Classify company reserves and dividends
Distinguish capital and revenue reserves, and show how profit and dividends flow through company equity.
Exam scope and assessment notes
Cambridge International AS & A Level Accounting 9706, 2026–2028 syllabus, Version 2. These original lessons cover objective 1.5.4: ordinary shares, rights and bonus issues, debentures, dividends, reserves, company statements and finance choices. Preference shares are excluded by the syllabus. The statement formats follow Cambridge Teacher Guidance for 9706 Accounting (examination from 2023). Practice is self-checked, not an official Cambridge grade; full timed-paper practice and human subject-teacher review remain outstanding.
Before you begin
- Use Topics 1.2 and 1.5.1–1.5.3 to interpret double entries, period adjustments and the difference between business profit and an owners’ distribution.
Work on paper. Try each question before revealing help, and explain why your method works.
Quick readiness check
A $3,000 transfer is made from retained earnings to general reserve. What happens immediately to total equity?
What you will learn
- Classify share premium, revaluation reserve, general reserve and retained earnings
- Explain ordinary dividends as distributions rather than operating expenses
- Reconcile retained earnings and total equity movements
Name reserves by their source
Share premium and revaluation reserve are capital reserves in this syllabus. Retained earnings and general reserve are revenue reserves. Share capital is shown separately from reserves in the equity section.
A transfer of retained earnings to a general reserve moves equity between reserve headings; it does not create additional total equity. A share issue may increase share capital and, when issued above nominal value, share premium. Follow any restriction the syllabus or question places on a reserve.
Dividends distribute profit to shareholders
An ordinary dividend is a distribution to shareholders in their capacity as owners, not an operating expense used to calculate profit for the year. A dividend paid reduces cash and retained earnings; it is shown as a deduction in the statement of changes in equity under the Cambridge teacher guidance.
The statement of changes in equity reconciles opening balances, share issues, profit for the year, reserve transfers and dividends to closing equity. Transfers between reserves change individual columns but not total equity; profit increases retained earnings before distributions.
Pause and explain
Profit is $20,000 and ordinary dividends of $5,000 are paid. What is the net effect of these two items on retained earnings, before other movements?
Worked example
Opening balances are share capital $80,000, share premium $10,000, revaluation reserve $3,000, general reserve $5,000 and retained earnings $24,000. Profit for the year is $18,000; dividends paid are $4,000; $2,000 is transferred from retained earnings to general reserve. Calculate closing reserves and total equity.
Show the worked solution
- Closing retained earnings = 24,000 + 18,000 − 4,000 − 2,000 = $36,000.
- Closing general reserve = 5,000 + 2,000 = $7,000.
- Share premium remains $10,000 and revaluation reserve $3,000; share capital remains $80,000.
- Total equity = 80,000 + 10,000 + 3,000 + 7,000 + 36,000 = $136,000.
Answer Closing reserves are share premium $10,000, revaluation reserve $3,000, general reserve $7,000 and retained earnings $36,000. Total equity is $136,000.
Try a topic test
Choose Easy, Normal or Difficult. Save your answers and open worked review after finishing.
Test this topic →From guided practice to a new situation
Write your answer and reasoning first. Use a hint only if you are stuck. The model solution is for self-checking; your written work is not automatically marked.
Opening retained earnings are $40,000. Profit is $15,000; dividends paid are $3,000; a $2,000 transfer is made to general reserve. Calculate closing retained earnings and the change in total equity from these movements.
Give me a hint
Subtract distributions and reserve transfers from retained earnings, but do not treat the internal transfer as a total-equity loss.
Compare my reasoning
- Closing retained earnings = 40,000 + 15,000 − 3,000 − 2,000 = $50,000.
- General reserve rises by $2,000.
- Total equity rises by profit less dividends: 15,000 − 3,000 = $12,000.
Retained earnings close at $50,000. The total-equity increase is $12,000; the $2,000 reserve transfer has no effect on total equity.
Look for these in your work
- Retained earnings correct
- Transfer posted to general reserve
- Total-equity change distinguished
Classify each balance as share capital, capital reserve or revenue reserve: ordinary share capital, share premium, retained earnings, revaluation reserve and general reserve.
Give me a hint
Use the syllabus distinction between capital and revenue reserves.
Compare my reasoning
- Ordinary share capital is share capital, not a reserve.
- Share premium and revaluation reserve are capital reserves.
- Retained earnings and general reserve are revenue reserves.
Share capital: ordinary shares. Capital reserves: share premium and revaluation reserve. Revenue reserves: retained earnings and general reserve.
Look for these in your work
- Share capital separated
- Both capital reserves classified
- Both revenue reserves classified
A manager proposes showing an ordinary dividend as a distribution cost because it was paid during the year. Explain where it belongs and the effect of that classification error.
Give me a hint
Ask whether the payment is made to earn revenue or to distribute profit to owners.
Compare my reasoning
- An ordinary dividend is paid to shareholders in their owner capacity.
- It is a distribution of profit and reduces equity, rather than a cost of generating sales.
- Treating it as an expense understates profit and misstates the relationship between operating performance and owner distributions.
Show dividends as an equity distribution, not an operating expense. If treated as an expense, the statement would understate profit and blur business performance with the allocation of profit to owners.
Look for these in your work
- Owner distribution identified
- Equity location named
- Misclassification effect explained
Common mistakes
- Calling retained earnings or a general reserve a capital reserve
- Deducting dividends as an operating expense before profit
- Counting an internal reserve transfer as new total equity
What can you explain now?
Which is a revenue reserve: share premium or retained earnings?
Compare with the explanation
Retained earnings
Retained earnings accumulate profits; share premium is classified as a capital reserve.
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Make it stick
Name the two capital reserves and two revenue reserves in the 9706 syllabus, then state where paid ordinary dividends are shown.
If you needed the solution, close it and solve the problem again from a blank page. A correct answer is stronger when you can explain the reason for each step.