FA Session 4

PAN African eNetwork Project
Master of Finance and Control

Financial Accounting
Semester - I
Dr. Anubha Srivastava

Copyright Amity University
1
Points to discuss Accounting for Share & Loan capital

Valuation of goodwill and share
Basics of share and loan
The Definition of a Stock

stock is a share in the ownership of a
company.
Stock represents a claim on the company's
assets and earnings. As you acquire more
stock, your ownership stake in the
company becomes greater. Whether you
say shares, equity, or stock, it all means
the same thing.
Stock Vs. Share
The stock or capital stock of a business entity represents the

original capital paid into or invested in the business by its founders.
It serves as a security for the creditors of a business since it cannot
be withdrawn to the detriment of the creditors. Stock is distinct from
the property and the assets of a business which may fluctuate in
quantity and value.
The stock of a business is divided into shares, the total of which
must be stated at the time of business formation. Given the total
amount of money invested in the business, a share has a certain
declared face value, commonly known as the par value of a share.
Used in the plural, stocks is often used as a

synonym for shares.
SHARE AND SHARE CAPITAL

A Share in the company is the unit in to which
total share capital is divided
Type of share
Equity share
Preference share
Share capital
Authorized
Issued
Called up
Paid up
INVESTING IN STOCKS
Why :
1. You do not need a lot of money to start making money, unlike
buying property and paying a monthly mortgage.
2. It requires very minimal time to trade - unlike building a conventional
business.
3.. Its fast cash and allows for quick liquidation (You can convert it to
cash easily, unlike selling a property or a business).
4. Its easy to learn how to profit from the stock market.
Types of stock
Common Stock
Preferred stock
Common shares represent ownership in a company and a claim (dividends)
on a portion of profits. Investors get one vote per share to elect the board
members, who oversee the major decisions made by management.
Preferred stock represents some degree of ownership in a company but
usually doesn't come with the same voting rights. (This may vary depending
on the company.) With preferred shares, investors are usually guaranteed a
fixed dividend forever.
How Stocks Trade
Most stocks are traded on exchanges, which are places where

buyers and sellers meet and decide on a price. Some exchanges
are physical locations where transactions are carried out on a
trading floor.
The purpose of a stock market is to facilitate the exchange of
securities between buyers and sellers, reducing the risks of
investing. Just imagine how difficult it would be to sell shares if you
had to call around the neighborhood trying to find a buyer. Really, a
stock market is nothing more than a super-sophisticated farmers'
market linking buyers and sellers.
Corporate Securities
Ownership Securities
Preference Shares
Cumulative and Non cumulative

Redeemable and Irredeemable
Participating and Non-participating
Convertible and Non convertible
Equity Shares
Blue chip shares

Growth shares
Income shares, etc
FINANCIAL MARKET
1.
Primary market or New Issue Market: all financial instruments are firstly issued in
this market. There are two type of primary market issues of common stock .
Firstly: Initial Public offers (IPO) are stocks issued by a formerly privately owned
company selling stock to public for the first time
Secondly: New issue offered by companies that already have floated equity
We also distinguish between two type of primary market issues:

Public offerings : which is an issue of stocks or bonds sold to general investing
public that can be traded on stock market
Private Placements: which is an issue that is sold to a few wealthy or institutional
investors . Moreover private placement do not trade in secondary market such as
stock exchange
Securities Market
Primary Market or New Issue Market
Methods:
1. Issue through Prospectus
2. Issue through Offer of Sale
3. Private Placement
4. Right Issue
5. Bonus Issue
Secondary Market
Stock Exchange
Listing of Securities
Kinds of Speculators
- Bull
- Bear
Arbitrage
SEBI
Accounting Entries for share
Accounting Entries
Issue of shares for consideration rather than
cashTo the vendor
On purchase
Asset a/c
Dr
To liability a/c
To vendors a/c
On issue of shares
Vendors a/c
Dr
To share capital a/c
Issue of share to promoters-They are

those who provide technical information
,engineering services and they are some
time paid through issue of share
Issue of sweat share it is paid for
providing know how , patents copyright
etc.and In this case share are issued to
them at discount
Issue of shares for cash

On application
Bank a/c
Dr
To share application a./c
Share application a/c Dr.

On allotment
Bank a/c
To share allotment a/c
Share allotment a/c
On 1st call
Share 1st call a/c
Bank a/c
To share 1st call a/c
Dr
Dr.
Dr
Dr
Q- On 1st Jan 2001 a company offers 8000

shares of Rs. 10 each . Applications are
received for full 8000 shares . Money payable
is as follows :
On application Rs. 2 per share
On allotment Rs. 2 per share
On 1st call Rs.3 per share
On 2nd call Rs. 2 per share
Issue of share capital

Over subscription /under subscription
Calls in Arrear /calls in advance
Issue of share at premium and discount
Forfeiture of the share
Surrender of share
Issue of two classes of share
Right share
buy back of share
Over subscription and under

subscription
In under subscription -A company may not receive application for all the
shares offered by it to the public ,in such case entries for application ,
allotment and calls will be made for subscribed share only.
In over subscription -A company gets application for larger number of shares
than offered by it to public
when application are rejected -journal entry will be
Share application a/c Dr.
To bank a/c ( being Refund of money )
In prorate case and partial allotment

Share application a/c
Dr.
Calls in arrear and calls in

advance
Calls in advance@6% If company gets its due call amount

in advance in such case such advance payments are
credited to calls in advance a/c . Journal entry will be
Bank a/c Dr.
To calls in advance a/c ( being amount recd.)
Share . Call a/c
Dr
Bank a/c Dr
Calls in advance a/c
To share .call a/c
Dr
Calls in arrear
Calls in arrear @ 5%-A share holder may not pay the call
amount when it becomes due. Accounting entry will be
Share call a/c
Dr
Bank a/c
Dr
To share call a/c
Calls in arrear a/c
Dr
To share.call a/c
Bank a/c
Dr.
To share .call a/c / calls in arrears a/c
To interest a/c
Issue of share at premium

and at discount
Accounting entries At Premium
share allotment a/c
Dr.
To. Share capital a/c
To. Share premium a/c
Bank a/ c
Dr.
At discount
Share allotment a/c
Dr
discount on issue of share a/c
Dr
To Share capital a/c
Writing off
Security prem. a/c / P & L a/c
Dr.
To discount on issue of shares a/c
Forfeiture of share
When a share holder fails to pay the due
amount his a share are taken back by the
company .
Accounting entriesShare capital a/c
Dr,
To unpaid calls a/c
To Forfeited share a/c
When they are issued at par same as above
When issued at premium

Share capital a/c
Dr.
Share prem. a/c
Dr.
To unpaid calls a/c
To forfeited shares a/c
When issued at discount
Share capital a/c
Dr.
To un paid calls a/c
To forfeited share a/c
To discount on issue of shares a/c
Surrender of shares
Pro rate allotment and forfeiture of share
Total share applied for
Total share allotted x share allotted to
the default shareholders
Issue of two type of shares

In case the company issues two classes
of share entry will be same
Right share are issued to the existing
share holders to generate money for any
given investment plan
Buy back of share

The companies act ( Amendment ) Act
1999 is permitting companies to purchase
its own share out of the following
Free reserves
Security Premium account
Any other specified securities
Loan capital
Bonds
Debentures
loan (secured and unsecured )
Meaning of debenture
It is a fixed interest rate bearing security
where fixed interest is paid at a specified
rates at given date. it can be purchases from
a stock exchange at a price more or less than
face value
Issuing Debentures
Issuing of debt
Attracts interest
Must be repaid in a specified time frame
Borrower
Lender = principal
Interest = Charge (Fixed or Floating)
Maturity date
Redemption
Issued via prospectus to the general public and also privately
to elite few
Must appoint a trustee
Clear disclosure of all matters relating to the debentures
Type of debenture
Redeemable and irredeemable
Secured and unsecured
Convertible and non convertible
Registered and bearer
Contrast Funds from equity and

debt
Shares
Debt
Ownership entitlement
No Ownership entitlement
Voting rights
No Voting rights
Dilute ownership
Do not share profits
Payment of Dividend is at discretion of

Directors
Fixed regular income
Does not have to be repaid
Must be repaid
No restriction on amount of share issue
Specific debt/equity ratio
Dividends = Profit
Interest = Expense
Mortgage Debenture
Secured by a first mortgage over land and/or
buildings
Cannot exceed >60% of the value of asset
Limits rights to resell/transfer asset
Trustee can take possession and sell to repay
debenture holders
Unsecured Note
Debt which is not secured by any charge over
assets
Higher risk = higher rate of interest
Convertible Note
Allows debenture holder to convert debt to paid up
share capital or cash upon maturity
Accounting entries for the

issue and redemption of
debentures
General Journal
Trust Account- Dr
Debentures
Application Debentures
Cr

issue of debentures
General Journal
Application - Dr
Debentures
Debentures
Cr
Trust Acc Debentures
Cr
Allot debentures and refund

excess application monies

issue of debentures
Bank
General Journal
Dr
Trust Acc Debentures
Cr
Transfer of trust monies
Making annual interest

payments on debentures
General Journal
Interest
Dr
Bank
Payment of interest
Cr

General Journal
Interest on
Dr
debentures
Accrued
expense
Cr
Interest incurred but not due for

payment on annual balance date

General Journal
Accrued
Dr
expense
Interest on
debentures
Reversal entry
Cr

redemption of debentures
General Journal
Interest Dr
Debentures
Bank
Final interest payment
Cr

redemption of debentures
General Journal
Debentures
Dr
Bank
Cr
Payment of debenture holders on

redemption

redemption prior to maturity
at a discount
General Journal
Debentures
Dr
Discount on debenture
redemption
Cr
Bank
Cr
Payment of debenture holders on

redemption at discount
Alternate accounts for debt

issues
Debenture Mortgage Unsecured
Debenture Note
Applications
Applications
Applications
Debentures
Mortgage
Debentures
Unsecured
Notes
Interest
Interest
Interest
Premium
Premium
Premium
Discount
Discount
Discount
Valuation for goodwill and shares
Valuation of goodwill
Goodwill is an intangible asset and is realizable
only when the asset are sold. In case of joint stock
company it is necessary to evaluate the worth of
goodwill
when
When the business of the company is to be sold off
When the stock exchange quotations are not
available and valuation is important for taxation
purpose
When one class of share is to be converted into
other
48
Components of the goodwill
know how
Advantage of patents
Special location advantage
Managerial superiority
49
Factors affecting goodwill

Profit expected to be earned by the firm
The return expected by the investor in the
industry
The amount of capital employed
50
Based on capital employed and expected
profits vs. actual profits
Based on number of years of super profits
expected
May be discounted at suitable rate
51
Normal capitalization method
Normal capital required to get actual return less actual capital employed
Super profit method

Excess of actual profit over normal profit multiplied by number of years
super profits are expected to continue
Annuity method
Discounted super profit at a suitable rate
52
Normal capitalization method

Estimated annual profit /normal rate of
return X 100
Or
Normal capital employed to get actual return
actual capital employed
53
Super profit method

Super profit method
Normal profit = capital employed x rate of
return /100
And the actual profit is estimated profits if
actual profit is more than the normal profit
it is called super profit , when multiplied
with no. of years it give goodwill
54
Annuity method
Here in this method PV factor is applied to
find out value of goodwill.
55
COMPANY A
Capital employed:
Rs. 45 cr
Normal rate of return:
12 %
Future maintainable profit: Rs. 5.5 cr
What would be the goodwill under the
normal capitalization method?
= (5.5/.12) 45 = Rs. 0.83 cr
56
COMPANY B
Capital employed:
Rs. 50 cr
Normal rate of return:
15 %
Future maintainable profit:
Rs. 8 cr
Super profit can be maintained for:3 years
What would be the goodwill under the super
profit method?
= [8 (50*.15) ] * 3 = Rs.1.50 cr
57
The following particulars are available for business of A

ltd .
Profit for three years
1-Rs. 500000
2-Rs.600000
3-Rs.550000
Normal rate of return -10%
Capital employed -3000000
PV of Re. 1 for five years =3.78
The profits included non recurring profit o an average
basis of Rs. 30000 a year.
Goodwill as per annuity method =220000
x3.78=4831600
Avg. profit for three years =550000-30000=520000(30,00,000x10/100)=220000.i.e actual profit normal 58
profit
Valuation of shares
Feature of Common Stock
Voting Rights
Proxy voting
Classes of stock
Other Rights
Share proportionally in declared dividends
Share proportionally in remaining assets
during liquidation
Preemptive right first shot at new stock issue
to maintain proportional ownership if desired
Need for valuation of shares

For formulating an amalgamation scheme
For purchase or sale of controlling shares
In case of internal reconstruction
Method for valuation of shares

1.Net asset basis or intrinsic value method
2.Yield basis or market value
Net asset method-In this case , net asset

of the company are determined then the
figure is divided by the number of shares.
This method is useful for amalgamation
schemes
Yield method Investors are interested in

income hence the price they will be
prepared to pay will depend upon the size
of dividend they can expect .The following
is the formula in this method
Rate of dividend/ normal rate of return X the
denomination to which the rate applies
From the following information ,Calculate

value of share 13% pref. Share capital 10 lakh of Rs. 10
each
Equity share 20 lakh of Rs. 10 each
Average annual profit after depreciation but
before tax is 1,80,00,000 . It is considered
necessary to transfer 34,50,000 to general
reserve before declaring any dividend
Rate of taxation is 30%

The normal return expected by investors on
equity share is 20%.
From the following information calculate

fair value of equity share assuming that
out of total asset , those amounting to Rs.
41,00,000 are fictitious asset.
Share capital
5,50,000
-10% pref. share of Rs.
100 each fully paid
55,00,000
-Equity share of Rs. 10
each fully paid
Liability to outsiders -75,00,000

Reserve and surplus -45,00,000
The average normal profit after taxation
earned every year by the company during
last five years 85,05,000
The normal profit earned on the market
value of equity shares of similar compnies
is 12%
Practice questions
Q 1-A company has s forfeited 300 shares

of Rs. 10 each of X for non payment of
second call of Rs. 3 per share and 200
shares of Y for non payment of final call of
Rs. 5 per share. It has reissued 400
shares (inclusive of all forfeited shares of
X ) at Rs. 8 per shares . Record the above
in the books of company
Q 2-Give journal entries for the following

A-The company allots 1000 12% debentures
of Rs. 100 each at an issue price of Rs. 96
per debentures redeemable at a premium of
Rs. 8 per debenture ( the liability of the
premium also to be recorded in the books at
the time of issue of debentures )
B- 3000 fully convertible debentures of Rs.

100 each are converted into 20000 equity
shares of Rs. 10 each at a premium of Rs
5 per shares
Q 3-A company offered for public

subscription 10000 shares of Rs.10 each
at Rs. 11 per share . Money was payable
as follows
On application
Rs 3 per share
On allotment
Rs 4 per share
On first and final call Rs 4 per share
.
Applications were received for Rs. 12000

shares and director made pro rata
allotment, A an applicant for 80 shares,
could not pay the allotment and call
money B an holder of 300 shares failed to
pay the call money . All these shares were
later forfeited. Out of these forfeited
shares, 150 shares (including whole of As
shares ) were reissued at Rs. 9 per
share .Pass journal entries
Thank You
Please forward your query
To: asrivastava5@amity.edu
CC:
manoj.amity@panafnet.com
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PAN African eNetwork Project

Master of Finance and Control

Dr. Anubha Srivastava

Points to discuss Accounting for Share & Loan capital

Copyright Amity University

Basics of share and loan

Copyright Amity University

The Definition of a Stock

Copyright Amity University

Stock Vs. Share

The stock or capital stock of a business entity represents the

Used in the plural, stocks is often used as a

Copyright Amity University

SHARE AND SHARE CAPITAL

Copyright Amity University

Copyright Amity University

How Stocks Trade

Most stocks are traded on exchanges, which are places where

Copyright Amity University

Cumulative and Non cumulative

Blue chip shares

Copyright Amity University

We also distinguish between two type of primary market issues:

Copyright Amity University

Copyright Amity University

Accounting Entries for share

Copyright Amity University

To share capital a/c

Copyright Amity University

Issue of share to promoters-They are

Copyright Amity University

Issue of shares for cash

To share application a./c

Share application a/c Dr.

Copyright Amity University

Q- On 1st Jan 2001 a company offers 8000

Copyright Amity University

Issue of share capital

Copyright Amity University

Over subscription and under

In prorate case and partial allotment

Copyright Amity University

Calls in arrear and calls in

Calls in advance@6% If company gets its due call amount

Copyright Amity University

Issue of share at premium

Copyright Amity University

When issued at premium

Copyright Amity University

Issue of two type of shares

Copyright Amity University

Buy back of share

Copyright Amity University

Copyright Amity University

Copyright Amity University

Copyright Amity University

Copyright Amity University

Contrast Funds from equity and

Do not share profits

Payment of Dividend is at discretion of

Fixed regular income

Does not have to be repaid

No restriction on amount of share issue

Specific debt/equity ratio