ALL ACTIVITIES

Answer:

Yes, that safeguards are adequate for public. Company should provide some data for public
knowledge about their company so they can think twice before invest. For that company, it is
fair to divide their company and personal liabilities, so they can keep professional. For
public, maybe it is not fair, it is why they need to think twice, and company should provide
data for public to analyze. Yes, it is acceptable to encourage new businesses to be formed.

Answer:
Advantages Disadvantages

Free from personal bankruptcy Formal accounting records to be kept

The business carries on in perpetuity The Companies Act 2006 accounting

requirements apply
Gives some status in the community Disclosure of information to the public
Answer:
a) Net profit for the year before taxation
b) Dividends

Answer:
a) current liabilities
b) non-current liabilities
c) non-current assets
d) non-current liabilities
e) current assets

SUMMARY
From the last week we have study company accounts. This chapter is important for a non-
accountant because it shows how the material covered in earlier chapters can be adapted
for use in preparing company accounts. as many non-accountants work for a company
(while others will have contact with one), this chapter will help them to do a better job if
they know something about the origin, structure and operation of companies. they will be
even better placed if they can then use the available accounting information to assess the
past and future performance of their own company and compare it with its competitors. in
order to be able to do so, it is necessary to know where the accounting information comes
from, what it includes, how it has been summarised and any deficiencies that it may have.
this can be best achieved by being able to prepare a simple set of financial statements for
a company.
1. Limited liability
Disadvantages of sole trader and partnership, There is a great personal risk in operating a
business as a sole trader or as a partnership. If the business runs short of funds, the
owners may be called upon to settle the business’s debts out of their own private
resources. This type of risk can have a damaging effect on the development of new
businesses. The concept of limited liability was born although it was not entirely an
innovation of the nineteenth century. It eventually received legal recognition in 1855
when the Limited Liability Act was passed. The important point about a limited liability
company is that no matter what financial difficulties it may get into, its members cannot
be required to contribute more than an agreed amount of capital, so there is no risk of its
members being forced into bankruptcy. The concept of limited liability is often very
difficult for business owners to understand, especially if they have formed one out of
what was originally a sole trader or a partnership entity. Unlike such entities, companies
are bound by some fairly severe legal operating restrictions. The legal restrictions can be
somewhat burdensome but they are necessary for the protection of all those parties who
might have dealings with the company (such as payables and employees). This is because
if a limited liability company runs short of funds the payables and employees might not
get paid. It is only fair, therefore, to warn all those people who might have dealings with
it that they run a risk in doing business with it. So companies have to be more open about
their affairs than do sole traders and partnerships.
2. Structure and operation
 Equity
Only one person is required to form a private company and that person
(or persons if there is more than one) agrees to make a capital contribution by buying
a number of shares. The capital of a company is known as its share capital. The share
capital will be made up of a number of shares of a certain denomination, such as 10p,
50p or £1. The maximum amount of capital that the company envisages ever raising
has to be stated. This is known as its authorised share capital, although this does not
necessarily mean that it will issue shares up to that amount. The amount of share
capital that it has actually issued is known as the issued share capital. Sometimes,
when shares are issued, prospective shareholders are only required to pay for them in
instalments. Once all the issued share capital has been paid for, it is described as
being fully paid. There are two main types of shares: ordinary shares and preference
shares. The holders of ordinary shares are the owners of the company. The holders of
preference shares are payables to the company (more on those later). Ordinary shares
entitle the shareholder to a share of the profit made by the company, which is paid in
the form of dividends. The specific level of dividend is an arbitrary. Managers may
decide to pay all of the profit of the company to the shareholders as dividends, or
none at all and reinvest all the profit, or they may pay some out as dividends to
shareholders and keep the remainder (the so called retained earnings). The funds
received by a company from ordinary shareholders in exchange for the issue of
ordinary shares, as well as any profits retained as reserves in the business, are referred
to as equity capital. Despite being called ‘shares’, preference shares are debt, rather
than equity, and are not ordinarily part of the share capital structure of a company.
 Preference shareholders are not owners of the company. They are payables.
Preference shareholders are normally entitled to a fixed level of dividend (which is in
effect like interest on a loan that was given to the company) and they have priority
over the ordinary shareholders in receiving dividends as well their investment back if
the company is liquidated. Sometimes the preference shares are classed as cumulative;
this means that if the company cannot pay its preference dividend in one year, the
amount due accrues until such time as the company has the profits to pay all of the
accumulated dividends.
 Types of companies
A prospective shareholder may invest in either a public company or a private
company.
a) A public company (go public) must have an authorised share capital of at least
£50,000, and it becomes a public company merely by stating that it is a public
company. In fact, most public limited companies in the United Kingdom have
their shares listed on the London Stock Exchange and so they are often referred to
as listed (or quoted) companies. As a warning to those parties who might have
dealings with them, public companies have to include the term ‘public limited
liability company’ after their name (or its abbreviation ‘plc’). = Tbk
b) A private company like public companies, private companies must also have a
amount of authorised share capital although no minimum amount is prescribed.
Otherwise, their share capital requirements are very similar to public companies.
Private companies also have to warn the public that their liability is limited. They
must do so by describing themselves as ‘limited liability companies’ and attaching
the term ‘limited’ after their name (or the abbreviation ‘ltd’).
 Debt
Besides obtaining the necessary equity capital from their shareholders, companies
often secure debt funding by borrowing money from banks or investors. In addition
to ordinary loans which you are familiar with and the preference shares explained
earlier, the company may issue bonds or debentures. Debentures, bond is a debenture
loan in particular may be secured on specific assets of the company, on its assets
generally or it might not be secured at all. If the loan is secured and the company
cannot repay it on its due repayment date, the debenture holders may sell the secured
assets and use the amount to settle what is owing to them. Bonds and debentures, like
shares, may be bought and sold freely on the Stock Exchange. The nearer the
redemption date for the repayment for the bonds or debentures, the closer the market
price will be to their nominal value, i.e. their face, or stated paper value. If they are to
be redeemed at a premium, i.e. in excess of their nominal value, the market price may
exceed the nominal value. Debt holders are not shareholders of the company and they
do not have voting rights. From the company’s point of view, one further advantage
of raising capital in the form of debt instruments is that, for taxation purposes, the
interest can be charged as a business expense against the profit for the year (unlike
dividends).
 Disclosure of information
It is necessary for both public and private companies to supply a minimum amount of
information to their members. The detailed requirements will be examined in Chap-
 ters 8 and 9. You might find it surprising to learn that shareholders have neither a
right of access to the company’s premises nor a right to receive any information that
they demand. Instead, shareholders in both private and public companies have to be
supplied with an annual report containing at least the minimum amount of information
required by the Companies Act 2006.
 Accounts
Company accounts are very similar to those of sole traders. They do, however, tend to
be more detailed and some modifications have to be made in order to comply with
various legal requirements.
 Directors
A limited liability company must always be regarded as a separate entity, i.e. separate
from those shareholders who own it collectively and separate from anyone who works
for it. This means that all those who are employed by it are its employees, no matter
how senior they are. Nevertheless, someone has to take responsibility for the
management of the company and so the shareholders usually delegate that
responsibility to directors. Directors are the most senior level of management. They
are responsible for the day-to-day running of the company and they answer to the
shareholders. Any remuneration paid to them as directors is charged as an expense of
the business. They may also be shareholders but any dividends that they receive are
regarded as being a private matter.
 Dividends
As we explained earlier, profits are usually distributed to shareholders in the form of a
dividend. A dividend is calculated on the basis of so many pence per share. The actual
dividend will be recommended by the directors to the shareholders. It will be based on
the amount of net profit earned during the year and how much profit the directors
want to retain in the business. A dividend may have been paid during the year as an
interim dividend, i.e. a payment on account. At the year end the directors may
recommend a final dividend. The final dividend has to be approved by the
shareholders at a general meeting.
 Taxation
Taxation is another feature which clearly distinguishes a limited liability company
from that of a sole trader entity. Sole traders do not have tax levied on them as
entities. Instead, tax is levied on the amount of profit the owner has made during the
year. The tax payable is a private matter and in accordance with the entity rule, it lies
outside the boundary of the entity. Any tax that appears to have been paid by the
entity on the owner’s behalf is treated as part of the owner’s drawings, i.e. an amount
paid as part of the share of the profits. Companies are treated quite differently. They
are taxed in their own right like individuals. They have their own form of taxation
known as corporation tax.

3. The statement of profit or loss

An example of a company’s statement of profit or loss is shown in Example 5.1 . It is
very similar to the sole trader example used in the previous chapter so that you can
easily see the differences.You can see from Example 5.1 that the company’s net profit
for the year is appropriated (or used) in three ways:
● to pay tax;
 ● to pay dividends;
● for retention within the business.
The appropriation of tax is shown as part of the statement of profit or loss. The other
appropriations of profit are shown on a separate statement.

4. The statement of changes in equity

The contributions made by shareholders as well as payments to them are shown on a
complex statement called the statement of changes in equity (SCE). For example,
when a company issues new shares or cancels shares, the movement between share
capital at the start and end of a period will be shown in that statement. The complexity
of the statement of changes in equity is beyond the scope of this book but one part of
it – the calculation showing how much of profits is distributed as dividends to
shareholders and how much is retained in reserves – we have already seen in Chapter
4 (except that for sole traders we referred to these payments to the owners as
drawings).

5. The statement of retained earnings

Small companies in the United Kingdom do not have to prepare the statement of
changes in equity but they do still have to show how profits are appropriated. This is
done in a statement of retained earnings (SRE) which really is just an extract from the
statement of changes in equity.

6. The statement of financial position

The structure of a limited liability company’s statement of financial position is also
very similar to that of a sole trader. The main difference arises because of the
company’s capital structure although there are some other features that are not usually
found in non-company statements of financial positions.