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Chapter 13

AFM391 Chapter Notes - Chapter 13: Share Repurchase, Shares Outstanding, Issued Shares


Department
Accounting & Financial Management
Course Code
AFM391
Professor
Christine Wiedman
Chapter
13

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Chapter 13: Equities
1
Shareholders’ Equity
Equity refers to the ownership interest in the assets of an entity after deducting its liabilities.
It represents the residual interest: Equity = Assets - Liabilities
Equity has legal priority below liabilities.
In case of liquidation, available funds go toward paying off liabilities prior to paying equity
claims.
Contributed Capital
Contributed capital is a component of equity representing amounts received by the reporting
entity from transactions with its owners, net of any repayments from capital.
It mostly relates to share issues and repurchases.
E.g., If a company issues 10K shares for $20 each, and later repurchases 1K of these shares at the
same price, the contributed capital would be:
Contributed capital = 10K shares x $20/share 1K shares x $20/share = $18K
Shares have a number of characteristics:
residual claims
par value
cumulative dividends
voting rights
authorized, issued, or outstanding
Classes of Shares
Corporations issue two types of shares:
Common shares are the basic voting shares by a corporation.
They are called residual equity because they rank after preferred shares for dividend and
liquidation distributions (i.e., they have the lowest priority).
They have the most downside potential should the business fail, but the most upside
potential should the business be successful.

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Because common shares represent the ownership interest, every firm must have a class
of common shares
They are called Ordinary Shares under IFRS.
Preferred shares are any shares that are not common shares.
Preferred shares have priority over common shares w.r.t.:
Receipt of dividends, and
Claim on the entity’s net assets in liquidation.
Preferred shares are usually non-voting shares.
Not all corporations issue preferred shares
Shares With or Without Par Value
Par value of share is a legal term referring to the nominal value of a share, in contrast to the
amount the share was sold for (similar to a bond’s face value and its price).
For preferred shares, par value is important for determination of dividends.
For example, dividend rate is sometimes expressed relative to par value:
Today most stocks are issued with either a very low par value (e.g., $0.01/share) or no par value
at all.
If stock price drops below par, the company owes the par to its shareholders.
As we will see, accounting for stocks with par value is different than accounting for stocks with no
par value.
For stocks with par value, the difference between issue price and par value is recorded
through the contributed surplus account, which is a component of contributed capital
The Canada Business Corporation Act (CBCA) does not permit par value shares.
Some provincial laws permit par value shares (e.g., ON and BC).
Cumulative vs Non-cumulative Dividends
Regardless of whether a share is a common or preferred share, dividends are always discretionary
(i.e., payable only if declared by BoDs).
Companies are loath to miss dividend payments even though dividends are discretionary.
Why?
Because dividend schedule is a commitment to disabuse cash to shareholders on a regular
basis, and failure to do so is a signal that the company is in financial difficulty.
Preferred shares can be:
Cumulative: preferred shareholders with cumulative shares must receive all dividend
payments in arrears (i.e., those scheduled but not declared) before common
shareholders.

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That is a company can defer but not avoid a cumulative dividends on preferred
shares if it has to pay dividends on common shares.
Non-cumulative: preferred shareholders with non-cumulative shares possess no rights to
missed dividends payments
Voting Rights
Voting rights are assigned by the corporation in a variety of ways according to its articles of
incorporation.
Majority of large public companies assign one vote per common share (i.e., decision rights match
economic ownership)
Note that preferred shares are usually non-voting shares.
However, private companies use shares with a variety of voting rights to suit their needs.
Authorized, Issued, and Outstanding Shares
Authorized shares:
Maximum amount of shares a corporation is allowed to sell as authorized by its articles f
corporation.
Many companies specify an unlimited number of authorized shares.
Shares issued:
Number of shares sold to shareholders.
Shares issued= Shares outstanding + Treasury shares
Treasury Shares:
Issued shares that have been repurchased by the corporation.
Shares outstanding:
# of shares currently in the
hands of shareholders (Issued
shares less Treasury shares).
E.g., If a corporation issued
100,000 shares and later
repurchased 20,000 shares,
then the # of share
outstanding is 80,000.
Retained Earnings
Retained earnings is a component of equity that reflects the cumulative net income (profit or
loss) minus dividends paid.
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