Summary IB1240_IFA_Week 6_ Company Financial Statements
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Course
(IB124)
Institution
The University Of Warwick (UoW)
Company Financial Statements. Notes summarising all the content from lectures and includes worked examples to better understand concepts. Grade attained: 80%
Challenging Concepts:
● Differentiate between the statement of profit or loss of companies, sole traders and partnerships
● Understand allotted share capital and called-up share capital of a company
● Determine the items considered as revenue reserves in the statement of financial position of a
company
THE NATURE OF LIMITED COMPANIES AND THEIR CAPITAL
Introduction
● As discussed in Chapter 1, there are several different legal forms of organisation. These can be
grouped into two categories, known as bodies sole and bodies corporate
○ Bodies sole, or unincorporated bodies, consist of sole traders and partnerships
○ All other forms of organisation are bodies corporate
● A key feature of bodies corporate, or incorporated bodies, is that they are all recognised by law as
being a legal entity separate from their members
● A body corporate is one that is created either by Royal Charter, such as the Institute of Chartered
Accountants in England and Wales or by Act of Parliament
○ The Act of Parliament may either relate to the creation of a specific organisation, such as
the British Broadcasting Corporation (BBC), or alternatively permit the creation of a
particular form of legal entity by any group of individuals
○ The most common forms of legal entity that can be created under such Acts of Parliament
include building societies, life assurance, friendly societies and companies
The Characteristics of Companies Limited by Shares
● A company is a legal entity that is separate from its shareholders (owners). This means that
companies enter into contracts as legal entities in their own right.
○ Thus creditors and others cannot sue the shareholders of the company but must take legal
proceedings against the company. This is referred to as not being able to lift the veil of
incorporation
● A company has perpetual existence in that the death of one of its shareholders does not result in
its dissolution. This may be contrasted with a partnership, where the death of a partner constitutes
a dissolution.
● The liability of a company’s shareholders is limited to the nominal value of their shares. Limited
liability means that if a company’s assets are insufficient to pay its debts, the shareholders cannot
be called upon to contribute more than the nominal value of their shares towards paying those
debts.
● The shareholders of a company do not have the right to take part in its management as such. They
appoint directors to manage the company. However, a shareholder may also be a director (or
other employee).
● Each voting share carries one vote at general meetings of the company’s shareholders (e.g. in the
appointment of directors). There may be different classes of shares, each class having different
rights and, possibly, some being non-voting.
● A limited company must have at least two shareholders but there is no maximum number.
, The Classes of Companies Limited by Shares
● There are two classes of companies limited by shares, namely public and private.
○ Under the Companies Act a public limited company must be registered as such. The
principal reason for forming a public limited company is to gain access to greater
amounts of capital from investment institutions and members of the public
● All other limited companies are private companies. These are not allowed to offer their shares for
sale to the general public and thus do not have a stock exchange quotation. One of the main
reasons for forming a private rather than a public company is that it enables its owners to keep
control of the business, for example, within a family.
● The name of a public company must end with the words ‘public limited company’ or the
abbreviation ‘plc’. The name of a private company must end with the word ‘limited’ or the
abbreviation ‘Ltd’. A business that does not have either of these descriptions after its name is not
a limited company even if its name contains the word ‘company’ (the only exception being
certain companies that have private company status, such as charities, who are permitted under
licence to omit the word limited from their name).
The Nature and Types of Share and Loan Capital
● Equity Shares
○ An equity share is also referred to as an ordinary share in the UK. Possession of an equity
voting share represents part ownership of a company and it entitles the holder to one vote
in general meetings of the company’s equity shareholders. This gives shareholders the
power to appoint and dismiss a company’s directors.
○ The holder of an equity share is also entitled to a share of the company’s annual profit in
the form of a dividend. The amount of the dividend per share is decided each year by the
company’s directors and varies according to the amount of profit. In years when the
company earns high profits, the equity shareholders are more likely to receive a large
dividend.
○ However, equity shareholders run two risks.
■ When profits are low they may receive little or no dividend
■ Should the company go bankrupt (‘into liquidation’ is the correct legal term) the
equity shareholders are not entitled to be repaid the value of their shares until all
the other debts have been paid. Often, where a company has made substantial
losses, there is little or nothing left for equity shareholders after the company has
paid its other debts.
● Preference Shares
○ Unlike equity shares, preference shares carry no voting rights. Preference shareholders
are entitled to a fixed rate of dividend each year based on the nominal value of the shares.
○ Preference shareholders are entitled to their dividend after all the company’s expenses,
tax and debt commitments have been paid. Therefore, they rank behind normal company
creditors and lenders in yearly terms when it comes to receiving their dividend, but rank
in front of equity shareholders and will receive their dividend before equity shareholders
can get any distribution (dividend).
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