Chapter 13 Stockholders' Equity

What is a corporation?

A corporation is a business organized under state law that is a separate legal entity.

What is a stock dividend?

A stock dividend is a distribution of a corporation's own stock to its stockholders.

List three characteristics of a corporation.

Characteristics of a corporation are the following(students are required to list three): a. Is a separate legal entity b. Has one or more owners c. No personal stockholder liability for the debts of the corporation d. Does not allow stockholders to bind the business to a contract e. Has an indefinite life f. Is a separate taxable entity g. Allows for capital accumulation

How does preferred stock differ from common stock?

Preferred stock gives its owners certain advantages over common stock. It receives dividend preference over common stockholders. It also receives assets before common stockholders if the corporation liquidates.

"What account is used to record the premium when issuing common stock? What type of account is this?"

The account used to record the premium when issuing common stock is the Paid-In Capital in Excess of Par—Common. It is an equity account.

What does the statement of retained earnings report?

The statement of retained earnings reports how the company's retained earnings balance changed from the beginning of the period to the end of the period.

If stock is issued for assets other than cash, how is the transaction recorded?

The transaction is recorded at the market value of the stock issued or the market value of the assets received, whichever is more clearly determinable.

"What is treasury stock? What type of account is Treasury Stock, and what is the account's normal balance?"

Treasury stock is a corporation's own stock that it has previously issued and later reacquired. Its normal balance is a debit.

"What is the effect on the accounting equation when a stock dividend is declared? What is the effect on the accounting equation when a stock dividend is distributed?"

When a stock dividend is declared, there is no change to the accounting equation because it does not create a liability. The make-up of stockholders' equity does, however, change. When the dividend is distributed, the accounting equation stays the same, but the stockholder's equity will just be rearranged. For a small stock dividend, common stock and paid-in capital in excess of par increase and retained earnings decrease. For a large stock dividend, common stock increases and retained earnings decrease.

What are some reasons corporations issue stock dividends?

A company issues stock dividends for several reasons: a. To continue dividends but conserve cash b. To reduce the market price per share of its stock c. To reward investors

What is a prior-period adjustment?

A prior-period adjustment is a correction to retained earnings for an error in an earlier period.

What is a stock split?

A stock split is an increase in the number of issued and outstanding shares of stock coupled with a proportionate reduction in the par value of the stock.

How does authorized stock differ from outstanding stock?

Authorized stock is the maximum number of shares of stock that the corporate charter allows for the corporation to issue. Outstanding stock is issued stock in the hands of the stockholders.

What does earnings per share report, and how is it calculated?

Earnings per share reports the amount of net income (loss) for each share of the company's outstanding common stock. It is calculated by taking net income minus preferred dividends divided by the weighted average number of common shares outstanding.

What is par value?

Par value is an arbitrary amount assigned by a company to a share of its stock.

What are the four basic rights of stockholders?

The four basic rights of a stockholder are to do the following: a. Participate in management by voting on corporate matters. b. Receive a proportionate part of any dividend that is declared and paid. c. Receive a proportionate :Liquidation rights:share of any assets remaining after the corporation pays its debts and liquidates. d. Maintain their :Preemption rights:proportionate ownership in the corporation (a preemptive right).

What is the price/earnings ratio, and how is it calculated?

The price/earnings ratio is the ratio of the market price of a share of common stock to the company's earnings per share. It is calculated by taking the market price per share of common stock and dividing it by earnings per share.

What does the rate of return on common stock show, and how is it calculated?

The rate of return on common stock shows the relationship between net income available to common stockholders and their average common equity invested in the company. It is calculated by taking net income minus preferred dividends and then dividing that number by average common stockholders' equity.

"What does the statement of stockholders' equity report? How does the statement of stockholders' equity differ from the statement of retained earnings?"

The statement of stockholders' equity is another option for reporting the changes in stockholders' equity of a corporation. This statement has more information than the statement of retained earnings in that it reports the changes in all stockholders' equity accounts, not just retained earnings.

What are the three relevant dates involving cash dividends? Describe each.

The three relevant dates involving cash dividends are the declaration date, date of record, and payment date. a. On the declaration date the board of directors announces the intention to pay the dividend. The declaration of a cash dividend creates an obligation (liability) for the corporation. b. Date of record is the date the corporation records which stockholders get dividend checks. c. Payment of the dividend usually follows the record date by a week or two.

What are the two basic sources of stockholders' equity? Describe each source.

The two basic sources of stockholders' equity are paid-in capital and retained earnings. Paid-in capital represents amounts received from stockholders in exchange for capital. Common stock is the main source of paid-in capital. Retained earnings is capital earned by profitable operations that is not distributed to stockholders.

Where and how is treasury stock reported on the balance sheet?

Treasury stock is reported beneath retained earnings on the balance sheet as a reduction to total stockholders' equity.

"What is the effect on the accounting equation when cash dividends are declared? What is the effect on the accounting equation when cash dividends are paid?"

When cash dividends are declared, a current liability increases (Dividends Payable is (credited) and Stockholder's Equity decreases (Retained Earnings is debited). When cash dividends are paid, there is a decrease in both assets (Cash) and liabilities (Dividends Payable).

How does cumulative preferred stock differ from noncumulative preferred stock?

With cumulative preferred stock, the owners must receive all dividends in arrears before the corporation pays dividends to the common stockholders. For noncumulative preferred stock, the corporation is not required to pay any dividends in arrears.