of its creditors.
Dividends may take the form of cash property or additional shares of stock of the
corporation. As a general rule, any form of dividend declaration should be based on the
total subscription of a shareholder and not merely on the shares already paid.
Subscribers are considered shareholders from the time their subscription are accepted
by the corporation and not from the time they are issued stock certificates.
The declaration and payment of dividends involve three important dates and they are:
Date of Declaration
On the date of declaration, the board of directors will adopt a resolution declaring that a
dividend is to be paid. The resolution will specify the amount, type, and date of payment
of this dividend, it will necessitate the concurrence of at least two-thirds of the
outstanding shareholders.
Legally, declared dividends are obligation of the firm. Dividends to be paid in cash or
property become liability on this date. Shares distributable is also recognized. An entry
is made debiting retained earnings and crediting a dividing liability or shares
distributable account. Some corporation debit a Dividends Declared account instead of
the retained Earnings account is nevertheless closed to the Retained Earnings account
at the end of the year.

Date of Record
A list of shareholders entitled to the declared dividends is prepared at the date of
record. If an investor buys a share of stock after this date, he will not receive the
dividend. The share is said to be traded ex-dividend. No entry is required on this date.
Date of payment
The corporation settles its liability on this date. An entry is made debiting the dividend
liability or shares distributable account and crediting cash, property distributed or share
capital.

Cash Dividends
Majority of dividends distributed by corporation is paid in cash. In declaring cash
dividends, a corporation must have both an appropriate amount of retained earnings
and the necessary amount of ash. Some investors view that a larger retained earning
balance automatically permits generous dividend distributions.
A corporation, however, may successfully accumulate earnings and at the same time is
not sufficiently liquid to pay large dividends. Many corporation especially new firms in
growth industries, finance their expansion from assets generated through earnings and
pay out small cash dividends or none at all
Dividends on par value shares are stated as a certain percentage of the par value, as to
no-par value shares, the dividends are stated at a certain amount per share. When the
board of directors declares a cash dividend, an entry is made debiting Retained
Earnings (an owner’s equity account) and crediting cash dividends payable (a liability)
Illustrations. Made Easy Bookstore, Inv., a nationally known business books distribution
entity, declared a cash dividend of p12 per share of ordinary shares on July 1 the
dividends are payable on August 1 to shareholders of record July 21. The entity has
100,000 ordinary shares issued of which 7,000 shares are held in treasury. The entries
to record the dividend declaration and payment are as follows:
Retained Earnings* (OE) 1,116,000
Cash Dividends Payable (L) 1,116,000
To record declaration of dividend
*P12 per share (100,000 issued shares – 7,000 treasury
shares) = P1,116,000.
The account, Cash Dividends declared, may be used in a place of the debit retained
Earnings. At the end of the accounting period, this temporary shareholders’ equity
account will be closed by debiting Retained Earnings and crediting Cash Dividends
Declared.

Cash Dividends Payable (L) 1,116,000

Cash (A) 1,116,000
To record payment of dividend
Cash dividends payable are reported as current liabilities in the statement of financial
position. Note that dividend decrease total assets and total shareholder’s equity.
It is worthwhile to reiterate that the exception of treasury shares, all issued and fully paid
shares, and all subscribed par value shares are entitled to dividends when declared.
That subscribed shares must be par value shares. No-par value shares. No-par value
shares
are considered as legally issued only when fully paid. Unissued shares subscribed no-
par shares and treasury shares are not entitled to dividends.

Share Dividends
A corporation may distribute to shareholders additional shares of the entity’ own share
as share dividends. Share dividends or bonus issues are fundamentally different from
cash or property dividends because share dividends do not transfer assets to the
shareholders. This type of dividends increase the total share capital and decrease the
retained earnings account. Because both of these accounts are components of
shareholders’ equity, total shareholders’ equity in unchanged.
From the shareholders’ point of view, a share dividend does not change their
percentage interest in the corporation although total outstanding shares have increased.
The accounting entries depend upon the size of the share dividend.
Small share dividends
Small share dividends are dividends in which the additional shares issued are less than
20% of the previously outstanding shares. These are dividends are recorded by
transferring from retained earnings to share capital (ordinary shares and share premium
accounts) the fair market value of the additional shares to be issued. In the cases when
the fair market value is lower than the par or stated value, the par or stated value will be
the basis for recording.
Illustration. Siobe! Your Japanese Fastfood, Inc. chain is blessed with years of profitable
operations for its commitment to serve affordable healthy Japanese foods favorites. The
shareholder’s equity before declaration of a 10% share dividend is as follows:

The declaration as a 10% share dividend will require the issuance of an additional 2,000
shares. Assume that the corporation’s share is being traded at the stock exchange and
that the stock market prize per share is P110. The fair market value of the shares to be
distributed is P220,000. The entries will be:
Retained Earnings (or the temporary account, share dividends declared) is debited for
the fair market value of the share dividends. Shares distributable is credited for the par
value of the shares to be distributed and Share Premium for the Balance.
If a statement of financial position is prepared between the declaration date and the
distribution date of a share dividend, the shares distributable account will be shown in
the shareholder’s equity immediately after the Ordinary Shares account.
When the share is distributed only the components of the share holders’ equity
changes; retained earnings decreased by 220,000(650,000 minus P430,000) and total
share capital increased by P222,00 (P1,420,000 minus 1,200,000). The total
shareholders’ equity did not change.
A comparison of the shareholders’ equity and outstanding shares before and after the
share dividend appears below:

The receipt of a share dividend does not alter the relative position of a shareholder. If a
10% share dividend is distributed, all shareholders increases their proportionate
holdings by 10% and the total share outstanding increased by the same proportion. No
profit is realized by the shareholders.
 Larger Share Dividends
If the share dividends is 20% or more of the previously outstanding shares such that the
effect is to reduce materially the market value per share, hen only the par o stated value
is credited to ordinary shares with a corresponding debit retained earnings.
Illustrations. Assume instead that Siobe! Your Japanese Fastfood Inc. chain declared a
20% share dividend on its 20,000 issued and outstanding P50 par value shares. The
corporation will issue additional 4,000 shares due to the share dividend the entries will
be:

The account titles used to record a large share dividend are the same as those for small
share dividends. Mote though that the balance in the account-Share Premium remained
the same; this is because large share dividends are recorded at par value.

Summary of the Effects of Dividends

The following table summarized and compares the effects of various type of dividends
on various elements of the financial statements:
Statement of Retained Earnings
This statement is not required per revised International Accounting Standards (IAS) No.
1. A retained earnings statement is normally divided into two major sections:
* Appropriated. This section presents the beginning balance of the retained
earnings appropriated account, any additions, or deductions during the period,
and ending balance.
* Unappropriated. This section shows the beginning balance of the retained
earnings unappropriated account, correction of prior period error, profit or loss for
the period, dividends, transfers to and from the appropriated and unappropriated
accounts, and the ending balance.
The statement concludes with the total retained earnings as of the end of the period. An
example of a retained earnings statement follows:
Statement of Changes in Shareholder’s Equity
Significant changes in shareholder’s equity should be reported in the period in which
they occur. The statement of changes in shareholder’s equity may be prepared in
columnar format, where each column represents a major shareholder’s equity
classification. The statement for SuySan Corporation follows:

*Figure in the next page

Source:
Ballada, W. (2018). Fundamentals of Accountancy Business & Management 2.
DomDane Publishers.
The ending balances of the accounts are presented at the bottom of the statement.
These accounts and their related balances compose the shareholder’s equity section of
the statement of financial position: