CHAPTER 8Long Term Assets

Three categories of long-term assets or capital assets:

Property, plant & equipment
All the assets that have physical existence
Ex: building, equipment
Intangible assets
Assets that dont have a physical existence
Ex: licence
Goodwill
Which arises when two businesses are combined

Depreciationfor PP&E, need to calculate before end of financial year

Valuation of PP & E
Consider how much youve paid for building
General rule, any cost that you pay to bring asset to company is part of the value of what you
boughtany cost you need to pay to have ownership goes to the value of what you bought
Ex: machineryorder machinery, pay price 1,000bring to company, therefore shipping cost,
then shipping cost added to equipment cost, installation fee is also part of itany cost used to
make machine usable is part of the cost of the machine
Whenever you buy any long term assets this is how you determine the value
Buy car: then have to pay for gas, oil, these are not part of the cost, these are expenses
Ex: purchased building 10 years agomake renovations is this part of assets or expense? If you
are adding to the value of the building then its going to the assets, but if you add something to
be able to have an operating/functional building then its part of operating expenses therefore
its an expense.
Another example of previous: purchased car 5 years ago, need to make major changes to
caryou will be adding to the lifespan of car, youre adding value therefore this is an asset.

AP8-2
a. Amount to be capitalized:

Land Building Equipment

Jan 2 Purchase of land 75,000
Jan 6 Fees related to land 12,000
Jan 11 Clearing the land 4,000
Jan 15 Purchased equipment 120,000
Jan 17 Building permit 900
Jan 20 Temporary fencing 2,500
Jan 22 Construction started
and estimated cost is
notedthis is not
recorded
Jan 25 Delivery of equipment 3,500
Feb 1 Payment of equipment
and deliverythis
reduces the liabilities
Feb 28 Architects fees 11,000
May 9 Completion of building 380,000
May 11 Tearing down fencing 800
May 14 Installing equipment 2,500
May 24 Party to celebrate,
record as an expense
June 7 Setting up equipment 700
June 10 Setting up equipment

Jan 22not yet paid, just an estimation, therefore we dont record anything yet
Feb 1A/P goes down and cash goes down (no effects on assets)
May 24not necessary therefore its an expense
June 10expense
any cost needed to bring asset to use = asset
Need to capitalize this cost means putting it into an asset accountif tell you to expensethen goes to operating expense

The Cost Model

Ex: buys a car, everything done to car put in assetsgoes to market and sees new price of car, can we
change the price?
Depends on standardsfor us, IFRS
First record everything with cost
Later can evaluate long-term assets, and have option to change the cost
Option 1: keep the cost
Option 2: go to market and adjust the cost
Most companys use cost method and not market value, just know under IFRS can changebut if
market value lower then must adjustcan be hard to get market value if you have a one of a kind
assetif the recorded change in asset cost is lower than you have a loss, if higher than can have a gain.

Depreciation
Known as the effect of time and use on the value of an asset
When end of financial year we journalize
To be able to calculate depreciation must understand terms
Residual value: the value f the asset at the end of the useful life
Ex: buy table and they tell can use for 15 years = useful life
After that time the expert tell you the table will be 1,000 = residual value
Both RV and UL = estimated amounts
Depreciable amount = cost to buy RV

3 methods to calculate value:

1. Straight line method: assume that the pattern of usage of the asset is similar over the years

=
()
10,0000
example: now journalize
10

Depreciation 1,000
Accumulated depreciation 1,000

June 3 2015 1000 + (6/12) = 500 depreciation purchased in middle of year

If damage ex: dropthen you need to adjust estimate

When to use: this method good for the assets that you are going to use in the same pattern over and over
again

2. Units of Production: used for assets that we can express useful life in number of units
Ex: buy car. think it has useful life for 12 years.,.km on the car, useful life can b determined by
KM driven, good method for car:

()
 3. Double-declining method: good for assets used in first years and less in later yearshort
depreciation on computer at beginning then increases of the value ex: computers

1
2
()

carrying value (cost-accumulated depreciation), cost is constant, only changing is

accumulated depreciation.so AD is going up always & cost going down *review

Choosing method: Depends on the nature of the asset

AP8-6:
a.
i. Straight-line method depreciation

Depreciation expense (cost-residual value)/useful life (years) = (150,000 -12,000)/5 =

27,600
We would have to record depreciation each year equal to 27,600

ii. Units of production method depreciation

Depreciation expense per unit = cost-residual value)/ useful life (units)

= (150,000-12,000)/ (15,000+24,000+30,000+28,000+18,000) units
=1.20/per unit
Means per each unit used by this asset you must remove 1.20/unitnow calculate it
per year

Year
2016 15,000*1.20 = 18,000
2017 24,000*1.20 = 28,800
2018 30,000*1.20 = 36,000
2019 28,000*1.20 = 33,600
2010 18,000*1.20 = 21,600

Different from first method because you are calculating the depreciation of use per each
unit, not over a period of time, but in terms of usage

iii. Double-diminishing-balance method deprecation

Rate = 2*1/5 = 40%

Year
2016 First year = 0 carrying value, because havent calculated anything yet (150,000-
0)=carrying value 150,000*40% = $60,000
2017 (150,000-60,000)*40%= $36,000
2018 (150,000-60,000-36,000)*40% = $21,600
2019 (150,000-60,000-36,000-21,600)*40%= $12,960
2020 (150,000-60,000-36,000-21,600-12,960)*40% = $19,440

*Always use this method to calculate depreciation for the last year
Residual value = 12,000 thus
19,440-12,000 = 7,440
OCTOBER 25TH/2016
Reviewprevious class
General rule for journalizing long-term assets:
Says when you buy any asset you need to consider all the costs you need to pay in order to make ready
for usageany of these costs will go into the asset

3 methods to calculate depreciation:

Need to chose appropriate formula, and use justification for use
Ex: Double decline: will give higher depreciation in first years and less in last

Selling long-term assets: disposal of assets

How to record in general journal (general rule):
Close any accounts related to assets
Ex: building (main account)close all accounts related to it
o Accumulated depreciationfor all long term assets have contra accountso if closing
building account need to close accumulated depreciation contra account
o Equipment, etc..
See what you are receiving:
o Ex: receiving full amount in cash, must recordor say you are using this building to buy
anothermust record (what you are giving up vs. what you are receiving)
o IF what you give up is higher than what you are receiving then = loss, vice versa (gain if
more than what you had)

PROBLEM SOLVING:

AP8-10: depreciation calculations and determination of gain or loss

a.
Jan 1, 2016 Equipment 21,000
Cash 21,000
(21,000-3,000)/5 years = 3,600/year of depreciation (under straight line, same all years)

Dec 31, 2016 Depreciation expense 3,600

Accumulated depreciation 3,600

Dec 31, 2017 Depreciation expense 3,600

Accumulated depreciation 3,600

Dec 31, 2018 Depreciation expense 3,600

Accumulated depreciation 3,600

b.
Carrying amount = cost-accumulated depreciation

Jan 1, 2016 Equipment 21,000

Cash 21,000
*Same as part a but depreciation method will be different

Dec 31, 2016 Depreciation expense 8,400

Accumulated depreciation 8,400

(Carrying value) x 2 x 1/useful life = (21,000-0) x 2 x 1/5 = 8,400

Accumulated depreciation balance = 0 for right now because nothing yet calculated
Compared to first method: double declining method gives higher amount than straight-line method
Dec 31, 2017 Depreciation expense 5,040
Accumulated depreciation 5,040

(21,000-8,400) x 2 x 1/5 = 5,040

Dec 31, 2018 Depreciation expense 3,024

Accumulated depreciation 3,024

(21,000-(8,400+ 5,040) x 2 x 1/5 = 3,024

*Depending which method you use your residual value after useful life will be different
**Depending on which asset you are buying, you will need to go to expert in the field to be able to asses
which depreciation method will be most useful
*** Total depreciable amount will be the same at the end regardless of method, but companies will use
certain methods due to taxes

Under straight-line method (3,600 x 3 = 10,800) and under double decline (8,400 + 5,040 + 3,024 =
16,464)
Using the straight-line method: your first year will be less, therefore
Income and financial position statement are affected

Depreciable amount = cost of asset residual value

c.
Sept 30, 2016 Equipment 21,000
Cash 21,000

Dec 31, 2016 Depreciation expense 900

Accumulated depreciation 900

Assume info from part a

= 3000
()

*Need to calculate depreciation for 3 months, therefore make an adjustment

(21,000-3000(residual value))/5*3/12 years = 900 (for 3 months of depreciation)

Dec 31, 2017 Depreciation expense 3,600

Accumulated depreciation 3,600

(21,000-3000)/5 = 3600
*In the year you sell your asset, you need to calculate your depreciation
So in 2018.Jan-June (6 months)only had for 6 months (didnt use for the full year)

June 30, 2018 Depreciation expense 1,800

Accumulated depreciation 1,800

(21,000-3000)/5*6/12 = 1,800
Now apply general rule: what you receive needs to be recorded to closethen check gain/loss
What we received:
June 30, 2018 Cash 13,000
Accumulated depreciation 6,300
Loss (14,700-13,000) 1,700

Equipment 21,000
 Accumulated
depreciation
900
3,600
1,800
6,300

*Normal balance of accumulated depreciation = credit

reciving 13,000..but giving up 14,700..what were taking is less than what we givetherefore LOSS
(13,000-14,700) = 1,700
Now calculate carrying value and difference.and calculate the book value/carrying value

Pretend we had gain

June 30, 2018 Cash 13,000

Accumulated depreciation 6,300
Loss (14,700-13,000) 1,700

Equipment 21,000
Gain (16,000-14,700) 1,300

At the end of each financial year you need to evaluate your assets (must go to market)
o Look at fair value (market value)
o Must compareif yours higher must lowerif lowering the value of your asset then you must
journalize it
o If higher in market then under IFRS will increase, adjust (gainbut not really because you havent
sold asset, so not a real gain) you dont have to journalize

INTANGIBLE ASSETS:
Such as: copy write, label, patent (created inside companythen value put in asset)if buying from third
party
ex: copy write: DR copy write CR cash.
Any cost related to purchasing copy write must go to asset (ex: legal fees)
How do you put a value on such an asset?
Ex: apple, name itself has value (hard to estimate, so often times you wont see a value)

Do we need to calculate depreciation for intangible assets?

Because there is a limited lifetime on the contract of the copy write then you do have to calculate
depreciation but its known as amortization
Only one method to do this: straight-line method

=
()

But RV = will be 0 always

AP8-24:
For the licence: 80,000 + legal fee (12,000)
*Expect to have unlimited useful lifeso wont calculate amortization
Customer lists:
Patent: valued for 20 years (useful life)but technology say after 8 years out of date, must be
replacedtherefore we choose lower (8 years)
Copyrights: valued for 40 yearsbut max amount of money you can generate form it is 10 yearsafter
that we have legal rightbut wont be bringing money to the company

Straight-line method used

Licences Customer lists Patents Copyrights

Purchase cost 80,000 60,000 160,000 250,000
Legal fees 12,000 0 0 0
Total cost 91,000 60,000 160,000 250,000
Amortization period 6 8 10
Annual amortization* 0 (Cost-RV) / useful life = 10,00 20,000 25,000

*Assuming the straight-line method is appropriate for all intangible with a limited or finite useful life
RVusually zerobecause gone after a few yearswe will not create a contra account for the patent (or
any intangible asset)

Amortization expense 20,000

Patent 20,000

After 4 yearswhat is the balance of the 4 above accounts:

Licence: 92,000no amortizationso value will remain the same
Customer lists: each year decreases by 10,000.4 x 10,000 = 40,000 so 60,000-40,000= 20,000
Patents: 160,000-80,000 = 80,000 (20,000/year of amortization)
Copyrights: 150,000

b. intangible assets, at cost:

150,000
92,000
80,000
20,000
$342,000

GOODWILL:
There are things within a company that will add value (ex: management team of company, customers),
but we can measure when one company purchases anotherthen we can put a value on it. goodwill is
the difference between the market value of asset and the liabilities

AB
A = L + S/E
Put a value on their assets, and then look at their liabilities (what is the fair value of them, if we want to
calculate them)
The difference between them will give you the value of the company
Ex: say this value is 1,000,000but then says theres more value (ex: customers, employee, etc) says its
1,500,000.so:
1,500,000 1,000,000 =

The difference when a company buys another is the goodwill

Chapter 8 = 31 questions
CHAPTER 9Current Liabilities

Current Liabilities: A liability we must pay within one year

Ex: accounts payable, unearned revenue, interest payable

Know exactly how much you owe and to whom you owe
But certain current liabilities are hard to classifywill go over

Liabilities categorized into two categories:

Current liabilities that we have to lenders
Bank Indebtedness/Line of credit
Ex: 2000 of line of credit, means if you spend all in cheques and none left, then will use line of
credit to paythe money used will then become a liability, the bank can then withdraw money
when you deposit it until liabilities gonecompany does the same thing
-To protect themselves, company normally gets line of creditso that if they issue a cheque and
there is temporarily no money in the account then will still be able to pay protection method
-Difference from credit card: bank will charge interest for the amount of time it takes to pay back
-Current asset, because we try to pay soon, try to settle liability fast
Short term loan:
3 months 1year
-Bank will ask for financial statement for history
-Used to cover temporary shortage of cash
-When we apply for short-term loan bank will ask for collateral, so that if ever company cant pay
for liability then they will use the collateralbut say youre a business for 50 years and historic is
good, then might not ask for collateral
Current portion of long term debt
Longer-term loans require blended payments of principal plus interest
-the amount you need to pay in less than 1 year from date given = current portion
-this is when you are given a long term loan, the first part you need to pay is this part
ex: get 5-year loan from TD :
cash goes up
liability goes up (5 yearslong term) 100,000
DR cash
CR note payable (long term)
@ end of year
must then separate 100,000 into 2 categories
requires a reclassification entry:
DR long-term loan payable
Cr current position of long term
(makes liability go from long term to current)

Current liabilities to suppliers

Also known as Trade payable
Ex: A/P
Normally give 30-45 days to pay (no interest) A/P considered free-debt account, after that
period will start to charge interest

Unearned Revenue/Gift cards (customers)

Company receives cash without yet providing service
Receive cash, cash goes up, unearned revenue goes up
Amounts are clear

Customer loyalty provision:

 EX: Pharmaprix optimum card
Ex: pays 100$ for cost of product but also records value of point
The point is a liabilities from pharmaprix perspective (because you an always claim redemption)

Sales return provision

Contra account for sales revenue
Estimate sales return
Nature: current liability: because those customers will ask for money (liability for the customers)
Provision = because its an estimate
If running business and sales return isnt much then wait till you get the product back
Review journal entry both estimates

Unearned revenue

Provision with warranty claims

Protectin incase something breaks/damaged
Two parts: ADJUSTING ENTRY AND THEN WARRENTY
In apples position: they sell you the laptop, must record the period of the sale as follows:
DR warranty expense
Cr Warenty provision
When a claim is made..warranty provision not payable because not certain yet from customers
Part of adjusting warnety
Look at slide:
DR warrenty provision (because we want to go dovwn)
Provisions related to customers whom have never used their warranty = first decrease the
provision (because no liability to them), then going to put that amount into revenue (misc
revenue)

GIFT CARDfrom store perspective: the card is a liability

Their cash goes up. their liability is the gift card

Current liabilities with employees:

Money received each month from employer is less than actual salary pay
Wages Payable
-wages owed to employees
Source deductionsCPP,EI and Income tax
Accounting for a companys payroll consists of 4 entries:

-salary payable
-L to Canada pension plan
-canada revenue

current liabilities to shareholders

current liabilities to governement

Look at powerpoint..

PROBLEMS FROM THIS CLASS MISSED (NOV 2)

CHAPTER 10Long-term liabilities
Exam: NO JOURNAL ENTRY BUT BE ABLE TO DISTINGUISH BETWEEN OPERATING/FINANCING LOAN/EXPENSE?
From last class: current-portion of long term is the portion of the long-term loan you are paying
back that year and goes in your current liabilities

(Liabilities we have to lender, they are long term >1 year from now)

Long-term notes & mortgages

-Can have varying payback methods
Ex: pay interest over three years then pay back principle
or pay interest and principle monthly
As you pay back your loan your liability to the bank goes down and the interest on your loan
goes down

Mortgage loan problem

AP10-1 (P.470) (journal entries for a loan)

Blended payment (includes principle & interest) of 19,333

1st payment:
1,000,000 x 6% x (1/12) = 5,000 interest per month
19,333 (5,000 = interest & 14,333 = principle)

2nd payment:
First adjust the liability 1,000,000-14,333 = 985,667
985,667 x 6% x (1/12) = 4,928
19,333 (4,928 = interest & 14,405=principal)

3rd payment:
985,667-14,405 =971,262
971,262 x 6% x (1/12) = 4,856
19,333 (4,856 = interest & 14,476 = principal)

A.
Liability is decreasing so interest is decreasing

B.
Oct 1 Cash 1,000,000
Mortgage Payable 1,000,000

Oct 31 Interest expense 5,000

Mortgage Payable 14,333
Cash 19,333
Nov 30 interest expense 4928
Mortgage payable 14,405
Cash 19,333

BONDS
Example: running company want to raise moneycould issue shareholders or could issue a bond
Will give bond to public
A company might issue bonds because they dont want more shareholders
Basically barrowing money but from public
If company goes bankrupt must first pay liabilities, so bond holders get money first
before shareholders
Often times theres a collateral for the bonds in case they cant pay back bonds, unless
the company has a good reputation
Face value: is the money we give back to bond holders at the end of the contract
Interest rate = nominal rate or stated rate use to calculate interest /6 months
Interest rate on bond = stated interest rate

Bond with premium

No demand for bonds because of fluctuations in Interest rate, will give a discount
Do this discount when interest rate is higher than market rate
Interest rate on certificate equal on all certificates

Bond with premium

Bonds with par value

AP10-4)
A.
Cash 80,000
Notes payable 800000
*Pay in march and September (every 6 months)
**need to adjust ??
Dec 31 2016 Interest expense (80,000,000 x 10% x 3/12 = 2,000,000
Interest payable 2,000,000

March 31 2017 interest expense (80,000,000 *10% * 3/12) 2,000,000

Interest payable 2,000,000
Cash 4,000,000

Sept 20, 2017 Interest expense (80,000,000*10%*6/12) 4,000,000

Cash 4,000,000

Recall:
1st scenario: Issuing bonds at par = money collected = principal par value
2nd scenario: offer bonds with discounts, giving discounts = more attractive, but lower than face value
3rd: offering bond with premium = higher interest rate compared to market

AP10-8 (p.472)
Maturity date 20 years, so in 20 years must pay back the 20,000,000
Journal entry when you issue the bond: (equal to face value)
a.
Cash 100,000,000
Notes Payable 100,000,000

After 6 months must pay interest: 100,000,000*6%*(6/12) =3,000,000

Interest expense 3,000,000
Cash 3,000,000
Above are the journal entries if market interest rate is equal to the interest rate we are offering

b.
Now with bond issued at 6.5% (issued at 94.448%) need to issue with discount
How much discount do we give? (We collect cash from investors less than 100,000,000)

Face value * rate given in question

So
100,000,000 * 94.448 = 94,448,000
Money collecting is 94.448% of face value

Cash 94,448,000
Notes Payable 94,448,000

This is when you issue the bond; journal entry same but amount of cash collected is different
@ The maturity date must pay face value (100,000,000)

When calculating payment of interest, its based on stated interest ratetherefore

Payment of interest (100,000,000*6%*(6/12)) = 3,000,000
*Stated interest rate not one issued

Interest expense calculation: 94,448,000*6.5%*6/12 = 3,069,560

Interest expense 3,069,560

Cash 3,000,000
Notes Payable 69,560

(Real interest = more than 3,000,000)we gave a 6.5 discount socalculate real amount based on market interest rate so6.5%
*Need to CR notes payable, to increase, to increase balance each period

For the second payment:

First find the balance of notes payable:

Notes Payable
94,448,000
69,560
94,517,560

Interest expense: (94,517,560*6.5%*6/12) = 3,071,821

Interest expense 3,071,821

Cash 3,000,000
Notes Payable 71,821

Note:
94,448,000 million is the present value of future 100,000,000 due to inflation/interest rate

C.
Issuing the bond with premium: market interest rate: 5.5% our interest is higherso our bond more
attractive, so more demands, so we will offer the bond with premium, so people willing to give us more
(look at percentage)

1,000,000*106.02% = 106,020,000
Cash 106,020,000
Notes Payable 106,020,000

*But we will pay back in 20 years 100,000,000decrease the notes payable to pay back bondholders the
100,000,000
They accept the higher rate because later on in the market they will accumulate more with the interest
Journal entries for first two payments:
Calculate interest expense

Balance of note payable * market interest rate

106,020,000*5.5%*6/12 = 2,915,550

Interest expense 2,915,550

Notes Payable 84,450
Cash 3,000,000 (based on stated interest rate)

Willkeep doing this until the 20th yearnotes payable will become equal to face value of 100,000,000

2nd payment:
Interest expense * balance of notes payable

Notes Payable
106,020,000
84,450
105,935,550
86,772
105,848,778

*Market interest rate so

Interest expense: (105,935,550 * 5.5% * 6/12) = 2,913,228

Interest expense 2,913,550

Notes Payable 86,772
Cash 3,000,000

Leases = part of liability

1) Operating lease
Pay rent after using car each moth, CR cash, DR operating expense
Considered operating because you dont own car, use then return
2) Capital or financing lease
Could decide to buy a car, five year contract, during this 5 years will pay back whole
value of the car, still a lease but eventually you are owner of the carcapital lease:
because you have the intension of owning the carsimilar to mortgaging a car
In this scenario, capital because have intention of owning
Know difference between operating and capital lease
Pension not covered in class
Contingent liabilities:
We know to whom we owe a liability and how much we owebut some we are not sure of
contingent on an event in the future
The future obligation is contingent on certain events occurring and/ or is outside the company
control
Should be disclosed in the notes to FS ex: company is the defendant in a lawsuit
CHAPTER 11Shareholders Equity

Components of shareholders equity

Share capital (includes all shares)
Retained earnings (all the profit that the company has made from earnings of operations
dividends)
Accumulated other comprehensive income (AOCI)
Income vs. comprehensive (we have gains and loses we cant report in income statement, cant
state because these gains are unrealized, we recognize but not realize (because not selling the
stock))how much unrealized gain/loss we have since starting
Contributed Surplus
When company wants income they issue shares, sell them, if they buy them back for less then
this is contributed surplus. Company might want to buy back to give to employees, or theres
many shares in the market are high so they buy them back to change their price in the stock
market (less in the market makes them more expensive)when they buy back and its cheaper
they get a gain but they cant recognize it so they put it to this contributed surplus account
how much unrealized gain we have since buying back the shareif there is a loss then you must
remove from retained earnings

Shares
Authorized shares
The maximum number of shares that a company can issue, as specified in the articles of
incorporation
Many companies establish an unlimited number

Issued shares
Shares that have been sold by the company
Are considered to be outstanding shares
Example:
Starting company in Quebec, need t look up Inc. laws, then number of shares we will issue, ex: I will issue
1,000,000.These become authorized shares. After 25 years issued all the shares, then want more, must
request (meeting with all shareholders), then change Inc. documents

Outstanding shares
Are shares that are issued and out there (two conditions must be met) and in the hands of
investors (issued and outstanding can differ) because of the buy back, theyre now back in the
company (issued) so no longer outstanding

Treasury shares:
When the company has bought back their own shares
Legal capital:
The total money you have raised by issuing different types of shares, must be kept intact, cannot
be paid out as dividends (money that shareholders have invested and must stay in the account)
Par value
A specified dollar amount attached to each share
Used in the past, no longer permitted in most CDN jurisdictions (Canadian companies no longer
assign a value to their shares)
When shares are sold, par value is credited to share capital account and any excess is credited to
an account called contributed surplus
No par value
Commonly used today
Total amount received for the shares is credited to the share capital
Common vs. Preferred Shares
Dividends: preferred shareholders have priority in terms of dividends
Voting: preferred shareholders have no say in voting
Major classes of shares
Common shares (usually for one common share you have one vote)
Preferred shares (not able to vote in annual meetings, even if allowed to be present)someone
whom is just looking for dividends would take this because they are looking to make profit
Differ in the rights that accrue to the shareholders
Disclosed in the notes to the financial statements

Preferred Shares
Will get dividends before shareholders
They receive a return on their share capital in the event of company liquidity

Cumltive vs. Non-cumulative preferred shareholders:

Cumulative: If a dividend is not declared in one year, the dividends carry over to the next year
Non-cumulaive: preferred shares lose any dividends that have not been declared in the current
period

Redeemable vs. retractable preferred shares

Redeemable preferred shares: the company has the option to buy them back and its written on the
certificate
Retractable preferred shares: means you have the option to sell it back to the company
most shares are both redeemable and retractable

Convertible preferred shares

Convertible preferred shares
At the option of the shareholder
Can be converted into common shares based on present ratio

PAYING DIVIDENDS
In order to declare dividends a company must have both:
Sufficient retained earnings
Sufficient cash
Four key dates for dividends declaration include:
Date of declaration (when BOD approves dividends)
DR dividends
CR dividends payable
Ex-dividends date (2 days before date of record, important because transaction takes
time
Date of record (usually two weeks after date of declaration), no journal entry prepared
Date of paymentcash going down and dividends payable going down (close dividends playable
to retained earnings)

Cash dividends:
Payments to be made to shareholders from the total net icome retained in he ponapny..

Cash vs. Stock dividends

Issue new shares to current shareholders in company
Two steps for recording a stock dividend
4. Determine the # of new shares being issued as a result of the stock dividends
5. Determine the cost of the new stocks being issued **check this
Recording stock dividends

Date of declaration
Dr. Stock dividends declared
CR. Stock dividends issuable

Date new shares are issued

Dr. stock dividends issuable
Cr, common shares

Stock splits
Usually stated as a ration
No change to shareholders equity account
As a result no accounting retry is necessarily
Why would a company want to divide the share: because splitting it makes it cheaper to buy
Is there effect on SH/E?
No, and no journal entry, but note must be made

Understand the effect on the accounting equation

-When issuing a stock dividends, r/e going down, but common share is going up so opposite each other so
net effect = zero (both accounts belong to S/H E)
a stock split can be reverse (combining shares)
Dont need to change authorized shares when splitting or reversing share split, because total value is
the same thats out

PROBLEMS
AP11-6 (equity transactions)
a.
1. No journal entries required
2. Cash 1,200,000 = (240,000*5$)
Common Shares 1,200,000

3. Cash 210,000 = (15,000*$14)

Preferred shares 210,000

4. Dividends-preferred 30,000= (15,000*$2)

Dividends payable 30,000

5. Dividend payable 30,000

Cash 30,000

6. Dividend-common 24,000=(0.10*240,000)
Dividends payable 24,000
Declaration
*Need to close to retained earnings in order to prepare financial statement
 7. Normal balance of revenue is CR, to close we DR
Sales Revenue 750,000
Retained Earnings 750,000
Retained earnings 600,000
Operating expense 600,000

8. Dividends Payable 24,000

Cash 24,000
Payment
9. Retained earnings 54,000= (30,000+24,000)
Dividend-preferred 30,000
Dividend-common 24,000
Closing entry

b.
Shareholders equity, December 31,2016

Common shares (1,000,000 authorized, 240,000 outstanding) 1,200,000

Preferred shares (100,000 authorized, 15,000 outstanding) 210,000
Common + preferred = share capital
Retained Earnings
Note:
-First year of operations
-Closed net income-dividends
(150,000-54,000) 96,000
Total shareholders equity: 1,506,000

c.
Common vs. preferred, which would an investor choose, why?
Depends on what looking for (preferences, and economic status)
In bad year, preferred will still get
In good year, common good, good for risky investor, also have say in decisions

AP11-10 (share classes, statement of changes in shareholders equity)

Main difference in class of shares is voting rights, one might be worth 20 (A) while one is worth 1 (B)
See this in family firm, family keeps class A worth more vs. others and are still able to collect money

a) Average amount received per class A common share $18,825,000/7,530,000 =$2.50

Average amount received per class B common share $216,172,000/25,432,000 =$8.50

b) Class A: 7,530,000*10 = 75,300,000

Class B: 25,432,000*1 = 25,432,000
Total # of votes: 100,732,000

c) Class A: 7,350,000/100,732,000 = 74.8%

Class B: 25,432,000/100,732,000 = 25.2%

d)

The Gibson Gorup Inc.

Statement of changes in shareholders equity
For the year ended December 31, 2016
(in 000s)
 Class A Class A Class B Class B Retained Accumulated Total
Common Common Common Common Earnings other
Shares Shares Shares Shares comprehensive
# $ # $ Income
Balance Jan 1 7,530 18,825 25,432 216,172 252,475 674 488,146
2016
Net income 85,993 85,993
Dividend 1.5*(7,530,000 (49,443)
+ 25,432)
= (49,443)
Other 43 43
comprehensive
income
Balance Dec 31 7,530 18,825 25,432 216,172 289,025 717 524,739
2016
Balance will after be used in the statement of financial position

F. What portion of net income did TCCI pay out in dividends?

Net income = 85,993,000
Dividends = 49,443,000
What portion has been paid: 49,443,000/85,993,000 = 57.5%

AP11-13 (Dividend distributed) dividing dividends through classes or shares

a.
Preferred Common Total
2014 150,000*$5 = 750,000
2015 750,000
2016 750,000 2,750,000
2,250,000 2,750,000 5,000,000

b.
Common dividend per share = 2,750,000/750,000 = $3.67

c.
Stock dividend (1-%*750,000*$59) = 4,25,000
Stock dividend issuable 4,425,000
Stock dividend issuable 4,25,000
Common Share 4,425,000

no effect on total shareholder equity because one going up and down, no asset involved or liabaility so
theyre not effected

d. because cash is valued, and want to keep in the company and decide to pay stock dividend instead and
this way no cash leaving company
CHAPTER 5CASH FLOW STATEMENT

Significance of the cash flow statement

Enable the user retrospectively:
Assess companys ability to generate cash flows from operations
Evaluate where cash has come fromdebt or equity
Assess level and type of capital assets investments
See value of company, and see how this company can bring in cash
Determine how much cash was used for debt repayment
Evaluate the distribution of cash dividends
o Need to look at retained earnings
o Is there enough cash to pay to shareholders?
Cash flow statement measures the cash flow the company has in three categories:
Operation activities
Investing activities
Financing activities
Example: Buying a building (investing) through note payable (financing)no cash involved but must
put note

Preparing a statement of cash flow:

Must have a statement of financial position for two previous years
Statement of income for that year
And other pertinent information
-Want to see how much is the change in cash
-Cash equivalents = short term investments which are highly liquid (can turn to cash quick)
Example: money market funds

Now calculate how much cash has been generated from each activity

Statement of cash flows

Operating activities (1)
Net income xx
Depreciation expense x
Loss x adding because offsetting loss in income
Gain (xx) Statement (ex: if loss is long-term)
Opposite is true for gain = negative (xx)
Increase in current assets (xx) info from statement of financial position
Decrease in current assets xx
Increase in current liabilities xx
Decrease in current liabilities (xx)
A Cash from operating activities: xx

Investing activities (2)

Purchase of land (50,000)
B Cash used in investing activities (50,000) * if was from instead of use then +ve

Financing activates shareholders equity statement

Issue of shares 500,000
Cash dividends (xx)
Payment of note payable (100,000)
Issue of notes payable 200,000
C Cash from financing activities xx
ADD: A + B + C = Change in cash (statement of financial position)
 Two methods for operating: direct & indirect (we use this one), companies prefer indirect because direct gives a
lot of information to competitors. Revenues (some cash activities) & expenses
Need to adjust so accrual basic accounting is cash basis accounting
Take net income from income statement

Example:

Account Receivable
10,000

15,000
Change of 10,000 to 15,000 so more people owe you, but not cash yet, so must subtract
If A/R going down then people are paying you, cash going up
Go to current assets: what is changingincrease or decrease?

Account payable
40,000

20,000
cash has gone out of company to pay liability

or

Account payable
10,000

20,000
increase in current liability = add

(2) Analyze long-term assets

land
100,000
50,0000 0
150,000
*no accumulated
depreciation

building

Building accumulated
depreciation

Common shares
1,000,000
0
 1,500,000

Retained earnings
Cash dividend xx
Stock dividend Net income
xxx

Note payable
100,000
Payment of note payable New note payable (issuing)
200,000
*must have one of the values to calculate other ex: issued 200,000 during the year
so
100,000 + 200,000 x = 200,000
=100,000 payment of notes payable

PROBLEMS

AP5-1
a. Financing
b. Financing
c. Investing
d. Investing
e. Operating
f. Operating
g. Financing
h. Financing (getting or paying back a loan = financing)
i. Investing
j. Operating (changing current asset/liabilities)

AP5-3

AP5-9
Organic developments LTD
Statement of cash Flows
For the year ended October 31st, 2016

Cash flow from operating activities

Net Income 240,000
 Depreciation expense 60,000
Loss on sale of equipment 8,000 (*Adding because ve in income statement)
Increase in inventory (20,000)
Decrease in account receivable 10,000 *difference b/w 2016-2015
Increase in accounts payable 42,000
Net cash provided by operating activities 340,000
*Dividend payable = related to financing activities even if in assets

Cash flow from investing activities *Use T-account to help with investing
Purchase of equipment (120,000) *cash going out of company
Sale of Equipment 6,000
Because cash not involved not recorded in investingissuing shares

Equipment
540,000
X? 134,000
(sold)
620,000
6,000 cash (investing activities)
134,000 original cost
54,000 + x 134,000 = 62,000 14,000 book value
Book value = cost Accu.Dep.
Accumulated 14,000 = 134,000 x
Depreciation x = 120,000
equipment
120,000 360,000 x? = 214,000
60,000
300,000

Net cash from used for investing activities 208,000

Cash flows from financing activities
New Bank loan 14,000 Retained Earnings
Repayment of bank loan (60,000) 68,000
Dividend (74,000) X=? 24,000
Net cash used for financing activities (120,000)
240,000
*net effect = negative
120,000 + 14,000 x = 74,000 x = 60,000 payment of loan

Bank loan
Dividends payable
120,000
36,000
14,000
X=?
74,000
30,000

68,000 + 24,000 x = 24,000

x = 68,000 cash dividends for this year, 68,000 + 6,000 = 74,000
Net change in cash (340,000 + (280,000) + (120,000)) = 12,000 Common shares
increasing cash 180,000
Now look at cash in assets: 2016: $48,000 - 2015: $36,000 = 12,000 120,000
right answer
Cash, beginning balance 36,000 300,000
Cash, ending balance 48,000

Non-cash investing and financing activities

During the year land with a value of 120,000 was acquired by issuing common shares
 CHAPTER 12ANALYZING FINANCIAL STATEMENTS

The process for analyzing financial statements includes the following steps:
1. Determine the purpose and context of the analysis
Why are you analyzing? Is there an investment purpose? Is someone asking for a loan?
2. Collect the information needed
Get dates and information from last 5 years, need FS and see if company is able to
generate cash and payback what they might owe
3. Prepare common size analysis and calculate other ratios or metrics
Right now we have dollar amounts, common size means you need to convert everything
to a percentage (%), when you work with percent its much easier to compare numbers
Ex: apple made 100,000 profit, Microsoft 150,000based on this data you would chose
Microsoft, but in reality you cant choose or compareneed to make these two numbers
comparable, need to look at assets and efficiency
#s not the best way to measure, % is.but for financial ratios must use dollar amounts

How to prepare common size income statement:

Income Statement

Converted to % A B
Revenue 100,000 100,000/100,000 = 100% 100%
Cost of goods sold 60,000 60,000/100,000 = 60% 50%
Gross margin 40,000 40,000/100,000 = 40% 50%
Operating expense (20,000) 20,000/100,000 = 20% 40%
Net income 20,000 20,000/100,000 = 20% 10%

Basis for converting to % is using total revenue. everything is in terms of percentage of total revenue
Net income is the most important margin
But depends on what you are doing with the companyinvesting? Getting loan payment back?
Ex: loanCOGS is an expense short term how will this effect the payback
So when preparing divide all $ amounts by / sales revenue

Statement of Financial Position

Converted to %
Assets
Current assets
Cash 10,000 10,000/100,000 = 10%
Total current assets 30,000 30,000/100,000 = 30%
Long-term assets
Building 60,000 60,000/100,000 = 60%
A/Dbuilding (20,000) 20,000/100,000 = (20%)
Land 30,000 30,000/100,000 = 30%
Total long-term assets 70,000 70,000/100,000 = 70%
Total assets 100,000
Liabilities
Current liabilities
A/P 20,000 20,000/100,000 = 20%
Long-term liabilities
Note Payable 30,000 30,000/100,000 = 30%
Total liability 50,000 50,000/100,000 = 50%
S/E
R/E 40,000 40,000/100,000 = 40%
Common shares 10,000 10,000/100,000 = 10%
Total S/E 50,000 50,000/100,000 = 50%
Total liabilities and S/E 100,000 100,000/100,000 = 100%
 4. Analyze and interpret these metrics
5. Develop conclusions and recommendations
After comparing must be able to compare and justify why you might choose one
company over the other

Understanding the business

You must have a grasp of:
o Operating activities
o Underlying economics and risks in the industry
-Where are they operating, Canada? International? (In statement reporting)
o Overall strategy followed by the company:
-Low cost provider
-Product/Service differentiator
o Key success factors crucial to the health of the company

Finding Relevant Information

In Canada we use IFRSwe use an auditor to verify (an institution that is independent from the
company) that FS are prepared based on IFRS
Job of auditor is to review FS and make sure they are properly prepared, done during the year and at
the end of the financial periodpeak
After verifying they write a report ~1 page long
If everything prepared fairly, then they will say based on their investigation can say this company is
safe to invest inif there is problemscompany can fix, but if do not comply then auditor can write a
qualified opinion if not enough information then they will write then there is not enough
information to write a reportworse than having a qualified opinion
In Canada www.sedar.com (where you can find information on any companies FS) for American
companies use edgar.com if company in two stock exchanges = cross-listing usually will need to
comply with the standards of each country but IFRS usually international
Can take up to 4-5 months to prepare financial statement after the end of the year ~April/May

Consolidated financial statement

FS prepared from all countries, means they have subsidiaries that they must include

Categorizing FS analysis:
See how the company will be doing in the future

Retrospective vs. Prospective Analysis

1. Make a prospective analysis (forward-looking):
Lender might make a forecast of future cash flows prior to approving a loan
2. Do a retrospective (historical) analysis to try and determine future trends:
Tw major typestrend analysis (in terms of total revenue) and cross-sectional analysis
This method may be less reliable when.

RATIOS
Can be used to compare a companys results from one period to the next or compare one
company with others
Also allows users to compare companies of different sizes more easily
Often several ways to calculate a given ratio
Common categories:
Liquidity ratios
Activity ratios
Solvency ratios
Profitability ratios
Equity analysis ratios
Liquidity ratiosrefers to a companys ability to convert assets to cash in order to meet day to day
liabilities
-And important part of liquidity analysis considers the companys ability to meet its short-term obligations
with its short-term assets
-Two common ratios used:
Current ratio
Quick ratio

=

*Look at problem below RI12-3
Taking out inventory and prepaid expenses because: cant get cash back from prepaid expenses and
inventory (hard to convert to cash)include on assets that you can quickly convert to cash

Activity ratiosprovide insight into how efficiently the company manages its operations, also known as
operating efficient ratios
-Includes these ratios:
Accounts receivable turnoverhow fast can get money back form customers
Inventory turnoverseeing how fast you can get rid of products
Accounts payable turnoverseeing how fast we can pay back this liability
These help us see how efficiently we are managing

Accounts receivable turnover =

365
=

Will tell you how many days will take to collect money from customersfrom time of sale to time of
collect.ex: 35 daysdepends on the policy of the company.if normally give 30 days and this average is
30 days then this is not goodwe are not managing well

365

Will tell you how long it takes you to sell ex: if keeping 120 days in companysometimes if these
inventories stay long in stock ex: TV.the cost of this inventory will lose value or vice versawith wine will
increase value
Industry is important in terms of products.ex: bombardier.takes long to make product.normal that
it takes long

365
=

 Ex: say takes 40 days to pay your liabilitybut contract says 45 days then you are managing well this
ratio provides information about the companys payable policy

Solvency Ratios

For exam: for this chapterdo reading and interpreting financial statements try to spend more time of
this part

=

helps measure net debt
If 1 = total liability = total S/E but if more than 1 than liability higher than S/E

Solvency-leverage ratios

% =
+

This measures the total portion of financing represented by debt

Solvencycoverage ratios

Interest coverage ratio:

=

EBITDA = earning before interest, taxes, debt, amortization

Measures the companys ability to cover interest expense from earnings
This ratio provides comfort to lenders that the company can pay the interest on debt

Cash flow to total liabilities ratio:

Solvency ratios sees how fast you can get cash

Profitability Ratios

GROSS PROFIT MARGIN

=

Measures the profit product costs available to cover other operating costs

For 1$ sales revenue I have how much is left after expenses, how much profit?

RETURN ON EQUITY (ROE)

=

Measures the return on the resources provided by the investors

RETURN ON ASSETS (ROA)

=

Measures the return on the assets that are used by the company

EQUITY RATIOS

EARNINGS PER SHARE

Two types must be reported:

() =

EPS = form income statement

Fully Diluted Earnings Per Share:

Is the amount that earnings per share would become, should all of the dilutive convertible
securities were converted to common shares
o Recall: convertible bonds convert them to shares of the company, if do this shares of the
company goes up then EPS goes down

PRICE/EARNING RATIO
P to E

Compares the price per share on the stock market with the companys EPS
Companies with high growth expectations or low levels of risk will have higher P/E multiples

DIVIDEND PAYOUT

From each 1$ EPS how much is this company paying

Measures the portion of income paid out as dividends
1 is unreasonable
But if 50% then means half being paid to dividends

NET FREE CASH FLOW (not a ratio)

Cash flow generated from operating activities that would be available to common shareholders
PRACTICE PROBLEMS
Recall: focus on reading & interpretation of financial statement problems

RI12-3 (Ratio analysis for public company)

a/b.

Ratio 2013 2012

i. Current ratio 7,407/7,267 = 1.02 10,895/6,318 = 1.72
ii. Quick ratio (7,407+1353)/7,267 = 0.51 (4281+2358)/6,318 = 1.05
iii. Inventory turnover 20260/((3892+2983)/2)=5.89 21149/3892=5.43
iv. Days to sell inventory 365/5.98=63 days 365/5.43=67.2 days
i. There is a decrease means in terms of liquidity they were better off in 2012
ii. Only cash and A/R useable in quick ratio or can subtractINCREASE in liability specifically in
A/P, and assets have been decreased (huge in A/R)
*if long list of current assets then subtract method if short then this method ^
iii. Higher number means you turnover inventory (sell all faster), note if dont have the previous
year in this case (2011) then assume ending inventory is same as beginning
iv. Better in 2013, selling quicker

c.

Ratio 2013 2012

i. Return on assets
ii. Return on equity
*Average total assets
**Average shareholders equity
2,551/((42,657+46,300)/2) = 5.7% 4135/46300= 8.9%
*Cant calculate average because
2011 missing (use 2013)
2,551/((29,985+32,071)/2) = 8.2% 4,135/32,071 = 12.9%

i. Significant decrease in 2012, more $ made of off assetsto find problem go back to income
statement and compare 2012 and 2013also look at change in assetsbut comparing net
income higher in 2012so main issue = decrease in net incomemeans either 1. Sales
revenue going down or 2. Expenses are increasing
ii. Trend similar to ROAnormally will follow same trend

d. Leverage:
Look at liabilities section in financial position statement:
Solvencymainly looking at long-term liabilitieswe have decreasing long term liabilitiesis because they
have paid off their long term liabilities, now they are better off because less debtincrease in current
liabilities (but these will be paid soon so no problem) so no problems in terms of solvency

e. Net free cash flow from 2013 to 2012what does this say about the companys financial flexibility?

2013
Net free cash flow = 7,897 2,964 4,855 78

2012
Net free cash = 10,454 1,468 4,850 4,136
Interpret: in 2012 cash flow was much higherless becausepaid a lot of dividends, paid off one long-
term liability

they had no convertible things which is why EPS.

In both years, the company has significant amounts of free cash flow even after reinvesting in additional
assets. The capital re-investement doubled in the currnt year vs. last year. There has been a decrease in
net free cash flow in 2013, and after the repayment of long-term debt, it had to use up