Topic 5: Seminar Tasks and Exercises

5.1

What is the difference between an interim dividend and a final dividend?

Interim dividend is paid to shareholders before the companys final annual earnings are to be
ascertained. Interim dividends are paid out at the time that the company reports its profits and
interim financial statements for the period. Interim dividends are paid from undistributed
profits that have been brought forward. Interim dividends may be paid quarterly or every six
months, depending on thereserves that the company holds.

final dividends will be paid at the end of the financial year. Final dividends are declared and
calculated once the companys overall financial position and profitability has been
determined. Since final dividends will be paid out once the companys end of year financial
statements have been prepared and audited, the decisions regarding final dividend payments
will be fuelled by more insights and information on the companys financial health. This
means that in the event that the company is unable to make dividend payments at year end,
the dividends maybe carried forward to the next accounting period.
5.2 Explain how each of the following reserves may arise:

Share Premium
Share premium is the amount received by a company over and above the face value of its shares.
Face value of a share is its value that is printed on the share certificate. For example, face
value of a $1 share is one dollar. But just because the value of share is printed $1 does not necessarily
mean that the share is worth only one dollar. If a company has a history of good financial
performance, it can sell its shares at a price higher than the face value of the shares. This difference
between the selling price and the face value of a share is known as share premium.
It is important to note that share premium arises only when the company sells the shares. It
arises only when a company issues new equity shares. It does not arise when the investor sells
shares at a price greater than face value. If a company sells a share whose face value is $1 at a price of
$2, the company earns a share premium of $1. But subsequently if the investor sells the same share to
someone else at a price of $4, no share premium will be gained by the company. The investor will
benefit from this gain.

Retained earnings
Retained earnings are the profits generated by a company that are not distributed as dividends to the
shareholders. The retained earnings are the sum of profits that have been retained by a company since
its inception. They are reduced by the losses. Retained earnings are also known as accumulated
surplus, accumulated profits, accumulated earnings, undivided profits and earned surplus.
When a company makes profits, the board of directors has two choices. It can either distribute these
profits as cash dividends or it can retain these profits and reinvest them for future growth. A company
may retain its profits in a reserve to serve some specific objectives. For example, a company may
retain its profits to create a reserve for paying off a debt or for purchasing an expensive capital asset.

Revaluation Reserve
Revaluation reserves (or, more precisely, revaluation surplus reserves) arise when the value of an asset
becomes greater than the value at which it was previously carried on the balance sheet, increasing
shareholders funds. Not every increase in value is added to the revaluation reserve, and the exact
treatment depends on the history of the asset: in particular, whether it has been impaired.
5.3 This exercise is formally assessed
Show how the Capital and Reserves section of the Statement of Financial Position will look for the
following company, after taking all of the following into account.

i)

Authorised Share Capital is 1 million 50p Ordinary shares of which 700,000 have
been issued, all being issued at 2 each. The market price for each share is now 3.
The Share Capital Account shown on Balance Sheet = Nominal value x no. of shares issued
=>700,000 x 0.5 =350,000.
Statement of Financial Position Extract
Current Assets:
Bank
(700,000x3)

1,400,000

Equity
Ordinary Share Capital of 0.50p each
350,000
Share Premium Account
(1,400k-350k=) 1,050,000
Market Capitalisation= 700,000*3 = 2,100,000
ii)

The company has re-valued land owned to 300,000. It had previously been shown
in the accounts at its cost price of 75,000.
Revaluation of property, plant and equipment Under IFRS it is acceptable, but not required, to restate
the values of property, plant and equipment to fair value. A surplus on revaluation would be
recorded as a reserve movement, not as income.
Revaluation Reserve surplus: 300,000-75,000 = 225,000
iii)
This years profit for the year attributable to shareholders was 250,000. A final
dividend of 10p per share was paid for the previous year (there was no interim
dividend).
Retained profits brought forward into this year totalled 110,000.
It is a key link between the statement of financial position and the income statement:
Beginning Retained Earnings
+/- Net Income (Loss)
- Dividends
= Ending Retained Earnings
Total dividend payment = 10p x 700,000 =70,000
Beginning Retained Earnings 110,000
Net Income
250,000
Dividend
(70,000)
Ending Retained Earnings
290,000
5.4 At the end of the Annual General Meeting of Better Brewers Ltd, a shareholder has asked the
following question:
Why does the company leave so much money in the Retained Earnings account on the Statement of
Financial Position? Surely it would be better to spend it to modernise our machinery.
How would you reply to the shareholders?
1. Save Money:
Set aside cash for expected future expenses .Set aside cash for unexpected future expenses
2. Spend Money:
Buy fixed assets (capital expenditures) Research and develop new tools and products
Pay bonuses to executives and other employees. Pay down debt
Acquire another company.License intellectual property, such as patent rights .Expand the market for
your products .Make investments that, hopefully, will generate a profit
3)Stock Repurchase
Give money to you(shareholders) Increase the value of existing shares. Distribute cash directly. The
most common way for a company to increase the value of its shares is to buy a large number of them
on the open market and then take those shares out of circulation. This is called a stock repurchase or
share buyback.