RETAINED EARNINGS

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.
- P A P D A
Two kinds of Retained Earnings:

Unappropriated Retained Earnings represent that portion which is free and can be
declared as dividends to shareholders.
Appropriated Retained Earnings represent that portion which has been restricted and
therefore is not available for any dividend declaration.

DIVIDENDS
Dividends are distributions of earnings or capital to the shareholders in proportion to
their shareholdings.
Two Classifications of Dividends:
a. Dividends out of earnings
b. Dividends out of capital

Dividends out of earnings

> Legally, dividends can be declared only from retained earnings.
> If the entity has a deficit, it is illegal to pay dividends or if the entity declares
dividend in excess of the retained earnings balance, the excess is a return of capital and
therefore violates the trust fund doctrine.
Three dates in accounting for dividends:
1. Date of declaration is the date on which the directors authorize the payment of
dividends to shareholders.
*the liability for dividend must be recognized on the date of declaration.

2. Date of record is the date on which the stock and transfer book of the corporation
will be closed for registration.
*Only those shareholders registered as of such date are entitled to receive dividends.
3. Date of payment is the date on which the dividend liability is to be paid.
Illustration
The BOD at their meeting on December 31, 2014 declared a dividend of P5 per share,
payable March 31, 2015, to shareholders of record on January 31, 2015
Date of declaration?
Date of record?
Date of payment?
The dividends out of earnings are usually in the form of the following:
a. Cash dividends
b. Property dividends
c. Liability dividends in the form of bond and scrip
d. Stock dividends or bond issue
Cash Dividends
Cash dividends are the most common type of dividend. Dividends may be expressed as
follows:
a. A certain amount of pesos per share for example, the dividend is P5 per share
b. A certain percent of the par or stated value thus, if a 7% dividend is declared, a
P200 par value share will receive P14 as dividend.
Illustration
The BOD at their meeting on November 30, 2014 declared a dividend of P20 per share,
payable April 30, 2015, to shareholders of record on December 31, 2014. The entity had
20,000 shares issued and outstanding with par value of P100.
Journal entries for:
Date of declaration?
Date of record?
Date of payment?
Property dividends
Property dividends or dividends in kind are distribution of earnings of the entity to the
shareholders in the form of noncash assets.

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There are two accounting issues with respect to property dividends, namely:
1. Measurement of the property dividend payable.
2. Measurement of the noncash asset to be distributed as property dividend.
Measurement of the property dividend payable
IFRIC 17, provides that an entity shall measure a liability to distribute noncash asset as
a dividend to its owners at the fair value of the asset to be distributed.
This simply means that the dividend payable is initially recognized at the fair value of
the noncash asset on date of declaration and is increased or decreased as a result of the
change in fair value of the asset at year end and date of settlement.
Settlement of property dividend payable
IFRIC 17, provides that when an entity settles the dividend payable
CA of the Dividend Payable
- CA of the asset distributed
gain/loss on distribution of property dividend
Measurement of Noncash asset distributed
PFRS 5, provides that an entity shall measure a noncurrent asset classified for
distribution to owners at the lower of carrying amount and fair value less cost to
distribute.
Accordingly, if the fair value less cost to distribute is lower than the carrying amount
of the asset at the end of the reporting period, the difference is accounted for as
impairment loss.
ILLUSTRATION:
>An entity owned 50,000 shares of another entity accounted for as nonmarketable equity
investment. The carrying amount of the investment is P1,000,000.
On December 1, 2014, the entity declared these shares as property dividend to be
distributed on January 31, 2015.
The investment had the following fair value less cost to distribute:
December 1, 2014
1,500,000
December 31, 2014
1,800,000
January 31, 2015
1,900,000
Journal entries
1. To recognize the dividend payable on the date of declaration on December 1, 2014:
2. To recognize the increase in dividend payable at the end of the reporting period on
December 31, 2014:
3. The carrying amount of the investment of P1,000,000 is not adjusted because this is
lower than the fair value of P1,800,000 on December 31, 2014. The investment is
measured on December 31, 2014 at carrying amount.
4. To recognize the increase in dividend payable on the date of settlement on January
31, 2015:
5. To record the settlement of the dividend payable on January 31, 2015.
>On November 1, 2014, an entity declared a property dividend of equipment payable on March
1, 2015. The carrying amount of the equipment is P3,000,000 and the fair value is
P2,500,000 on November 1, 2014.
However, the fair value less cost to distribute the equipment is P2,200,000 on December
31, 2014 and P2,000,000 on March 1, 2015.
Journal entries
1. To recognize the dividend payable on the date of declaration on November 1, 2014:
2. To recognize the decrease in dividend payable at the end of reporting period on
December 31, 2014
3. To measure the equipment on December 31, 2014 at the lower of carrying amount and
fair value less cost to distribute:

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4. To recognize the decrease in dividend payable on the date of settlement on March 1,

2015:
5. To record the settlement of the dividend payable on March 1, 2015:
Choice of either noncash or cash
IFRIC 17, provides that if an entity gives its owners a choice of either a noncash asset
or a cash alternative, the entity shall estimate the dividend payable by considering both
the fair value 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 or retained earnings.

ILLUSTRATION
On December 31, 2014, an entity declared dividends on its ordinary shares payable on March
31, 2015. The entity decided to give the shareholders a choice between a total cash
dividend of P2,000,000 or a property dividend in the form of noncash asset from its
inventory with carrying amount of P2,500,000 and fair value less cost to distribute of
P3,000,000. The entity estimated that 70% of the shareholders will take the option of the
cash dividend and 30% will elect the noncash asset
Journal entries:
a. Declaration of dividend on December 31, 2014 is:
b. If the shareholders have chosen the cash alternative, the payment of dividend on
March 31, 2015 is:
c. If the shareholders have chosen the noncash alternative and the fair value of the
inventory remained unchanged, the payment of dividend on March 31, 2015 is:
d. If the shareholders have chosen the noncash alternative and the fair value of the
inventory is P3,300,000, the payment of dividend on March 31, 2015 is:
Liability dividends
Liability dividends are actually deferred cash dividends.
Such dividends are resorted to by the entity because retained earnings may be sufficient
but cash may be insufficient to cover working capital requirements.
Stock Dividend or Share Dividend
> The IAS term is bonus issue
> Stock dividends are distributions of the earnings of the entity in the form of the
entitys own shares.
> The stock dividends create only a change in the components of the shareholders equity
decrease in retained earnings but increase in share capital
> Stock dividends may be referred to as ordinary stock dividends or special stock
dividends
> Small stock dividend(less than 20%), may account for stock dividend by transferring from
retained earnings to share capital and share premium the fair value on the date of
declaration(or par value or stated value, if higher than fair value)
> Large stock dividend(20% or more), the par or stated value is capitalized
> Stock dividend payable should be classified as
.
Illustration
Share capital, P100 par, 20,000 shares authorized,
10,000 shares issued and outstanding
Share premium
Retained earnings
The entity declared a 20% stock dividend
Journal entry:
a. Declaration of stock dividend
b. Issuance of stock dividend

1,000,000
500,000
500,000

Illustration
Share capital, P100 par, 20,000 shares authorized,
10,000 shares issued
1,000,000
Share premium
500,000
Retained earnings
750,000
If a 10% stock dividend is declared and the market value of the share is P150, the journal
entries for the declaration and issuance are as follows:

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DO IT ON YOUR OWN!!
Misamis Company had the following shareholders equity on January 1, 2013:
Preference share capital, P100 par, 10% cumulative
P2,000,000
Ordinary share capital, no par, P5 stated value
5,150,000
Share premium
3,500,000
Retained earnings
4,000,000
Treasury ordinary shares
400,000
> On January 15, 2013, the entity formally retired all the 30,000 treasury shares. The
treasury shares were acquired in January 2012. The shares were originally issued at P10
per share.
> The entity owned 10,000 shares of Digos Company purchased in 2012 for P800,000. The
Digos shares were included in noncurrent equity securities. On December 31, 2013, the
entity declared a dividend in kind of one share of Digos for every hundred ordinary shares
held by a shareholder. The fair value of Digos share is P90 on December 31, 2013. The
dividend in kind was distributed on March 15, 2014 when the fair value of Digos share is
P100.
> On December 31, 2013, the entity declared the yearly cash dividend on preference share,
payable on January 15, 2014.
> on January 15, 2014, before the accounting records were closed for 2013, the entity
became aware that rent income for the year ended December 31, 2012 was overstated by
P1,000,000. The after tax effect on 2012 net income was P700,000. After correcting the
rent income, net income for 2013 was P3,000,000.
What amount should be reported as retained earnings on December 31, 2013?
a. 5,000,000
b. 5,200,000
c. P5,100,000
d. 4,800,000

DO IT ON YOUR OWN!!
Wood Inc. is a public enterprise whose shares are traded in the over the counter market.
At December 31, 2007, Wood had 6,000,000 authorized shares of P10 par value ordinary
shares, of which 2,000,000 shares were issued and outstanding. The shareholders equity
accounts at December 31, 2006, had the following balances:
Ordinary shares
P20,000,000
APIC
7,500,000
Accumulated profit
6,500,000
Transactions during 2007 and other information relating to the shareholders equity
accounts were as follows:
* On January 5, 2007, Wood issued at P54 per share, 100,000 shares of P50 par value, 9%
cumulative convertible preference shares. Each share of preference share is convertible,
at the option of the holder, into two shares of ordinary shares. Wood had 600,000
authorized shares of preference shares. The preference share has a liquidation value equal
to its par value.
* On February 1, 2007, Wood reacquired 20,000 shares of its ordinary shares for P16 per
share.
* On April 30, 2007, Wood sold 500,000 shares (previously unissued) of P10 par value
ordinary shares to the public at P17 per share.
* On June 18, 2007, Wood declared a cash dividend of P1 per share of ordinary share,
payable on July 12, 2007, to shareholders of record on July 1, 2007.
* On November 10, 2007, Wood sold 10,000 shares of treasury shares for P21 per share.
* On December 14, 2007, Wood declared the yearly cash dividend on preference share,
payable on January 14, 2008, to shareholders of record on December 31, 2007.
* On January 20, 2008, before the books were closed for 2007, Wood became aware that the
ending balance of inventories at December 31, 2006 were understated by 300,000 (after tax
effect on 2006 net income was P180,000). The appropriated correction entry was recorded
the same day.
* After correcting the beginning inventory, net income for 2007 was P4,500,000.
From the information provided above, determine the adjusted balance of the following
stockholders equity accounts:
1. Accumulated profits beginning (as restated)
a. 6,620,000
b. 6,800,000
c. 6,580,000
d. 6,680,000
2. Accumulated profits ending, Unappropriated
a. 8,100,000
b. 8,250,000
c. 8,090,000
d. 7,990,000
3. Total contributed capital
a. 41,450,000
b. 41,610,000
c. 41,400,000
d. 41,000,000
4. Treasury stock
a. 320,000
b. 160,000
c. 210,000
d. 110,000
5. Total shareholders equity
a. 49,700,000
b. 49,650,000
c. 49,540,000
d. 49,380,000

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Dividends out of capital

> When capital is returned to shareholders, it is known as dividend out of capital or
liquidating dividend
> As a rule, liquidating dividends are paid to the shareholders when the entity is
dissolved and liquidated. During the lifetime of the entity, it is illegal to return
capital to the shareholders.
the

*This legal prohibition on the payment of liquidating dividends is in conformance with

.

> Exception to the rule:

may declare dividends which are in part
distribution of earnings and in part distribution of capital.

*This rule is in conformity with the

which holds that a wasting asset entity can
declare dividends not only to the extent of the retained earnings balance but also to the extent of
the accumulated depletion balance

Illustration
The following accounts appear in the statement of financial position of a wasting asset
entity at year end:
Resource property
10,000,000
Accumulated depletion
2,000,000
Retained earnings
3,000,000
The maximum dividends that may be declared would be P5,000,000. If the maximum amount is
declared, the journal entry is:

*Note that any amount declared in excess of the retained earnings balance is treated as liquidating
dividends and charged to the capital liquidated account which is a deduction from the total
shareholders equity.

Appropriation of retained earnings

In the absence of evidence to the contrary, all the retained earnings of an entity can be
declared as dividends.
In order to limit or restrict the payment of dividends, the entity may transfer a portion
of the retained earnings unappropriated to retained earnings appropriated.
The appropriation of retained earnings may be described as follows:
a. Legal appropriation
b. Contractual appropriation
c. Voluntary or discretionary appropriation
Quasi-reorganization
> A 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.
> A quasi-reorganization is the procedure of restating assets, liabilities and share
capital balances in conformity with fair value for the purpose of eliminating a deficit.
Quasi-reorganization is also called corporate readjustment and may be accomplished thru:
1. Recapitalization
2. Revaluation of property, plant and equipment
Circumstances that may justify quasi-reorganization
a.
b.
c.
d.
Illustration thru recapitalization
An entity provided the following statement of financial position on December 31, 2014
prior to quasi-reorganization:
Current assets
1,000,000
Property, plant and equipment
7,500,000
Accumulated depreciation
(1,000,000)
6,500,000
7,500,000
Liabilities
Share capital, P100 par, 50,000 shares
Retained earnings (deficit)

4,500,000
5,000,000
(2,000,000)
7,500,000

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On December 31, 2014, the shareholders and creditors agreed to a quasi-reorganization.

Accordingly, the following restatements should be made:
a. The property, plant and equipment shall be recorded at the fair value of P6,000,000
b. The inventory is overvalued to the extent of P250,000 and shall be revalued
accordingly.
c. The share capital is reduced to P2,000,000, 20,000 shares, P100 par value.
d. The resulting deficit is charged to the share premium arising from the
reorganization.
ADJUSTEMNTS:
a.
b.
c.
d.
Illustration thru revaluation
An entity has sustained heavy losses over a period of time and conditions warrant that the
entity undergo a quasi-reorganization on December 31, 2014.
The statement of financial position on December 31, 2014 prior to the reorganization is:
Current assets
P1,000,000
Property, plant and equipment
5,000,000
Accumulated depreciation
(1,500,000)
3,500,000
Goodwill
100,000
Total assets
4,600,000
Current liabilities
Share capital, P100 par
Share premium
Retained earnings

1,100,000
5,000,000
500,000
(2,000,000)
4,600,000

The SEC approved the quasi-reorganization on the basis of the unrealistic valuation of
PPE.
Accordingly, the SEC recommended that the property, plant and equipment be revalued by an
independent expert.
1.
2.
3.
4.
5.

The PPE are determined to have replacement cost of P9,000,000

The inventory is to be written down by P400,000
The goodwill is to be written off
Unrecorded accounts payable amounted to P200,000
Any resulting deficit is charged against the revaluation surplus

ADJUSTMENTS:

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