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Financial Statements of Limited
companies
ACCN 2 – Financial and Management
Accounting
Mr. Barry
A-level Accounting Year 12
Lesson 1
• Introduction to limited companies (Unit 2)
Types of limited companies
Different types of shares
Debentures
Revaluation Reserves
Share Premium
Dividends
Mr. Barry
A-level Accounting Year 12
Limited Liability companies
In this topic you will learn:
• Key terms and features of limited company
accounts
• How to prepare the profit and loss account inc
appropriation account.
• How to prepare a balance sheet of a limited
company that takes into account current
liabilities such as corporation tax, final proposed
dividends, debenture interest due, non current
liabilities and details of shares and reserves.
Mr. Barry
A-level Accounting Year 12
Introduction – Limited liability
The main disadvantages of being a sole trader are:
• That liability is not limited to the amount of money
invested by the owner. This means that if the business fails
and creditors cannot be paid from the proceeds raised from
the sale of business assets then the proprietor must
provide further finance from his or her private assets. This
could mean that the business failure could result in a Sole
Trader losing both his or her business assets and some, if
not all, of his or her personal assets;
• That generally the amount of money that one person can
afford to invest in a business is comparatively small.
Mr. Barry
A-level Accounting Year 12
Types of limited liability company
There are 2 types of limited company:
Private Limited Companies
– There are far more LTD Co’s than PLCs
– LTD cannot offer shares to the general public
– They can’t be listed on the stock exchange
– They are often run by a family or group of friends and
the business name must end with the letters LTD
Mr. Barry
A-level Accounting Year 12
Types of limited liability company
•
•
•
•
•
•
PUBLIC LIMITED COMPANY
Public limited Companies share capital must be more than
£50,000
They must produce more detailed accounts than LTDs
They can raise capital from the general public
They generally find it easier to raise capital than LTDs –
since members are likely to view them as less risky than
LTDs – this might also result in a lower rate of interest being
charged by lenders of finance
Companies that issue their shares through the stock
exchange are referred to as quoted or listed Companies.
The name of a PLC must end with PLC !!
Mr. Barry
A-level Accounting Year 12
Limited liability status
ADVANTAGES OF LIMITED LIABILITY STATUS
• Limited liability status for shareholders
• Larger amounts of capital can be raised by directors for use
within the company
•
•
•
•
•
DISADVANTAGES OF LIMITED LIABILITY STATUS
Annual accounts must be audited
Directors must complete an annual return and file their
accounts with the Registrar of Companies
The filed accounts may be inspected by the public
Copies of the Companies annual audited accounts must be
sent to each shareholder and debenture holder
All these disadvantages involve extra expenditure
Mr. Barry
A-level Accounting Year 12
Types of shares
When a limited company is incorporated it raises capital so that it can
purchase the fixed assets necessary to enable it to conduct its business. It
raises capital through the issue of shares. In the balance sheet this total is
called the SHARE CAPITAL.
There are 2 main types of shares issued by a limited company:
PREFERENCE SHARES
• Preference shareholders receive a fixed dividend which is expressed as a
% of the nominal value of the share. E.g. 7% preference share of £1 each;
8% preference shares of 50p each.
• This dividend can only be paid if the company earns sufficient profits, but
preference shareholders DO receive their dividend before the ordinary
shareholders receive theirs.
• In the event of a company going into liquidation the preference
shareholders are entitled to receive the nominal value of their shares
before the ordinary shareholders are repaid.
Mr. Barry
A-level Accounting Year 12
Types of shares
• Nominal Value is the face value or par value of a share, for example the
nominal value of ordinary shares in Matalan plc is 10p while the nominal
value of ordinary shares in Whitbread plc is 50p
Shares are the equal parts into which a company’s capital is divided
ORDINARY SHARES (equity shares)
These are the most common type of share.
• The ordinary shareholders are the owners of the business and as such
have voting rights. This means that the have control of the company.
They appoint and dismiss directors.
• They also decide whether the dividend proposed by the directors is
appropriate
• All the profits remaining after preference share dividend belong to the
ordinary shareholders – although only the part of the profits not
retained to expand or replace fixed assets will be paid to them as
dividend.
Mr. Barry
A-level Accounting Year 12
Types of Share Capital
A. Preference Shares
Preference shareholders are entitled to fixed % of dividends before any ordinary
dividends are paid.
No voting rights.
I) Cumulative preference shares
Any unpaid dividends on cumulative preference shares can be carried forward
to a later year.
II) Non-cumulative preference shares
the unpaid dividends cannot be carried forward to later years.
B. Ordinary Shares
- The dividends of ordinary shares are not fixed. They depend on the return of
the company.
- Ordinary shareholders are paid only after all other claims have been met.
- Ordinary shareholders usually have voting rights.
Mr. Barry
A-level Accounting Year 12
Example: Cumulative preference shares
Net Profit / (Loss) for the year before
appropriations
Year 1
£
Year 2
£
Year 3
£
(1,000)
(2,000) 50,000
5,000 10% Cumulative Preference
Shares of £1 each
Dividend
Mr. Barry
Nil
A-level Accounting Year 12
Nil
1,500
Example: Non-cumulative preference shares
Net Profit / (Loss) for the year before
appropriations
Year 1
£
Year 2
£
Year 3
£
(1,000)
(2,000)
50,000
Nil
500
5,000 10% Cumulative Preference
Shares of £1 each
Dividend
Mr. Barry
Nil
A-level Accounting Year 12
Mr. Barry
A-level Accounting Year 12
Types of shares
Issued share capital – shows the actual number of
each type of share that the company has issued to
its shareholders. It cannot exceed the authorised
share capital.
Mr. Barry
A-level Accounting Year 12
Worked example
Spud McMurphy Ltd Balance Sheet as at 30 Nov 2005
£
NON CURRENT ASSETS
Premises at cost
Machinery at cost
Vehicles at cost
CURRENT ASSETS
Stock
Bank
30,000
70,000
Issued Share Capital
500,000 Ordinary shares of £1 each
400,000 6% Preference shares of 50p each
Mr. Barry
A-level Accounting Year 12
£
400,000
120,000
80,000
600,000
100,000
700,000
500,000
200,000
700,000
Activity
QUESTION
The following info is given for Arbes Ltd as at 30 April
2011:
issued share capital 300,000 ordinary shares at 50p
each; machinery at costs £80,000; vehicle at cost
£40,000; stock £25,000; trade debtors (receivables)
£15,000; bank balance £1,000, trade creditors
(payables) £11,000
REQUIRED: Prepare a Balance sheet as at 30 April 2011
Mr. Barry
A-level Accounting Year 12
Debentures / Loans
Debentures
• Many limited companies raise additional capital by issuing
debentures. These are long term loans to the company.
• A debenture is the legal document issued by the company
that is managing the debt. Debentures are generally
secured against the company’s assets. The security may be
fixed, that is it related to a specific asset or group of assets,
or it may be a floating charge where no specific assets are
identified.
• Like all forms of borrowing, the debt has to be serviced and
the interest due will usually be paid half yearly. The interest
that the company pays to the holders of the debentures,
like all interest payable, is a charge against profits and
appears as an expense on the Income statement.
Mr. Barry
A-level Accounting Year 12
Debentures / Loans
NOTE
• Debenture interest is NOT an appropriation of profits. It
must be paid whether the company are profitable or not.
• An issue of debentures will have the following effect on the
balance sheet:
• Increase bank balance
• Increase Debenture account in Non-current Liabilities
• Debentures are NOT part of share capital. Debenture
holders are NOT shareholders (equity). We show debenture
holders under the title Non-current liabilities
Mr. Barry
A-level Accounting Year 12
Redemption of a debenture
• The company has decided to pay back the debenture
in one lump sum as agreed at the issue date
• Decrease bank balance
• Decrease Debenture account in Non-current
Liabilities
• **Please note the difference between issuing
a debenture and redeeming a debenture
Mr. Barry
A-level Accounting Year 12
Debentures / Loans
Here is an example of a balance sheet including debentures.
ToddCo Plc
Summarised Balance Sheet as at 30th Sept 2006
£
NCA at Cost
Current Assets
150,000
Current Liabilities
(60,000)
Net Current Assets
Non-current liabilities
7% debentures (2035)
£
750,000
90,000
840,000
(200,000)
640,000
Debentures should be shown in the BS with all their details e.g. 7% debentures
(2035), means the interest to be paid to the lenders is 7% per year. The 2035
stands for the date the Co will redeem the debentures.
Mr. Barry
A-level Accounting Year 12
Revaluation Reserves
• Many Limited Companies revalue some of their assets to reflect an
increase in the value of those assets and to ensure that the
balance sheet reflects the permanent change in the value of the
assets and therefore the capital structure of the business
(remember the accounting equation?)
• Generally, the only assets to be re-valued upwards are land and
buildings (only under IAS 16)
• Why do companies revalue their assets while sole traders do not?
• The increase in the value of the Non-current assets is matched
with an increase in reserves. The revaluation reserve is capital
reserve and is not therefore available for dividend purposes.
Mr. Barry
A-level Accounting Year 12
Revaluation Reserves
• The creation of a revaluation reserve clearly
illustrates the earlier point about reserves not
being cash put aside for the use in the future
• I purchased a flat for £150,000 and I am confident
that I will sell it for 200,000. the increase in value
can’t be used to buy a new car or luxury holiday.
It is not cash – it is unrealised profit.
Mr. Barry
A-level Accounting Year 12
Revaluation Reserves
WORKED EXAMPLE
The summarised balance sheet of Pox plc as at 30th June 2011 shows:
£
Non-current Assets at cost
LESS Accumulated Depreciation
Current Assets
Bank Balance
Current Liabilities
£
400,000
50,000
350,000
99,000
1,000
100,000
40,000
Share Capital and Reserves
Ordinary shares of 25p each
Income Statement
60,000
410,000
400,000
10,000
410,000
The Non-current assets are revalued at £600,000 on 1st July 2011
REQUIRED: Prepare the balance sheet of Pox plc as at 1 July 2011 after the assets have been re-valued.
Mr. Barry
A-level Accounting Year 12
Revaluation Reserves
ANSWER
The summarised Balance sheet of Pox Ltd as at 1st July 2011 is shown:
£
£
Non-current Assets at cost
600,000
Current Assets
99,000
Bank Balance
1,000
100,000
Current Liabilities
40,000
60,000
660,000
Share Capital and Reserves
Ordinary shares of 25p each
400,000
Revaluation account
250,000
Income Statement
10,000
660,000
Mr. Barry
A-level Accounting Year 12
Revaluation Reserves - question
Question x
The summarised Balance Sheet of Orm Ltd as at 31 October 2010 is shown:
£
Non-current Assets at cost
Current Assets
40,000
Bank Balance
8,000
48,000
Current Liabilities
36,000
Share Capital and Reserves
Ordinary shares of 10p each
Income Statement
£
250,000
12,000
262,000
200,000
62,000
262,000
The Non-current assets are revalued at £400,000 on 1st November 2010
Prepare the balance sheet as at 1st November 2010, after the assets have been revalued.
Mr. Barry
A-level Accounting Year 12
Share premium
Once a company is established the value of its
ordinary shares will vary (on the stock market). For
example, if the original par / nominal value of
share was £1 its value will increase as the company
builds up undistributed profits.
If the company makes a fresh issue of shares it is
permitted (by law) to offer these at a price excess
of the nominal (par) value of the shares. The
EXTRA is called the ‘share premium’
Mr. Barry
A-level Accounting Year 12
Share premium
The ‘share premium’ is a reserve. On a company’s
balance sheet it should be placed under the
heading RESERVES and be the first in the list.
The share premium is known as a ‘capital reserve’.
This technical term implies that the reserve did not
arise from normal trading activities. The Companies
Act forbid capital reserves to be used to finance
cash dividends for shareholders.
Mr. Barry
A-level Accounting Year 12
Share premium
• Share premium account is credited when a company issues
shares at a price that is greater than the nominal value of
the shares. For example:
• A Todd Co Plc sold 5000 ordinary shares of £1 each at a
market value of £1.50 and then also sold 2 million shares
with a nominal value of 50p for a market price of 80p.
Then Todd Co plc would observe the following:
£
Ordinary Share
Capital Account
5000 £1 ordinary shares
5,000
2million 50p ordinary share 1,000,000
Mr. Barry
£
Share Premium
Account
2,500
600,00
A-level Accounting Year 12
£
Finance
Raised
7,500
1,600,000
Share premium
• Therefore as shares are each given a NOMINAL value,
e.g. a value at which they are worth as part of the
company ownership. However because the stock
market buyers may be willing to pay a higher price
than this, the company can increase the selling price
above the shares value, therefore known as Nominal
Value plus Share Premium.
• If you sell shares through a stock broker at a higher
price than you paid for them this will not give rise to
a share premium account. This is a private
transaction and is not recorded in the company
books of account.
Mr. Barry
A-level Accounting Year 12
Share premium
WORKED EXAMPLE
Summarised balance Sheet as at 31st December 2010 of Sweat plc
£
Non-current Assets at cost
Current Assets
74,000
Bank Balance
6,000
80,000
Current Liabilities
30,000
Share Capital and Reserves
Ordinary shares of £1 each
Income Statement
£
400,000
50,000
450,000
350,000
100,000
450,000
On 31st January 2011 the company issues a further 200,000 ordinary shares of £1 each at a
price of £1.30 each.
REQUIRED: Prepare a summarised Balance Sheet as at 31 January 2011 for Sweat plc as it
would appear immediately after the share issue.
Mr. Barry
A-level Accounting Year 12
ANSWER
Share premium
Sweat plc summarised Balance Sheet as at 31 January 2011
£
£
Non-current Assets at cost
400,000
Current Assets
74,000
Bank Balance
(6000 + 260,000)
266,000
340,000
Current Liabilities
30,000
310,000
710,000
Share Capital and Reserves
Ordinary shares of £1 each (350,000 + 200,000)
Share Premium account
Income Statement
Mr. Barry
A-level Accounting Year 12
550,000
60,000
100,000
710,000
Interim dividends
• The directors of a limited company can pay dividends mid
year. These dividends are called interim dividends. If this
happens preference shareholders will receive half of their
fixed dividend and ordinary shareholders will receive a
dividend agreed by the directors.
• At the year end all the dividends, including interim
dividends, must be shown in the appropriation account.
• However, because the interim dividends will already have
been paid they will not appear as a current liability on the
balance sheet.
Mr. Barry
A-level Accounting Year 12
Interim dividends
Activity
The directors of a limited company have agreed the
payment of an interim dividend of 3p (£0.03) per share
to the company’s ordinary shareholders. Currently the
company has an issued ordinary share capital of
£400,000 consisting of 50p (£0.50) ordinary shares.
a) Calculate the total amount of the interim dividend to
be paid to ordinary shareholders
b) Explain whether or not the interim dividend will
appear on the company’s balance sheet prepared at
the end of the financial year.
Mr. Barry
A-level Accounting Year 12
Lesson 2
• Introduction to limited companies (Unit 2)
Rights Issue
Bonus Issue
Statement of changes of equity
Mr. Barry
A-level Accounting Year 12
A rights issue of Shares
• This is an issue of shares by a company designed
to raise cash
Potential problems are as follows:
1. No guarantee that the share issue will prove
attractive to investors
2. Share issues are expensive because they can
involve the use of specialist financial
institutions to manage the issue
Mr. Barry
A-level Accounting Year 12
A rights issue of Shares
• What items will be affected?
1. Cash and cash equivalents will increase by
the total cash raised by the issue
2. Issued shares will increase by the face value
of shares
3. Share premium will increase will the
additional amount raised by the share issue
above the face value of the shares
Mr. Barry
A-level Accounting Year 12
Example 1.
• The directors of Harriton Ltd. Made a rights issue
of ordinary shares at 3 shares for every 5 shares
currently held. Their shares were offered at a
price of £1.80 each. The rights issue was fully
subscribed.
Extract from trial balance
£
£
Bank
45,000
3m ordinary shares of £1 each
3,000,000
Share premium
600,000
Mr. Barry
A-level Accounting Year 12
Solution
Workings (rights issue) (figures in £000s)
Issued shares: 3 for 5 shares offered 3/5 x 3,000
shares = 1,800 shares of £1 each
Share premium: 1,800 x 80p premium = £1,440
Cash received: 1,800 x £1.80 = £3,240
How will these affect the figures in the balance
sheet?
Mr. Barry
A-level Accounting Year 12
A bonus issue of shares
• A bonus issue occurs when the directors of a
company decide to change the structure of
the company’s financial position
• It increases share capital but there is no cash
involved, instead it reduces reserves
DEBIT Reserves (share premium, revaluation
reserves or retained earnings)
CREDIT Share Capital
Mr. Barry
A-level Accounting Year 12
Example 1.
Company
Current issued
capital
Face value of
shares
Scale of bonus
(No. of bonus)
Bonus shares
issued
P plc
£12m
£1
1 for 4
?
Q plc
3.6m
25p
1 for 5
?
Mr. Barry
A-level Accounting Year 12
June 2014 Question
Complete the relevant entries
in the books of account for:
1. Rights Issue on the 1 April
2. Final Dividend on 30 April
Mr. Barry
A-level Accounting Year 12
Statement of changes in equity
JUNE 2014 TASK 2
Mr. Barry
A-level Accounting Year 12