Chapter 13: Intro to Corporations Flashcards
What is a corporation?
A legal entity that is separate from its owners, who are known as shareholders
Corporations are classified by…
1) Purpose: Profit or non-profit organization
2) Ownership: Public or private corporation
What is a public corporation?
A corporation whose shares are available for purchase on an organized securities market
What is a private corporation?
A corporation whose shares are held by a few individuals and are not traded
What are characteristics of a corporation?
1) Separate legal existence:
- Acts under its own name
- May buy, own, and sell property
- Owners do not bind the corporation
- Pays income tax as a separate legal entity
2) Limited liability of shareholders
- Liability of each shareholder is limited to the amount of their investment
3) Transferrable ownership rights
- Shares may be bought or sold
- Has no effect on operating activities of corporation
4) Ability to acquire capital
- Can raise capital by issuing shares
- Only small amounts of money need to be invested
- May be difficult to reacquire capital for private corporations
5) Continuous and unlimited life
- Unaffected be change in ownership
6) Government regulations
- Specific laws that govern the operations of corporations (e.g. issuing shares, distributing income, etc. )
7) Income tax
- Taxed as a separate entity
- Lower income tax rates
- Profit is reported on the partner’s personal income tax return
What is the disadvantage of corporations?
Increased cost and complexity to follow government regulations
How do you form a corporation?
- Can incorporate federally or provincially
- Done by filing articles of incorporation
What are bylaws?
Internal rules and policies for operations
What are organization costs?
Costs incurred in the formation of a corporation
(e.g. legal fees, accounting fees, registration costs)
Ownership rights are in the form of…
Shares, that can be divided into different classes.
- Stated in the articles of incorporation
- Each class has rights and privileges
- Usually referred to as common and preferred shares
Shareholders have rights…
1) To vote on certain matters (e.g. election of board of directors, appointment of external auditors)
2) To dividends: the distribution of profit
3) To remaining assets in a liquidation
How do shareholders manage the corporation?
Indirectly through the board of directors that they elect
What do the board of directors do?
- Decides on the corporation’s operating policies
- Selects officers (e.g. Chief Executive Officer (CEO) ) to execute policy and perform daily management functions
How is profit distributed in corporations?
Profit can either be reinvested in the company or distributed to shareholders as dividends
What is a dividend?
A distribution of profit by a corporation to its shareholders on a pro rata basis
What is pro-rata?
Based on the proportion of shares owned
What is share capital?
Amounts paid or contributed to the corporation in exchange for shares of ownership
What is authorized share capital?
Total number of each class of shares a corporation is allowed to sell
What is issued shares?
The authorized shares that have been sold to investors
How can a corporation issue common shares?
- Directly to investors
- Indirectly through an investment dealer
What is the initial public offering?
The first public sale of a corporation’s shares
What happens when the taker value of shares are issued?
- Once issued, shares trade on a secondary market
- Prices are determined by buyers and sellers and other external factors
What is legal capital?
The share capital that must be retained in the business for the protection of corporate creditors
What is the difference between share capital and retained earnings?
1) Share capital is legal capital and cannot be distributed to shareholders
2) Retained earnings are earned capital and can be distributed to shareholders as dividends
What is no par value shares?
Share capital that has not been given a specific value. All proceeds from the sale are treated as legal capital
What are common shares?
Shares whose owners have the right to:
- Vote on the election of the board of directors
- Share in the distribution of profit through dividends
- Share any assets that remain after liquidation
- Corporation has only one class of shares
Under IFRS, what do you do if the fair value of goods/services is not measurable?
Use fair value of shares given in exchange
Under ASPE, what do you do fair value of goods/services is not measurable?
Value the transaction at the amount that can be more reliably measured
What are preferred shares?
Shares that have a priority over common shares for dividends be assets in the event of liquidation of the company
What are the characteristics of preferred shares?
- Generally have no vote
- Entries to record issue and reacquisition of preferred shares is similar to common shares
- Annual dividend rate is specified in the articles of incorporation
- Transactions for each class of share is recorded in a separate account
What do cumulative preferred shares have a right to?
The current year’s dividends and any prior year’s dividends owing before dividends are paid on common shares
What are dividends in arrears?
Dividends on cumulative preferred shares that were not declared
What are non cumulative shares?
Preferred shares that are entitled to the current dividend, but not to any unpaid amounts from previous years. Shares are gone if not paid
What are convertible preferred shares?
Preferred shares that the shareholder can convert into common shares at a specific ratio
What are retained earnings?
The cumulative total of profit less losses and less declared dividends since incorporation.
It represents part of a shareholder’s claim on total assets of a corporation, not a claim on any specific asset (including cash)
Two major components on the statement: Profit and dividends
What’s one major difference for a corporation’s income statement?
Income tax. Because a corporation is a separate legal entity. It affects the income statement and balance sheet
What are cash dividends?
Distribution of cash on a pro rata basis to shareholders
What are stock dividends?
Distribution of the corporation’s own shares to shareholders (normally common shares)
To pay dividends, a corporation must…
1) Have enough retained earnings and cash
2) Maintain legal capital
3) Declare a dividend payable
What are the three important dates for dividends?
1) Declaration date
- Board of directors formally declares dividend
- Commits corporation to a legal obligation
2) Record date
- Ownership of shares is determined
- Shareholders of record on this date will record dividends
- No journal entry required
3) Payment date
- Dividend is paid to shareholders and recorded
Are dividends in arrears considered a liability?
Dividends in arrears are not considered a liability. No obligation to pay dividend until board of directors declared. It is disclosed in the notes to financial statements
What does the statement of retained earnings show?
The statement of retained earnings show the changes in retained earnings during the year. It is required under ASPE.
What are transactions that affect retained earnings?
- Earning a profit
- Declaring cash and stock dividends
- Other transactions
What is contributed capital?
The total amount contributed by shareholders
What is share capital?
Consists of preferred and common shares
What is contributed surplus?
Amounts contributed from acquiring and retiring shares
What is return on equity and how is it calculated?
Return on equity evaluates how many dollars are earned for each dollar invested by shareholders.
It is considered to be the most important measure of a firm’s profitability
Profit / Average Shareholder’s Equity = Return on Equity
