Chapter 11 Stockholders' Equity

Price earnings ratio

To determine the value investors place on a company's common stock. Measures how many time more than current years earnings investors are willing to pay for s company's stock.

Capital account

To record capital contributions and accumulate periodic income or loss

Ima Rich purchased 100 shares of Stockits, Inc.'s $1 par value common stock for $5 per share. Which statements are true regarding the effect of this transaction on Stockits' financial statements?

Stockholders' equity on the balance sheet increases the financing activities section of the statement of cash flows increases.

Preferred stock allows different voting rights. Dividends may be paid at a fixed rate. Carries priority over common stock.

How does preferred stock differ from common stock?

Earnings per share

How much profit is earned for each share of common stock outstanding

Dividends can never be in arrears

If preferred stock is noncumulative,

No Dividends Payable

Stockit Inc has 1000 shares of 5%, $100 par value, cumulative preferred stock outstanding. In its first two years of business, Stockit did not declare a dividend. Stockits balance sheets at the end of its first two years of business should include:

Current dividend preference

Shares x par value x dividend preferred dividends must be paid before any dividends are paid to common stockholders

Dividends in arrears

Sharesxparvaluexdividendx2years

- Borrowing - Issuing stock

Sources of financing for corporations include:

Income investment

Stocks that consistently pay dividends

Growth investments

Stocks that pay little or no dividends

Contributed capital

The amount of capital the company received from investors contributions in exchange for the company's common stock and preference stock

Charter

The articles of incorporation that spells out information about the corporation such as its name adress nature of business and ownership Structure.

Transferring an amount from retained earnings to common stock

Stock dividends are recorded by

Common stock

The basic voting stock issued by a corporation to stockholders

Declaration Date

The board of directors officially approves a dividend

Retained earnings

The company's total earnings that have been retained in the business. The amount of equity that the company itself has generated for stockholders but not distributed to them.

Retained earnings

The cumulative amount of net income earned by the company less the cumulative amount of dividends since the corporation was first organized. Also represents earned capital

Dividends in arrears

The cumulative unpaid amount that must be paid before any future common dividends can be paid.

Declaration date

The date on which the board of directors officially approves a dividend.dividends are not an expense

Record date

The date on which the corporation prepares the list of current stockholders shown on its records. Dividends can be paid only to the stockholders who own stock on that date.

Additional paid in capital

The decrease in retained earnings is greater than the increase in common stock so the excess market value over par value is

Initial public offering

The first issuance of a company's stock to the public.

- Debit to Dividends - Credit to Dividends Payable

The journal entry to record the declaration of a dividend includes:

Authorized shares

The maximum number of shares of capital stock of a corporation that can be issued as specified in the charter.

Sold

The number of shares issued represents the number of shares ____

Cumulative dividend preference

The preferred stock feature that requires current dividends not paid in full to accumulate for every year in which they are not paid. These unpaid amounts also known as dividends in arrears must be paid before any common dividends can be paid.

Stock splits

The total number of authorized shares is increased by a specific amount . Revising the corporate charter to reduce the per share par value of all authorized shares.

Current and cumulative

The two most common dividend preferences are

Transferring an amount from retained earnings to contributed capital amounts.

Stock dividends are recorded by

Date of Record

Stock records are finalized to determine which stockholders are to receive payment

Preferred stock

Stock that has specified rights over common stock

Cumulative preferred stock is entitled to receive current dividends plus "dividends in ____________" before any future common dividends can be paid.

arrears

Preferred stock carries priority over common stock _________.

both for dividends and at liquidation.

stock dividend

distrubites additional shares of stock to existing stockholders on a pro rata basis at no cost to the stockholders

payment date

dividends payable is decreased

Which of the following line item amounts are under the retained earnings column of a statement of stockholders' equity?

dividends: common; dividends: preferred; net income

A corporation ___________ have a legal obligation to pay dividends

does not

comparing EPS across companies is not advised because..

the number of shares outstanding may vary accounting methods used may vary

The amount stockholders have invested in exchange for stock

Contributed Capital of 1,000,000 represents:

Partnership

Formed by two or more people reaching a mutual agreement about the terms of the relationship

Declaration date, date of record, date of payment, year end

Four important dates for a cash dividend

Stock options

Give employees the option of acquiring the company's stock at a predetermined price often equal to the then current market price

Outstanding shares

Shares that are currently held by stockholders

Daffy Duct, Inc. issued 10,000 shares of $1 per value common stock at $10 per share. The journal entry to record this transaction includes a ______________.

$90,00 debit to cash, $100,000 credit to cash, $10,000 credit to common stock

Retained Earnings

- are decreased by dividends - all of the companys earnings kept rather than distributed to stockholders - sometimes called earned capital - increased by net income

Justin's Thyme, Inc.has the following December 31,2012, equity balances: Common Stock, $20,000; Additional Paid-in Capital, $30,000; and Retained Earnings, $50,0000. If JT repurchases $10,000 of the stock as Treasury stock, the total Stockholders' Equity balance would equal..

90,000

Payment date

A cash outflow occurs on which dividend date?

Retained Earnings

A companys past profits that are kept instead of being paid to stockholders are:

Sufficient cash

A corporation must have this to pay the dividend. If a company has retained earnings it doesn't mean they have this as well.

Payment date

A dividend that distributes additional shares of a corporations own stock

Investors expect the company to improve in the future and increase its profits.

A high PE ratio means

Par value

A large stock dividend is recorded at

They don't expect strong future performance

A low PE performance means

Limited

A major advantage of the corporate form of ownership is ____ legal liability

Limited Legal Liability

A major advantage of the corporate form of ownership is:

Market value

A small stock dividend is recorded at

Seasonal new issues

Additional issues of new stock by the company if the company had issued stock previously

Year end date

All temporary accounts including dividends are closed into retained earnings.

Stock split

An increase in the total number of authorized shares by a specified ratio. Does not affect retained earnings

Par value

An insignificant value per share of capital stock specified in the charter. First introduced to prevent stockholders from removing contributed capital of businesses that were about to go bankrupt.

Owners

Another term for stockholders is:

100,000

AnuU Inc sold 100,000 shares of the 1,000,000 shares it is allowed to sell. AnuU repurchased 10,000 of these shares. The number of shares issued equals ____ shares

Companies disclose any restrictions in their financial statement notes

Because restrictions on retained earnings can limit the ability to pay dividends accounting rules require that...

Debt financing

Borrowing money from lenders.

No par value stocks

Capital stock that has no par value specified in the corporate charter. It does not have a specified legal value per share. Is a legal concept and is not related to the market value of the company's stock.

Statement of stockholders equity

Contains a column for each stockholders equity account and shows factors that increased and decreased the account balances during the period.

Price earnings ratio

Current stock price/ earnings per share

50,000 increase to total SE 50,000 increase to total assets

Daffy Duct Inc issued 10,000 shares of $1 par value common stock at $5 per share. The effect of this transaction on the accounting equation includes a:

- 10,000 Credit to Common Stock - 90,000 Credit to Additional Paid in Capital - 100,000 Debit to Cash

Daffy Duct, Inc issued 10,000 shares of $1 par value common stock at $10 per share. The journal entry to record this transaction includes a:

Equity Financing

Dew Drop Inn has a current ratio of 0.9 to 1.0 and $4 of debt for every $1 of equity. If Dew Drop Inn needs additional financing, it would best improve its financial situation with:

Debit

Dilution Solutions repurchased 1000 shares of its $1 par value common stock for $5000. The journal entry to record this transaction includes a _____ to Treasury Stock

Retained Earnings

Dividends is closed into _____ at the end of the fiscal year

Payment Date

Dividends payable is decreased

When Diva, Inc. declared a $10,000 cash dividend, it recorded a debit to _______________ and a credit to Dividends ______________.

Dividends; Payable

Future stock prices

EPS is a good predictor of:

2 for 1

Each issued share is called in and two new shares are issued in its place

Net Income

Earnings per share (EPS) equals _____ divided by the average shares of common stock outstanding

Primary advantages of a partnership

Ease of information. Complete control by the partners. Lack of income taxes

- Have preference as to dividends - Have preference over common stockholders

Investors who acquire preferred stock:

Treasury stock

Issued shares that have been reacquired by the company

Equity financing

Issuing new stock to investors Does not have to be repaid but interest must be paid on debt when a company needs a large amount of long-term financing

45,000

Lox Stock and Bagel Inc issued 50,000 shares of the 100,000 authorized. It has since repurchased 5000 of its shares. The number of shares outstanding equals ______ shares

Return on equity

Net income- preferred dividends/ average common stockholders equity

Earnings per share

Net income- preferred dividends/ average number of common shares outstanding

These statements are true about cash dividends

On the payment date, current assets are decreased on the declaration date, liabilities are increased.

Declaration date

On which date is a liability credited?

Drawing account

Record the owners withdrawals of cash or other assets from the business

Return on equity

Reports a company's return to common stockholders

Treasury stock

Reports shares that were previously issued to and owned by stockholders but have been reacquired and at now held by the corporation.

Accumulated other comprehensive income

Reports unrealized gains and losses that are temporary changes in the value of certain assets and liabilities that the company holds.

Dividends is closed into ________________ _____________________ at the end of the fiscal year.

Retained Earnings

Kept; Balance sheet and statement of retained earnings

Retained Earnings of 100,000 represent a corporation's cumulative earnings _____ and is shown on the ______

Profits Retained Net Income Kept

Retained Earnings represents cumulative ____ by the business

Issued shares

Shares of stock that have been distributed by the corporation

Repurchase of stock

To send a signal to investors that the company itself believes its own stock is worth securing. To obtain shares that can be reissued as payment for purchases of other companies, to obtain shares to reissue to employees as part of employee stock purchase plans. And reduce the number of outstanding share to increase per share measures of earnings and stock value.

Dividends on common stock

Total dividends declared-total dividends on preferred stock

Stockholders Equity section of the Balance Sheet

Treasury Stock is reported in the

What are the benefits of common stock?

Voting Rights, the right to receive dividends if they're declared, a preemptive right to buy newly issued stock before it is offered to others, a residual claim on assets after creditors and preferred stockholders have been satisfied.

A capital account and drawing account

What are the two owners equity accounts needed

Dividends can be paid if sufficient retained earnings and sufficient cash are available.

What are two fundamental requirements for the payment of a dividend?

Stock issuance

When a corporation distributes its shares to existing or new stockholders in exchange for cash

Sufficient retained earnings and sufficient cash

When deciding whether to declare a cash dividend. A company's board of directors considers possible tax law changes and

To lower the market price per share of stock. To demonstrate commitment to stockholders while conserving cash. To signal an expectation of significant future earnings.

Why would a company issue a stock dividend?

The declaration of a dividend results in:

a decrease in retained earnings after temporary accounts are closed; an increase in liabilities; an increase in dividends

stock splits and stock dividends

cause total stockholders' equity to remain the same

stock split

causes the par value per share to change

stockholders equity statement

changes in retained earnings and paid-in capital

Ownership structure can vary from one company to another, but the most basic form of corporations offer :

common stock

most basic form of corporation

common stock

The owners of a(n) _____________ are not personally responsible for the debts of the business

corporation

the journal entry to record reissuing treasury stock at a price below the cost of the treasury stock

debit Additional Paid-In Capital debit Cash credit Treasury Stock

entry to record the issuance 100 shares 3% $100 par value preferred stock price of $105

debit cash $10,500 credit Preferred Stock $10,000 credit additional paid-in capital preferred $500

the journal entry to record the payment of a previously declared dividend

debit to dividends payable credit to cash

Dividends payable is recorded as a credit on the

declaration date

effect of repurchasing stock using the cost method

decrease stockholders equity decrease assets increase Treasury Stock

Retained Earnings are _____________.

decreased by dividends, all of the company's earnings kept rather than distributed to stockholders; sometimes called earned capital; increased by net income

the risk from financial leverage

decreases when a company issues new shares of stock increases when the cost of borrowing is greater than the return

retained earnings

earned capital

A corporation is a separate legal entity that can:

enter into contracts sue or be sued own assets

Advantages of equity financing over debt financing includes:

equity financing does not require repayment, dividends are optional

An increase in EPS is an indicator of ________.

higher profitability

Issuing 1000 shares of 5%, $100 par value, cumulative preferred stock for $110 in cash per share affects the accounting equation by

increase total assets increase total stockholders equity increasing additional paid-in capital

advantages of debt financing over equity financing include:

interest payments are deductible; stockholders' control will not be diluted

Retained Earnings of $100,000 represent a corporation's cumulative earnings_____________ and is shown on the ____________.

kept; balance sheet and statement of retained earnings

Dividends Payable is a(n) _________________ account with a normal balance and is initially recorded on the _______________ date.

liability, credit, declaration

a major advantage of the corporate form of ownership is _______________ legal liability.

limited

Dividends on preferred stock:

may be paid at a fixed rate are paid before dividends on common stock are more attractive than common stock dividends to investors who want a stable income.

corporation that has a loan covenant

may be required to repay the loan immediately if it violates the covenant must disclose the covenant in the notes to the financial statements

EPS

net income / average shares of common stock outstanding

Earning per share (EPS)

net income / average shares of common stock outstanding stock price / P/E ratio

owners of a corporation

not personally responsible for the debts of a business

The number of shares outstanding

number of shares issued - number of shares in treasury

another term for stockholders is_____________.

owners

advantages of a corporation

ownership interest are easily transferable it can raise large amounts of money by issuing stock

contributed capital

paid-in capital

cumulative stock

preferred stock that receives its current dividend and dividends in arrears

Investors earn a return on stock investments by:

receiving dividends; selling stock for more than its cost

Treasury Stock

reduces total stockholders' equity is shares of stock no longer outstanding is a contra-equity account the amount paid for stock reacquired and currently held in treasury

ROE

reports net income relative to average common stockholders equity in dollars

Stock dividends

require a journal entry

A company's past profit that are kept instead of being paid to stockholders are

retained earnings

Corporations can raise large amounts of money because

shares of stock can be purchased in small amounts, so even small investors can participate.

the number of shares issued represents the number of shares ______________.

sold

Diva Inc. declared and paid $10,000 of dividends in 2015. Dividends of $10,000 may be found on the ____________.

statement of retained earnings

What is needed to calculate the P/E ratio

stock price; Earnings Per Share

contributed captial of $1M is found in the _________________section of the _____________.

stockholders' equity; balance sheet

date of record

stocks are finalized to determine which stockholders are to receive payments

Contributed capital of $1M represents:

the amount stockholders have invested in exchange for stock

declaration date

the board of directors officially approve a dividend

The effect of transactions on financial statements when 100 shares for par value of $1 for $5 per share

the financing activities section of the statement of cash flows increases stockholders' equity on the balance sheet increases.

refurbish, inc. reissued 1,000 shares of its treasury stock for 10,000. Prior to the resistance, the treasury stock balance was 12,000, which included the 8,000 cost of the 1,000 shares reissued. As a result of this transaction

treasury stock on the balance sheet will equal 4,000 stockholders equity on the balance sheet will be 10,000 higher

stock option

typically given to employees as part of their compensation that gives them the opportunity to buy the companys stock at a predetermined price recorded as an expense at the time it was granted

laws governing corporations

vary from state to state

no-par value stock

when a corporation charter does not specify legal value per share

when should a corporation record a liability for dividends on its cumulative preferred stock

when the dividends have been declared