Equity Financing

Par Value

-A monetary amount assigned to each class of stock for accounting purposes only -Has no relationship to market value

Common Stock

-Common stockholders have voting privileges -Election of board of directors -Vote on significant activities of management -Dividend rates are determined by the board of directors based on the corporation's profitability -Receive dividends after preferred stockholders

Treasury stock

-Considered issued stock but not outstanding stock ( Does not have voting rights and cannot receive dividends) -Recorded at its re-acquisition cost -Not recorded at par value -No gains or losses are ever recognized from these equity transactions - transactions involving our own stock never affect the income statement

Characteristics of cash dividends

-Dividends must be declared by the board of directors before they can be paid -The corporation is not legally required to declare (and subsequently pay) dividends -Dividends are not classified as an expense and thus do not impact net income. Rather, dividends are paid out of net income. -Dividends are classified as a contra-equity account because they reduce equity (specifically retained earnings) -Cash dividends require sufficient cash and retained earnings to cover the dividend -Normal balance of dividends account is a debit -Once a dividend is declared, a liability is created

Preferred stock

-Has dividend preference - means if a dividend is paid the preferred stockholders must be paid in full before common stockholders can receive a dividend -The preferred stock dividend is set at a fixed percentage -Preferred stockholders typically do not have voting rights

Debt Financing

-Loans; repay with interest -Liable for amount of loan -Relationship ends with repayment

Equity financing

-No responsibility to repay -Investor takes risk -Investor rewarded by company's future success

Treasury stock

-Results in a decrease to total stockholders' equity on the balance sheet -Classified as a contra-equity account -Normal balance is a debit

Why a corporation wants to reacquire stock

-To reduce the shares outstanding and thus increase the market value per share -Because the market price is low -To remove shares from the market to avoid a hostile takeover -To use in employee stock option programs -To give cash back to existing employees -To increase the reported earnings per share

3 important dates relating to dividends

1. Date of declaration 2. date of record 3. date of payment

Note

1. Dividends are only paid on outstanding shares 2. No dividends are paid on treasury stock

Date of declaration key points

1. The day retained earnings is deducted 2. A liability is established on this day 3. Income statement and cash flow statement not affected 4. Balance sheet effects → liabilities increase and equity decrease

Date of record key points

1. stockholder must own the stock on this day to receive dividend 2. Financial statements and company's accounting records (journal and ledger) are not impacted in any way on the date of record

Date of payment key points

1. the date of payment is the day stockholders are given cash 2. income statement not affected 3. statement of cash flows will show a financing cash outflow 4. balance sheet effects → assets decreased and liabilites decreased

Earnings per share

=(Net income-Preferred stock dividends)÷# of common shares outstanding

Price earnings ratio

=Market price per share of stock ÷ earnings per share

Return on Equity

=Net Income÷Average Equity

total preferred stock dividend

=par value per share × % × # shares outstanding

Preferred stock dividend

=par value per share × % ←per share dividend

Treasury stock

A corportation's own stock that has been re-acquired

Cash dividends

Cash distribution of earnings to stockholders

Price earnings ratio

Different from other ratios because it is a comparison of a financial statement number to a market value number

Dividends

Distributions to the owners of a company (stockholders)

ROE, EPS, PE Ratios

Financial statements relating to stockholder's equity

Return on Equity

Fundamental measure of overall company performance (higher is better)

Earnings per share

Measures the amount of net income associated with each share of common stock (higher is better)

Return on Equity

Measures the amount of profit earned per dollar of invested capital (stockholder investment). If this is 15%, 15 cents of profit were earned for each dollar of stockholder investment

Price earnings ratio

Measures the investors' expectations regarding the growth potential and earnings stability of a company (higher is better because it is associated with firms for which strong growth is predicted in the future)

Cumulative preferred stock

Preferred stockholders must be paid both current and prior years unpaid dividends before common stockholders can receive any dividends

Dividends in arrears

Prior years unpaid preferred stock dividends. Do no represent actual liabilities and thus are not recorded in the accounts, but must b e disclosed in the notes of financial statements

Debit account

Re-issue price < re-acquisition cost

Credit equity account (Paid in Capital - treasury)

Re-issue price > re-acquisition cost (excess)

Earnings per share

Tells an individual stockholder how much of a company's net income is associated with his or her ownership interest (how much of a company's net income for the year belongs to him/her)

Retained earnings

The account cannot be debited for more than its balance. If a deficit still exists after debiting the paid-in capital-treasury account, reduce...

Same

The accounting for preferred and common stock is the...

Contributed Capital

The amount that owners have contributed through the purchase of stock. -Capital Stock

Date of payment

The date on which a corporation pays dividends to its stockholders

Date of declaration

The date the corporation's board of directors formally decides to pay a dividend to stockholders

Date of record

The date which a stockholder must own the stock in order to receive the declared dividend

Retained Earnings

The net income earned by the company not paid out as dividends

Authorized, issued, and outstanding

Three types of shares

income statement

Transactions involving our own stock never affect the...

Preferred and Common

Two types of capital stock

Depends on the relationship between the re-issue price and re-acquisition cost

What happens when the shares that were re-acquired are re-issued?

Accounting rule

When stock is sold to owners (stockholders), the stock account is only recorded at par value -- the excess of the selling price of the stock over the par value is recorded in the equity account called paid in capital

Key point

When treasury stock is re-issued, always remove it from the balance sheet at its re-acquisition cost

Outstanding shares

the total number of shares actually in the hands (owned) of stockholders

Authorized Shares

the total number of shares of stock that the company is allowed to sell to the public

Issued shares

the total number of shares that have been sold to the public

Contributed Capital and Retained earnings

two categories of equity