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contract, Ringwood Ltd is required to maintain the debt-equity ratio no more than 45%. Blinda Swift is the CEO of Ringwood Ltd. Her compensation consists
contract, Ringwood Ltd is required to maintain the debt-equity ratio no more than 45%. Blinda Swift is the CEO of Ringwood Ltd. Her compensation consists of fixed payment plus bonus. The amount of bonus is solely linked with the annual net profit made by Ringwood Ltd. During the financial year, Ringwood Ltd issued $50 million preference shares. These shares give the holders the right to a fixed cumulative cash dividend of 5% per annum of the issue price of each preferred share. The preference shares can be redeemed at the discretion of preference shareholders. Required: (a) Discuss whether the preference shares should be treated as liabilities or equity in the financial statements of Ringwood Ltd. Give your justification by referring to relevant accounting standards. (3 marks) (b) Blinda Swift directs accountants of Ringwood Ltd to classify the preference shares as equity. Explain Blinda's decision using the debt-equity hypothesis and the bonus plan hypothesis of Positive Accounting Theory respectively. (8 marks)
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