Stockholder's Equity (15)
Describe the characteristics of the corporate form of an organization.
Corporate Organizations: -The most common form of organization, representing the largest share of resources controlled, goods produced, and people employed. -Principal advantage: facility for attracting and accumulating large amounts of capital.
Liquidating Dividends Example: Mining company issues dividend to common stockholders of $1.0 million, noting $750,000 is income for shareholders which reduces retained earnings. The remainder is a return of capital (liquidating dividend): At date of payment, record as follows:
D: Dividends Payable 1,000,000 C: Cash 1,000,000
Property Dividends Example: Company uses equity investments (stocks of another company) costing $400,000 and with a fair value of $500,000 to pay a dividend. At date of declaration, record as follows:
D: Equity Investments (Adjust to fair value) 100,000 C: Unrealized Holding Gain or Loss - Income 100,000 D: Retained Earnings (Property Dividend declared) 500,000 C: Property Dividends Payable 500,000
Property Dividends Example: Company uses equity investments (stocks of another company) costing $400,000 and with a fair value of $500,000 to pay a dividend. At date of payment, record as follows:
D: Property Dividends Payable 500,000 C: Equity Investments 500,000
Liquidating Dividends Example: Mining company issues dividend to common stockholders of $1.0 million, noting $750,000 is income for shareholders which reduces retained earnings. The remainder is a return of capital (liquidating dividend): At date of declaration, record as follows:
D: Retained Earnings 750,000 D: Paid-In Capital in Excess of Par-Common Stock 250,000 C: Dividends Payable 1,000,000
Cash Dividends At declaration, record as follows:
Date of Declaration: The date that the board voted to declare dividend. It becomes a liability. D: Retained Earnings (or Cash Dividend declared) 500,000 C: Dividends Payable 500,000
Restrictions on retained earnings should be disclosed in notes.
Describe amounts and nature of restrictions, and amounts unrestricted.
Cost of Issuing Stock Direct costs to sell stock
Direct costs to sell stock: -are NOT an expense. -Issue costs are cost of financing. Report direct costs, including: *underwriting costs, *accounting and legal fees, *printing costs, and *taxes, as a reduction of the amounts paid in. -Debit to "Paid-In Capital in Excess of Par - Common Stock" to show reduction in proceeds received from sale of stock.
Dividend Preferences Example: Company has $50,000 cash dividend to distribute. Common stock has par value of $400,000, 6% preferred stock has par value of $100,000. If preferred stock is noncumulative and fully participating:
Do 6% first for preferred and common: Preferred - 6% x $100,000 = $6,000 Common - 6% x $400,000 = $24,000 Total $30,000, Remaining to Distribute $20,000 Par value of stock to participate = 500,000. $20,000 / $500,000 = 4%. Preferred - 4% x $100,000 = $4,000 Common - 4% x 400,000 = $16,000 Total $20,000
Dividend Preferences Example: Company has $50,000 cash dividend to distribute. Common stock has par value of $400,000, 6% preferred stock has par value of $100,000. If preferred stock is noncumulative and nonparticipating:
Do 6% preferred first - 6% x$100,000 = $6,000. Remainder to common stock ($44,000)
Proportional Method Example:
Example: Company issues 10,000 shares of $0.50 par value common stock at $25 per share and 10,000 shares of $25 preferred stock at $50 per share for a lump sum of $600,000: Common Stock Par Value: 10,000 shares x $0.50 = 5,000 Common Stock Additional Paid in Capital: 10,000 shares x $24.50 = 245,000 Preferred Stock Par Value 10,000 shares x $25.00 = 250,000 Preferred Stock Additional Paid in Capital: 10,0000 shares x $25.00 = $250,000 TOTAL $750,000 $600,000 / $750,000 = 80% Common Stock Proceeds Allocated = $250,000 x .80% = $200,000 Preferred Stock Proceeds Allocated = $500,000 x 80% - $400,000
Sale of Treasury Stock Above Cost Example:
Example: Company sells 10,000 shares of $1 par value Treasury Stock for $25 per share: D: Cash $250,000 C: Paid-In Capital from Treasury Stock $240,000 C: Treasury Stock $10,000
Accounting for Par Value Stock Example:
Example: 10,000 shares of $2 par value common stock issued for $10. Common stock is valued at $20,000 Additional Paid-In Capital - Common Stock is valued at $80,000 Total is amount paid for the 10,000 shares at $10 each.
Callable Preferred Stock aspects
Permits the corporation to call or redeem outstanding shares at specified future dates and stipulated prices. Many preferred issues are callable. Call price typically slightly above issue price. This allows corporation to use capital obtained by issuing stock while it's needed, then give it back. Having a call price can set a ceiling on share price, unless they are convertible into common stock. Corporations must pay dividends in arrears when calling preferred stock.
Variety of Ownership Interests __________________ represents special preference given in exchange for sacrificing some inherent rights of ________________.
Preferred stock common stock
cumulative preferred stock
Preferred stock on which undeclared dividends accumulate until paid; common stockholders cannot receive dividends until cumulative dividends are paid.
Participating Preferred Stock definition
Preferred stock that shares with common stockholders any dividends paid in excess of the percent stated on preferred stock.
Payout Ratio
Ratio of cash dividends paid to common stockholders to net income available to common stockholders. Cash Dividends / ( Net income - Preferred Dividends ) = Payout Ratio
To increase earnings per share and return on equity.
Reducing shares outstanding and stockholders' equity enhances performance ratios.
Variety of Ownership Interests _____________________ means that shareholders bear the ultimate risk and receive the ultimate benefits of ownership.
Residual owner
Cost of Issuing Stock Receivables Recorded During Stock Issuance
SEC requires companies to use contra-equity approach *deduct from stockholders' equity. This follows the basic accounting principle of not recording equity until you get cash. *Notes don't count as cash.
Outstanding Shares
Shares in the hands of stockholders. Issued shares minus treasury shares.
Accounting for and Reporting Preferred Stock
Similar to common stock. Proceeds allocated between par value and additional paid-in capital. Separate accounts maintained for different classes of shares.
Small Stock Dividend - Fair Value
Small stock dividends use the fair value option.
Class B Shares
Some companies issue different classes of common stock. "Class B" shares carry super voting powers and are used by some companies to protect owner interest. Controversial. In use by Dow Jones & Co, Ford, NY Times, Google, and others. For tightly held companies, creating new classes of lower or nonvoting stock provides cash, increases liquidity, or puts public value on a company without diluting owner voting control. Investors should watch out for bargain stocks with no voting rights.
____________________ prohibit issuance of stock dividends on treasury stock.
Some states
Identify the key components of stockholders' equity.
Stockholders' equity represents a claim against a portion of the total assets of the company. It is also known as: owners' equity, shareholders' equity, or corporate capital. It is the difference between the assets and liabilities of a company, and is also called the residual interest.
Retained Earnings (Earned Capital)
What the company made and kept to reinvest.
No-Par Stock
-Allowed in many states. -Avoids contingent liability that could occur if corporation issues par value stock at a discount. -Avoids the questionable treatment of using par value as the basis for fair value.
Key Components of Stockholders' Equity Treasury Stock Reporting: When reacquiring stock,
-debit Treasury Stock for the cost of the acquisition, -credit Cash
Explain the accounting for the acquisition and reissuance of treasury stock. Two methods for acquiring treasury stock:
1. cost method 2. par value method Cost method more widespread. Under either method, the cost of treasury shares acquired must be considered a restriction on retained earnings. *IFRS only allows cost method
Explain how to present stockholders' equity. Stockholders equity is presented on the ________________ and on the __________________.
Balance Sheet and on the Statement of Stockholders' Equity.
To thwart takeover attempts or to reduce the number of stockholders.
Buybacks can bar outsiders from gaining control or significant influence. Also a tactic for eliminating dissident stockholders.
Retiring Treasury Stock ____________ the paid-in capital accounts applicable to the retired shares instead of cash.
Debit
Sale of Treasury Stock Below Cost Recording
Debit excess of cost over selling price to Paid-In Capital from Treasury Stock. If credit balance in Paid-In Capital from Treasury Stock is eliminated, debit any additional costs to retained earnings.
Nearly half of all corporations in US are incorporated in _________________ - friendly tax/regulatory environment.
Delaware The Delaware loophole has provided an estimated $9.5 billion in savings over the past decade.
Property Dividends (aka Dividends in Kind)
Dividends payable in assets of the corporation other than cash. Could be merchandise, real estate, investments, etc.
Dividend Preferences Example: Company has $50,000 cash dividend to distribute. Common stock has par value of $400,000, 6% preferred stock has par value of $100,000. If preferred stock is cumulative and non participating, and they haven't paid in preceding 2 years:
Do dividends in arrears first to preferred first - 6% x$100,000 = $6,000 x 2 years. Do 6% preferred for this year next - 6% x$100,000 = $6,000. (Now total $18,000 preferred.) Remainder to common stock ($32,000)
Acquiring Treasury Stock through the Cost Method Example:
Example: Company reacquires 10,000 shares of $1 par value common stock for $25 per share: D: Treasury Stock $250,000 C: Cash $250,000
Return on Common Stock Equity Ratio (aka Return on Equity- ROE)
How much company earned for each dollar invested by owners. Higher ratios better for stockholders ( Net Income - Preferred Dividends ) / Average Common Stockholder' Equity = ROE
Key Components of Stockholders' Equity Contributed Capital
How much the investors contributed to the company. Total value of stock that investors have purchased from issuing company.
Property Dividends Example: Company uses equity investments (stocks of another company) costing $400,000 and with a fair value of $500,000 to pay a dividend. At date of record, record as follows:
No entry.
Preferred Stock is part of
Stockholders Equity.
Book Value per Share
The amount each share would receive if the company were liquidated, on the basis of the amounts reported in the balance sheet. More complicated when there is preferred stock. Have to remove amts owed to preferred stockholders before calculating, including dividends in arrears. Common Stockholders' Equity / Outstanding Shares = BVPS
Contributed Capital
What investors invested - common stock and preferred stock
Capital Stock or Share System
Within each class of stock, each share equals every other share. The number of shares possessed determines each owner's interest.
Cash dividends typically declared as
a certain percent of par, or an amount per share.
Analysis of Stockholders Equity Analyst use stockholders' equity ratios to evaluate
a company's profitability and long-term solvency.
A stock split requires no entries from an accounting standpoint except
a memorandum note to indicate the changed par value and increased number of shares. Decrease par value, increase number of shares.
No-Par Stock with Stated Value When shares are issued above stated value,
account for stated value as common stock (no par value), and for the excess as "paid-in capital in excess of stated value - common stock". In other words, it acts like par value stock.
Stockholders' equity formula
amount of capital stock, additional paid-in capital, retained earnings - amount in treasury stock account = total stockholders' equity amount
Contingent Liability
an existing uncertain situation that might result in a loss
The goal of cash dividends is to
appreciate the share price so investors can realize a profit upon the sale of shares.
Stock dividends don't affect any
asset or liability.
Sale of Treasury Stock Above Cost List paid-in capital separately on the
balance sheet.
Variety of Ownership Interests Corporations may offer other classes of stock with different rights or privileges, to
broaden investor appeal. Within each class, all shares have equal rights.
A stock dividend allows management to
capitalize earnings to retain them in the business on a permanent basis - to take value out of retained earnings and give it to the stockholders.
Variety of Ownership Interests Companies often issue preferred stock instead of
debt because of high debt to equity ratios.
Acquiring Treasury Stock through the Cost Method Debit the Treasury Stock account for the reacquisition cost; report this account as a
deduction from the total paid-in capital and retained earnings on the balance sheet.
Dividends of preferred stock are a
distribution of income, not an expense.
Preferred stock has no _________________ and there is no legal obligation to __________________________.
maturity date pay a preferred stockholder
Stock Issued in Noncash Transactions Companies should record stock at either the fair value of the stock issued or the fair value of the noncash consideration received, whichever is _______________________________________.
more clearly determinable.
Treasury shares are shares issued but not
outstanding.
Liquidating dividends reduces
paid-in capital in excess of par.
Company should ___________________________ the property it will distribute and recognize any gain or loss.
restate at fair value
Stock splits have no effect on
retained earnings.
Liquidating Dividends A liquidating dividend is a
return to stockholders of a portion of their original investment. It is a dividend based on something other than retained earnings. Represents a return of the stockholder's investment rather than profits.
Property dividends are usually paid in
securities of other companies that the distributing corporation holds as an investment.
Cash Dividends Board votes by resolution
to declare a dividend.
Sales of treasury stock above cost increases
total assets and stockholders equity.
SEC encourages companies who consistently pay dividends to indicate in their annual reports
whether they intend to continue paying dividends in the future.
Key Components of Stockholders' Equity Treasury Stock
When company buys back its own stock. Shows as a negative. Contra-equity account with normal debit balance.
Key Components of Stockholders' Equity Additional Paid-In Capital
-Part of contributed capital. -Increases when stock is sold or issued above par.
No-Par Stock with Stated Value
-Stated value acts like par value. -Excess is Additional Paid-In Capital in Excess of Stated Value" Some states require a stated value for no-par stock; company can't issue below it.
Explain why a company would reacquire stock. Share buybacks are common and exceed dividends as a form of distribution to stockholders. 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 meet potential merger needs. 4. To thwart takeover attempts or to reduce the number of stockholders. 5. To make a market in the stock. 6. To "go private" by eliminating outside ownership.
To make a market in the stock.
Create demand. Can stabilize or increase stock price.
Acquiring Treasury Stock through Par Value (Stated Value) Method Example:
Example: Company reacquires 10,000 shares of $1 par value common stock for $25 per share: Treasury Stock $10,000 Additional Paid-In Capital $240,000 Cash $250,000
Issued Shares
How many shares a company has distributed. Can't be more than authorized number.
Authorized Shares
How many shares of stock a company could issue, if it chose to.
Sale of Treasury Stock Above Cost When selling price exceeds cost, credit the difference to
Paid-in Capital from Treasury Stock.
Key Components of Stockholders' Equity Earned Capital (Retained Earnings)
What the company earned and kept. Cumulative earnings, losses, and dividends over the life of the company.
Growth companies pay little or no cash dividends rather, they use funds to
expand internally.
Companies must disclose
the pertinent rights of outstanding preferred stock.
Companies do not declare or pay cash dividends on
treasury stock.
Redeemable Preferred Stock definition
a corporation reserves the right to buy an issue of stock back from its shareholders, with the intent to retire the stock
Accounting for Various Types of Dividend Distributions A dividend check provides proof that
at least some portion of a company's profits is genuine.
Before declaring a dividend, management must consider
availability of funds to pay it. Don't pay a dividend unless both the present and expected future financial position warrant it.
Share System Advantages
-Allows individual to easily transfer an interest in a company to another investor. -Investor can sell shares without company consent. -Companies keep subsidiary ledgers of ownership and update them prior to dividend payouts and stockholder meetings. -Corporations often use registrars and transfer agents to record and transfer stock.
Accounting for Par Value Stock
-Assigned value of stock -The par value of a stock has no relationship to its fair value. -Par value is usually low. -Helps companies avoid contingent liability associated with stock issued below par. -Companies must account for both the par value of common stock and preferred stock, and the paid-in capital in excess of par, which is also called additional paid-in capital.
Beware of stock buy back:
-Companies who buy back shares tend to think their shares are undervalued. -Buybacks are sometimes used to prop up earnings per share. But, buybacks can hurt companies in the long run. -Treasury stock transactions may decrease retained earnings in certain circumstances. -Companies cannot increase retained earnings through the sale of treasury stock.
Key Components of Stockholders' Equity Capital Stock
-Part of contributed capital. -The common and preferred stock issued by a company.
Cumulative Preferred Stock - Most common
-Requires corporation to pay all accumulated dividends before paying dividends to common stockholders. -Most stock issues for preferred stock are cumulative, because noncumulative preferred stock is less marketable. -Dividends in arrears on cumulative preferred stock are disclosed in the notes to financial statements.
No-Par Stock Disadvantages:
-Some states levy high tax on no-par issues. -In some states, the total issue price for no-par stock may be considered legal capital, which reduces flexibility in paying dividends.
Incremental Method
-Used when fair value cannot be determined for all classes. -Use fair value for the classes you know, and allocate the remainder of the lump sum ot the class you don't know. -Other approaches are needed when a company cannot determine fair value for any of the classes in a lump-sum exchange.
Stock Issued with Other Securities (Lump-Sum Issuance or Exchange)
-When corporations issue two or more classes of securities for a single lump sum payment. -Can occur during acquisitions.
Sale of Treasury Stock Below Cost Treasury stock can ______________ retained earnings, but cannot ________________ it.
-decrease -increase
The Statement of Stockholder's Equity is presented in this basic format:
1. Balance at beginning of period 2. Additions 3. Deductions 4. Balance at end of period Companies should disclose changes in the separate accounts comprising stockholders equity. A columnar format for the presentation of changes is becoming popular.
Two main sections of Stockholder's Equity
1. Contributed Capital 2. Retained Earnings
Two methods for allocating proceeds:
1. Proportional 2. Incremental
Explain the accounting for the issuance of stock. Procedures for issuing stock:
1. State must authorize stock. They approve numbers of shares. 2. Corporation offers shares for sale, entering into contracts to sell stock. 3. Corporation receives funds for stock and issued shares.
Dividend amounts are usually less than retained earnings. Reasons:
1. To maintain agreements with creditors (bond covenants). To retain all or a portion of the earnings to build up additional protection against possible loss. 2. To meet state incorporation requirements to restrict earnings equivalent to the cost of treasury shares against dividend declarations. State laws vary here. 3. To retain assets that would otherwise be paid out as dividends, to finance growth or expansion. -"Plowing profits back into business." 4. To smooth out dividend payments from year to year by accumulating dividends in good years and using those earnings for the basis for dividends in bad years. 5. To build up a cushion or buffer against possible losses, or errors in calculation of profits.
Each share of stock has certain rights and privileges. In the absence of restrictive provisions, each share carries the following rights:
1. To share proportionately in profits and losses. 2. To share proportionately in influencing management (the right to vote for directors). 3. To share proportionately in corporate assets upon liquidation. 4. To share proportionately in any new issues of stock in the same class, called the preemptive right.
Treasury stock "Gain" cannot increase retained earnings. Use
APIC - Treasury Stock account.
Example: Small (Ordinary) Stock Dividend: Company has 1,000 shares of $100 par value common stock outstanding, and $100,000 of retained earnings. Company declares 10% stock dividend, issuing 100 additional shares. If fair value of stock price is $125 at time of dividend, entry is:
At date of declaration - use fair value: D: Retained Earnings 12,500 (Equity acct) C: Common Stock Dividend Distributable 10,000 (Eqty not liability) C: Paid-In Capital in Excess of Par - Common Stock 2,500 At date of distribution: D: Common Stock Dividend Distributable 10,000 (Reported on BS as adder to CS) C: Common Stock 10,000 Common stock dividends distributable are reported on the balance sheet as an adder to common stock.
Acquiring treasury stock ________________ total stockholders' equity.
decreases
Accounting for Various Types of Dividend Distributions Companies who grow dividends over time are seen as
durable and predictable - good investments.
SEC encourages companies to disclose dividend policies in their annual reports, particularly companies with
earnings that don't pay dividends or don't expect to pay them in the foreseeable future.
Restrictions can be placed by company for
future expansion, to maintain working capital, for creditor requirements, etc.
Callable Preferred Stock definition
gives the issuing corporation the right to purchase (retire) this stock from its holders at specified future prices and dates
Accounting for Various Types of Dividend Distributions Dividend payouts are
important signals for the market.
The preemptive right gives you the ability to
maintain your ownership level. -This protects an existing stockholder from an involuntary dilution of ownership interest. -Many corporations have eliminated this right because it makes it inconvenient to issue large amounts of stock, which is often necessary during acquisitions.
Gains on sales of treasury stock using the cost method should be credited to
paid-in capital from treasury stock.
Acquiring Treasury Stock through Par Value (Stated Value) Method Record all transactions in treasury shares at their _________________ and report treasury stock as a deduction from ______________ only.
par value
Companies classify preferred stock as stockholders' equity and report preferred stock at _______________________________. Excess over par is reported as ___________________________.
par value as the first item in the section. additional paid-in capital
Key Components of Stockholders' Equity Legal Capital is the
par value of the stock issued by the company.
Preferred stock is usually issued with a
par value, with the dividend preference shown as a percentage of the par value. For example, holders of 8% preferred value with $100 par are entitled to an annual dividend of $8 per share. For no par preferred stock, the dividend expressed in dollars per share.
Preference for dividends does not ensure
payment. *Companies must pay dividends on preferred stock before paying dividends on common stock.
ROE measures
profitability from the common stockholders' viewpoint.
Preemptive stock rights are a means of
protecting stockholders from involuntary dilution of ownership, or a privilege often referred to as a warrant.
Stock dividends reflect a
reclassification of stockholders' equity. Doesn't change total. Each shareholder retains ownership of same pro-rata share.
Accounting for Various Types of Dividend Distributions Determining the proper amount of dividends to pay is a difficult decision. Companies are reluctant to
reduce or eliminate their dividend as securities markets might view the change negatively.
Retiring Treasury Stock Cancelling/Retiring treasury stock
reduces number of shares outstanding. They become "authorized an unissued."
Acquiring Treasury Stock through the Cost Method Companies might reacquire stock using the cost method to make the stock available for
reissue.
Convertible Preferred Stock - Use Book Value Method Considered a part of
stockholders' equity. No justification for recognition of a gain or loss.
Accounting for Various Types of Dividend Distributions The type of shareholder a company has (taxable or nontaxable, retail investor or institutional investor) will play a role in determining
the company's dividend policy.
Acquiring Treasury Stock through the Cost Method Treasury stock account is maintained at
the cost of shares purchased. Use this amount for all future Treasury Stock transactions. Original price has no effect on entries for acquisition and reissuance.
Stock Issued in Noncash Transactions Companies may exchange unissued stock or treasury stock for property or services. If it uses treasury stock,
the cost of the shares should NOT be considered the decisive factor in establishing the fair value of the property or services. Use the fair value of the treasury stock, or the fair value of the property. Adjust the "paid in capital in excess of par - common stock" amount to reflect the fair value of the transaction.
Key Components of Stockholders' Equity Treasury Stock Reporting: When selling treasury stock for more than its cost,
the excess is credited to Paid in Capital from Treasury Stock
The Uniform Stock Transfer Act and the Uniform Commercial Code govern
the negotiability of stock certificates.
Cash dividends are based on
the number of dividends outstanding.
When companies issue stock dividends,
they distribute no assets. Stockholders maintain the same proportionate interest, but hold more shares.
Key Components of Stockholders' Equity Contributed capital is the
total amount paid in on capital stock - amount provided by stockholders to the corporation for use in the business. Includes par value of all outstanding stock and premiums less discounts on issuance.
Stock dividend increases the
total number of shares outstanding but doesn't decrease the par value, so it increases the total par value of outstanding shares. and it increases the marketability of a stock.
Companies in extractive industries might pay dividends equal to
total of accumulated income and depletion. The excess represents a return of part of the stockholder's investment.
Sale of Treasury Stock Above Cost Don't credit a gain account because
treasury stock isn't an asset and a gain should not be recognized from stock transactions with a company's own stockholders.
When stock dividend is less than 20-25% of the common shares outstanding at the time of declaration,
use thefair value option. Transfer the fair value of the stock issued from retained earnings. Stock dividends of this size are small (ordinary) stock dividends.
No-Par Stock is issued for
whatever price they will bring, but without a premium or discount. True no-par stock should be carried at issue price without any additional paid-in capital or discount reported.
All dividends, except stock dividends, reduce stockholders' equity and come out of retained earnings. Types of Dividends:
● Cash Dividends ● Property Dividends ● Liquidating Dividends ● Stock Dividends
Sale of Treasury Stock Companies usually reissue or retire treasury stock. When selling, accounting depends on price:
● If price equals cost, debit Cash and credit Treasury Stock. ● If price exceeds cost, credit Treasury Stock and Paid In Capital from Treasury Stock. ● If price is below cost, credit Treasury Stock and debit Paid in Capital from Treasury Stock; if that account is eliminated debit any remaining cost to retained earnings..
Stock Dividends
Issuance of stock to existing stockholders on a pro-rata basis, with no consideration. This type of dividend has no effect on total stockholders' equity.
A declared cash dividend is a
liability. Typically a current liability. There is a time lag for the company to update and prepare list of stockholders.
Companies can attach any legally allowable preferences and restrictions to preferred stock, within the limits of
state incorporation law.
Variety of Ownership Interests Common stock is the residual corporate interest that bears the
ultimate risks of loss and receives the benefits of success. -No guarantee of dividends, or assets upon dissolution.
arrears
unpaid or overdue debts; an unfinished duty
Cost of Issuing Stock Indirect costs to sell stock
-Indirect costs are expensed. -Management salaries and other indirect costs should be expensed. -Recurring registrar and transfer agent fees are also expensed as incurred.
No-Par Stock No par value =
= no additional paid-in capital. All value to stock. No-par stock has no effect on additional paid-in capital and will not increase it when issued.
Accounting for the Issuance of Stock Example
A company issues 1,000 shares of $100 par value common stock for $125,000. Issuance costs are $1000. Cash $125,000 Common Stock $100,000 Additional Paid-In Capital (Common Stock) $25,000
Liquidating dividend
A dividend not based on retained earnings; -implying that stockholders are receiving a return of their investment, rather than profits.
Stock Splits
A method to reduce the market value of shares so they are within the range of the majority of potential investors.
stock dividend
A pro rata (proportional to ownership) distribution of the corporation's own stock to stockholders.
Identify the key differences between preferred stock and common stock. Preferred Stock
A special class of shares that possesses certain preferences or features not possessed by the common stock, such as: 1. Preference as to dividends (but not a guarantee of dividends) 2. Preference to assets during liquidations 3. Convertible to common stock 4. Callable at the option of the corporation 5. No voting rights, nonparticipating. 6. Redeemable- Type that's most like debt. Has a mandatory redemption date/amount.
Financial Condition and Dividend Distributions Management must consider economic conditions and liquidity in determining dividend distributions. A company with retained earnings may not have cash available to pay out.
All its assets could be plant assets, or cash could be restricted by lenders for debt service.
Retiring Treasury Stock ______________ may approve retirement of treasury shares.
Board
Stock Issued in Noncash Transactions _____________ has the power to set the value of noncash transaction.
Board
Convertible Preferred Stock - Use Book Value Method Book Value journal entry
Book value method employed: D: Preferred stock D: Paid-In Capital in Excess of Par - Preferred Stock account C: Common Stock C: Paid-In Capital in Excess of Par - Common Stock (if an excess exists)
Example: Large Stock Dividend: Company has 1,000,000 shares of $10 par value common stock outstanding with a fair value of $200 per share. Company declares 25% stock dividend.
At date of declaration - use par value: D: Retained Earnings 2,500,000 (Equity acct) C: Common Stock Dividend Distributable 2,500,000 (Eqty acct) At date of distribution: D: Common Stock Dividend Distributable 2,500,000 C: Common Stock 2,500,000
To "go private" by eliminating outside ownership.
Can be done through a leveraged buyout - borrowing money to refinance stock repurchases. Repurchased stock is known as Treasury Stock. It is not an asset. It is unissued capital stock. Purchasing treasury stock reduces assets and stockholders' equity.
Key Components of Stockholders' Equity Stockholder's Equity formula
Capital Stock + Add'l Paid-In Capital + Retained Earnings - Treasury Stock (at cost) = Stockholders' equity
To provide tax-efficient distributions of excess cash to shareholders.
Capital gain rates on sales of stock to the company by stockholders are about half the usual rate. Stock price goes up but not because you sold, which increases shareholder value.
Company can also do a Reverse Stock Split -
Combine shares, increase stock price.
Stock Issued in Noncash Transactions Watered Stock
Company intentionally overvalues the property or service received; creates inflated asset values.
Stock Issued in Noncash Transactions Secret Reserves
Company intentionally undervalues the recorded assets. Can also result from excessive depreciation or amortization charges, expensing capital expenditures, excessive write-downs of inventories or receivables, or understatement of assets/overstatement of liabilities.
Treasury Stock account is a
Contra-Equity Account with a normal debit balance.
To provide stock for employee stock compensation contracts, or meet potential merger needs.
In other words, flexibility.
Cash Dividends At date of payment, record as follows:
D: Dividends Payable 500,000 C: Cash 500,000
State Corporate Law Influence
Each corporations is incorporated in only one state and is subject to that state's laws. Corporation submits articles of incorporation to that state with business name, owners, description, etc. State issues a corporation charter.
Incremental Method Example:
Example: Company issues 300 shares of $10 par value common stock, 100 shares of $50 par value preferred stock, for total of $13,500. Common stock is valued at $20. Preferred stock value is unknown. Common Stock - $20/share x 300 shares = $6,000. $3000 to common, $3,000 to APIC - Common Preferred Stock - $13,500 - $6,000 = $7,500. Charge $5,000 to preferred stock, excess to APIC - Preferred.
Stock Issued in Noncash Transactions Example:
Example: Acme Corporation exchanges 20,000 shares of its $10 par value common stock held in treasury for a used machine. The treasury shares were acquired at $25 a share and are accounted for under the cost method. On the date of the exchange, the shares have a fair value of $30 per share. Stockholders equity increases by $30 x 20,000 shares or $600,000.
Large Stock Dividends - Par Value
Large stock dividends (dividends where more than 20-25% of the number of previously outstanding shares are issued) use the par value NOT fair value. Has the same effect on market price as a stock split. Par value is transferred from retained earnings to capital stock. Retained earnings is reduced by the par value x number of shares issued.
Proportional Method
Lump sum received is allocated proportionally to classes of securities, based on fair (market) value.
Redeemable Preferred Stock aspects
More like debt than other kinds. Stock with a mandatory redemption period or redemption feature the issuer cannot control. A "debt-like" security. FASB requires these to be classified as liabilities and measured/accounted for in a similar fashion.
Cash Dividends At date of record, record as follows:
No entries Need to know who owns the stock on this date
Key Components of Stockholders' Equity Retained Earnings
The earned capital of a company. The capital that develops from profitable operations. Consists of all undistributed income that remains invested in the company.
Participating Preferred Stock aspects
This type of stock is seldom used. Stock can be partially participating. If a company fails to pay a dividend for a participating preferred stock in any year, it doesn't have to pay that before paying common dividends.
Key Components of Stockholders' Equity Treasury Stock Reporting: Treasury stock transactions can _____________ but not ______________ retained earnings.
Treasury stock transactions can decrease but not increase retained earnings.
Trading on equity
Using borrowed money or issuing prefered stock to get a higher rate of return on $$ used.
Variety of Ownership Interests Preferred stock often has preference to
claims on earnings. -Preferred stockholders would get dividends before common stockholders. -Preferred status in liquidation. (Less risk.) -A common sacrifice is a right to have a voice in management (vote for board), or profit beyond a stated rate.
Book value per share is based on
common shares outstanding.
Variety of Ownership Interests In every corporation, __________________ represents the basic ownership interest.
common stock
Key Components of Stockholders' Equity Two primary sources of equity:
contributed capital and earned capital.
outstanding shares
issued shares that are owned by stockholders
A two for one split doubles the
number of shares and cuts the price in half.
ROE helps investors judge
the worthiness of a stock.
