Professional Development Programme on Enriching Knowledge of the
Business, Accounting and Financial Studies (BAFS) Curriculum
Course 1 : Contemporary Perspectives on Accounting
Unit 3 : Financial Statements Preparation 2
Technology Education Section, Curriculum Development Institute
Education Bureau, HKSARG
August 2008
1
Learning Objectives
On completion of this unit, you should be able to:
• Understand the characteristics of limited companies.
• Understand different kinds of non-current liabilities for
company finance, including debentures.
• Distinguish between “ordinary shares” and
“ preference shares”.
• Distinguish between “reserves” and “provisions”.
• Prepare properly presented income statement and
balance sheet for a limited company.
2
Organisation of Unit 3
Financial Statements Preparation 2
Company in Hong Kong
Accounting Issues
Characteristics of Limited
Company
Limited by guarantee
Company Finance
- Bank loan
- Debenture
Limited by shares
Company limited by shares and
guarantee
Separate legal personality
Unlimited but with share capital
Confidentiality
Limitation on members’ liability
Formality and compliance cost
Continuity
Share Capital
- Ordinary
- Preference
Reserves vs
Provisions
Business registration
Financial statements
Exercise - Company Financial Statements
3
Characteristics of Limited
Companies
(1)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Listed Company
Unlisted
Company
Under Section 14 of the Companies Ordinance, a company may be formed
with its members’ liability being limited or unlimited.
4
Characteristics of Limited
Companies
(2)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Unlisted
Company
Listed Company
Limited companies1 2 are formed so that their members’ (or shareholders’)
liability is limited to the amount paid up (or agreed to be paid up).
1 “Limited company” (or “limited liability company”) means that the liability of its members is
limited, but not the liability of the company is limited.
2 Since 13 February 2004, the required minimum number of members has been reduced from
5 two to one.
Characteristics of Limited
Companies
(3)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Listed Company
Unlisted
Company
Companies limited by guarantee do not issue shares and are formed so that
their members’ liability is limited by a specific amount. Each member
undertakes or guarantees to pay in the event of the company experiencing
financial difficulties when being wound up.
6
Characteristics of Limited
Companies
(4)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Unlisted
Company
Listed Company
Companies limited by shares issue shares and are formed so that their
members’ liability is limited to the amount of shares paid up.
7
Characteristics of Limited
Companies
(5)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Listed Company
Unlisted
Company
Under Section 29 of the Companies Ordinance, a private company is a
company formed under the Companies Ordinance whose Article of Association:
- restricts the right of members to transfer shares;
- limits the number of the members to 50; and
- prohibits the company from inviting the public to subscribe its shares.
8
Characteristics of Limited
Companies
(6)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Unlisted
Company
Listed Company
A public company, which may be listed or unlisted, is a company formed
under the Companies Ordinance but not falling into the definition of private
company under Section 29 of the Companies Ordinance .
9
Characteristics of Limited
Companies
(7)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Listed Company
Unlisted
Company
Companies limited by shares and guarantee combine the characteristics of
companies limited by guarantee and companies limited by shares. Since 13
February 2004, companies limited by shares and guarantee are no longer
allowed to be formed.
10
Characteristics of Limited
Companies
(8)
Company
Limited by Guarantee
Limited by Shares
and Guarantee
Limited by Shares
Private Company
Unlimited but with
Share Capital
Public Company
Unlisted
Company
Listed Company
Unlimited companies may be formed under the Company Ordinance with
share capital. However, this type of company is rarely found in Hong Kong
because of the unlimited liability imposed on members.
11
Characteristics of Limited
Companies
(9)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Limitation
on Members’
Liability
Company
Confidentiality
Continuity
Formality &
Compliance
Cost
Generally, a company is formed with the above characteristics.
12
Characteristics of Limited
Companies
(10)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Confidentiality
Continuity
13
Limitation
on Members’
Liability
Formality &
Compliance
Cost
Separate Legal Personality
A company is a legal person separated from the individuals who ultimately own
the company (ie shareholders, members or owners). The company is not a
natural person and, therefore, can only act through natural persons, like
directors.
Characteristics of Limited
Companies
(11)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Separate Legal Personality
Like a person, a company owns independent capacity 1 to:
- enter into business relationships and other legally binding obligations;
- sue; and
- be sued,
until its existence is terminated through a winding up.
14
Characteristics of Limited
Companies
(12)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Separate Legal Personality
1 The capacity and obligation of a company is entirely independent from the members of the company, under
Section 16 of the Companies Ordinance, unless, in exceptional circumstance, the corporate veil is pierced
for following grounds:
- the company is a mere façade concealing the truth (Trustor AB v Smallbone);
- the company is owned by nationals of an enemy country (Daimler Co Ltd v Continental Tyre & Rubber
Co (GB) Ltd);
15
Characteristics of Limited
Companies
(13)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Separate Legal Personality
1 The capacity and obligation of a company is entirely independent from the members of the company, under
Section 16 of the Companies Ordinance, unless, in exceptional circumstance, the corporate veil is pierced
for following grounds:
- the company is used deliberately to evade legal obligations (Gilford Motor Co Ltd v Horne); and
- the company is used to conceal criminal activities or their proceeds (HKSAR v Leung Yat Ming).
16
Characteristics of Limited
Companies
(14)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Limitation of members’ liability (except unlimited companies)
Liability of members of a company, other than an unlimited company, is limited
to the amount which has been agreed as the paid up value of the shares.
17
Characteristics of Limited
Companies
(15)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Confidentiality
Financial statements of limited companies must be audited annually and
publicised1. In addition, particulars of the company and company officers, like
details of directors, secretary and assets secured to others, must be kept
updated with the Companies Registrar.
1
18
Private limited companies are exempted by the Companies Ordinance from publicising the audited financial
statements.
Characteristics of Limited
Companies
(16)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
The incorporation and maintenance of a company need to comply with the
most regulations and bear the highest compliance cost, compared with sole
proprietors and partnerships.
19
Characteristics of Limited
Companies
(17)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
Limited companies are required to be incorporated with complying particular
requirements, like:
- the company name must include “Limited”, in English, and “有限公司” in
Chinese, unless dispensed by the Companies Registrar in rare situation;
20
Characteristics of Limited
Companies
(18)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
- preparation and registration1 of company’s constitution, which comprises
Memorandum of Association and Articles of Association; and
- paying initial registration fees.
1 The
registration is optional to companies limited by shares.
21
Characteristics of Limited
Companies
(19)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
Limited companies are required to comply with a range of statutory
requirements after incorporation, like:
- appointing directors and secretaries;
- holding directors’ meeting;
22
Characteristics of Limited
Companies
(20)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
- holding annual members’ meeting;
- preparing financial statements which comply with the requirements of the
Companies Ordinance and HKFRS;
- appointing auditors to audit their annual financial statements;
23
Characteristics of Limited
Companies
(21)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Formality and Compliance Cost
- preparing and filing details of the companies and the companies officers to
the Companies Registrar; and
- paying annual registration fees.
24
Characteristics of Limited
Companies
(22)
Financial
Statements
Separate
Legal
Personality
Company
Business
Registration
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Continuity
The feature of separate legal personality of companies allows a company to
continue its business when a member departs or dies.
25
Characteristics of Limited
Companies
(23)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Liability
Confidentiality
Formality &
Compliance
Cost
Business Registration
Like proprietors and partnerships, companies are required to register1
particulars with the Inland Revenue Department (IRD) in addition to the
registration with the Companies Registrar, whether the company commences
its business or not.
1 The
26
registration with the IRD is to be filed within one month of registration with the Companies Registrar.
Characteristics of Limited
Companies
(24)
Financial
Statements
Separate
Legal
Personality
Limitation
on Members’
Liability
Company
Business
Registration
Continuity
Confidentiality
Formality &
Compliance
Cost
Financial Statements
There are some items specifically found in the financial statements of a
company, but not in the financial statements of a proprietorship or a
partnership, like: “Debenture”, “Ordinary Shares1”, “Preference Shares1” and
“Share Premium1”.
We will go through these items one by one.
1 Except
for companies limited by guarantee.
27
Characteristics of Limited
Companies
(25)
Sole Proprietor
Partnership
Limited Company
Separate Legal Personality
No
No
Yes
Limitation on Members’
Liability
No
No
(except limited
partnership)
Yes
(except unlimited
company)
Confidentiality
High
High
Low
Formality & Compliance
Cost
Low
Low
High
Continuity
Short
Medium
Long
Business Registration
Require
Require
Require
(plus registration at
Companies Registrar)
Financial Statements
Require
Require
Require
In summary, a comparison of the characteristics among sole proprietor,
partnership and limited company are presented as above.
28
Company Finance
(1)
ABC Company Limited
Balance Sheet (Extract) as at 31 December 2007
$
:
Non-current liabilities
Bank loan
Debenture
:
:
500,000
200,000
750,000
In the non-current liabilities section of a company’s balance sheet, we usually
find bank loan and debenture.
These items represent the non-current portion of borrowings from banks and
other lenders.
29
Whatever they are called, their accounting treatments are more or less the
same.
Company Finance
(2)
GENERAL JOURNAL
Date
Account Titles and Narrative
Dr $
Cr $
In journalising
transactions, we need
to fill in the General
Journal.
Example:
On 1 Jan 2007, the company borrows $500,000 from bank (repayable after one
year) and issues debenture of $200,000 (repayable after one year) at par, the
bookkeeper is required to:
1. journalise the transactions;
30
Company Finance
(3)
GENERAL JOURNAL
Date
2007
Jan 1
Account Titles and Narrative
Dr $
Cr $
First, fill in the
date of
transaction.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
31
Company Finance
(4)
GENERAL JOURNAL
Date
Account Titles and Narrative
2007
Jan 1 Cash
Bank loan
Dr $
Cr $
Fill in the items
involved.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
32
Company Finance
(5)
GENERAL JOURNAL
Date
Account Titles and Narrative
Dr $
2007
Jan 1 Cash
Bank loan
To record the loan borrowed from the bank.
Cr $
Fill in details of
the transaction.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
33
Company Finance
(6)
GENERAL JOURNAL
Date
Account Titles and Narrative
Dr $
Cr $
2007
Jan 1 Cash
500,000
Bank loan
500,000
To record the loan borrowed from the bank.
34
+
-
Asset – Cash
Dr
Cr
Liability – Bank loan
Cr
Dr
Equity
Cr
Dr
Revenue
Cr
Dr
Expense
Dr
Cr
We use:
- “Debit” (Dr) to represent
the increase of the
balance of cash; and
- “Credit” (Cr) to represent
the increase of the
balance of bank loan.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
Company Finance
(7)
GENERAL JOURNAL
Date
Account Titles and Narrative
Dr $
Cr $
2007
Jan 1 Cash
500,000
Bank loan
500,000
To record the loan borrowed from the bank.
Jan 1 Cash
200,000
Debenture
200,000
To record the debenture issued at par.
Similarly, we journalise
the transaction
concerning debenture
issuance.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
35
Company Finance
ASSET
Debit
(+)
Credit
(-)
REVENUE
Debit
Credit
(-)
(+)
(8)
LIABILITY
Debit
Credit
(-)
(+)
OWNERS' EQUITY
Debit
Credit
(-)
(+)
EXPENSE
Debit
Credit
(+)
(-)
Choose appropriate types of ledger accounts
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
36
Company Finance
(9)
Cash
Debit (+)
1 Jan 07 Bank loan $500,000
Credit (-)
Bank Loan
Debit (-)
Credit (+)
1 Jan 07 Cash
$500,000
Post the journal entries
to related ledger
account one by one.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
37
Company Finance
(10)
Cash
Debit (+)
1 Jan 07 Bank loan $500,000
1 Jan 07 Debenture $200,000
Credit (-)
Bank Loan
Debit (-)
Credit (+)
1 Jan 07 Cash
$500,000
Debenture
Debit (-)
Credit (+)
1 Jan 07 Cash
$200,000
Post the journal
entries to related
ledger account one
by one.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
38
Company Finance
(11)
Cash
Debit (+)
1 Jan 07 Bank loan $500,000
1 Jan 07 Debenture $200,000
$700,000
Credit (-)
Bank Loan
Debit (-)
Credit (+)
1 Jan 07 Cash
$500,000 Compute the balance
$500,000 of the ledger accounts
Debenture
Debit (-)
39
Credit (+)
1 Jan 07 Cash
$200,000
$200,000
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
Company Finance
(12)
Trial Balance (Extract) as at 31 December 2007
Dr $
Cr $
:
:
:
:
:
:
:
:
:
Bank loan
500,000
Debenture
200,000
:
Total
1,000,000 1,000,000
40
1. Copy the balance
of each ledger
account to Trial
Balance.
2. Compute the total
debit balance and
total credit balance.
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year)
from bank and issues debenture of $200,000 (repayable after one year) at par,
the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
3. prepare trial balance;
Company Finance
(13)
ABC Company Limited
Balance Sheet (Extract) as at 31 December 2007
$
:
Non-current liabilities1
Bank loan
Debenture
:
500,000
200,000
750,000
Example:
On 1 Jan 2007, the company borrows $500,000 (repayable after one year1) from bank and issues
debenture of $200,000 (repayable after one year1) at par2, the bookkeeper is required to:
1. journalise the transactions;
2. post the journal entries to ledger accounts;
3. prepare trial balance;
4. journalise balancing day adjustments (final adjustments), post them to ledger accounts and prepare
adjusted trial balance (ignored); and
5. prepare financial statements (income statement and balance sheet).
1A
liability is classified as non-current if it is repayable after one year..
Debentures may be issued at par, at discount or at premium. The discount and premium would be amortised to profit or loss under effective
interest method. You may refer to HKAS 39 “Financial Instruments: Recognition and Measurement” for more details.
2
41
Ordinary Shares vs Preference
Shares
(1)
Ordinary
Shareholders
Preference
Shareholders
Company
Companies are usually incorporated with one class of shares, described as
ordinary shares.
Preference shares is an additional class of shares which confer on the holders
preferred rights over ordinary shares’.
42
Ordinary Shares vs Preference
Shares
(2)
Preference
Shareholders
Ordinary
Shareholders
Company
The issuance and the terms of preference shares must be authorised by the
company’s Article of Association. In usual circumstance, preference shares
include the following features:
- a preferred right of dividends (at a fixed rate and distributable in priority of
dividends of ordinary shares);
- a preferred right to be paid up in priority to ordinary shareholders on a winding
up;
- a cumulative right to dividends, unless specified not;
- no voting rights in members’ general meetings, unless dividends are in arrears;
43
Ordinary Shares vs Preference
Shares
(3)
Ordinary
Shareholders
Preference
Shareholders
Company
- no rights to participate in surplus profits on a winding up; and
- redeemable, if specified, at the option of the company.
44
Ordinary Shares vs Preference
Shares
(3)
Activity
On 1 Jan 2007, ABC Company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
Can you work out the journal entries for the shares issuances?
45
Ordinary Shares vs Preference
Shares
(4)
GENERAL JOURNAL
Date
Account Titles and Narrative
2007
Jan 1 Cash
Ordinary share capital
1
Share premium
To record the ordinary shares issued.
Dr $
Cr $
150,000
Jan 1 Cash
70,000
Preference share capital
1
Share premium
To record the preference shares issued.
10,000
50,000
Similarly, we journalise
the transaction
concerning shares
issuance.
50,000
20,000
1. journalise the transactions;
1
Under the Companies Ordinance, shares may be issued at par or at premium, but not at
discount. The excess of par value is credited to “Share Premium” account.
46
Ordinary Shares vs Preference
Shares
(5)
LIABILITY
Debit
Credit
(-)
(+)
ASSET
Debit
(+)
Credit
(-)
REVENUE
Debit
Credit
(-)
(+)
OWNERS' EQUITY
Debit
Credit
(-)
(+)
EXPENSE
Debit
Credit
(+)
(-)
Choose appropriate types of ledger accounts
Activity
On 1 Jan 2007, ABC company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
47
Ordinary Shares vs Preference
Shares
(6)
Cash
Debit (+)
1 Jan 07 Ordinary Shares $100,000
1 Jan 07 Share Premium
$50,000
Credit (-)
Ordinary Shares
Debit (-)
Credit (+)
1 Jan 07 Cash
$100,000
Share Premium
Debit (-)
Credit (+)
1 Jan 07 Cash
$50,000
Post the journal entries
to related ledger
accounts one by one.
Activity
On 1 Jan 2007, ABC Company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
48
Ordinary Shares vs Preference
Shares
(7)
Cash
Debit (+)
1 Jan 07 Ordinary Shares
1 Jan 07 Share Premium
1 Jan 07 Preference Shares
1 Jan 07 Share Premium
Credit (-)
$100,000
$50,000
$50,000
$20,000
Preference Shares
Debit (-)
Credit (+)
1 Jan 07 Cash
$50,000
Share Premium
Debit (-)
Credit (+)
1 Jan 07 Cash
$50,000
1 Jan 07 Cash
$20,000
Post the journal entries
to related ledger
accounts one by one.
Activity
On 1 Jan 2007, ABC Company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
49
Ordinary Shares vs Preference
Shares
(8)
Cash
Debit (+)
1 Jan 07 Ordinary Shares
1 Jan 07 Share Premium
1 Jan 07 Preference Shares
1 Jan 07 Share Premium
Credit (-)
$100,000
$50,000
$50,000
$20,000
$220,000
Ordinary Shares
Debit (-)
Credit (+)
1 Jan 07 Cash
$100,000
$100,000
Preference Shares
Debit (-)
Credit (+)
1 Jan 07 Cash
$50,000
$50,000
Share Premium
Debit (-)
50
Credit (+)
1 Jan 07 Cash
$50,000
1 Jan 07 Cash
$20,000
$70,000
Post the journal entries
to related ledger
accounts one by one.
Activity
On 1 Jan 2007, ABC Company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
Ordinary Shares vs Preference
Shares
(9)
Trial Balance (Extract) as at 31 December 2007
Dr $
Cr $
:
:
:
:
:
:
:
:
:
Ordinary shares
100,000
Preference shares
50,000
Share premium
70,000
Total
1,000,000 1,000,000
51
1. Copy the balance
of each ledger
account to Trial
Balance.
2. Compute the total
debit balance and
total credit balance.
Activity
On 1 Jan 2007, ABC Company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
3. prepare trial balance;
Ordinary Shares vs Preference
Shares
(10)
ABC Company Limited
Balance Sheet (Extract) as at 31 December 2007
$
:
Equity
Ordinary shares
Preference shares
Share premium
52
100,000
50,000
70,000
220,000
Activity
On 1 Jan 2007, ABC company Limited is incorporated and it issues:
- 10,000 ordinary shares of $10 each at $150,000; and
- 5,000 preference shares of $10 each at $70,000.
1. journalise the transactions;
2. post the journal entries to ledger accounts;
3. prepare trial balance;
4. journalise balancing day adjustments (final adjustments), post them to ledger
accounts and prepare adjusted trial balance (ignored); and
5. prepare financial statements (income statement and balance sheet).
Reserves vs Provisions
(1)
What is the difference between
“reserves” and “provisions”?
In preparing the financial statements for a company, you may observe that the
uses of “provisions” and “reserves” are confusing. You may see “reserves”
as an alternative term for “provisions” and use “reserves” to describe certain
components of shareholders’ equity, for example: revaluation reserve.
Do you know the difference between “reserves” and “provisions”?
53
Reserves vs Provisions
(2)
As defined in HKAS 37 “Provisions, Contingent Liabilities and Contingent
Assets”, “provisions” is a liability1 of uncertain timing or amount.
In accounting, “reserves” is commonly used to describe any part of
shareholders' equity, except for share capital. For example, share premium is a
reserve created from shareholders' contributions, i.e. amount paid by
shareholders for shares in excess of their par value.
Traditionally, “reserves” is sometimes used instead of term “provisions”,
however such a use is now not consistent with the definition of provisions by
HKAS 37.
1
A “liability” is a present obligation of the enterprise arising from past events, the settlement
of which is expected to result in an outflow from the enterprise of resources embodying
economic benefits. (Framework for the Preparation and Presentation of Financial Statements)
54
Exercise
(1)
Your Show Time
Now, it is time to do exercises. Based on what you have learned in Unit 2 and
Unit 3, prepare the financial statements for the following company.
55
Exercise
(2)
TT Company Limited
Unadjusted Trial Balance as at 31 December 2007
Dr $
Accounts payable
Accounts receivable
Bank
Bank loan, repayable within one year
Bank loan, repayable after five years
Cost of sales
Delivery expenses
Electricity expenses
Motor vans, at cost
Motor vans – Accumulated depreciation, at 1 Janauary 2007
Rent and rate expenses
Other operating expenses
Sales
Ordinary share capital
Share premium
Retained profit, at 1 January 2007
8,000
3,000
2,000
8,000
20,000
700
1,300
40,000
6,000
7,000
11,000
91,000
56
Cr $
5,000
50,000
10,000
2,000
8,000
91,000
TT Company Limited carries a retailing business. The unadjusted trial balance in the
business’ books as at 31 December 2007 is as above. Other information:
- estimated income tax expense for the current year amounted to $2,000; and
- depreciation expense for the current year amounted to $2,000.
Exercise
(3)
TT Company Limited
Unadjusted Trial Balance as at 31 December 2007
Dr $
Accounts payable
Accounts receivable
Bank
Bank loan, repayable within one year
Bank loan, repayable after five years
Cost of sales
Delivery expenses
Electricity expenses
Motor vans, at cost
Motor vans – Accumulated depreciation, at 1 Janauary 2007
Rent and rate expenses
Other operating expenses
Sales
Ordinary share capital
Share premium
Retained profit, at 1 January 2007
Cr $
5,000
8,000
3,000
2,000
8,000
20,000
700
1,300
40,000
6,000
7,000
11,000
91,000
50,000
2,000
10,000
8,000
91,000
Please prepare the financial statements for TT Company Limited.
57
Exercise
(4)
TT Company Limited
Income Statement for the year ended 31 December 2007
$
Sales
Cost of sales
Gross profit
Expenses:
Delivery expenses
Depreciation expenses
Electricity expenses
Rent and rate expenses
Other operating expenses
Profit before tax
Income tax expense
Profit for the year
58
(700)
(2,000)
(1,300)
(7,000)
(11,000)
$
50,000
(20,000)
30,000
(22,000)
8,000
(2,000)
6,000
Please compare your answer with above suggested answer for the detailed
income statement.
Exercise
(5)
TT Company Limited
Income Statement for the year ended 31 December 2007
$
50,000
(20,000)
30,000
Sales
Cost of sales
Gross profit
Distribution costs
Adminstrative expenses (2,000 + 1,300+ 7,000 +
11,000)
(700)
(21,300)
Profit before tax
Income tax expense
Profit for the year
8,000
(2,000)
6,000
Please compare your answer with above suggested answer for the income
statement (with expenses classified by function) in accordance with HKAS
1 “Presentation of Financial Statements”.
59
Exercise
(6)
ASSETS
Non-current assets
Motor vans, at cost
Motor vans – Accumulated depreciation (6,000 + 2,000)
$
$
40,000
(8,000)
32,000
Current assets
Accounts receivable
Bank
8,000
3,000
11,000
43,000
Total assets
EQUITY AND LIABILITIES
Ordinary share capital
Share premium
Retained profit, at 1 January 2007
Profit for the year
Retained profit, at 31 December 2007
Total equity
Non-current liabilities
Bank loan (repayable after 5 years)
Current liabilities
Bank loan (repayable within 1 year)
Current tax payable
Accounts payable
Total liabilities
Total equity and liabilities
60
10,000
2,000
8,000
6,000
14,000
26,000
8,000
2,000
2,000
5,000
9,000
17,000
43,000
Please compare your answer with above suggested answer for the balance sheet.
Recapitulation
Now, you have come to the end of the unit.
Let us recapitulate the essential points of the following in
the next four slides:
• Characteristics of limited companies
• Distinction between reserves and provisions
61
Recapitulation - Characteristics of
Limited Companies (1)
Company
Limited by Guarantee
Limited by Shares
Private Company
Limited by Shares
and Guarantee
Unlimited but with
Share Capital
Public Company
Listed Company
Unlisted
Company
Under the Companies Ordinance, a company may be formed with above
characteristics. Broadly speaking, a company may be formed with its members’
liability being limited or unlimited.
For a limited company, the liability of the members is limited to the amount paid
up (or agreed to be paid up).
62
Recapitulation - Characteristics of
Limited Companies (2)
Financial
Statements
Separate
Legal
Personality
Limitation
on Members’
Members’
Liability
Company
Business
Registration
Continuity
Confidentiality
Formality &
Compliance
Cost
Generally, a company is formed with the above characteristics.
63
Recapitulation - Characteristics of
Limited Companies (3)
Financial
Statements
Business
Registration
Separate
Legal
Personality
Company
Continuity
Limitation
on Members’
Members’
Liability
Confidentiality
Formality &
Compliance
Cost
In the financial statements of a limited company listed on the Hong Kong Stock
Exchange, the following items are found:
- debenture;
- ordinary shares;
- preference shares; and
- share premium.
64
Recapitulation –
Reserves vs Provisions
HKAS 37 “Provisions, Contingent Liabilities and Contingent Assets” defines a
“provision” as a liability of uncertain timing or amount.
What is the difference between
In accounting,
“reserves” is”commonly
used
to describe any
part of
“
reserve
and
“
provision
”
?
shareholders' equity, except for share capital.
65
Further Readings
•
Yau, L. and Yau, R. (2001), Book-Keeping and
Accounts, Hong Kong Institute of Accredited
Accounting Technicians Limited, 2nd Edition.
•
Li, T. M. and Ng, P. H. (2005), Financial Accounting,
Hong Kong Institute of Accredited Accounting
Technicians Limited.
•
Li, T. M. and Ng, P. H. (2007), HKAL – Principles of
Accounts (Volume 1), Pilot Publishing Company Ltd,
2nd Edition.
• 邱韞華及邱在光 (2001), 簿記與會計, 香港財
務會計協會有限公司, 第二版.
66
End of the Unit
End-of-unit Assessment
This is the end of Unit 3.
Please go to the Unit
Assessment before
attempting the next unit.
67