Contributed Surplus: Definition, Accounting Treatment, and Real-world Examples
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Summary:
Contributed surplus, also known as additional paid-in capital, is an essential component of shareholders’ equity on a company’s balance sheet. It represents the capital received from the issuance of shares above their par value. This article delves into the concept of contributed surplus, its significance, and its accounting treatment, using examples and real-world applications.
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Understanding contributed surplus
Contributed surplus, also referred to as additional paid-in capital, plays a crucial role in a company’s financial structure. It represents the excess amount received from the issuance of shares over their par value. When a company issues shares, the funds received are typically allocated into two categories: common stock and contributed surplus.
For instance, if a company issues common shares with a par value of $1 at $15 per share and receives $1.5 million in total, $100,000 will be allocated to common stock (100,000 shares x $1), and the remaining $1.4 million ((100,000 x ($15-$1)) will be recorded as contributed surplus.
Accounting treatment of contributed surplus
The changes in contributed surplus arise from various corporate actions such as share issuances, repurchases, share-based compensation, and tax effects related to these activities. These changes are reflected in the company’s consolidated statement of equity, with the ending balance appearing on the balance sheet under the category “common stock and additional paid-in capital” or similar names.
Example of contributed surplus
An example of contributed surplus can be seen in the financial statements of Cisco Systems, Inc. In its fiscal year 2017, Cisco had approximately $45.3 billion of common stock and additional paid-in capital. Throughout the year, Cisco engaged in various activities including issuing $708 million of common stock, repurchasing $1.05 billion of common stock, repurchasing shares for tax withholdings, paying share-based compensation, and issuing stock for acquisitions.
The role of contributed surplus in shareholders’ equity
Contributed surplus is a significant component of shareholders’ equity, which also includes retained earnings. While contributed surplus represents capital received from shareholders above the par value of shares, retained earnings comprise the accumulated net income of the company minus any dividends paid out to shareholders.
It’s important to note that contributed surplus is sometimes misunderstood as a repository for surplus funds generated by the company. However, the term “contributed” emphasizes that this capital originates from investments made by shareholders.
Frequently asked questions
What is the difference between contributed surplus and retained earnings?
Contributed surplus represents the excess capital received from shareholders over the par value of shares, while retained earnings consist of the accumulated net income of the company minus dividends paid out to shareholders.
How is contributed surplus recorded in financial statements?
Contributed surplus is recorded in shareholders’ equity on the balance sheet. Changes in contributed surplus resulting from share issuances, repurchases, share-based compensation, and related tax effects are reflected in the consolidated statement of equity.
Can contributed surplus be negative?
Yes, contributed surplus can be negative if a company repurchases its shares at a price higher than the original issuance price, or if it engages in other activities that reduce the contributed surplus balance.
Is contributed surplus the same as retained earnings?
No, contributed surplus and retained earnings are distinct components of shareholders’ equity. Contributed surplus represents capital received from shareholders, while retained earnings reflect the accumulated profits of the company.
Key takeaways
- Contributed surplus represents capital received from shareholders above the par value of shares.
- Changes in contributed surplus are recorded in shareholders’ equity and reflected in the company’s financial statements.
- Contributed surplus enhances financial flexibility and reflects investor confidence in the company’s growth prospects.
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