MODULE L STOCKHOLDERS EQUITY

reasons corporation purchase their outstanding stock for several reasons

1. To provide tax-efficient distributions of excess cash to shareholders 2. To increase earnings per share and return on equity 3. To provide stock for employee stock compensation contracts or to meet potential merger needs 4. To thwart takeover attempts or to reduce the number of stockholders. 5. To make a market in the stock

The three special characteristics of the corporate form that affect accounting are?

1. influence of state corporate law 2. use of the capital stock or share system 3. developmetn of a variety of ownership interests.

What are the two reasons that corporations would issue no par stock?

1. issuance of no-par stock aboids the contingent liability that might occur if the cororation issued par value stock at a discount. 2. some confusion exists over the relationship (or rather the lack of relationship) between the par value and fair value. If shares have no-par value, the questionable treatment of using par value as a basis for fair value never arises.

Very few companies pay dividends in amounts equal to their legally available retained earnings. The major reasons are:

1. to maintain agreements (bond covenants) with specific creditors, to retain all or a portion of the earnings, in the form of assets, to build up additional protection against possible loss 2. To meet state corporation requirements, that earnings equivalent to the cost of treasury shares purchased by restricted against dividend declarations 3. To retain assets that would otherwise be paid out as dividends, to finance growth or expansion. this is sometimes called internal financing, reinvesting earnings, or plowing the profits back into the business 4. to smooth out dividend payments from year to year by accumulating earnings in good yeas and using such accumulated earnings as a basis for dividends in bad year. 5. To build up a cushion or buffer against possible losses or errors in the calculation of profits.

Common stock, $1 par value, 100,000 shares issued and 90,000 outstanding How many treasury shares is the company holding on to?

10,000 100,000 issued-90,000 outstanding=10,000 treasury

_______% of public corporations have common stock and about_____% have preferred stock

100% 25%

stock dividend

A pro rata (proportional to ownership) distribution of the corporation's own stock to stockholders.

Rudd Corp. had 700,000 shares of common stock authorized and 300,000 shares outstanding at December 31, 2016. The following events occurred during 2017: January 31 Declared 10% stock dividend June 30 Purchased 100,000 shares August 1 Reissued 50,000 shares November 30 Declared 2-for-1 stock split At December 31, 2017, how many shares of common stock did Rudd have outstanding? A. 560,000 B. 600,000 C. 630,000 D. 660,000

A. 560,000 Reason Rudd had 300,000 shares outstanding before declaring the stock dividend. When it purchased 100,000 shares and reissued 50,000 shares, 280,000 shares (300,000 + 30,000-100,000+50,000) were left outstanding. Thus, the 2-for-1 stock split increased the shares outstanding to 560,000 (280,000 x 2).

The issuance of shared of preferred stock to shareholders. A. Increases preferred stock outstanding B. Has no effect on preferred stock outstanding C. Increases preferred stock authorized D. Decreases preferred stock authorized

A. Increases preferred stock outstanding Reason The charter (articles of incorporation) filed with the secretary of state of the state of incorporation indicates the classes of stock that may be issued and thier authorized amounts in terms of shared and /or total dollar value. When authorized shares are issued, the effect is to increase the amount of that class of stock outstanding.

______________________________ reflects the aggregate amount of the other comprehensive income items. It includes such items as unrealized gains and losses on available-for-sale debt investments and unrealized gains and losses on certain derivative transactions.

Accumulated other comprehensive income

On February 1, Lopez Corporation issued 1,000 shares of its $10 par common and 2,000 shares of its $10 par convertible preferred stock for a lump sum of $40,000. At this date, Lopez's common stokc was selling for $18 per share and the convertible preferred stock for $13.50 per share. The amount of proceeds allocated to Lopez's preferred stock should be. A. $22,000 B. $24,000 C. $27,000 D. $30,000

B. $24,000 Reason Given that the 1,000 shares of common stock and 2,000 shares of preferred stock were issued for a lump sum of $40,000, the proceeds should be allocated based on the relative fair values of the securities issued. The fair value of the common stock is $18,000 (1,000 shares x $18). The fair value of the preferred stock is $27,000 (2,000 shares x $13.50). Because 60% [$27,000/ (27,000+$18,000)] of the total fair value is attributable to the preferred stock, $24,000($40,000 x 60%) of the proceeds should be allocated to this stock.

East Co. issued 2,000 shares of its $5 par common stock to Krannik as compensation for 1,000 hours of legal services performed. Krannik usually bills $200 per hour for legal services. On the grant date of the shares, the stock was trading on a public exchange at $160 per share. By what amount should the additional paid-in capital account increase? A. $320,000 B. $310,000 C. $200,000 D. $190,000

B. 310,000 Reason When stock is issued for property or services, the transaction is recorded at the fair value of the stock or of the property or services received. In this case, the value of the stock is used because it is more objective. The $320,000 (2,000 shares x $160 market price) should be allocated as follows: $10,000 (2,000 shares x $5 par) to common stock and $310,000 to additional paid-in capital.

Galarraga Co. completed a number of capital transactions during the fiscal year ended September 30 as follows: -An issue of 8% debentures was converted into common stock. -An issue of $2.50 preferred stock was called and retired. -A 10% common stock dividend was distributed on November 30. -Warrants for 200,000 shares of common stock were exercised on September 20. For the year-end financial statements to be sufficiently informative. Galarraga's most satisfactory method of presenting the effects of these events is A. A formal retained earnings statement and general description in the notes to the financial statements. B. A formal statement of changes in equity that discloses changes in the various equity accounts C. A detailed inclusion of each event or transaction in the statement of cash flows D. Comparative statements of income, financial position, and retained earnings for this year and last year.

B. A formal statement of changes in equity that discloses changes in the various equity accounts Reason When both financial position and results of operations are presented, the entity must disclose changes in (1) the accounts included in equity (in addition to retained earnings) and (2) the number of shares of equity securities during at least the most recent annual fiscal period and any subsequent interim periods presented. The required disclosure may be made in the basic financial statements, in the notes, or in a formal statement of changes in equity (which is preferable).

When collectability is reasonably assured, the excess of the subscription price over the stated value of the no par common stock subscribed should be recorded as: A. No-par common stock B. Additional paid-in capital when the subscription is recorded C. Additional paid-in capital when the subscription is collected D. Additional paid-in capital when the common stock is issued.

B. Additional paid-in capital when the subscription is recorded Reason The accounting for subscriptions of no-par stock with a stated value is the same as for par value stock. When stock is subscribed, the corporation recognizes an obligation to issue stock, and the subscriber undertakes the legal obligation to pay for the shares subscribed. If collectability of the subscription price is reasonably assured on the date the subscription is received, the issuing corporation should recognize the cash collected and a subscription receivable for the remainder. In addition, the common stock subscribed account should be credited for the stated value of the shared subscribed with the excess of the subscription price over the stated value recognized as additional paid-in capital.

The preemptive right of shareholders is the right to A. Share equally in dividend distributions B. Purchase shared of stock on a pro rata basis when new issues are offered for sale. C. Share in the distribution of assets on liquidation of the corporation D. Participate in the management of the corporation.

B. Purchase shared of stock on a pro rata basis when new issues are offered for sale. Reason The preemptive right refers to each shareholder's right to maintain proportionate ownership in the corporation if additional shares are offered for sale.

Which of the following is the primary element that distinguishes accounting for corporations from accounting for other legal forms of business entity (such as partnerships) A. The entity theory relates primarily to the other forms of business entity. B. The corporation draws a sharper distinction in accounting for sources of capital. C. In a corporation, retained earnings may be reduced only by the declaration of dividends. D. Generally accepted accounting principles apply to corporations but have relatively little applicability to other forms of business entity.

B. The corporation draws a sharper distinction in accounting for sources of capital. Reason The three primary forms of business entity are the corporation, the partnership, and the proprietorship. Of the three, only the corporation sharply differentiates between contributed equity and equity earned and retained in the business. Contributed capital is reflected in the various capital stock and additional paid-in-capital (additional contributed capital) accounts. Earned capital is reelected in the retained earnings accounts.

_____________________ vote on the declaration of cash dividend

Board of directors.

_______________ is the class of stock that represents the basic ownership interest. it is the residual corporate interest that bears the ultimate risks fo loss and receives the benefits of success.

Common Stock

____________________ is the total amount paid in on capital stock- the amount provided by stockholders to the corporation for use in the business. Capital stock and additional paid-in capital makes this up.

Contributed (paid-in) capital

On December 1, Year 4, Line Corp. received a contribution of 2,000 shares of its $5 par value common stock from a shareholder. On that date, the stock's fair value was $35 per share. The stock was originally issued for $25 per share. The stock was originally issued for $25 per share. By what amount will this contribution casue total equity to decrease if Line accounts for treasury stock using the cost method?] A. $70,000 B. $50,000 C. $20,000 D. $0

D. $0 Reason Contributions received ordinarily are recorded as revenues or gains when received. However, adjustments or charges or credits resulting from transactions in the entity's own stock are excluded from net income or the results of operations. Thus, the receipt of a contribution of a company's own stock is recorded at fair value as increases in both contributed capital and treasury stock. Because these accounts offset, the net effect on equity is $0.

Bier Corp. issued 400,000 shares of common stock when it began operations in Year 1 and issued an additional 200,000 shares in Year 2. Bier also issued preferred stock convertible to 200,000 shares of common stock. In Year 3, Bier purchased 150,000 shares of its common stock and held it in treasury. At the end of Year 3, how many shares of Bier's common stock were outstanding? A. 800,000 B. 650,000 C. 600,000 D. 450,000

D. 450,000 Reason Bier issued 400,000 shares of common stock in Year 1 and 200,000 shares in Year 2. The purchase of 150,000 shares of treasury stock decreased the number of shares of common stock outstanding in Year 33 to 450,000 (400,000 + 200,000-150,000). The convertible preferred stock is not considered common stock.

After date of declaration for a property dividend the corporation may then record the declared dividend as a debit to _________ or ___________ and a credit to _________________, at an amount equal to the fair value of the distributed property

DEBIT Retained Earnings or Property dividends declared CREDIT Property Dividends Payable

Dividends require information concerning three dates:

Date of declaration Date of record Date of payment

Most corporations chose to be incorporated in ______________ because they have more favorable and relaxed regulations.

Delaware

Liquidating dividends

Dividends based on amounts other than retained earnings, implying that the dividends are a return of the stockholder's investment rather than of profits. Any dividend not based on earnings reduces corporate paid-in capital.

_________________ is the capital that develops from profitable operations. It consists of all undistributed income that remains invested in the company.

Earned capital

Earnings per share=

Earnings per share=net income / weighted average common shares outstanding

dividend in arrears

If the directors fail to declare a dividend at the normal date for dividend action, the dividend is said to have been "passed." Any passed dividend on cumulative preferred stock constitutes a dividend in arrears. Because no liability exists until the board of directors declares a dividend, a corporation does not record a dividend in arrears as a liability but discloses it in a note to the financial statements.

Stock Issued with Other Securities (Lump-Sum). Proportional Method

If the fair value or other sound basis for determining relative value is available for each class of security, the company allocates the lump sum received among the classes of securities on a proportional basis.

Stock Issued with Other Securities (Lump-Sum). Incremental Method.

In instances where a company cannot determine the fair value of all classes of securities, it may use the incremental method. It uses the fair value of the securities as a basis for those classes that it knows and allocated the remainder to the lump sum to the class for which it does not know the fair value. If a company cannot determine fair value for any of the classes of stock involved in a lump-sum exchange, it may need to use other approaches. It may rely on an expert's appraisal.

Do companies declare or pay cash dividends on treasury stock?

NO

Does a negative payout ratio make since? what does it mean?

No! it means that the shareholders paid the company, that doesn't make since. Do not force a payout ratio that doesn't make since.

convertible preferred stock

Preferred stock with an option to exchange it for common stock at a specified rate.

Return on Stockholders' Equity (ROE)

ROE = Net income- preferred dividends/ average stockholders' equity

Stockholders' equity is the difference between the assets and the liabilities of the company. That is, the owners or stockholders' interest in a company is a _______________________.

Residual interest

_____________ represents the earned capital of the company.

Retained earnings

Secrete reserves

Secret reserves are created as a result of the issuance of stock for property or services, a corporation undervalues the recorded assets. An understated corporate structure (secrete reserve) may also result from other methods: excessive depreciation or amortization charges, expensing capital expenditures, excessive write-downs of inventories or receivables, or any other understatement of assets or overstatement of liabilities.

Of the 125,000 shares of common stock issued by Vey Corp, 25,000 shares were held as treasury stock on December 31, Year 3. During Year 4, transactions involving Bey's common stock were as follows: January 1 through 13,000 treasure shares were distributed to October 31 officers as part of a stock compensation plan November 1 A 3-for-1 stock split took effect December 1 Vey purchased 5,000 of its own shares to j discourage an unfriendly takeover. j These shares were not retired. At December 31, Year 4, how many shares of Vey's common stock were issued and outstanding? Shares Issued Outstanding A. 375,000 334,000 B. 375,000 324,000 C. 334,000 334,000 D. 324,000 324,000

Shares Issued Outstanding A. 375,000 334,000 Reason Given that 125,000 have been issued and that the stock has been split 3-for-1, the shares issued at year-end equal 375,000(125,000 x3). At the beginning of the year 100,000 shares were outstanding (125,000 issued-25,000 treasury shares). After 13,000 treasury shares were distributed, 113,000 shares were outstanding, an amount that increased to 339,000(113,000x3) after the stock split. The purchase on December 1 reduces the shares outstanding to 334,000 (339,000-5,000).

Stock dividends of less than 20-25 percent are referred to as _________

Small(ordinary) stock dividends.

___________________ represents the cumulative net contributions by stockholders plus retained earnings. As a residual interest, it has no existence apart from the assets and liabilities of the company. It equals net assets and is not a claim to specific assets but a claim against a portion of the total assets. Its amount is not specified or fixed; it depends on profitability. It grows if the company is profitable and shrinks if the company is not.

Stockholders (owners) equity

Companies use two genral methods of handling treasury stock in the accounts. Both methods are generally acceptable.

The cost method and the par (stated) value method

watered stock

The issuance of stock for property or services has resulted in cases of overstated corporate capital through intentional overvaluation of the property or services received. The overvaluation of the stockholder's equity resulting from inflated asset values.

Cash dividend

a cash distribution of earnings by a corporation to its shareholders

Anyone who wishes to establish a corporation must submit___________ to the stae in which incorporation is desired. The state it incorporates does not have to be the state where is located.

articles of incorporation

Individuals owning stock may sell them to others

at any time and at any price without obtaining the consent of the company or other stockholders. M

Four categories normally appear as part of stockholder's equity

capital stock additional paid in capital retained earnings accumulated other comprehensive income

Companies generally base dividend distributions either on accumulated profits (that is retained earnings) or on some other capital item such as additional paid-in capital. what three types of dividends are there

cash dividends property dividends (dividends in kind) Liquidating dividends

Payout ratio=

cash dividends declared on common stock/net income

Book value per share=

common equity / shares outstanding

Stock Issued in Noncash Transactions general rule

companies should record stock issued for services or property other than cash at the: fair value of the stock issued OR fair value of the noncash consideration received **whichever is more clearly determinable**

Treasury stock has a credit balance and is considered a _________________________ account because it reduces owners' equity account.

contra

Preferred stock or common stock. together, these two stock accounts reflect the par value of the corporations' issued shares. The company _______ these accounts when it originally issues the shares. It makes no additional entries in these accounts unless it issues additional shares or retires them.

credits

A declared cash dividend is a

current liability

Trading on the equity

describes the practice of using borrowed money or issuing preferred stock in hopes of obtaining a higher rate of return on the money used.

Preemptive rights are

designed to prevent dilution of a shareholder's ownership in the company.

When declaring a property dividend, the corporation should restate at ________________ the property it will distribute, recognizing any gain or loss as the difference between the property's fair value and carrying value at date of declaration.

fair value

Cost of issuing stock are a cost of ___________

financing

Before declaring a dividend, management must consider availability of

funds to pay the dividend

callable preferred stock

gives the issuing corporation the right to purchase (retire) this stock from its holders at specified future and dates and stipulated prices

redeemable preferred stock

has a mandatory redemption period or a redemption feature that the issuer cannot control

Stockholders' equity section shows Retained earnings $300,000. This means over the life of the company they earned $300,000 in profits after subtracting losses and dividends. Losses and dividends reduce retained earnings profits __________________ retained earnings.

increase

Treasury Stock (treasury shares)

is a corporation's own stock, reacquired after having been issued and fully paid.

Treasury stock _____________ an asset

is not

book value per share

is the amount each share would receive if the company were liquidated on the basis of amounts reported on the balance sheet.

Treasury shares

issued shares that have been reacquired by the corporation

Companys should disclose a __________ dividend. That is a dividend not based on retained earnings.

liquidating

The Uniform Stock Transfer Act and the Uniform Commercial Code govern the _______________ of stock certificates.

negotiability

If you purchase stock after date of record, do you receive the dividend?

no

Is an entry required for a stock split?

no

The par value of a stock has _______ relationship to its fair value

no

Advantage for issuing no par stock is Disadvantage for issuing no par stock is

no par stock is particularly advantageous whenever issuing stock for property items such as intangible or tangible fixed assets. A major disadvantage of no-par stock is that some states levy a high tax on these issues.

Many states permit the issuance of capital stock without par value, called __________________.

no-par stock

stocks issued

number of shares a company has put on the market

We call liquidating dividend a return ____ capital not a return _____ capital

of on

A preference as to dividends does not assure the payment of dividends. It merely assures that the corporation must

pay the stated dividend rate or amount applicable to the preferred stock before paying any dividends on the common stock.

Companies usually issue preferred stock with a par value, expressing the dividend preference as a ____________________________ Thus, holders with 8 percent preferred stock with a $100 par value are entitled to an annual dividend of $8 per share. A no-par preferred stock, a corporation expresses a dividend preference as a _________________ per share.

percentage of the par value. specific dollar amount

Features most often associated with preferred stock issues

preference as to dividends preference as to assets in the event of liquidation convertible into common stock callable at the option of the corporation nonvoting noncumulative nonparticipating

_____________ is a special class of stock. In return for any special preference, this stockholder always sacrifices some of the inherent rights of common stock ownership. A special preference may be priority claim on earnings and a sacrifice may be their right to a voice in management

preferred stock

Corporations sell no-par shares, like par value shares, for whatever price they will bring. However, unlike par value shares, corporations issue them without a ______ or a _____________.

premium or discount

Each share of stock carries the following rights. To share proportionately in _____________, ____________-,________________,&___________.

profits and losses management corporate assets upon liquidation and in any new issues of stock of the same class-called the preemptive right

What are the three primary forms of business organization?

proprietorship, partnership and corporation

Do not make an accounting entry for date of _____________

record

Purchase of treasury stock par (stated) value method

records all transactions in treasury shares at their par value and reports the treasury stock as a deduction from capital stock only

Major stock exchanges require ownership controls that the typical corporation finds uneconomic to provide. Thus, corporations often use ________ and ___________ agents who specialize in providing services for recording and transferring stock.

registrars and transfer agents

Common stockholders are referred to as _____________ stockholders

residual

Purchase of treasury stock cost method

results in debiting the Treasury Stock account for the reacquisition cost and in reporting this account as a deduction from the total paid-in capital and retained earnings on the balance sheet

Participating Preferred Stock

share ratably with the common stockholders in any profit distributions beyond the prescribed rate. That is, 5 percent preferred stock, if fully participating, will receive not only its 5 percent return, but also dividends at the same rates as those paid to common stockholders if paying amounts in excess of 5 percent of par or stated value to common stockholders.

No-par stock the __________________ is a minimum value below which a company cannot issue it.

stated value

True no-par stock should be carried in the accounts at issue price without any additional paid-in capital reported. But some states require that no-par stock have a _______________.

stated value

All dividends, except for _______________________, reduce the total stockholders equity in the corporation

stock dividend

Cummulative Preferred Stock

stock for which any missed dividend payments must be paid in the future to the preferred shareholders before the common shareholders can receive any dividends

low par values help companies avoid the contingent liability associated with

stock sold below par

Stocks Outstanding

stock that the company has issued and is still held by someone or some business other than the company

Paid-in capital in Excess of Par (also called Additional Paid-in Capital). This account indicates any excess over par value paid in by ____________ in return for the shares issued to them. Once paid in, the excess over par becomes a part of the corporations additional paid-in capital. The individual stockholder has no greater claim on the excess paid in than all other holders of the same class of shares.

stockholders

Owners' equity in a corporation is defined as _____________, ________ or ______.

stockholders' equity shareholders' equity corporate capital

stocks authorized

the amount of stock that a corporation is authorized to sell as indicated in its charter

Leveraged Buyout (LBO)

the company borrows money to finance the stock repurchases. The company can go private and eliminate public ownership entirely.

property dividend (dividends in kind)

the distribution of a noncash asset to stockholders. Property dividends may be merchandise, real estate, or investments.

Stock split

the division of a single share of stock into more than one share

Issued = outstanding + ________

treasury

There can be multiple classes of stock. True or false

true

Stock Issued with Other Securities (Lump-Sum Sales)

two methods of allocating proceeds: 1. proportional method 2. incremental method