LESSON 1 INTRODUCTTION TO CORPORATION

CHAPTER 8

Organization and Formation of a corporation

LEARNING OBJECTIVES

1. Define a corporation and identify its characteristics

2. Identify and discuss the advantages and disadvantages of a corporate form of organization
3. Identify and discuss the various classes of corporation
4. Identify the components of corporation and the steps in organizing it
5. Identify the different types of records that are maintained by a corporation
6. Identify and differentiate the two classes of share capital issued by a corporation
7. Identify the measurement bases in the issuance of share capital in exchange for various
considerations
8. Record the transactions relating to issuance of share capital using the memorandum entry
method and the journal entry method

Summary of the LEARNING OBJECTIVES

1. Define a corporation and discuss its characteristics. A corporation is defined as an artificial being
created by operation of law, having the right of succession and the powers, attributes and
properties expressly authorized by law or incident to its existence. It has thee following
characteristics: (1) it is a separate legal entity with aa personality of its own; (2) it is created by
operation by law; (3) it has the right of succession; (4) it has the powers, attributes, and
properties authorized by law; (5) its ownership is divided into shares known as share capital; and
(6) its management is vested in a board of directors elected by the shareholders.

2. Identify and discuss the advantages and disadvantages of a corporate form of organization. A
corporation has the following advantages: (1) it enjoys a continuous existence because of its
power of succession; (2) it can obtain a strong credit line because of its continuous existences (3)
there are more investors enabling it to raise more funds; (4) investors have limited liability, (5)
share capital are transferable without the need for consent of other shareholders; (6) it has
smooth operation because of centralized management. On the other hand, organizing and
operation a corporate type of organization has the following disadvantages: (1) it is subject to
more government control; (2) it is subject to more taxes; (3) it is costly to organize’ (4) its credit
capacity is weakened by the limited liability of the shareholders; and (5) there is a more
restrictive participation by shareholders in the conduct of corporate affairs because management
is vested in the board of directors.

3. Identify and discuss the various classes of corporation. Corporations may be classified into (1)
stock or non-stock corporations: (2) public,, private, or quasi-public corporations; (3) de jure o de
facto corporations; (4) domestic or foreign corporations; and (5) open or closely-held
corporations
4. Identify the components of corporation and the steps in organizing it. A corporation has seven
components and these are the following: (1) incorporators (2) corporators (3) stockholders or
shareholders (4) members (5) promoters (6) subscribers; and (7) underwriters. The process of
organizing a corporation is composed of three stages, namely; (1) promotion; (2) incorporation,
Which includes the drafting of the articles of incorporation and its subsequent tiling with the
Securities and Exchange Commission; and (3) commencement of the business.

5. Identify the different types of records that are maintained by a corporation. To be able to keep track
of the transactions of the corporation, the following records are generally maintained: journals,
ledgers, minutes of meeting of board of directors, minutes of meeting of shareholders; and stock and
transfer book.

6. Identify and differentiate the two classes of share capital that may be issued by a corporation.
Share capital is the amount fixed by the corporate charter to be subscribed and paid in by the
shareholders. Share capital can either be ordinary or preference share capital. Both ordinary and
preference share capital can be issued with a par value, without par but with stated value, or without
par and without stated value.

7. Identify the measurement bases in the issuance of share capital in exchange for various
considerations. Share capital may be issued in exchange for (a) cash, (b) non-cash assets, or (c)
services. When a share capital is issued for cash, the share capital is measured by the amount of cash
received. When a share capital is issued in exchange for non-cash assets, the asset received is
recorded at its fair value (also known as direct measurement), unless the fair value cannot be
estimated reliably. If the fair value of the asset received cannot be measured reliably, it will
be recorded at the fair value of the share capital issued, also known as indirect measurement (PFRSS
2, par. 10). When a share capital is issued in exchange for services rendered, the services received is
meted its fair value (also known as direct measurement) unless the fair value cannot be estimated
reliably. If the fair value of the services received cannot be estimated reliably, it will be recorded at
the fair value of the share capital issued, also known as indirect measurement (PFRS 2, par. 10).

8. Record transactions relating to issuance of share capital using the memorandum entry method and
the journal entry method. The recording of authorized share capital and subsequent issuance may
be recorded using the memorandum entry method or the journal entry method. Under the
memorandum entry method, the authorized share capital of the corporation is recorded by means of
a memorandum entry indicating the authorized number of shares that may be issued and the par or
stated value of each share or an indication that the shares have no par and no stated value.
Subsequent issuance of the share capital requires a credit to the share capital account. Under the
journal entry method, the authorized share capital of the corporation is recorded by debiting
unissued share capital and crediting authorized share capital for the total par value or stated value of
the authorized shares. Subsequent issuance requires a credit to unissued share capital account.
Ordinary or preference shares may be issued in exchange for cash for non-cash assets, for services,
for extinguishment of liabilities or in exchange for another form of securities. Share capital may also
 be issued on a subscription basis. However, when a subscriber fails to pay his subscription, such
subscription becomes delinquent and will be subject to bidding.

PREVIEW OF THE CHAPTER

CORPORATION

Issuance of share capital

Nature of a corporation
-methods of recording
-Characteristics
advantages-Disadvantages -Memo entry
Classes of share capital
-Classes of corporation
-journal entry
-components of a corporation -ordinary share capital (common)
-considerations in exchange for
-steps in organizing a corporation -preference share capital
share capital
(preferred)
-rights of a stockholder -cash
-cumulative
-corporate records -non-cash assets
-non-cumulative
-services
-participating
-share capital subscription
-non-participating
-subscription default
-convertible

-redeemable

-par value share capital

-stated value share capital

-no-par, no stated value share

capital

GLOSSARY OF ACCOUNTING TERMINOLOGIES

Authorized share capital (authorized capital stock) – the total par value or stated value of the
authorized shares. It is determined by multiplying the authorized shares by the par or stated value of the
share capital.

Authorized shares - the maximum number of shares of share capital that may be issued by a corporation.

Corporation - an artificial being created by operation of law, having the right of succession and the
powers, attributes, and properties expressly authorized by law or incident to it's existence.

Delinquent subscription - a subscription where a subscriber fails to pay in full after repeated demand by
the corporation.
Highest bidder - a bidder who is willing to pay the entire unpaid subscriptions plus any expenses that may
be incurred in connection with the delinquency sale and is willing to take the least number of shares
declared as delinquent.

Issued share capital (issued capital stock) - a share capital (stock) paid for in full and for which the
related stock certificate is issued.

Ordinary share capital (common stock) - entitles the holder to an equal or pro-rata division of profits
without any preference or advantage over any class or shares. The shareholders are often referred to as
"residual equity holders" because they obtain what is left after all the claims of other parties have been
met.

Preference share capital (preferred stock) - entitles the holder to enjoy priority as to distribution of
dividends and distributions of assets upon corporate liquidation.

Outstanding share capital (outstanding capital stock) - share capital (stock) issued and is in the
possession of a shareholder.

Par value - nominal or face value stated on the face of the share certificate and in the articles of
incorporation

Pre-Operating expenses (organization costs) - costs incurred in organizing a corporation and prior to it's
operations such as registration cost and printing cost of stock certificate.

Share capital (capital stock) - amount fixed by the corporate charter to be subscribed and pain in or
secured to be paid in by the shareholders.

Stated value - nominal value stated in the articles of incorporation but not on the face of the stock
certificate.

Subscribed shares - share capital sold on a subscription basis that have not yet been pain in full and for
which the related stock certificate have not been issued.

Convertible preference shares - preference shares that can be converted into ordinary shared at the
option of the shareholder.

Recapitalization - change in the capital structure of a corporation by reducing the par or stated value of
share capital or by exchanging par value for no-par value share capital or vice-versa.

Reverse share split - replacement of outstanding shares by a smaller number of shares with a
proportionate increase in the par or stated value of share capital. It is also known as share split-down.

Share split - replacement of outstanding shares by a greater number of shares with a proportionate
decrease in the par or stated value of the share capital. It is also known as share split-up. Treasury shares-
capital shares issued to shareholders and subsequently reacquired by the corporation with the intention
of reissuing them.

Additional Paid-in Capital - corporate capital arising from investment by shareholders in excess of the par
or stated value or the share capital.
Appropriated Retained Earnings - retained earnings set aside for a specific purpose, hence, not available
for dividend distribution.

Book value per share - peso equity in corporate capital of each share of stock. It is the amount that a
shareholder would receive for every share owned in case of corporate liquidation.

Cash Dividends - dividends distributable in the form of cash.

Contributed capital - corporate capital arising from investment by shareholders.

Deficit - a debit balance in the Retained Earnings account.

Dividends - distribution of corporate earnings to shareholders.

Dividends in arrears - unpaid dividends in prior years.

Earnings per share - amount earned during a given period on each ordinary share outstanding.

Property Dividends - dividends distributable in the form of non-cash assets.

Retained Earnings - corporate capital arising from operations of the business. Its balance represents
undistributed earnings of the company. It is also knows as "earned surplus".

Share Capital Dividends - dividends distributable in the form of corporations' own share capital.

Unappreciated Retained Earnings - retained earnings available for dividend distribution to shareholders.

DEFINITION OF A CORPORATION

A corporation is an artificial being created by operation of law, having the right of succession and the
powers attributes and properties expressly authorized by law or incident to is existence. (section 1,
Corporate code of the Philippines)

CHARACTERISTICS OF A CORPORATION

1. Separate legal entity - artificial being. A corporation is an artificial being with a personality that
is separate from that of it's individual owners. Thus, it may, under it's corporate name, take,
hold, or concer property to the extent allowed by law, enter into contracts and sue or be sued.
2. Created by operation of law. A corporation is generally created by operation of law. The mirror
agreement of the parties cannot give rise to a corporation.
3. Right of succession. A corporation has the right of succession. Irrespective of the death,
withdrawal, insolvency, or incapacity of the individual members or shareholders, and regardless
of the transfer of their interest or share capital, a corporation can continue its existence up to
the period of time stated in the articles of incorporation but not to exceed fifty years.
4. Powers, attributes, properties authorized by law. The corporation has only the powers,
attributes, and properties expressly authorized by law or incident to its existence. Being a mere
creation of law, a corporation can only exercise powers provided by law and thoses powers
which are incidental to its existence.
 5. Ownership divided into shares. Proprietorship in a corporation is divided into units known as
share capital. The buyers of the share capital are called shareholders or stockholders and are
considered owners of the business.
6. Board of directors. Management of the business is vested in a board of directors elected by
shareholders. Board of directors is the governing body of decision making body of the
corporation. The corporation law provides that the number of directors be not less than five but
more than fifteen.

ADVANTAGES OF A CORPORATION

1. The corporation enjoys continuous existence because of its power of succession.

2. The corporation has the ability to obtain a strong credit line because of continuity of existence.
3. Large scale business undertakings are made possible because many individuals can invest their
funds in their enterprise.
4. The liability of its investors or shareholders is limited to the extent of their investment in the
corporation.
5. The transfer of shares can be done without the need for prior consent of other shareholders.
6. Its smooth operation is guaranteed because of centralized management.

DISADVANTAGES OF A CORPORATION

1. It is not easy to organize because of complicated legal requirements and high costs in its
organization.
2. The limited liability of its shareholders may weaken its credit capacity.
3. It is subject to rigid governmental control.
4. It is subject to move taxes.
5. Its centralized management restricts a more participation by shareholders in the conduct of
corporate affairs.

CLASSES OF CORPORATION

Corporations are generally classified according to purpose, membership holdings, compliance of law,
law of creation, extent of membership or other basis of classification. Generally, profit-oriented
corporations are open, private and stock corporations. Nonprofit corporations are public and private
non-stick corporations.

The following is a list of the common classes of corporation:

1. As to membership Holdings

a. Stock Corporation - a private corporation in which the capital is divided into shares of
stock and is authorized to distribute corporate earnings to holders on the basis of shares held.
The owners of stock corporations are called stockholders or shareholders.

b. Non-stock Corporation - a private corporation in which capital comes from fees paid
by individuals composing it. The owners of a non-stock Corporation are called members.
 2. As to Purpose

a. Public Corporation - a corporation that is organized to govern a portion of the state

(e.g. municipalities, provinces)

b. Private Corporation - a corporation that is organized for a private benefit, aim or end.

c. Quasi-public Corporation - a private corporation which is given a franchise to perform

functions of a public character. Classified under this type are the so called public utility
corporations such as MERALCO OR PLDT.

3. As to Compliance of Law

a. De jure corporation - a corporation which exists in both law and fact. It exists in law
because it has complied with all the legal requirements; it exists in fact because it actually
operates as a corporation.

b. De facto corporation - a corporation which exists only in fact but not in law. It does
not exist in law because of non-compliance with certain legal requirements.

4. As to Law of creation

a. Domestic corporation - a corporation that is organized under Philippine Laws.