Chapter 4 - Accounting for Limited Companies

Question 1

What are the main features of limited companies?

Answer 1

• Legal nature: the company has a separate legal identity from the owners.
• Perpetual life: The company continues to exist even if a shareholder dies.
• Limited liability: the company is responsible for its own debts and losses, and the shareholders liability is settled once they have fulfilled their obligation for paying the shares of the company.

Question 2

How do public and private limited companies differ?

Answer 2

A public limited company can offer its shares for sale to the general public, but a private one cannot. In the name, public ones must have “plc” and private ones must have “Ltd”.

Question 3

What are two common types of shares?

Answer 3

• Ordinary shares. Represent the basic ownership and are issued by all limited companies.
• Preference shares. Offer various economic benefits to the shareholder, for example a fixed percentage of the nominal value when a dividend is paid.

Question 4

Is the nominal value of a share permanent?

Answer 4

No, shareholders can decide to change the first decided nominal value. The total value for all shares must remain the same however. Lowering the nominal value while increasing the number of shares is called splitting. The opposite is called consolidating. Both can be done to make the shares more marketable.

Question 5

What parts of equity are restricted in Sweden?

Answer 5

• Share capital
• Revaluation surplus
• Other reserves

Question 6

What parts of equity are unrestricted in Sweden?

Answer 6

• Share premium (the excess above nominal value of issued shares)
• Retained earnings
• Net profit/loss for the period

Question 7

What happens when we issue bonus shares?

Answer 7

Any kind of unrestricted equity reserves are transformed to restricted equity in the form of share capital. The desired amount is transferred while distributing the appropriate number of new shares to existing shareholders. There is no effect on the overall wealth since total equity remains the same; the is no cash involved.

Question 8

Why might a company want to make a bonus issue even of it has no economic consequence?

Answer 8

• Lower shareholder price
• Increase shareholder confidence = feel-good factor
• Increase lender confidence, by tying equity to be restricted.

Question 9

What are five ways for a company to issue new shares to finance its operation?

Answer 9

• Rights issue. Existing shareholders are offered new shares in proportion to their existing holding. The new issues are often offered at a discount to the current market price to encourage existing shareholders to exercise their right to buy.
• Offer for sale. Sell shares to an issuing house which then sells them on to potential investors.
• Placing. Shares are placed with selected investors.
• Public issue. Sold directly yo potential investors.
• Bonus issue (but no new injection of cash)

Question 10

What is the layout of an income statement for a limited company?

Answer 10

• Gross profit
• Operating profit
• Profit before taxation
• Profit for the period

Question 11

What are factors that may influence the decision of paying out dividends?

Answer 11

Commercial factors such as:

• financial resources of the company
• future commitments
• shareholder expectations
• legal restraints on restricted equity