MODULE 5 PART 3

ACCOUNTING FOR
TREASURY STOCKS

U N D E R S TA N D I N G T H E N AT U R E O F T R E A S U RY
SHARES, TRADING AND RETIREMENT
 WHAT ARE TREASURY SHARES?
TREASURY SHARES are shares also known as “RE-ACQUIRED SHARES” refers to previously
issued outstanding shares that has been re-purchased and is being held by the issuing company in
its treasury.
➢ A company’s own shares , issued and fully paid, that was bought back from shareholders. It
is contra-equity account thus reduces the Shareholder’s Equity by the amount paid for the
stock .
➢ Total number of outstanding shares in the open market decrease by buying back its own
stock.
➢ If the Co. performs a buyback, these shares are issued shares but NO longer
OUTSTANDING and are not included in the distribution of dividends likewise in the
calculation of earnings per share (EPS).
➢ Such shares while in the hands of the corporation cannot vote or be entitled to vote nor
to a representation at any shareholder’s meeting.
*EPS = NI /OS
 WHY DO CORPORATIONS REPURCHASE OWN
SHARES (TS)
Treasury shares are acquired normally by corporations using their surplus
profits for the following reasons:
1. In support of the executives’/ employees’ stock option and
compensation plan known as ESOs.*
2. Improve earnings per share (EPS) by reducing the no. of shares
outstanding or improve the company’s price-earnings ratio.
3. Improve market price of shares by decreasing supply of shares.
4. Protect the company against takeover** threat.
* ESOs-company offered plan that gives the employees the right to buy shares of the
company at a pre-determined price.
**takeover-to buyout or acquire ownership of a company.
ILLUSTRATION:
• BSA Co. has the following data in its books:
Outstanding Shares 10M shares
Trading at P10.00/share
Market capitalization P100M
Net Income P 5M
EPS (P5M/10M shares) P .50 cents
P/E ratio ( P10/P.50 cents) 20x
• Assume BSA Co. repurchased 1M shares at P10 per share. The outstanding shares in the
market will be 9M shares=(10M-1M worth of treasury shares) . Suppose earnings for this year
is also P5M so EPS = P5M/9Mshares = P.56cents.
• IF it continue to trade at P/E ratio of 20x multiple, the value of share will now be P11.20 that is
P10 per share plus P1.20( representing an increase of 12% after reacquisition).
➢ EPS before P.50 – EPS after P.56 = P.06/ P.50 = 12% x P10=P1.20.
*EPS –indicates how much money a company makes for each share of stock.
• PRICE-EARNING RATIO (P/E ) is the ratio for valuing a company that measures
its current share price relative to its earnings per share (EPS). It is sometimes
known as earnings multiple computed as:

P/E Ratio = Share Price / EPS =P10/P.50 = 20x

If BSA Co. is trading at P/E ratio of 20x, it means that an investor is willing to pay
P20 for P1 of current earnings.

Our example clearly shows how treasury shares affect the EPS and P/E ratio of BSA
Co wherein the value of a share increases.
 WHY TREASURY SHARES MATTER?
Treasury shares is often a form of reserved shares set aside to raise funds or pay for future
investments.
These shares can also be re-issued to existing shareholders to reduce dilution from incentive
compensation plans.
Ex. Ms. A is a shareholder of BSA Inc. and owns 500 ordinary shares giving her a 5% ownership
interest. Shares issued as incentive will increase the O/S shares therefore the value of A shares will
be diluted say to 3% ownership interest.
• To prevent share dilution, companies can get the needed shares from its reacquired shares (treasury shares).
• Purchase of Treasury Shares use cash and in some States limit the amount of treasury shares a
corporation can own at a given time.
Why? To ensure that shareholders do not jeopardize the interests of debtholders.
• Increase in TS can be a good thing because it indicates that the Company thinks the shares are
UNDERVALUED.
NOTE: Treasury shares transactions may affect cash flows but they have no effect on the profit of the
corporation.
PRESENTATION
BASED ON ASSUMED AMOUNT

SHAREHOLDERS’ EQUITY
Share Capital, P100 par, 1000 shs authorized,500 shs issued P50,000
Subscribed Capital Share 60,000
Less: Subscription Receivable 60,000 0
Retained Earnings 20,000
Total Shareholders’ Equity P 70,000
Less: Treasury Share 56,000
Shareholders’ Equity P 14,000
HOW TO ACCOUNT FOR TREASURY SHARES
Two methods are used in accounting for treasury shares namely:
1) COST METHOD –treasury shares are recorded at cost regardless of whether the
shares are acquired below or above par or stated value. If purchased in cash the
cost is equal to the cash payment.

2) PAR VALUE METHOD-shares are debited for the amount equal to the par value or
stated value of the shares reacquired.

NOTE:
The ASC as stated in the Statement of Financial Accounting Standards (SFAS) No. 18
states that the preferred method for recording treasury shares is the COST METHOD.
 COST METHOD
Under this method, the purchase of treasury stock is recorded by debiting the treasury shares account. The
two aspects of accounting for treasury shares are:
A. REPURCHASE
Ex. On Jan. 3 , 2019, assume the Shareholder’s Equity (SHE) accounts of BSA Inc. revealed the following:
Share Capital , P10 par , 10,000 shares authorized
5,000 shares issued and outstanding P 50,000
Share premium-Ordinary (P1 per share) 5,000
Share Premium-Treasury shares 250
Retained Earnings 15,000

IF 100 shares, P10 par value are reacquired for cash at P12.50 on January 5, the journal entry will be
January 5 Treasury Share P1,250
Cash P1,250
COST METHOD...
B. REISSUANCE OR RESALE
ILLUSTRATIVE PROBLEM
Suppose BSA Co. reacquired 2,500 shares of its own ordinary shares, par value of P10,
at P80 per share. The entry would be
Treasury share P200,000
Cash P200,000
To record repurchase of own shares.

Accounting regarding the reissue or resale may be done based on the following cases:
CASE 1 : Treasury shares are reissued at cost
Cash P200,000
Treasury share 200,000
To record reissue of treasury shares at cost.
COST METHOD...
CASE 2 : Treasury shares are reissued at a price above cost
Assume BSA Co. reissues 1,500 shares, out its treasury shares at P110 per share, the journal
entry would be:
Cash P165,000
Treasury shares P120,000
Share premium-Treasury 45,000
To record issuance of treasury shares above cost.

CASE 3 :Treasury shares were reissued at a price below cost

Suppose BSA Co. sold 800 shares more from its remaining treasury shares at P50 per share, the
journal entry would be:
Cash P40,000
Share Premium - Treasury 24,000
Treasury shares P64,000
 SHAREHOLDER’S EQUITY SECTION
SHARE CAPITAL
Ordinary Shares, P10 par value, authorized P300,000
shares, issued 200,000 shares (of which 2,500 shares
are held in treasury)........................................................................................................P2,000,000
Share premium-Ordinary................................................................................................ 1,000,000
Total share capital ............................................................................................................P3,000,000
Retained Earnings ............................................................................................................ 1,200,000
Subtotal............................................................................................................................... 4,200,000
Less: Treasury shares......................................................................................................... 200,000
Shareholders’ Equity ....................................................................................................... P4,000,000
 SHAREHOLDERS’...
Here it is
SHARE CAPITAL
Ordinary Shares, P10 par value, authorized P300,000
shares, issued 200,000 shares of which 200 shares (TS of 2,500-1500-800)
are held in treasury.................................................................................................. P2,000,000
Share Premium- Ordinary Share............................................................................ 1,000,000
Share Premium-Treasury Share............................................................................... 21,000 **(P45,000-24,000)

Total Share Capital................................................................................................... P 3,021,000

Retained Earnings ..................................................................................................... 1,200,000
Subtotal........................................................................................................................ 4,221,000
Less: Treasury Shares (200 shares x P80) ............................................................ 16,000
Shareholders’ Equity ................................................................................................. P4,205,000

**NOTE: The share premium-treasury account is debited up to extent of the recorded share premium treasury
balance.
RETIREMENT OF TREASURY SHARE
WHAT ARE RETIRED TREASURY SHARES?
➢Retired shares are treasury shares that are permanently canceled
and cannot be reissued on the market later thus it is considered to
have no financial value.
➢These shares are no longer listed as treasury shares on the
company’s financial statements.

The accounting entry for retirement can be done using cost method
or par value method.
ILLUSTRATION
FOR OUR EXAMPLE

BSA Co. issued 5,000 shares of its P5 par value ordinary shares at P8 per share. Later the company bought
back 1,000 shares at P12 per share and immediately retired them.

Required: Prepare journal entries for issuance, buy back, and retirement using cost method:
1) When shares are issued
Cash (5,000 x P8) P40,000
Ordinary shares (5,000 x P5) P25,000
Share premium-ordinary 15,000
2) When 1,000 shares are bought back
Treasury share 12,000
Cash 12,000
3) When 1,000 shares are retired
Ordinary Shares (1000 x P5) 5,000
Share premium-ordinary (1000 (P8-5=P3)) 3,000
Retained Earnings (P12,000-5,000-3,000) 4,000
Treasury Share 12,000
 SHARE-BASED PAYMENT
WHAT IS A SHARE-BASED PAYMENT (SBP)?

➢ It is a transaction in which the entity receives goods or services either as consideration for its
equity instruments** or by incurring liabilities for amounts based on the price of the entity’s shares
or equity.
➢ As per IFRS 2 , share based payment requires an entity to recognize share-based payment
transactions such as granted shares, share option or share appreciation rights in its FS including
transactions of employees and other parties to be settled in.
➢ IFRS2 does not apply to share based payment transactions other than for the acquisition of goods
and services.

**EQUITY INSTRUMENTS –legally applicable evidence of ownership right in a firm, like share
certificate
SHARE-BASED CONTINUED...
As per International Financial Reporting Standards (IFRS) 2 , share-based payments can be
classified into:
1. Equity settled – applies when an entity receives goods or services as consideration for its
own equity instruments . It would normally be expensed and would be based on the FMV at
the grant date.
➢ IFRS 2 permits the use of Intrinsic value** in rare cases , that is, one which can only be used where
the fair value cannot be reliably measured.
2. Cash settled share-based payment transactions occur where goods and services are paid for
at amounts that are based on the price of the company’s equity instruments.
3. Equity settled with cash alternative – entity or the supplier of goods and services has the
choice as to whether the transaction is settled in CASH or EQUITY instruments.

**INTRINSIC VALUE-fair value of the shares less exercise price.

RELATED TERMS
▪ FAIR VALUE- the amount for which an asset can be exchanged , liability settled, or an equity instrument granted
could be exchanged between knowledgeable willing parties at an arm’s length transaction.
▪ ORGANIZATION EXPENSE – an expense account used for services in connection with incorporation.
▪ SHARE/ STOCK OPTION-a right to buy a particular amount of ordinary shares at a fixed price at a future date
over a certain period of time.
▪ EXERCISE PRICE-price which an underlying asset can be purchased or sold when trading a call or put option.
▪ CALL PRICE-price at which the issuer of a share can redeem a callable preferred share or a bond. Known also
as redemption price.
▪ GRANT DATE- the date at which the entity and another party (including employees) agree to a share-based
payment arrangement.
▪ VESTING CONDITIONS- means condition or restriction that determine whether the entity receives the
services that entitle the counterparty to receive cash or equity instruments of the entity under a share-based
payment arrangement.
▪ VESTING PERIOD – the period which all the specified vesting conditions of a share-based arrangement are to
be satisfied.
▪ VEST-means become an entitlement. The vesting date is when the cash and equity instruments granted vest.

▪ EX. On June 1, 2018, BSA Co. granted 50 share options to each of its four (4) directors on the condition that nobody
will leave the company until June, 2023.
 MEASUREMENT
IFRS 2, Share-based payment, equity settled transaction provides the following:
A. SHARE-BASED PAYMENT TO NON-EMPLOYEES
➢ Measured at the FMV of consideration received or FMV of equity instruments issued , whichever can
be more reliably determined.
➢ The measurement date is the date the entity obtains the goods or the service provider renders
services. Or the grant date fair value.
➢ With performance conditions, measurement is based at the lowest aggregate fair value.
B. SHARE-BASED PAYMENT TO EMPLOYEES (including share options)
▪ A way of paying employees, executives and directors of a company with shares of ownership in the
business
▪ RATIONALE: to motivate employees beyond their regular cash based compensation (Salaries and
bonus) and to align their interests with those of the company
▪ The measurement is based on the FV of the equity instruments granted .
▪ Shares issued to employees are usually subject to a vesting period before they can be sold.
ACCOUNTING FOR SHARE - BASED PAYMENT
When an entity receives services from employees under this arrangement, ASSET/ EXPENSE shall be
recognized as DEBIT- Asset account or Employee Benefit Expense account** (which affect Profit in
Loss) and CREDIT entry depends on the classification of share-based payment.
➢ IF EQUITY SETTLED share-based payment , then the CREDIT entry would be the equity
instrument (Share Options Outstanding account)
➢ IF CASH SETTLED share-based payment, the entity should recognize the corresponding increase in
liability account.

**Organization Expense can be used instead if shares issued are for services rendered in connection with
incorporation.

NOTE: When a grant is conditional (vesting conditions) like 5 years, the total expense ( we use Employee
Benefit Expense) should be measured using the grant date FV of the share based payment and this Expense
account would be recognized over the 5 year vesting period we give here.
 DONATED CAPITAL
➢ Refers to Assets, Shares, Contributions given to a Corporation as a gift.
➢ It is recorded at FV as of the date the gift was received which requires a DEBIT to asset account received and
CREDIT to Donated Capital account. In the Shareholders’ Equity section of the Balance Sheet, Donated Capital will
appear as Share Premium.

EXAMPLE 1 On May 20, 2018, Shareholder”A” donated a piece of land to BSA Co. as a gift to be used for future
warehouse site. The fair market value of the land is P475,000.
May 20, 2018 Land P475,000
Donated Capital P475,000
To record receipt of donated parcel of land.
EXAMPLE 2 Suppose BSA Co received 300 ordinary shares par value P150 from Shareholder “B” as a gift. This receipt of
the shares will require a memo entry as follows:
“Received 300 ordinary shares, P150 par value as donation.”
Assume the 300 donated shares were reissued at P100 per share, entry would be:
Cash P30,000
Donated Capital P30,000
To record sale of donated shares.
Note: By means of donation the number of the company’s outstanding shares will be reduced. Why?
CALLABLE PREFERENCE SHARES
DEFINITION
➢ Defined as a variety of shares that may be redeemed by the issuer at a set value before
maturity date.
➢ Issuers use this type of shares for financing purposes due to the flexibility of being able to
redeem it thus lowering the cost of capital for the company.
➢ Callable preferred shares is routinely redeemed by corporations by sending notice to
shareholders with details of redemption.

Ex. BSA Co who issued an 8% callable preference shares will likely to redeem these shares if it
can offer a new issue of 4% dividend rate preference shares.
CALLABLE..
• This is done by sending a notice to shareholders detailing the date and conditions of the
redemption.
• For example, on May 16, 2016, HSBC USA Inc. announced that it was redeeming its series F, G,
and H floating-rate non-cumulative preferred stock, effective June 30. This means holders of
the shares needed to return their shares on that day in exchange for payment of their capital,
outstanding dividends and a premium, as the case may be.

Note: Redeemable preferred stock, also known as callable preference share, is a popular means
of financing for large companies, combining the elements of equity and debt financing.
ILLUSTRATION
• The amount paid to call and retire a preference share is its “call price”.
• Redemption date is not definite for it is dependent on the corporation exercising its CALL.

EXAMPLE:
Assume BSA Co. Issued 5,000 callable P75 par value preference shares for P100 per share.
JOURNAL ENTRY would be:
Cash (5,000 x P100) P500,000
Preference Shares (5,000 x P75) P375,000
Share Premium-Preference 125,000
To record issuance of callable preference shares.
Suppose the company called in all the shares for P120, the entry would be:
Preference shares 375,000
Share Premium –Preference Shares 125,000
Retained Earnings 100,000
Cash (5,000 x 120) 600,000

The retirement can result in either Gain or Loss, in this transaction the loss incurred is P100,000.
CONVERTIBLE PREFERENCE SHARES
WHAT IS CONVERTIBLE PREFERENCE SHARE?
➢ Refers to preference share which carries or include an option for the holder to exchange to a fixed number
of ordinary shares or a fixed conversion ratio after a predetermined date.

➢ Its value is ultimately based on the market performance of ordinary shares.

➢ The primary events producing this action are conversions (exchange transaction or reclassification) and
recapitalization ( change in the capital structure of the firm)

NOTE:
▪ The conversion is not automatic as it would require an amendment to the Articles of Incorporation to avoid
watering of stocks **as provided in the Corporation Code of the Phils, Sec 65.
▪ If convertibility is not provided in the Art. Of Inc. then preference shares cannot be converted into ordinary
shares. (SEC Opinion, Sec 6, par 1)

**WATERED STOCK shares of a company that are issued at a much greater value than its underlying assets
usually to defraud investors which creates artificially inflated value.
ILLUSTRATION
Assume BSA Co revealed the following data:
Convertible -Preference Shares, P100, 15,000 shares P 1,500,000
Ordinary Shares, P60 par value, 100,000 shares
authorized issued and outstanding, 50,000 shares 3,000,000
Share Premium-Preference 400,000
Share Premium-Ordinary 750,000
Retained Earnings 1,515,000

IF the preference shares are all converted into ordinary shares with ratio of 1:2
Preference Shares P 1,500,000
Share Premium – Preference 400,000
Ordinary Shares (15,000 x 2=30,000 shs x P60) P1,800,000
Share Premium-Ordinary 100,000
To record conversion of preference shares to ordinary shares.
Thank You Very Much!