Chapter- 6

Accounting for
Companies
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 Share Company in Ethiopia
• A share Company will be established as per the
1960 Commercial Code of Ethiopia and the
Ethiopian Investment Laws.
• The purpose of the company is free but there are a
few sectors limited to citizens and the public sector.
• The minimum number of founders of a share
company is five in number.
• The company can be formed with a minimum
capital of ETB 50,000.
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• The share company liability is limited to the assets of the
company.
• Formal registration or investment certificate is required.
• The company’s name shall be as agreed among the
share holders and shall not offend public policy nor the
rights of third parties and shall include the words “share
company”.
• Memorandum of understanding and articles of
association is required.
• Contribution of share holder’s equity and sole of shares
plus other financial sources is necessary.
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 Corporation organization and operation
Corporation –is a legal entity distinct and
separate from its owners.
As an artificial legal being, a corporation may
acquire, own, and dispose of property in its
own name.
It may also borrow money enter to contract
sue ad be sued.
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 Characteristics of corporation
– Separate legal entity

– Limited liability

– Continuous life and transferability of ownership

– Corporate /double taxation

– Separation of ownership and management

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 Disadvantages of corporate form of organization
Double taxation exists

Government regulation exists

Not easy to form

Large setting up cost

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 Formation of a corporation
• Creation of a corporation begins when its
organizers, called the incorporators, obtain a
charter form the state.
• The charter includes the authorization for the
corporation to issue a certain number of shares
of stock, which are shares of ownership in the
corporation.
• To obtain a corporate charter, an application
called the articles of incorporation is submitted
to the state official.
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The application (articles of incorporation) contains the
following type of information.
 The name, purpose and duration of the proposed
corporation
 Amounts kinds and number of shares of capital stock to
be authorized
 The address of the corporation’s principal office
 The name and the address of incorporators

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• The formation and organization of a corporation
requires significant costs called organization cost.
cost
• Organization costs- are incurred in the formation of a
corporation: such costs include:
• legal fees
• taxes
• state incorporation fees, and
• promotional costs
• They are debited to an intangible asset account
entitled organization costs and are normally
amortized over a five –year period.
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• Example: On May 1, 2020 East Africa Co. paid the
following expenditures at the time of its formation.
Attorney fees $10,000
Incorporation fees 7,000
Stock certificate printing cost 20,000
other related expenditures 8,000
Total 45,000
• Record the payment of cash for organizing corporation

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To record the payment of cash for organizing the
corporation
May 1, 2020 Organization costs …45,000
Cash …………….. 45000

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 Rights of stockholders
– The right to receive a certificate as evidence of
ownership interest, and to transfer such shares as
they choose (through either sale or gift).
– The right to vote for board of directors and
business matters
– The right to share in profits by receiving dividends
– To share in assets upon liquidation

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 Characteristics of stock issuance/sale
• In considering the issuance of (or sale) of
stock, corporation must resolve a number of
basic questions:
How many shares should be authorized for sales?
How the stock be issued?
At what price should be issued?
Should a par value or no-par value be assigned to
stock?
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Capital stock- a corporation issues stock
certificates to its owners in exchange for their
investment in the business.
Stock –certificate- proof of stock owner ship is
evidenced by printed or engraved form.
Authorized capital stocks- are the number of
stocks that the corporation is authorized to sell.
Issued capital stocks- are stocks, which are sold to
the investors either directly or indirectly through a
brokerage house (that specialization in bringing
stocks to the attention of prospective investors).
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Par value of the stock –is an arbitrary monetary amount
assigned to a single share of stock at the time of
authorization.
No par value stock –is a capital stock that has not been
assigned a value in corporate creditors
No par with a stated value-stated value- serves the same
purpose as par value.
But since stated value is not printed on the stock
certificate; there is less risk of confusing investors.
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• Market value of stock – is a selling price of market
price of stock.
• Some of the factors that affect the market price of stock are:
– Company‘s earnings
– Divided policy
– Interest rates
– Economic policy of board of directors

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 Corporate capital/stock holder’s equity
• Is the owner’s capital equity in the corporation.
• Sources of stock holder’s equity:
– Paid in capital (Contributed capital) is investment
by the stock holders in exchange of capital stock.
– Retained earnings- is net income retained in the
corporation through profitable operation of the
business.
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 CLASSES OF STOCKS
1. Common stock – is the most basic / primary/
capital stock issue by the corporation to stock
holders.
– Common stock holder’s posses all the rights listed earlier
– Common stock holders are the primary owners of the
corporation.
– If only one class of stock is issued its common stock.
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2. Preferred stock –issued by a corporation to appeal
investors who are unwilling to take all the risks
involved in the common stock ownership.
– The rights of common stockholders are modified to
provide the preferred Stockholders with certain
advantages not available to common stock holders.

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 Most Preferred Stocks have the Following Distinctive
Features.
– Preferred as to dividends
– Cumulative Dividend Right
– Preferred as to assets in event of liquidation
– Participating dividend right
– Callable at the option of the corporation
– Conversion privilege
– No voting right
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• Issuance of Capital Stock
• Stocks issued may have
-Par value
-No par value but stated value
-No stated value and no par value
• Stock may also be issued:
- At par when a stock is issued at the same amount of par
- At premium
- At discount

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 Issuing common stock at par
This is when a stock is issued at the same amount of par
Example:
Suppose WOW Corporation issue 500 share its Birr 10 par
common stock for cash equal to its par value. The stock
issuance entry is:
Jan. 10 Cash (500×10) ------------------- 5000
Common stock ---------------------------------5000
(To record the issuance of common stock at par)

• The amount invested in the corporation is called paid in

The premium on the sale of common stock is not a gain; income or profit
to the Co. because the entry is dealing with its own stockholders.
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•

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•

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Issuing no –par common stock with a stated value
• Accounting for non- par stock with a stated value
is identical to accounting for par value stock.
• The premium account for non par common stock
is entitled” paid in capital in excess of its stated
value- common.’’
Cash………………..xxx
Common stock …………………………….......…….xxx
Paid in capital in excess of stated value ….xxx

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• Capital stock may be issued or sold
- For cash
- For non cash assets

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Issuing common stock for assets other than cash
• Stocks may be issued:
– For services (compensations to attorneys, consultants ,and
other)or
– For non cash assets (land, building, and equipment)
Example:
To illustrate, assume that the attorneys for compact inc., agree to
accept 4,000 shares of Br .1 par value common stock in payment
of their bill of Br5,000 for service performed in helping the
corporation to incorporate. At the time of the exchange, there is
no established market price for the stock.
Jan. 5 Organ. Costs------------------------------------- 5,000
Common stock (par) -----------------------------------4,000
Paid in capital in excess of par value --------------1,000
(To record issues of 4,000 shares of birr 1 par value stock to
attorney)
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Example:
Assume that Rainbow Inc. is a public held corporation whose birr. 5 par value
stock is actively traded at birr 8 per share. The CO. Issues 10,000 shares of
stock to acquire land recently advertised for sale at birr 90,000.
The transaction is recorded as follows:
April 18 Land------------------------------80,000
Common stock--------------------------------....----50,000
Paid in capital in excess of par value -----30,000
(To record issuance of 10,000 of birr 5 per value stock for land)
• When a corporation issues capital stock in exchange for service or for
assets other than cash, the transactions should be recorded at the
current market value of the goods or services received, or at the market
value of the share, which ever is more clearly determinable
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 ISSUING PREFERRED STOCKS
• Assume the wow corporations’ charter authorizes
issuance of shares of 5%, Br. 100 par preferred stock.
On Feb .1 the corporation issues 400 shares at a price
of Br 110. The issuance entry is:
Feb 1 Cash (400x Br110) -------------44,000
Preferred stock (400x Br 100) ------------------ 40,000
Paid in capital excess of par- preferred ------- 4,000
(To issue preferred stock at a premium)
• Like that of a common stock preferred stock often
sells at its par value or at a premium but seldom at a
discount.
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 Donated capital
• Donated capital results when a corporation receives assets as
results of a gift or donation from municipalities, charitable
foundations, and other sources.
• Suppose Wow Corporation receives 100 hectare of land as a
donation from the city municipality. The current market value
of the land is Br 150,000. The receipt of donation is recorded
as follows.
June1. Land----------------------------------- 150,000
Donation capital----------------------150,000
(To record donation of land from the city)
• Donated capital is classified as part of paid in capital in the
stockholder s’ equity section of balance sheet
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 Dividend on preferred and common stock
• Dividend is a distribution of earnings of corporation
to its shareholder in return for their investment.
• The amount of dividend to be distributed may be
expressed either in percentage or specified amount
Example- 10% or 100 per preferred stock
• A corporation must declare a dividend before paying
it
• The board alone has the authority to declare a
dividend.
• The corporation has no obligation to pay a dividend
until the board declares one, but once declared, the
dividend becomes a legal liability of the corporation.
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Example:
Moon Light Corporation has the following classes of
stock in its balance sheet on Dec.31, 2001.
8% preferred stock, Br 50 par 10,000 shares Br.100,000
authorized, 2,000 Shares issued and
outstanding
Common stock ,Br 10 par 100,000 shares Br. 500,000
authorized, 50,000 Shares issued and
outstanding
Total preferred and common stock Br.600,000

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• If the board of the corporation declares
annual cash dividend of Br 150,000.
– What is the amount of dividend to allocated (paid)
to each class of stock assuming the preferred
stock is non-cumulative and non-participative?
• Preferred (8% x Br 50x 2,000shares)---Br.8000
• Common (remainder) ---------------------142,000
Total dividend -----------------------------Br
Br 150,000

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 Classification of preferred stock
1. Cumulative but non participative;
• Cumulative dividend feature offers preferred
stockholders the right to receive both current
year dividend and unpaid prior years(s) dividend
called dividends in arrears before common
stockholders receive any dividends.
• If preferred stock is non-cumulative, the
corporation is not obligated to pay dividends in
arrears Dividend in arrears are not consider as a
liability ,b/c no obligation exists until the board of
director declares the dividends.
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• Suppose in previews example preferred stock
is cumulative, non-participating feature and
the corporation did not declared or pay
dividend during 1999 and 2000,the allocation
of dividend will be determined as follows:

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 1. Cumulative but non participative;
Preferred Common Total
Total outstanding stock (par Br.100,000 Br. 500,000 Br.600,000
Total dividend declared 150,000
First, preferred dividend in arrears 16,000 (16000)
(8%x 100,000 x 2years)
Amount remaining 134,000
Second, regular current preferred div. 8000 (8000)
(8%xBr.50x2000 share
Amount remaining 126,000
Third, remaining allocated to 126,000 (126,000)
common
Total Distributed
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24,000 126,000 150,000
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 2. CUMULATIVE &PARTICIPATING
• Participating dividend feature gives preferred
stockholders the right to receive dividend
beyond the specified rate (amount) by sharing
proportionally with common stockholders for
any remaining amount.
• If, however, the preferred dividend is limited to
the specified rate (amount) the stock is
referred to as non-participating.
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Example:
• Supposes in the previous example the
preferred stock is both cumulative and
participating and the corporation did not
declare dividend during 1999 and 2000.
• The amount of dividend for each class at the
end of 2001 is determined as follows:

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 Preferred Common Total
Total outstanding stock (par Br.100,000 Br. 500,000 Br.600,000
Total dividend declared 154,000
First, preferred dividend in arrears (8%x 100,000 x 2years) 16,000 (16000)
Amount remaining 138,000
Second, regular current preferred dividend 8000 (8000)
Amount remaining 130,000
Third, common dividend (8% x 500,000) 40,000 (40,000)
Amount remaining 90,000
Fourth, remainder allocated each the same 15%
percentage (90,000/600,000) 15%
15%xBr.100,000 15,000 (15,000)
15%xBr.500,000 75,000 (75,000)
Amount remaining --- ---- ---
Total Distributed 39,000 115,000 154,000
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 Treasury stock
• Treasury stock is a corporation’s own stock that
has been issued, fully paid for, and reacquired by
the issuing co., but not re-issued.
• Reasons for reacquisition
– To make stock available to issue to officers and
employed under bonus plan.
– To support the stock’s current market price by
decreasing the Supply stock available to the public.
– To increase earnings per share by reducing the
number of shares outstanding.
– To avoid a take overran outside party
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 Reporting earning and dividend
Dividends: Are distribution of retained earnings
of a corporation in the form of cash, stocks, or,
other assets.
For a corporation to declare a cash dividend it
considers three factors,
– Retained earnings
– An adequate cash (position)
– Dividend action by the board of directors
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Three dates are important in connection with
dividends: Example:
Assume that on Dec1, 2020,the board of ABC
corporation declared a Br.0.80 per share cash dividend
on 100,000 shares of Br.10 par value common stock.
1.The declaration date
Retained earnings (Br 0.8 x 100,000 sh)--------- 80,000
Dividend payable ---------------------------------- 80,000
2.The record date:
– Is the day that the list of the names and address of the
stockholders is compiled. No entry will be made
3.The payment date
Dividend payable -------------80,000
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Cash --------------------------------80,000 44
 END OF
CHAPTER 6
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