Accounting 2036: Ch.11 Stockholder's Equity Review

Dividends on Common Stock

- Declared by board of directors - Not legally required - Creates liability at declaration - Requires sufficient Retained Earnings and Cash

Stock Used to Compensate Employees

- Employees pay packages can include stock options - Gives the employees the options to acquire company stock at a later date at a predetermined price - If the employees work hard and meet the corporation's goals the stock price will increase - Employees can then exercise their option to acquire stock at the lower predetermined price and sell it at the higher price for a profit

Repurchase of Stock: Stock options

- National Beverage repurchases its own stock (Treasury stock) - Employee compensation package includes salary plus stock options. Stock options allow employees to purchase stock at a later date from the corporation at a fraction of the stock's market price.

Dividends Dates

1. Declaration Date 2. Date of Record 3. Date of Payment 4. Year End

Advantages of Equity Financing

1. Equity does not have to be repaid 2. Dividends are optional

Advantages of Debt Financing

1. Interest on debt is tax deductible 2. Debt does not change stockholder control

Stockholders' Equity Section of the balance sheet: Elements

1.) Contributed Capital: reports the amount of capital the company received from investors' contributions 2.) Retained Earnings: reports the cumulative amount of net income earned by the company less the cumulative amount of dividends since the corporation was first organized. Retained Earnings represents earned capital 3.) Treasury Stock: reports shares that were previously issued to and owned by stockholders but have reacquired and are now held by the corporation. 4.) Accumulated Other Comprehensive Income (Loss): reports unrealized gains and losses, which are temporary changes in the value of certain assets and liabilities the company holds. They can relate to pensions, foreign currencies, and financial investments. Accounting rules relating to Accumulated Other Comprehensive Income (Loss) are explained in advanced financial accounting courses.

Key Transactions that Involve Common Stock

1.) Initial Issuance of Stock 2.) Repurchase of stock into treasury 3.) Issuance of treasury stock

What two key financial requirements must be met to declare a cash dividend?

1.) Sufficient Retained Earnings 2.) Sufficient Cash

Why would a company issue a stock dividend?

1.) To lower the market price per share of stock 2.) To demonstrate commitment to stockholders while conserving cash during difficult times 3.) To signal an expectation of significant future earnings

Benefits to Owners of Common Stock

1.) Voting rights 2.) Dividends 3.) Residual Claim 4.) Preemptive rights

Corporate Ownership: Stockholder Benefits

1.) Voting rights 2.) Dividends 3.) Residual claims 4.) Preemptive rights

E-11 8 Recording Treasury Stock Transactions an Analyzing Their Impact Answers (Impact)

3. What impact does the purchase of treasury stock have on dividends paid? Dividends are not paid on treasury stock. Therefore, the total amount of cash dividends paid is reduced when treasury stock is purchased. 4. What impact does the issuance of treasury stock for an amount higher than the purchase price have on net income? The sale of treasury for more or less than its original purchase price does not have an impact on net income. The transaction affects only balance sheet accounts.

Repurchase of Stock: Textbook

A corporation may want to repurchase its stock from existing stockholders to: (1) send a signal to investors that the company itself believes its own stock is worth acquiring (2) obtain shares that can be reissued as payment for purchases of other companies (3) obtain shares to reissue to employees as part of employee stock purchase plans (4) reduce the number of outstanding shares to increase per-share measures of earnings and stock value

Repurchase of Stock

A corporation repurchases its stock to: 1.) Send a signal that the company believes its stock is worth acquiring 2.) Obtain shares to reissue for the purchase of other companies 3.) Obtain shares to reissue to employees as part of stock options plans 4.) Reduce the number of outstanding shares to increase per-share measures of earnings

Equity versus Debt Financing

Advantages of equity and debt financing Advantages of equity - Equity doesn't have to be repaid - Dividends are optional Advantages of debt - Interest on debt is tax deductible - Debt doesn't change stockholder control

Year-End

All temporary accounts, including Dividends, are closed into Retained Earnings at each accounting year-end. This closing journal entry zeroes out the temporary account Dividends by transferring its (debit) balance to its permanent home in Retained Earnings. The closing entry has no effect on total stockholder's equity.

Stock Splits

An increase in the number of shares and a corresponding decrease in par value per share. A stock split creates more pieces of the same pie.

Stock Splits: Textbook

Cash is not affected when the company splits its stock, so the total resources of the company do not change. It's just like taking a 4-piece pizza and cutting each piece into 2 smaller pieces. A stock split involves revising the corporate charter to reduce the per-share value across all authorized shares, so that the total par value across all shares is unchanged

Earnings Per Share (EPS)

Earnings per share is probably the single most widely watched financial ratio. EPS = Net Income - Preferred Dividends / Average Number of Common Shares Outstanding National Beverage's income for 2013 was $46.92 million, preferred dividends of $0.15 million, and the average number of shares outstanding during the year was 46.2 million. EPS = $46.9 - $0.2 / 46.2 Shares = $1.01 per share

Stock Issuance: IPOs and Seasoned new issue

Initial public offering (IPO): the first time a corporation issues stock to the public Seasoned new issue: subsequent issues of new stock to the public

Stock Issuance: Example

Most issues of stock to the public are cash transactions National Beverage issued 100,000 shares of $0.01 par value common stock for $20 per share.

Repurchase of Stock: Reacquiring Example

National Beverage reacquired 50,000 shares of its common stock at $25 per share.

Repurchase of Stock: Treasury Stock Cost

No voting or dividend rights Contra equity account - Treasury stock is not an asset When stock is reacquired, the corporation records the treasury at cost.

Stock Authorization

No-par Stock: Some state

Declaration Date

On the declaration date, the company's board of directors formally approves the dividend, thereby creating a legal liability for the corporation. The dividend declaration is accounted for by increasing Dividends Payable and increasing a temporary account called Dividends. Because dividends are a distribution of the company's prior earnings, this Dividends account is deducted from Retained Earnings when it is closed at year-end. Until then, the temporary account is accounted for a decrease in Stockholders' Equity. Although the reduce Retained Earnings, dividends are not an expense. Rather, they are a distribution of prior profits.

Authorization, Issuance, and Repurchase of Stock: Types of Shares

Outstanding Shares: are issued shares that are owned by stockholders Treasury Shares: are issued shares that have been reacquired by the corporation

Stock Authorization

Par value is typically a nominal amount such as $0.01 per share Par value is an arbitrary amount assigned to each share of stock when it is authorized DOES NOT EQUAL Market price is the amount that each share of stock will sell for in the market No-par Stock: Some states do not require a par value to be stated in the charter

Return on Equity (ROE)

Return on equity is the amount earned for each dollar invested by common stockholders. ROE = Net Income - Preferred Dividends / Average Common Stockholders' Equity National Beverage's income for 2013 was $46.9 million, preferred dividends were $0.2 million, and the average Common Stockholders' Equity was $86 million. ROE = $46.9-$0.2 / $86 = 54.3 percent

Price/Earnings (P/E) Ratio

The P/E ratio is a measure of the value that investors place on a company's common stock. P/E = Current Stock Price (per share) / Earnings Per Share (annual) National Beverage's stock price was $17.92 when the company reported its 2013 EPS of $1.01 P/E = $17.92 / $1.01 = 17.7

Corporate Ownership

The major advantage of the corporate form of business is the ease of raising capital as both large and small investors can participate in corporate ownership. 1.) Simple to become an owner 2.) Easy to transfer ownership 3.) Provides limited liability Because a corporation is a separate legal entity, it can - Own assets - Incur liabilities - Sue and be sued - Enter into contracts

Date of Record

The record date is the cut-off date established by a company in order to determine which shareholders are eligible to receive a dividend or distribution

Retained Earnings

Total cumulative amount of reported net income less any net losses and dividends declared since the company started operating. Baker Company incurred a loss of $130,000 in 2014 that resulted in an Accumulated Deficit in Retained Earnings.

Stock Exchanged between Investors

Transactions between two investors do not affect the corporation's accounting records

Stock Dividends

Why would a

M11-4 Analyzing and Recording the Issuance of Common Stock

Would your answer be different if the par value was $2 per share? If, so, analyze the accounting equation effects and record the journal entry for the stock issuance with a par value $2. The effects on total assets and total stockholders' equity would not differ, but the amounts within the individual stockholders'm equity accounts would differ.

Earnings Per Share (EPS) ratio: Textbook

is calculated by dividing net income (less preferred dividends) by the average number of shares of common stock outstanding during that year. This ratio makes it easy to compare a company's earnings over time, but it does not allow reliable comparisons across companies because it does not adjust for likely differences in the number of shares that each company has outstanding

IFRS and Preferred Stock

preferred stock is typically classified as stockholder's equity. However, if the issuing company is contractually obligated to pay dividends or redeem the stock at a future date, then preferred stock is classified as a liability.

Return on Equity (ROE) ratio: Textbook

relates earnings to each dollar contributed to and retained by the company on behalf of common stockholders. Because it is calculated using dollar amounts contributed to and retained by a company, it allows comparisons to be made across companies.

Price/Earnings (P/E) ratio: Textbook

relates the company's current stock price to its most recent annual earnings per share, indicating the value investors place on the company's stock

Date Payment

the payment date is the date on which cash is disbursed to pay the dividend liability owed to each stockholder. The distribution of cash and reduction in liability are recorded on this date, as follows:

M11-4 Analyzing and Recording the Issuance of Common Stock Part 1

to expand operations, Aragon Consulting issued 1,000 shares of previously unissued common stock with a par value of $1. The price for the stock was $50 per share. Analyze the accounting equation effects and record the journal entry for the stock issuance.