CPA Exam FAR

2-for-1 Stock Split and Shares issued and outstanding

A 2-for-1 stock split doubles the amount of shares issued and the amount in treasury. The difference of both gives you shares outstanding. Common stock issued - treasury shares purchased = common shares outstanding. A stock split increases the number of shares. Only the number of shares changes. The capital stock and retained earnings do not change. It is not considered a capital or asset distribution. When treasury stock is resold the stock is regarded as outstanding. Beginning stock outstanding + issued stock during the year + resold stock = Ending Stock outstanding. A 2-for-1 stock split will double that number.

Stocks and Dividends

A 5 % stock dividend is a true stock dividend, as opposed to a stock split effected in the form of a dividend. The FMV of the stock dividend at declaration date is capitalized(transferred) from retained earnings to capital stock and paid in capital. No entry is made when the rights are issued since no consideration is given. If the rights are exercised and the stock is issued, then the common stock and APIC increase. When collectibility is reasonably assured, the excess of the subscription price over the stated value of the no par common stock subscribed should be recorded as APIC when the subscription is received. When stock rights are issued without consideration, no entry (only disclosure) is made by either the issuer or the recipient. At the time the rights are exercised and the corporation receives a cash inflow APIC would be credited if the purchase price of the stock exceeded the par value(which is usually the case). Retained earnings is not affected because this is a capital transaction, not an operations transaction. Stock dividends and stock splits are not considered income to the recipient. Therefore, investors do not record stock dividends at FMV. They simply relocate the investment account balance (under either method-Cost or Equity) over more shares so that value per share decreases. The difference between book value and FMV of a property dividend should be recorded as gain/loss on disposal of asset. Cost of Stock Rights = (FMV of Rights/(FMV of Rights + FMV of Stockex-Rights)) x Cost of Stock

Additional Paid in Capital (APIC)

Additional paid in capital is decreased upon the acquisition and retirement of shares at a cost less than initial selling price. Additional paid in capital is increased (credited) by the difference of cash(Issue price per share x number of shares) and common stock(par value x number of shares) if par value is less at issuance. APIC is decreased (debited) by the same amount at reacquisition.

Book Value per Common Share

Book value per common share = (Common stockholders equity/Common shares outstanding) Common shares outstanding is total shares issued less treasury shares.

Common Stock that contains an unconditional redemption feature.

Common stock that contains an unconditional redemption feature should be reported on the issuer's books as a liability on the date of issuance because there is an obligation of a cash outflow in the future that the company has no ability to prevent.

Treasury Stock Gains and Losses

Corporations are not permitted to report income statement gains and losses from treasury stock transactions. Instead, treasury stocks "gains and losses" are reported as direct adjustments to stockholders' equity. Gains are recorded by crediting APIC-Treasury Stock, while losses are recorded by first reducing any existing APIC-Treasury Stock to $0, and then debiting any additional loss to Retained Earnings. Shares of its own stock held by a corporation should be recorded as treasury stock and shown as a reduction in the stockholders' equity section of the BS. Treasury shares are shown separately as a reduction to equity not as an adjustment to common stock at par. The acquisition of treasury stock at a price less than half their book value will: 1.Decrease stockholders' equity in total. All treasury stock transactions decrease total equity. 2.Increase book value per share. The sale of treasury stock at less than cost will result in a net increase in stockholders' equity. The original cost of the treasury stock is credited, any APIC treasury stock is debited, and any excess over APIC would reduce retained earnings. However, the net impact to stockholders' equity would still be positive as long as cash is received from the sale of the treasury stock.

Dividends

Dividends become a liability on the books of the issuing company (along with a decrease to retained earnings) on the date the dividend is declared. A property dividend should be recorded in retained earnings at the property's market value at the date of declaration. A stock dividend (less than 20-25% of the stock outstanding) transfers the FMV of the stock dividend at declaration date from retained earnings to capital stock and paid in capital. There is no effect on total stockholders' equity because all transfers take place within stockholders' equity. For a large stock dividend (more than 20-25% of previously outstanding shares) retained earnings is debited for the par value of the additional shares issued. (% x # of shares x par value) Property dividends are recorded at fair value . Retained earnings are decreased when property dividends are declared. Working capital is decreased on the declaration date per the rule that the liability for a cash dividend is incurred and recorded on the declaration date. When a property dividend is declared from overstocked merchandise a loss is recognized for the merchandise's carrying value amount over its market value. This results in a reduction in income from continuing operations. A property dividend is recorded at the fair value of the property to be distributed. The property has to be adjusted to fair value with the adjustment affecting earnings for the period. Receipt of a stock dividend is not revenue. It increases the number of shares held and decreases the cost basis per share.

Dividends

Dividends in "arrears" (undeclared dividends on cumulative preferred stock) should be reported in the footnotes. Since they are not declared, no journal entry is made. When dividends in arrears from prior years are declared and received, they are included in that years income from continuing operations. Cumulative preferred stock dividends are paid on par value (not sales price) of preferred stock and have a "preference" over common stock dividends until all past preferred stock dividends are paid. The total amount of dividends in arrears includes all years mentioned accumulated dividends, less the dividend paid, because the dividends are cumulative.

Reacquisition

If the reacquisition price is: a) Less than the original issue price, the "gain" is credited to APIC b) more than the original issue price, the "loss" is debited to retained earnings

Stock Compensation

Stock options outstanding are reduced at the exercise date. Compensation expense = total compensation cost. Compensation expense should be recognized as expense over the service period. The service period would be from the time the stock options are granted to the time they are exercisable. Equity instruments issued for employee services are to be valued at the date of the grant. (Grant date fair value x number of shares)/service period(number of years between grant date and exercisable date) = compensation expense per year when dealing with compensatory stock options which must be valued at fair value. If an employer donates to an employee stock purchase plan, the amount they donate per employee withholdings amount would be the expense they would recognize. Stock options are valued at the fair value of the options issued. The value is determined based on the fair value on the grant date. This amount is recorded as compensation expense over the service period, which is the time between the grant date and the vesting date Compensation cost for restricted share plans is determined using the following formula: Total Compensation Cost = Market price of the share on the date of the grant x Number of restricted shares awarded. If there is more than one issuance add them together and divide them by the number of years in the vesting period(service period). Compensation expense relative to stock options is recognized over the service period regardless of whether the stock option is exercised or not.

If an entity is donated some of its own stock from a stockholder

There is no change in stockholders equity because both accounts enter into stockholders equity and there is no cost to the entity.

Liquidating Dividend

When a cash dividend is declared the amount in excess of retained earnings balance is known as a liquidating dividend. A liquidating dividend is a return of capital ( which decreases APIC) and not a distribution of earnings ( which decreases retained earnings)

Cost Method for treasury stock

When the cost method is used to account for treasury stock, common stock is reported on the balance sheet as total shares issued at par value (shares issued x par value)

Retained Earnings Appropriation

When the purpose of the appropriation has been achieved, it should be restored to unappropriated retained earnings. A retained earnings appropriation debits (reduces) unappropriated retained earnings and sets up (credits) appropriated retained earnings. It does not affect the income statement. A retained earnings appropriation can be used to restrict earnings available for dividends. There is no requirement to appropriate retained earnings for any purpose. Retained earnings may be set aside for future purposes by classifying a portion as appropriated. To get Ending Retained Earnings you add net income to beginning retained earnings. If treasury stock transactions are recorded under the cost method and the resale of treasury stock was at a price that exceeded its acquisition price, none of the treasury stock transactions will affect retained earnings.