What are Financial Statements?

Financial Statements are the means by which the

information accumulated and processed in financial
accounting is periodically communicated to the users.
Stated differently, the financial statements are the end
product or main output of the financial accounting process.

STATEMENTS = REPORTS

EQUITY OF
CORPORATIONS
Shareholders equity in the Balance Sheet

What are the different types of Financial Statements?

Balance Sheet
Income Statement
Statement of Cash flows
Statement of Changes in Equity
Notes to Financial Statements

We will encounter only . . .

BALANCE SHEET
AND

INCOME STATEMENT

What is a Balance Sheet?

Statement of
Financial Position

For distinguishing purposes, what is Income Statement?

Statement of
Financial
Performance

Very basic and very important principle for balance

sheets

A=L+C

Different types of business organizations

Sole-proprietorship
Partnership
Corporation

Comparison

Suppose a business entity

invests P800,000.00 as capital
and loaned P200,000.00 for
business operations.

Balance sheet of Sole-proprietorship

Assets
Cash
1,000,000.00
Liabilities & Owners Equity
Loans payable
200,000.00
X, Capital
800,000.00
Total liabilities & Owners Equity 1,000,000.00

Balance sheet of partnerships

Assets
Cash
1,000,000.00
Liabilities & Partners Equity
Loans payable
200,000.00
X, Capital
200,000.00
Y, Capital
300,000.00
Z, Capital
300,000.00
Total liabilities & Owners Equity 1,000,000.00

Balance sheet of corporations

Assets
Cash
1,000,000.00
Liabilities & Shareholders Equity
Loans payable
200,000.00
Common stock, 200 par
800,000.00
Total liabilities & Owners Equity 1,000,000.00

Definitions
Shareholders equity or
Stockholders equity is the residual
interest of owners in the net assets
of the corporation measured by the
excess of assets over liabilities.
Recall: A=L+C, in other words,
C=A-L

Comparison of terms
Philippine Term

IAS Term

Capital Stock
Share Capital
Subscribed capital stock
Subscribed share capital
Common stock
Ordinary share capital
Preferred stock
Preference share capital
Additional paid-in capital
Share premium
Retained earnings (deficit)
Accumulated profits (losses)
Treasury stock
Treasury share

Definitions
Capital stock is the amount fixed in the articles of incorporation, to be
subscribed and paid in or agreed to be paid in by the stockholders of a
corporation, in money, property, services, or other means at the
organization of the corporation or afterwards and upon which it is to
conduct its business.
Actually, the amount fixed in the articles of incorporation is called the
authorized share capital if the corporation has a par value. If the
corporation has no par value, the corporation has no authorized capital
stock, but it has capital stock the amount of which is not specified in
the articles of incorporation as it cannot be determined until all of the
shares are issued.
Note: capital stock includes both common stock and preferred stock.

Common stock or ordinary share capital

If there is only one class of share capital, it is necessarily

ordinary share
So called because the ordinary shareholders have the

same rights and privileges

No fixed or specific return
Financial reward is dependent on the operations of the

entity

Preferred stock or
preferred share capital
So called because of the preference granted to the

shareholders
Preference usually pertain to the preference shareholders

claims on dividends and net assets in the event of

liquidation
They have a limited or fixed return on investment

The Corporation Code provides

That the Securities and Exchange
Commission shall not register any
stock corporation unless 25% of its
authorized number of shares of capital
stock has been subscribed, and at least
25% of the subscription has been paid.
However, in no case, shall the paid in
capital be less than P5,000.00.

Subscribed capital stock

Subscribed capital stock is the amount of
the capital stock subscribed, whether fully
paid or not. It connotes an original
subscription contract. Used synonymously
with issued or outstanding capital stock,
as distinguished from CERTIFICATE OF
STOCK, because it can be issued even if
not fully paid.

Subscription receivable
Subscription receivable is the
amount of capital stock subscribed
but not yet paid.

Outstanding capital stock

Outstanding capital stock is the
portion of the capital stock which is
issued and held by persons other
than the corporation itself. It is
broader than subscribed capital
stock.

Paid-up capital stock

Paid-up capital stock is that portion
of the subscribed or outstanding
capital stock that is actually paid. It
is sometimes referred to as actual
capital stock.

Additional paid-in capital

Additional paid-in capital the portion
of the paid-in capital representing
excess over the par or stated value.

Legal capital
Legal capital is the amount equal to the
aggregate par value and/or issued
value of the outstanding capital stock.
Additional paid-in capital is not part of
legal capital.

Application
Suppose Corporation X:
Authorized capital stock is P1,300,000 divided into 5,000
shares of common stock with par value of P200 per share and
3,000 shares of 12% preferred stock with par value of P100.
Loaned P200,000 form ABC bank with 6% interest per annum.
Only 3,500 shares of common stock were fully paid. 500
shares of common stock were subscribed but not paid. The
common stock were issued at P350 per share.

Statement of Financial Position

Corporation X, as of December 31, 20xx
Assets
Cash (note 1)
1,725,000.00
Liabilities & Shareholders Equity
Loans payable (note 2)
200,000.00
800,000.00
Additional Paid-in Capital (3,500 x P150)
525,000.00
Subscription receivable (500 x P200)
(100,000.00)
Preferred stock (note 3)
300,000.00
Total liabilities and shareholders equity 1,725,000.00
Common stock (4,000 x P200)

NOTE 3 would then provide

Authorized capital stock is
P1,300,000 divided into 5,000
shares of common stock with par
value of P200 per share and 3,000
shares of 12% preferred stock with
par value of P100.

What is the paid-up capital?

Common stock (3,500 x P200)
700,000.00
Additional paid-in capital (3,500 x P150)
525,000.00
Preferred stock (3,000 x P100)
100,000.00
Paid-up capital
1,325,000.00

What is the legal capital?

Common stock
Preferred stock
Legal Capital

800,000.00
300,000.00
1,100,000.00

What is the additional paid-in capital?

Additional paid-in capital (3,500 x P150)

525,000.00

What is the subscribed capital stock?

Subscribed capital stock (500 x P200)
P100,000.00

What is the outstanding capital stock?

Outstanding common stock (4,000 x P200)
P800,000.00
Outstanding preferred stock (3,000 x P100)
300,000.00
Outstanding capital stock
1,100,000.00

What is the amount of unissued shares?

Unissued shares (1,000 x P200)

P200,000.00

Can it be sold at lower than par value?

It is prohibited.
Note: the issue itself is NOT void but the AGREEMENT that
the share shall be paid for less than its par value or stated
value is illegal and cannot be enforced. The issue of the
share therefore is not canceled but the shareholder must
pay for the discount. This is called discount liability of the
shareholder.

Note:
the prohibition to issue share at a discount
refers to the original issue of a share but not
to a subsequent transfer of such share by
the corporation. Hence, treasury share may
be sold for less than the par value or stated
value without violating the provision of law.

Retained earnings
Retained earnings represent the cumulative balance
of periodic earnings, dividend distributions,
fundamental errors and other capital adjustments.
Unappropriated/unrestricted retained earnings
represent that portion which is free and can be
declared as dividends to shareholders
Appropriated/restricted retained earnings represent
the retained earnings balance reserved for various
purposes such as plant expansion, etc.

Treasury shares
Treasury shares are the corporations own shares that
have been issued and then reacquired but not cancelled.
Requisites:
The shares must be entitys own shares
The shares must have been issued originally
The shares are reacquired but not cancelled
Note: The corporation can acquire treasury shares only to the
extent of unrestricted retained earnings balance. Otherwise, it
would be a violation to the Trust Fund Doctrine. What cannot be
done directly cannot be done in indirection.

Why?
The Trust Fund Doctrine holds that the share capital of a
corporation is considered as trust fund for the protection of
creditors. Consequently, it is illegal to return such legal
capital to shareholders during the lifetime of the corporation.
(Philippine Trust Co. vs Rivera, L-19761 and Yong vs Tiu,
G.R. 144476)
However, the corporation can pay dividends to shareholders
but limited only to the unrestricted retained earnings balance.
Accordingly, it is illegal to pay dividends if the entity has a
deficit.

Application
Corporation X:
Authorized capital stock = 4,000 shares with
P200 par value
Paid-up capital = 1,200,000.00 (4,000xP300)
Loan = 200,000.00
Bought Inventory = 400,000.00

Corporation Xs balance sheet would be:

Assets
Cash (1,400,000-400,000)
1,000,000.00
Inventory
400,000.00
1,400,000.00
Liabilities & Owners Equity
Loans payable
200,000.00
Capital stock (4,000xP200)
800,000.00
Additional paid-in capital (4,000xP100)
400,000.00
Total Liabilities & Stockholders Equity
1,400,000.00

Suppose Corporation X sold P300,000

worth of Inventories for P500,000
(P300,000 in cash and P200,000 in
receivables) and incurred P50,000
worth of operating expenses paid in
cash. Further, Corporation X decides to
reserve P70,000 for its plant
expansion.

Income Statement would look like this:

Sales
500,000.00
Cost of sales
(300,000.00)
Net Sales
200,000.00
Less: Operating Expenses
50,000.00
Net Income
150,000.00
*The net income will go to your Capital account for sole
proprietorship and partnership while it will go to Retained
Earnings for corporations

Your new balance sheet would be:

Assets
Cash (1,000,000+300,000-50,000) 1,250,000.00
Accounts Receivable
200,000.00
Inventories (400,000-300,000)
100,000.00
Total Assets
1,550,000.00
Liabilities & Owners Equity
Loans payable
200,000.00
Capital stock
800,000.00
Additional paid-in capital
400,000.00
70,000.00
Retained earnings, unrestricted (150,000-70,000)
80,000.00
Total Liabilities & Stockholders Equity
1,550,000.00
Retained earnings, restricted for plant expansion

Suppose the corporation

subsequently buys back
200 shares.

How much can the corporation buy its own shares?

Retained earnings P150,000.00
Restricted for plant expansion (70,000.00)
Unrestricted retained earnings
80,000.00
Hence, the corporation can repurchase its own shares only to the
extent of P80,000.00.
In the present case, it can only purchase its own shares at a
maximum price of P400 per share (P80,000.00/200 shares)
Also, the corporation can issue dividends only up to P80,000.00

What happens when the

corporation buys back 200
shares at P120 per share?

Balance sheet would now look like:

Assets
Cash (1,250,000-24,000)
Accounts Receivable
Inventories
100,000.00
Total Assets 1,526,000.00

1,226,000.00
200,000.00

Liabilities & Owners Equity

Loans payable
200,000.00
Capital stock
800,000.00
Additional paid-in capital
400,000.00
Treasury shares (200xP120)
(24,000.00)
Retained earnings, unrestricted
80,000.00
Retained earnings, restricted for plant expansion
70,000.00
Total Liabilities & Stockholders Equity
1,526,000.00

How much dividends can the corporation give now?

Unrestricted retained earnings 80,000.00
Purchase of treasury shares
(24,000.00)
Available for dividend distribution
56,000.00
Hence, corporation X can declare dividends only up to
P56,000.00 or only P14.74 per share (P56,000/3,800
shares).
*Only 3,800 shares are used because Treasury Stock
are not included in dividend declarations

Suppose corporation X
did declare P56,000 worth
of dividends

Balance sheet would now look like:

Assets
Cash (1,226,000-56,000)
Accounts Receivable
Inventories
100,000.00
Total Assets 1,470,000.00

1,170,000.00
200,000.00

Liabilities & Owners Equity

Loans payable
200,000.00
Capital stock
800,000.00
Additional paid-in capital
400,000.00
Treasury shares
(24,000.00)
Retained earnings, unrestricted (P80,000-56,000)
Retained earnings, restricted for plant expansion

Total Liabilities & Stockholders Equity

24,000.00
70,000.00
1,470,000.00

Thank
you!