1.

ISSUE OF SHARES AND DEBENTURES

At the end of this lecture, you should be able to: y y y y y y y
y y

Explain and give definition of a company Understand the characteristics of a company Types Of Limited Companies Differentiate between public limited companies and private limited companies State the differences between companies, sole trader and partnership Explain the types and formation of companies (how a company is registered) Give definition of a prospectus and preliminary expenses Explain the differences between Memorandum Of Association and Article Of Association Explain the types of shares

1.1

Introduction
A company can be defined as a corporate organisation which is formed by a few individuals with a common purpose of operating a business to make profit. It is created under the provisions of the Companies Act 1965. A fundamental characteristics of a company is that incorporation creates a separate legal entity. Being a separate legal entity enables a company to own property, to sue or be sued in its own name and it has the right to perpectual sucession i.e. it is not affected by changes in ownership. Companys capital is divided into parts of fixed amount called shares.

1.2

Characteristics of a company
1.2.1 Separate legal entity A company has its own rights and responsibilities i.e a company is treated as a separate entity that exists apart from its owner, who are called shareholders. It can purchase and own a property under its registered name it can sell property. (assets and liabilities in the business belong to the company). The company may also enter into contracts and if anything goes wrong, it can sue the other party and if the company is the defaulter, the company may be sued. 1.2.2 Unlimited life/Continuos life and transferability of shares A company has continuos life even if there are changes in the ownership of their shares and it will be unaffected by death or bankruptcy of its members. The separation of the company from its shareholders enables easier transfer of ownership (shares). A shareholder may sell or

otherwise dispose of shares at any time and in the case of public companies this transferability might be made easier by KLSE. 1.2.3 Separation Of Ownership And Management A company is a business owned by shareholders. The board of directors will be elected by shareholders to manage and control the business. The Board of directors have to decide the general corporate policy and to carry them out and responsible for the affairs of the company. A shareholder may decide not to vote or attend annual general meeting of the company yet still remain an owner and a recipient of company profits. Shareholders have no right to interfere in the running of day-to-day management of the company. An exception occurs when a shareholder becomes a director (due to control through voting rights), or is employed by the company. 1.2.4 Limited Liability For a company, the liability of its members known as shareholders are limited only to the amount unpaid on the shares held by them in the company. A shareholder has limited liability for company debts. I.e. if a company fail to pay its debts, the shareholders have no personal obligation for company liabilities. The members personal assets cannot be claimed to settle the business liabilities.Most companies are limited by shares i.e the liability of shareholders to the company and its creditors is the amount of the unpaid portion of the nominal value of their shares. For example, a shareholding 2000 RM1 shares paid to 80 cents on each share is liable to pay the unpaid amount, 20 cents X 2000 shares = RM400. The shareholder may lose RM2000 if the company fails. 1.2.5 Access To Capital Market Companies that are listed on the stock exchange have the ability increase capital from the public by the issue of further share and debentures. In order for a company to raise its fund, it must satisfy certain conditions laid down by the Companies Act and regulations set by the Securities Commission which regulate the Stock Exchange.

1.3

Differences between a company and a partnership

1.3.1 Separate legal entity Partnership : No legal existence separate from its members Companies : Distinct legal entity from shareholders Liability Partnership : unlimited liability for the debts of the Partnership

1.3.2

Companies 1.3.3 Capital Partnership Companies 1.3.4 Tax Partnership Companies

The shareholders have limited liability for the companys debts the amount of capital contributed by the partners need not be fixed The authorised capital is fixed by the Memorandum of Association Profits are subject to income tax Profits are subject to corporation tax

: :

: :

1.3.5

Management Partnership : Companies :

Each of the partners is entitled to take an active part in such management unless it is otherwise agreed Management is delegated to a Board of Directors

1.4

Types Of Limited Companies

1.4.1

Public Company According to section 4(1) of the Companies Act 1965: A public company is a company which is not a private company. Public limited companies have the word Berhad (Bhd.) as part of, and at the end of their names. The issued and paid up capital of this company cannot be less than RM10 million as determined by the KLSE listing requirements. The shares of this company are offered for sale to the public. Public companies in Malaysia are those companies that are listed in the KLSE either in the main board or the Second Board. For a company to be listed in the second Board, the minimum issued and paid up capital must be RM10 million and for the First Board is RM40 million. This is a requirement set by the Securities Commission as at 30 June 1996.

1.4.2

Private Company A private company is usually a smaller business and may be formed by one or more persons. Such company is designated by the word Sendirian Berhad at the end of its name. In the Companies Acts, a company having a share capital may be incorporated as a private company if is memorandum of association or articles of association:  restricts the right to transfer its share  limits the number of its members to not more than fifty

 prohibits any invitation to the public to suscribe for any shares in or debentures of the company and  prohibits any invitation to the public to deposit money with the company for fixed periods or payable at call whether bearing or not bearing interest. A private company can be divided into three types: a private company limited by shares, by guarantee and an unlimited company.

j A company limited by shares  These companies have the liability of their members limited to the unpaid portion of the nominal value of the shares they have been issued. j A company limited by guaranteed  Members in these companies are not required to pay in any capital but undertake to contribute up to a specified amount if the business wound up. j Unlimited Companies  In these companies members liability are unlimited.Members should contribute their personal assets if the company is dissolved and unable to settle its debts 1.5 Differences between Public Companies and Private Companies PUBLIC COMPANY Minimum number of shareholders is two and maximum number of shareholders is unlimited Shares can be offered to public and transferable at any time without consent of other shareholders. The company are usually listed and shares can be traded on stock exchange On formation, prospectus must be sent to ROC. Financial report must also be lodged to ROC and disclosed to the public Accounting records must be audited by the Certified Public accountants and sent to ROC Will be controlled by the majority shareholder PRIVATE COMPANY Minimum number of shareholders is two and maximum is 50 Transfer of shares must be authorised by other shareholders or directors and shares are not listed on stock exchange Shares cannot be issued to the public and no need for submission of prospectus or financial report to the ROC. No disclosure requirement to the public No need for audit by the CPA Can be controlled by a family

1.6 Constitutional documents of companies

j Memorandum of Association j Articles of Association 1.6.1 Memorandum of Association It regulates the companys relations with the third parties such as those outside the company It defines the strengths and the limitations of the company It contains the following terms  The name of the company  Location of the registered office  The objective of the company that is those activities in which the company may locally operate  The liabilities of the members are limited  Name,address and occupation of subscribers  The amount of authorised capital which can be issued  The statement by subscribers of their willingness to take up shares as agreed

1.6.2

Articles of association It is a document which governs the relationship that exits between the members and the company i.e the rules for the internal operations of the company. It contains the following terms:  Duties, rights and powers of board of Directors  The notice and preceedings of meetings  The right of different classes of shareholders  Regulation on dividend and reserves  Accounts and audit requirements  The authority of the directors  How capital may be altered  The issue of shares and the calls on shares

1.7

Formation of a company Memorandum of Association and Article of Association of the company must be drawn up prior to the registration of the company.These two documents together with the appropriate fee and other relevant documents must be lodged with the Registrar of Companies. When ROC is satisfied with all documents needed, a certificate of incorporation will be issued. Other documents are:     Certificate of identity Consent to act as directors Statutory declaration before appoint as founder or director Statutory declaration of compliance

1.8

Prospectus It is a notice, circular letter,advertisement or any other types of offer produced by a public limited company as an offer to individuals, public and organisation to apply or buy its share or debenture. It contains information relating to the company and details of the number of shares to be issued, the issue price per share, the performance of the company in the past,the forecast of its performance in the future,the purpose of the issuance of shares,the project to be undertaken, the closing date for applications and application form. A prospectus must be dated to show the time of its publication and it must be registered with ROC on or before the date of publication. Preliminary expenses/Formation costs Preliminary expenses are expenses incurred during the formation of a company. It is an intangible asset and appear on the balance sheet along with patents, trademarks, goodwill and others. Example of preliminary expenses are legal fees, charges and fees paid to the Registrar of Companies and cost of printing prospectus. Capital of a company Two main methods of obtaining capital  Equity share capital and debenture  Debt short term liabilities and long term liabilities A capital account is prepared by a sole trader or a partnership to record the amount of capital invested in the business by the owner of that business. In a company, capital invested by its members is known as share capital. These shares will be allocated or sold to investors who are interested in investing in the company and they are known as the shareholders or members of a company. The share capital is recorded in the capital account of a company. By owning shares in a company, shareholders are owners of the company.

1.9

1.10

1.11

Classes of shares Ordinary shares  Comprise the bulk of the companys capital  The holders of these shares rank before deferred shareholders but after preference shareholders in dividend entitlement  Have full voting rights and exercise the most control in the companys profits  The rate of dividends paid to ordinary shareholders is not fixed Preference shares  Preference shares give their holders some preferential rights as to the payment of dividends and repayment of capital in the event of liquidation over the other classes of shares  Preference shares do not have any voting rights and leave the management of the company to the ordinary shareholders  The holders of these shares receive a fixed rate of dividend which is expressed as a percentage of the nominal value Deferred shares/Founders shares  Such shares are normally issued to the promoters/founders of the company.  The holders of these shares have rights to dividends and return of capital . Their rights come after rights of the ordinary shareholder have been satisfied  These shares are usually taken up by a founder to demonstrate his confidence in the success of the company

1.12

Types of Preference Shares j Cumulative preference shares j Non-cumulative preference shares j Participating preference shares j Non-participating preference shares j Redeemable preference shares j Convertible preference shares

At the end of this lecture you should be able to: y y List down the various classifications of capital Record the issuance of shares in the companys books of accounts

1.13

Capital Structure/clssification Of Shares y Authorised, Registered or Nominal Capital the total amount of capital with which the company is registered and must be stated in the MOA may comprise of more than one class of shares the amount issued to the public must not exceed the total authorised capital Example: The authorised capital of Anas Sdn Bhd. Is 6,000,000 8% preference shares of RM1.00 each. Anas Sdn. Bhd. cannot issue more than 6,000,000 preference shares unless its MOA is altered.

Issued Share Capital part of the nominal capital which has been issued to the public for cash or other cosideration may either be partly or fully paid Example: ZZ Bhd. has an authorised capital of RM2,800,000 ordinary shares of RM1.00 each and to date it has issued 2,000,000 ordinary shares to the public. This means that the company has another 800,000 ordinary shares it could issue in the future.

Unissued Share Capital the difference between the authorised capital and the issued capital and it is the amount of capital that the company can still issue to the public.

Example: ZZ Bhd. has an authorised capital of RM2,800,000 ordinary shares of RM1.00 each and to date it has issued 2,000,000 ordinary shares to the public. This means that the company has another 800,000 ordinary shares it could issue in the future.

Called Up Share Capital the amount of issued capital that has been called by the company which the subscribers are required to pay within a specified time Example: RMZ Sdn. Bhd. issued 2,000,000 ordinary shares of RM1.00 each. It had called for only RM0.50 on every share. The issued share capital is RM2,000,000 and the called up share capital in this case is only RM1,000,000.

1.14.2 Uncalled Capital the amount of money on the issued capital that has not been called. Example: RMZ Sdn. Bhd. issued 2,000,000 ordinary shares of RM1.00 each. It had called for only RM0.50 on every share. The issued share capital is RM2,000,000 and the called up share capital in this case is only RM1,000,000. y Paid Up Share Capital the amount of called up capital that has been paid by the subscribers Unpaid Capital/Call in arrears the amount of the called up capital that the subscribers failed to pay when the money was called. Par or nominal Value Par value or nominal value is the face value attached to each unit of share, e.g. ordinary shares of RM1.50 each means that the par or nominal value is RM1.50. This is the price that the company will charge for each unit of share in its initial issue of shares. Example: Ammar Sdn. Bhd issued 1,000,000 ordinary shares of RM1.00 each, and makes a call for RM0.70 on each share and receives a

total payment of RM570,000 from the shareholders, the capital structure of the company will be as follows: Issued share capital Called up share capital Paid up share capital Unpaid capital Example: Shah Bhd. was incorporated on 1.1.1999 with an authorised capital of RM2,000,000 made up of 400,000 8% preference shares of RM1 each and 3,200,000 ordinary shares of 50 sen each.On 16.1.1999 the directors decided to ofer 100,000 8% preference shares of RM1each and 900,000 ordinary shares of 50 sen each to the public. The issue was fully subscribed and all money due was received by the company. Determine: y y y y y Par value per unit for both classes of shares Issue price per unit for both classes of shares Authorised capital in units for preference shares Authorised capital in total value (RM) for ordinary shares Unissued Capital in total value and in units for preference shares and for ordinary shares RM1,000,000 RM700,000 RM570,000 RM130,000

Shah Bhd. Balance Sheet As At . Authorised Capital 400,000 8% Preference Shares of RM1.00 each 3,200,000 Ordinary Shares of 50 sen each

RM 400,000 1,600,000 2,000,000

Issued and Paid Up Capital 100,000 8% Preference Shares of RM1.00 fully paid 900,000 Ordinary Shares of 50 sen fully paid

100,000 450,000 550,000

2.0

Accounting for Issue Of Shares 2.1 Shares can be issued at par, at a premium or at a discount. Shares may be payable in full on application or payable in installments at a fixed time, or at fixed intervals. Once all the applications to subscribe shares have been received from the investors, the Board of Directors will decide whether: y y To accept all applications or To accept part of the applications

The decision whether to accept all applications or to accept part of the applications will be based on the actual number of applications received and the number of shares to be issued. If applications received are more than the number of shares to be issued, some of the applications would have to be rejected or allotted on a pro rata basis, i.e in proportion to what the applicant applied for. (page 13) The whole process above is known as the allotment of shares. Once the allotment is made, payment received upon application will become part of the share capital and for those applications which are unsuccessful the money will be refunded to the unsuccessful applicants. 2.2 Issue of Shares at Par Payment in full The issue is made to shareholders at the nominal value/par value of the shares/debentures as stated in the MOA.

TRANSACTION Cash or application cheque received

JOURNAL ENTRIES on Dr. Bank Account Cr. Application Account (being cash received shares/debentures applied for) Dr. Application Account Cr. Share Capital (being allocation of shares/debentures applied for)

Nominal Values of shares applied for

Cash refunded applications

on

unsuccessful Dr. Application Account Cr. Bank Account (being cash refunded unsuccessful applications)

on

Illustration 1 (no oversubscription) A Bhd. has an authorised share capital of 100,000 ordinary shares of RM1 each. All the shares were issued at par. All the shares were fully subscribed for on 5/1/2002. Record the above transactions showing the necessary journal entries and ledger accounts and prepare the balance sheet extract as at that date. Illustration 2 (oversubscription) A Bhd. has an authorised share capital of 800,000 ordinary shares of RM1 each. A Bhd decided to issue 500,000 ordinary shares at par on 5/1/2002. On the closing day for applications, applications for 550,000 shares were received. Record the above transactions showing the necessary journal entries and ledger accounts and prepare the balance sheet extract as at that date. 2.3 Issue of Shares/Debentures at a Premium Payment in full Shares are issued at a price greater than their face value/nominal value

TRANSACTION Cash or cheque received on application

JOURNAL ENTRIES Dr. Bank Account Cr. Application Account (being cash received shares/debentures applied for) Dr. Application Account Cr. Share Capital (being allocation of shares/debentures applied for)

Nominal Values of shares applied for

Transfer of premium money to share premium Dr. Application Account account Cr. Share premium Account (being record of premium on share/debenture) Cash refunded on unsuccessful applications Dr. Application Account Cr. Bank Account (being cash refunded on unsuccessful applications)

Premium received is to be credited to the Share Premium account and any balance on this account is considered as additional capital to the company which can be used to finance activities of the company.

2.3.1

Users of The Share Premium Account The share premium account is a capital reserve and it is part of the shareholders fund. According to the Companies Act 1965, Section 60(3) the share premium may be applied:j in paying up unissued shares to be issued to members of the company as fully paid bonus shares; j in paying up in whole or in part in the balance unpaid on shares previously issued to members of the company; j in the payment of dividends in the form of shares to the members of the company; j in the case of companies carrying on an insurance business, to appropriate or transfer to any statutory fund established and maintained pursuant to any law of Malaysia relating to insurance; j in writing off:  the preliminary expenses of the company;or  the expenses of, or the commission or brokerage paid or discount allowed on, any duty, fee or tax payable on or in connection with, any issue of shares of the company; or  in providing for the premium payable on redemption of redeemable preference shares Illustration 3 B Bhd. Has an authorised share capital of 500,000 ordinary shares of RM1 each, of which 400,000 had already been issued. The company decided to issue the balance of the shares at a premium 20 sen per share. All the shares were taken by 11/1/2002. You are required to record the issue and prepare a balance sheet extract as at 11/1/2002. Illustration 4 A prospectus was issued inviting applications for 200,000 RM1 ordinary shares to be issued at a premium of 50 sen per share payable in full. The prospectus also offered 200,000 RM8% redeemable preference shares. Applications closed on 20/11/2002 with the ordinary issue oversubscribed by 100,000. The preference shares were fully subscribed. You are required to record the isuue and prepare a balance sheet extract as at 20/11/2002

2.4

Issue of shares at a discount Shares are issued at a value less than their face value or nominal value. TRANSACTION JOURNAL ENTRIES

Cash or cheque received on Dr. Bank Account application Cr. Application Account (being cash received shares/debentures applied for) Nominal Values of shares Dr. Application Account applied for Cr. Share Capital (being allocation of shares applied for) Discount given on application Dr. Discount on Share Cr. Share Capital (being record of discount on shares)

Cash refunded on Dr. Application Account unsuccessful applications Cr. Bank Account (being cash refunded on unsuccessful applications)

Discount on shares can either be written off to the Profit and Loss Account or treat it as current asset in the balance sheet depending on the requirement of the question. If the question is silence, then treat it as current asset in the balance sheet. Illustration 5 CD Bhd. started business on 15/1/99, with an authorised capital of RM300,000. It decided to issue 100,000 ordinary shares of RM1 each at a discount of 10 sen per share. All the shares were taken up. Record the above transactions, showing the relevant journal and ledger accounts and prepare the balance sheet extract as at 15/1/99. Exercise 1 AA Bhd. offered an authorised capital of 1,000,000 ordinary shares of RM1 each, of which 500,000 shares had already been issued. On 15/6/2002 AA Bhd. decided to issue a further 250,000 shares at a premium of 50 sen each.

On 28/6/2002, applications were received for 400,000 shares in full with the share premium. On 7/7/2002, the excess application with the share premium were returned to the applicants. Record the above by journal entries and ledger accounts and prepare the balance sheet extract as at 7/72002 Exercise 2 The Memorandum of Association of Afiq Bhd, a public listed company, allows the company to issue 2,500,000 ordinary shares of RM1.00 each and 500,000 7% preference shares of RM2.00 each. As at 1 January 2001, the company had already issued 500,000 ordinary shares at a premium of RM0.10 per share and 100,000 7% preference shares at par. On 1 January 2002, the company issued a prospectus for the sale of 250,000 ordinary shares at a discount of 5% and 50,000 7% preference shares at RM2.10 per share. Application had been received for 300,000 ordinary shares and 50,000 7% preference shares. On 30 January 2002, shares were alloted to the successful applicants and money refunded to the unsuccessful applicants. You are required to: a. b. Show the journal entries to record transactions that took place between 1 January 2002 and 1 March 2002. Calculate the total value of ordinary share capital and preference share capital as at 30 January 2002.

Exercise 3 Anas Bhd. was registered on 1 January 1990. It has an authorised capital of RM2,000,000 made up of 1,500,000 units of ordinary shares of RM1 each and 500,000 units of 10% preference shares of RM1 each. Up to the year ended 31 December 1997, Anas Bhd.s issued and fully paid up capital is RM800,000 made up of 500,000 units of ordinary shares of RM1 each and 300,000 units of 10% preference shares of RM1 each. On 1 January 1998, Anas Bhd. decided to issue further 500,000 units of ordinary shares at RM1.40 each and the balance of the 10% preference shares at 5% below the par value. Balloting was carried to select the successful applicants and the monies received from unsuccessful applicants were returned.

You are required to write up the following accounts: a. b. c. d. e. 3.0 application account for ordinary shares ordinary share capital account share premium account application account for 10% preference shares 10% preference share capital account

Debentures / Loan capital  It is a document issued by a company to the public stating the terms of the borrowing  A company has to pay a fixed rate of interest to the debenture holders regardless of the performance of the company  Debentures may be redeemable or repayable at or by a specified date  Debentures can be converted into ordinary shares at or by a specified date  Debentures may be listed on the stock exchange or can be traded on the stock exchange  A debenture holder can sell the debenture to anyone 3.1 Differences between Debenture holder and ordinary shareholder DENTURE HOLDER A creditor to the company A fixed rate of interest is paid yearly ORDINARY SHAREHOLDER

An owner to the company A dividend is paid if the company make profit Has the right to claim first in case the Has no right to claim until the company goes liquidation because other parties name claim theirs they are creditors of the company Interest on debentures is an expense Dividends are distribution of profits which is charged to the profit and loss and shown in the profit and loss account appropriation account

3.2

Types of debentures 3.2.1 Secured debentures Debentures that are secured by certain assets of the company. In this case, if the company is unable to pay interest or fails to repay the loan capital on the due date, the trustees can take possession of the charge assets and sell the assets to repay the debenture holders. 3.2.1.1 Types of charges over debentures j Floating charge Debentures are secured to a group of assets. The company may replace an asset from the group of assets charged with another asset

j Fixed charge A specific asset is charged to the debentures. In the event of default, the asset is sold and the proceeds are used to pay the debenture holders 3.2.2 Unsecured debentures Debentures that are not secured by certain assets of the company.

3.3

Issue of debentures Debentures may be issued at par, at a premium or at a discount. The journal entries required on an issue of debentures at par, at a premium and at a discount are the same as for the issue of shares at par, at a premium at a discount. The debentures account must be recorded at the nominal value in the balance sheet. Example 1: (Issue of debentures at par) RMZ Bhd offered for public subscription, 50,000 8% Debentures of RM1 each payable in full at par. All the debentures were taken up. Record the above transactions, showing the relevant journal and ledger accounts and prepare the balance sheet extract.

Example 2: (Issue of debentures at a discount) RMZ Bhd offered for public subscription, 50,000 8% Debentures of RM1 each payable in full at a 10% discount. All the debentures were taken up. Record the above transactions, showing the relevant journal and ledger accounts and prepare the balance sheet extract. The difference between the nominal value and the issue price represents discount on debentures. The discount on debentures will be amortised over the life of the debentures or it may be written off immediately against profits or to profit and loss account. Example 3: (Issue of debentures at a premium) RMZ Bhd offered for public subscription, 50,000 8% Debentures of RM1 each payable in full at a 10% premium. All the debentures were taken

up. Record the above transactions, showing the relevant journal and ledger accounts and prepare the balance sheet extract. The difference between the nominal value and the issue price represents premium on debentures. The premium on debentures account is used to record the premium on issue of debentures. Premium on debentures is a capital gain and should be credited to the Profit and Loss Account as other revenues. There is no restriction on the use of the debenture premium. Exercise 1 The following were extracted from the books of Anas Bhd:

Anas Bhd Balance Sheet as at 31 December 2001 RM Authorised Share Capital: 3,000,000 Ordinary Share at RM1 each 1,500,000 8% Preference Share at RM1 each 3,000,000 1,500,000 4,500,000 Issued and paid Up Capital 2,000,000 Ordinary Share at RM1 each 1,000,000 8% Preference Share at RM1 each Share Premium Profit and Loss 2,000,000 1,000,000 25,000 150,000 3,175,000

Long Term Liabilities 6% debentures 25,000 3,200,000 2,250,000 950,000 3,200,000

Fixed Assets Current Assets

Anas Bhd had recently purchased a property for expansion purpose. In order to finance the property, Anas Bhd decided to invite the public to subscribe its shares. 1. The directors of anas Bhd had decided to sisue:

a. b. c. d. e.

500,000 units of ordinary share at RM1 each at a premium of RM0.20 per share. The shares were 50% oversubscribed. 250,000 8% units of preference share at RM0.90 per share. The shares were oversubscribed by 250,000 units. All shares were fully paid upon application. The company also decided to issue RM25,000 6% debentures at premium of 20%. It is the companys policy to open the premium on debentures account for debentures issued at premium. The discounts on shares issued is to be written off against profit and loss account.

REQUIRED: a. b. prepare all the relevant accounts to record all the transactions the balance sheet as at 31 December 2001