Chapter 11 Notes

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Financial Accounting
Liang Chen

Chapter 11 Reporting and Analyzing Shareholders Equity Notes The Corporate Form of Organization N corporationorganized as separate legal entity, with most of rights and privileges of person; shares are evidence of ownership N may be classified in variety of waystwo common classifications are by purpose and by ownership; corporation may be organized for purpose of making profit, or it may be not-for-profit N public corporation may have thousands of shareholders, and its shares are regularly traded on a securities market, such as TSX N private corporation (closely held corporation) usually has only a few shareholders, does not offer its shares for sale to general public; generally much smaller than public companies, although there are some big exceptions N other more specialized forms of corporations in Canada, such as income trust N income trust is special or limited purpose company that is set up specifically to invest in income-producing assets; its trust units are traded on organized securities exchanges; trust pays out most of its earnings to investors, called unitholders N only significant difference in accounting for income trusts compared to other types of corporations involves their distribution of earnings and equity structure, else they are accounted for in the same way Characteristics of a Corporation Separate Legal Existence N as entity that is separate and distinct from its owners, corporation acts under its own name rather than in name of its shareholders N acts of corporations owners (shareholders) do not bind corporation unless these owners are also agents of corporation Limited Liability of Shareholders N liability of shareholders is limited to their investment in corporation, and ownership is represented by number of shares that individual shareholder owns, meaning that creditors only have access to corporate assets to satisfy their claims N in other words, shareholders cannot be made to pay for companys liabilities out of their personal assets N limited liability is a significant advantage for the corporate form of organization, however, in certain situations, creditors may demand a personal guarantee from a controlling shareholder N this has the effect of making the controlling shareholders personal assets available, if required, to satisfy the creditors claim which, of course, eliminates or reduces the advantage of limited liability Transferable Ownership Rights N ownership of corporation is held in shares of capital, which are transferable units N shareholders can dispose of part or all of their interest in a corporation simply by selling their shares N transfer of shares is entirely up to shareholder and does not require approval of either corporation or other shareholders N in addition, the transfer of ownership rights among shareholders has no effect on the operating activities of the corporation nor does it affect the corporations assets, liabilities, or shareholders equity N transfer of ownership rights is a transaction between individual shareholders and the corporation does not participate in the transfer of these ownership rights; it is only involved in the original sale of the share capital Ability to Acquire Capital N it is fairly easy for corporation to obtain capital by issuing shares N buying shares in a corporation is often attractive to an investor because a shareholder has limited liability and shares are readily transferable; also, many individuals can become shareholders because only small amounts of money need to be invested N ability of successful corporation to obtain capital is almost unlimitedonly true for large, publicly traded corporations N small, or closely held, corporations can have as much difficulty in acquiring capital as do proprietorships or partnerships Continuous Life N corporations have an unlimited lifesince a corporation is a separate legal entity, its continuance as a going concern is not affected by the withdrawal, death, or incapacity of a shareholder, employee, or officer N as a result, a successful corporation can have a continuous and indefinite life Corporation Management N shareholders can invest in a corporation without having to manage it personallyalthough shareholders legally own the corporation, they manage it indirectly through a board of directors they elect N the board, in turn, sets the broad strategic objectives for the company, and also selects officers, such as a president and one or more vice-presidents, to execute policy and to perform daily management functions Government Regulations N Canadian companies may be incorporated federally, under the terms of the Canada Business Corporations Act, or provincially, under the terms of a provincial business corporations act N federal and provincial laws usually state the requirements for issuing and reacquiring shares and distributing earnings N similarly, the regulations of provincial securities commissions control the sale of share capital to the general public N when a corporations shares are listed and traded on foreign securities markets, the corporation must also respect the reporting requirements of these exchanges, which implies that complying with federal, provincial, and securities regulations in multiple jurisdictions increases the cost and complexity of the corporate form of organization Income Taxes N corporations must pay income taxes as separate legal entities (with the exception of real estate income trusts and mutual fund investment trusts), which can be substantial and can amount to as much as 35% of taxable income N there are, however, income tax rate reductions available to some corporationswith eligible reductions, or other corporate tax incentives, corporations tax rate may be reduced to between 13 and 20% on certain kinds of active small business income
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