RETAINED EARNINGS AND QUASI-REORGANIZATION

1. Retained Earnings- represent the cumulative balance of periodic net income or loss, dividend distributions, prior
period errors, changes in accounting policy, and other capital adjustments.
- The IAS term for RE is “accumulated profits/losses”
- Called “deficit” when it has a debit balance which is presented as a deduction from SHE
- Are of two kinds, namely:
a. Appropriated RE- portion which has been restricted and therefore, is not available for any
dividend declaration
b. Unappropriated RE- portion which is free and can be declared as dividend to shareholders

Items Affecting Directly Retained Earnings

a. Net income or loss for the period- net income is added because it increases RE and net loss is deducted
b. Prior period errors- shown as an adjustment to the beginning balance of RE to arrive at the beginning corrected
balance
*added if profit for prior period is understated (revenue is understated or expenses is overstated)
*deducted if profit for prior period is overstated (revenue is overstated or expenses is understated)
c. Dividends to shareholders- dividends declared or paid during the year shall be deducted from RE
d. Effect of change in accounting policy- shown as an adjustment to the beginning balance of RE
*added if profit of prior period is understated because of the change in accounting policy
*deducted if profit of prior period is overstated because of the change in accounting policy
e. Appropriation of RE- amount of appropriation is deducted from unappropriated RE; added back if appropriation
is canceled

2. Dividends- distributions of earnings or capital to the shareholders in proportion to their shareholdings.

a.) Dividends out of earnings- legally, dividends can be declared only from RE (in accordance with the trust fund
doctrine)
↘however, SEC has ruled that stock dividends may be declared from premium on par value shares
↘shall be directly debited to equity through the RE
b.) Dividends out of capital- occurs when capital is returned to shareholders; also known as liquidating
dividends
↘as a rule, liquidating dividends are paid to the shareholders when the entity is dissolved and liquidated
↘however, wasting assets corporations may declare dividends which are in part distribution of earnings and
in part distribution of capital (wasting asset doctrine)
↘the portion representing distribution of capital is debited to a “CAPITAL LIQUIDATED” account which is a
deduction from total SHE
c.) Dividends as expense- PAS 32 provides that distributions to holders of an equity instrument classified as
financial liability are recognized in the same way as INTEREST EXPENSE on a bond. (either with interest on
other liabilities or as a separate line item)
↘example includes dividends paid on redeemable preference shares

Dates relevant to Dividends- dividend declaration is reposed on the BOD of the Corporation
a.) Date of Declaration- date on which the directors authorize the payment of dividends to shareholders
b.) Date of Record- date on which the stock and transfer book of the corporation will be closed for registration ;
on those shareholders registered as of such date are entitled to receive such dividends.
↘no entry is required on this date
c.) Date of Payment- date on which the dividend liability is to be paid

3. Recognition of dividend- under IFRIC 17, the liability to pay dividend shall be recognized when the dividend is
appropriately authorized and is no longer at the discretion of the entity, which is the date:
a.) When the dividends is declared by management (or BOD) if the local jurisdiction does not require further
approval
↘under Philippine, the declaration by BOD does not require further approval; hence, liability for dividends
must be recognized on the date of declaration.
b.) When the declaration of the dividend by management or BOD is approved by the relevant authority (ie.
Shareholders) if the local jurisdiction requires such approval.

4. Cash Dividends- most common type of dividend ; distribution of cash to shareholders:

Entries: (DOD) Dividends/ RE xxa

Dividends payable xxb
a – “Dividends” is normally used when dividends are declared during the year; closed to RE at the end of the
year
b – a certain amount of peso per share or a % of par or stated value
 (DOR/YE) No entry
(DOP) Dividends Payable
Cash
Note: only outstanding shares and subscribed shares are entitled to receive dividends.

5. Property Dividend – distribution of earnings of an entity to the shareholders in the form of non-cash assets; also
known as dividends in kind and is covered by IFRIC 17.
↘includes distribution of investment in shares of stocks of other corporations

Dividends Payable Property

(DOD) Retained Earnings xx noneb
a
Dividends Payable xx
a
– an entity shall measure a liability to distribute non-cash asset as a dividend to its owner at the FV of the asset
to be distributed
b
– upon declaration, PFRS applies

(DOR) none none

(YE)
*FV at YE > FV at DOD Retained Earnings xxc none
> CA of asset Dividends Payable xx

*FV at YE < FV at DODs Dividends Payable xx none

c
> CA of asset Retained Earnings xx

*FV at YE < FV at DOD Dividends Payable xx Impairment Loss xxd

c
< CA of asset Retained Earnings xx Asset xx

c
– at the end of each reporting period, the entityshall reviewand adjust the CA of the dividend payable (through
equity)
d
– non-cash asset for distribution shall be measured at the lower of CA and FV less CTD

Dividends Payable Property

(DOP)
1. *FV AT DOP> FV at YE Retained Earningse xx none
Dividends Payable xx

*FV at DOP < FV at YE Dividends payable xx none

Retained Earnings xx

2. *FV at DOP > CA of asset Dividends Payable xx

Asset xx
Gain on Distribution xxf

*FV at DOP < CA of asset Dividends Payable xx

Loss on Distribution xxf
Asset xx

e
– at the date of settlement, the entity shall also review and adjust the CA of the dividend payable (through
entity)
f
– at the date of settlement, any difference between CA of the dividends payable and the CA of the asset
distributed shall be recognized in profit or loss.

Choice of Either Cash or all Non-cash – if the entity gives its owners a choice of either a non-cash asset or a cash
alternative, the entity shall estimate the dividend payable by considering both the FV of each alternative and the
associated probabilities of owners selecting each alternative
↘at the end of each reporting period and at the date of settlement, the entity shall adjust the dividend
payable based on the alternative chosen (through equity)
Formula: FV of cash alternative x% xx
FV of non-cash alternative x% xx
Dividend Payable xx

6. Liability Dividends- actually, a deferred cash dividend ; resorted to by entities with RE sufficient for dividend
declaration but with sufficient cash to cover working capital requirements
 a.) SCRIP DIVIDEND- short-term in nature; may or may not bear interest
*entry upon declaration: Retained Earnings xx
Scrip dividends payable xx

*accrual of interest: Interest Expense xx

Interest Payable xx

*entry upon redemption of: Scrip dividends payable xx

Scrip dividends Interest payable xx
Cash xx
b.) BOND DIVIDEND – long-term in nature; normally bears interest
*entry upon declaration: Retained earnings xx
Bond Dividends payable xx

*issuance of bonds: Bond dividends payable xx

Bonds payable xx

*accrual/payment of interest: Interest Expense xx

Cash xx

*redemption of bonds: Bonds payable xx

Cash xx

Note: Both bond and scrip are FORMAL evidence of indebtedness to pay a sum of money at a future time.

7. Stock Dividends – distribution of the earnings of an entity in the form of the entity’s OWN shares
↘RE is capitalized (transferred to share capital); create only a change in the components of SHE , assets
and liabilities remain the same before and after the issuance of stock dividends
↘may be ordinary stock dividends → OS → OS or PS → PS
Special stock dividends →OS → PS or PS → OS
↘the declaration od TS as dividends is considered as a stock dividend (though legally, it is termed as a
property dividend)

Entries: *declaration of dividends: Retained Earnings xxa

Stock Dividends Payable xxb
Share Premium xx

a–
the amount to be changed against retained earnings:
*if the stock dividend is > 20% →FV of the shares on the date of declaration if higher than par or stated
value ; otherwise, par or stated value
* if the Stock dividend is ≤20% →par or stated value
*if declared by closely held entities → par or stated value of the shares
*if shareholders may elect to receive cash in lieu of shares → the amount of the optional cash dividend
*if the shares declared are TS → the cost of the TS declared as stock dividends

b
– the stock dividends payable account shall be recorded only to the extent of the par value ; presented as an addition
to share capital and not as a liability as stock dividends never reduces assets

*issuance of stock dividends:

Stock Dividend Payable XX
Share Capital XX

Fractional Stock Dividends- when stock dividends are issued, it is usually impossible to issue full shares to all of the
stockholders as some stockholders maybe entitled to receive a fraction of a share

- The following steps may be taken by the entity with respect to the fractional stock dividends

* The entity may issue warrants for the fractional shares and give the holders thereof enough time to
accumulate sufficient warrants for a full share

* The entity may pay cash in lieu of fractional shares (possible ony if the source of stock dividends is
retained earnings)
Entries: * declaration of stock dividends:
Retained Earnings XX
SD Payable XX
Share Premium XX

*issuance of stock dividends:

(full and fractional shares) SD Payable XX
Share Capital XX
Fractional WO XXa

a - the fractional warrants outstanding account is part of share premium

* fractional warrants are surrendered:

Fractional WO XX
Share Capital XX
Share Premium XXb

b- Fractional WO not surrendered are credited to SP

Note: in certain cases, stock dividends are declared on the basis of a proposed increase in authorized SC, the application
of which has been filed but not yet approved by SEC at the end of the reporting period.
-proposed increase and such dividend declaration generally shall not be reflected in the SFP prior to SEC approval;
HOWEVER, these matters should be disclosed in the NTFSs.

If the proposed increase in authorized SC is approved by SEC after the end of the reporting period and the stock
dividends are subsequently affected before release of statements, the new authorized SC may be presented and the
stock dividend may be shown as part of issued SC.
-HOWEVER, disclosure is necessary in such a case.

8. Dividends out of Capital (Liquidating Dividends)

Formula: Retained Earnings XX

Accumulated Depletion XX
Total XX
Less: Capital Liquidated XX
Unrealized Depletion in inventory, ending XX XX
Maximum Amount of Dividend XX

Entry upon Declaration:

Retained Earnings XX
Capital Liquidated XX
Dividends Payable XX

9. Appropriation of Retained Earnings- done in order to limit or restrict the payment of dividends; involves the transfer
of a portion of RE to appropriated RE.

a. LEGAL appropriation- arises from the fact that the legal capital cannot be returned to the shareholders until
the entity is dissolve and liquidated.
-thus, if an entity acquires “TREASURY SHARES”, it must have sufficient RE; accordingly, an appropriation
of RE must be made.
b. CONTRACTUAL appropriation- arises from the fact that the terms of a contract entered into by a firm (i.e.
bond issue and PS issue) may impose restriction on payment of dividends to insure eventual payment of
fulfillment of the contract.
c. VOLUNTARY appropriation- a matter of discretion on the part of management; arises from the fact that
management wishes to preserve the funds for expansion purposes or for covering possible losses or
contingencies.

Entries: *establishment of appropriation:

Retained Earnings XX
*appropriation no longer needed: Appropriated RE XX
Appropriated RE XX
Retained Earnings XX
Note: The appropriation does not imply that there is a cash fund established for the same.

10. Reserves- not defined in any accounting standards or by the Framework but form a substantial part of the equity of
an entity.
Distributable RE (unappropriated)
Reserves
Non-Distributable Share premium reserve

Appropriation reserve

Excludes the aggregate par or Asset revaluation reserve

stated value of share capital OCI reserve

11. Quasi-reorganization - is a permissive but not a mandatory procedure under which a financially troubled entity
restates its accounts and establishes a "fresh start" in accounting sense
-also called corporate readjustment, it involves restating assets, liabilities and share capital
balances in conformity with fair value for the purpose of eliminating a deficit.
-circumstances that may justify quasi-reorganization include:
* When a large deficit exists.
* When approved by the shareholders and creditors
* When the cost basis of the accounting for PPE becomes unrealistic
* When a "fresh start" appears to be desirable or advantageous to all parties concerned.
-must be approved by the SEC and maybe accomplished through:
* Recapitalization (share premium is offset against RE)
* Revaluation of PPE (revaluation surplus is offset against RE)

SEC Requirements:
a. If the QR is the result of revaluation of PPE, the appraisal must be made by an independent expert or
specialist.
b. The increase in value of PPE is credited to "Revaluation Surplus" whereas adjustments concerning OTHER
ASSETS are made through retained earnings.
c. The resulting deficit from the reorganization is offset against "Revaluation Surplus" or "Share Premium".
d. Retained earnings subsequent to the QR shall be restricted to the extent of the deficit wiped out during the
reorganization and therefore cannot be declared as dividends.
e. Losses subsequent to QR cannot be charged to the remaining R/S or SP.
f. The QR shall be disclosed for at least 3(three) years.