ACC201 Final Exam CH9

When a corporation purchases treasury stock, the acquisition A has no effect on total assets and total stockholders' equity. B increases the company's total assets and total stockholders' equity. C decreases the company's total assets and total stockholders' equity. D requires that a gain or loss be recognized on the income statement. You selected B : increases the company's total assets and total stockholders' equity. got it wrong the correct Answer is C : decreases the company's total assets and total stockholders' equity. Solution Treasury stock is generally accounted for using the cost method. Under the cost method, companies increase Treasury Stock by the price paid to reacquire the shares and decrease Cash for the same amount.

ordan Corporation issues 100, 5-year, 8%, $2,000 bonds dated January 1, 2022, at 96. To record the issuance A increase Cash for $200,000. B increase Cash for $192,000. C decrease Bonds Payable for $16,000. D increase Cash for $1,920,000. You selected B : increase Cash for $192,000. got it correct Solution Bond price indicates the percent of face value the bond is selling for. A price of 96 means the bond is selling at 96% of face value, or ($200,000 x .96) = $192,000. The issuer will increase Cash for the amount of cash received, increase Bonds Payable for $200,000, and increase Discount on Bonds Payable for the difference.

DO IT! 1a Current Liabilities You and several classmates are studying for the next accounting exam. They ask you to answer the following questions. If cash is borrowed on a $50,000, 6-month, 12% note on September 1, how much interest expense would be incurred by December 31? The cash register total including sales taxes is $23,320, and the sales tax rate is 6%. What is the sales taxes payable? If $15,000 is collected in advance on November 1 for 3 months' rent, what amount of rent revenue should be recognized by December 31? ACTION PLAN Use the interest formula: Face value of note × Annual interest rate × Time in terms of one year. Divide total receipts by 100% plus the tax rate to determine sales; then, subtract sales from the total receipts. Determine what fraction of the total unearned rent should be recognized this year.

$50,000×12%×4/12=$2,000 $23,320 ÷ 1.06 = $22,000; $23,320 − $22,000 = $1,320 15,000 x 2/3 = 10,000

(LO 1) No Fault Insurance Company collected a premium of $18,000 for a 1-year insurance policy on April 1. What amount should No Fault report as a current liability for Unearned Insurance Premiums at December 31? $0. $4,500. $13,500. $18,000. b. The monthly premium is $1,500 ($18,000 ÷ 12). Because No Fault has recognized 9 months of insurance revenue (April 1-December 31), 3 months' insurance premium is still unearned. The amount that No Fault should report as Unearned Service Revenue is therefore $4,500 (3 months × $1,500), not (a) $0, (c) $13,500, or (d) $18,000.

(LO 1) Employer payroll taxes do not include: federal unemployment taxes. state unemployment taxes. federal income taxes. FICA taxes. c. Federal income taxes are a payroll deduction, not an employer payroll tax. The employer is merely a collection agent. The other choices are all included in employer payroll taxes.

LO 1) Ottman Company borrows $88,500 on September 1, 2022, from Farley State Bank by signing an $88,500, 12%, 1-year note. What is the accrued interest at December 31, 2022? $2,655. $3,540. $4,425. $10,620. b. Accrued interest at 12/31/22 is computed as the face value ($88,500) times the interest rate (12%) times the portion of the year the debt was outstanding (4 months out of 12), or $3,540 ($88,500×12%×412), not (a) $2,655, (c) $4,425, or (d) $10,620.

(LO 1) JD Company borrowed $70,000 on December 1 on a 6-month, 12% note. At December 31: neither the note payable nor the interest payable is a current liability. the note payable is a current liability but the interest payable is not. the interest payable is a current liability but the note payable is not. both the note payable and the interest payable are current liabilities. d. A current liability is a debt the company reasonably expects to pay (1) from existing current assets or through the creation of other current liabilities, and (2) within the next year or the operating cycle, whichever is longer. Since both the interest payable and the note payable are expected to be paid within one year, they both will be considered current liabilities. The other choices are therefore incorrect.

1. (LO 1) The time period for classifying a liability as current is one year or the operating cycle, whichever is: longer. shorter. probable. possible. a. The time period for classifying a liability as current is one year or the operating cycle, whichever is longer, not (b) shorter, (c) probable, or (d) possible.

(LO 1) To be classified as a current liability, a debt must be expected to be paid within: 1 year. the operating cycle. 2 years. 1 year or the operating cycle, whichever is longer. d. To be classified as a current liability, a debt must be expected to be paid within 1 year or the operating cycle, whichever is longer. Choices (a) and (b) are both correct, but (d) is the better answer. Choice (c) is incorrect.

LO 1) Alexis Company has total proceeds from sales of $4,515. If the proceeds include sales taxes of 5%, what is the amount to be recorded in Sales Revenue? $4,000. $4,300. $4,289.25. The correct answer is not given. b. Dividing the total proceeds ($4,515) by one plus the sales tax rate (1.05) will result in the amount of sales to be recorded in the Sales Revenue account of $4,300 ($4,515 ÷ 1.05). The other choices are therefore incorrect.

(LO 1) When recording payroll: gross earnings are recorded as salaries and wages payable. net pay is recorded as salaries and wages expense. payroll deductions are recorded as liabilities. More than one of the answer choices are correct. c. Payroll deductions are recorded as liabilities. The other choices are incorrect because (a) gross earnings are recorded as salaries and wages expense, and (b) net pay is recorded as salaries and wages payable. Choice (d) is wrong as there is only one correct answer.

(LO 3) Preferred stock may have priority over common stock except in: dividend preference. preference to assets in the event of liquidation. cumulative dividends. voting. d. Preferred stock usually does not have voting rights and therefore does not have priority over common stock on this issue. The other choices are true statements.

(LO 3) In the stockholders' equity section, the cost of treasury stock is deducted from: total paid-in capital and retained earnings. retained earnings. total stockholders' equity. common stock in paid-in capital. a. The cost of treasury stock is deducted from total paid-in capital and retained earnings. The other choices are therefore incorrect.

(LO 3) ABC Corp. issues 1,000 shares of $10 par value common stock at $12 per share. When the transaction is recorded, increases are made to: Common Stock $10,000 and Paid-in Capital in Excess of Stated Value $2,000. Common Stock $12,000. Common Stock $10,000 and Paid-in Capital in Excess of Par Value $2,000. Common Stock $10,000 and Retained Earnings $2,000. c. Common Stock should be increased for $10,000 and Paid-in Capital in Excess of Par Value should be increased for $2,000. The stock is par value stock, not stated value stock, and this excess is contributed, not earned, capital. The other choices are therefore incorrect.

(LO 3) Treasury stock may be repurchased: to reissue the shares to officers and employees under bonus and stock compensation plans. to signal to the stock market that management believes the stock is underpriced. to have additional shares available for use in the acquisition of other companies. More than one of the answer choices are correct. d. Treasury stock may be repurchased to reissue the shares as part of bonus and stock compensation plans, to signal to the stock market that the stock is underpriced, and to have additional shares available for use in the acquisition of other companies. Choice (a), (b), (c) are all correct, but (d) is the best answer.

(LO 4) U-Bet Corporation has 10,000 shares of 8%, $100 par value, cumulative preferred stock outstanding at December 31, 2022. No dividends were declared in 2020 or 2021. If U-Bet wants to pay $375,000 of dividends in 2022, common stockholders will receive: $0. $295,000. $215,000. $135,000. d. The preferred stockholders will receive a total of $240,000 of dividends [dividends in arrears ($80,000 × 2 years) + current-year dividends ($80,000)]. If U-Bet wants to pay a total of $375,000 in 2022, then common stockholders will receive $135,000 ($375,000 − $240,000), not (a) $0, (b) $295,000, or (c) $215,000.

(LO 4) Companies must record cash dividends on the: declaration date and the record date. record date and the payment date. declaration date, record date, and payment date. declaration date and the payment date. d. Dividends must be recorded on the declaration date and the payment date, but not the record date. The other choices are therefore incorrect.

21. (LO 5) Jackson Inc. reported net income of $186,000 during 2022 and paid dividends of $26,000 on common stock. It also paid dividends on its 10,000 shares of 6%, $100 par value, noncumulative preferred stock. Common stockholders' equity was $1,200,000 on January 1, 2022, and $1,600,000 on December 31, 2022. The company's return on common stockholders' equity for 2022 is: 10.0%. 9.0%. 7.1%. 13.3%. b. Return on common stockholders' equity is net income available to common stockholders divided by average common stockholders' equity. Net income available to common stockholders is net income less preferred dividends = $126,000 [$186,000 − (10,000 × .06 × $100)]. The company's return on common stockholders' equity for the year is therefore 9.0% {$126,000 ÷ [($1,200,000 + $1,600,000) ÷ 2]}, not (a) 10.0%, (c) 7.1%, or (d) 13.3%.

(LO 5) If everything else is held constant, earnings per share is increased by: the payment of a cash dividend to common shareholders. the payment of a cash dividend to preferred shareholders. the issuance of new shares of common stock. the purchase of treasury stock. d. The purchase of treasury stock reduces the number of shares outstanding, which is the denominator of earnings per share (EPS). With a smaller denominator, EPS is larger. The other choices are incorrect because (a) the payment of a cash dividend to common stockholders does not affect the earnings or the number of outstanding shares, so EPS will stay the same; (b) the payment of a cash dividend to preferred stockholders will reduce the amount of earnings available to the common stockholders, thus reducing EPS; and (c) the issuance of new shares of common stock would not affect earnings but will increase the number of outstanding shares, thereby reducing EPS.

(LO 5) The return on common stockholders' equity is usually increased by all of the following, except: an increase in the return on assets ratio. an increase in the use of debt financing. an increase in the company's stock price. an increase in the company's net income. c. An increase in the company's stock price has no effect on the return on common stockholders' equity. The other choices are incorrect because (a) an increase in a firm's return on assets, (b) an increase in a firm's use of debt financing, and (c) an increase in a firm's net income will all increase the return on common stockholders' equity.

(LO 5) Thomas is nearing retirement and would like to invest in a stock that will provide a good steady income. Thomas should choose a stock with a: high current ratio. high dividend payout. high earnings per share. high price-earnings ratio. b. Thomas should focus on a high dividend payout. The other choices are incorrect because a stock with a (a) high current ratio, (c) high earnings per share, or (d) high price-earnings ratio may or may not pay dividends on a consistent basis.

Learning Objectives Review 1 Explain how to account for current liabilities. A current liability is a debt that a company can reasonably expect to pay (a) from existing current assets or through the creation of other current liabilities and (b) within one year or the operating cycle, whichever is longer. The major types of current liabilities are notes payable, accounts payable, sales taxes payable, unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest payable. When a note payable is interest-bearing, the amount of assets received upon the issuance of the note is generally equal to the face value of the note, and interest expense is accrued over the life of the note. At maturity, the amount paid is equal to the face value of the note plus accrued interest. Companies record sales taxes payable at the time the related sales occur. The company serves as a collection agent for the taxing authority. Sales taxes are not an expense to the company. Companies withhold employee withholding taxes and record them in appropriate liability accounts, until they remit these taxes to the governmental taxing authorities. Unearned revenues are initially recorded in an unearned revenue account. As a company recognizes revenue, a transfer from unearned revenue to revenue occurs. Companies report the current maturities of long-term debt as current liabilities in the balance sheet. 2 Explain how to account for bonds. When companies issue bonds, they increase Cash for the cash proceeds and increase Bonds Payable for the face value of the bonds. In addition, they use the accounts Premium on Bonds Payable and Discount on Bonds Payable to show the bond premium and bond discount, respectively. Bond discount and bond premium are amortized over the life of the bond, which increases or decreases interest expense, respectively. When companies redeem bonds at maturity, they decrease Cash and Bonds Payable for the face value of the bonds.

4 Explain how to account for cash dividends. Companies record dividend transactions at the declaration date and the payment date. At the declaration date, both Dividends and Dividends Payable are increased. Preferred stock has contractual provisions that give it priority over common stock in certain areas. Typically, preferred stockholders have a preference as to (1) dividends and (2) assets in the event of liquidation. However, they sometimes do not have voting rights. 5 Discuss how stockholders' equity is reported and analyzed. In the stockholders' equity section of the balance sheet, companies report paid-in capital and retained earnings and identify specific sources of paid-in capital. Within paid-in capital, companies show two classifications: capital stock and additional paid-in capital. If a corporation has treasury stock, it deducts the cost of treasury stock from total paid-in capital and retained earnings to determine total stockholders' equity. A company's dividend record can be evaluated by looking at what percentage of net income it chooses to pay out in dividends, as measured by the payout ratio (dividends divided by net income). Earnings performance is measured with the return on common stockholders' equity (income available to common stockholders divided by average common stockholders' equity).

Liabilities are classified on the balance sheet as current or A deferred. B long-term. C accrued. D unearned. You selected C : accrued. got it wrong the correct Answer is B : long-term. Solution Current liabilities are debts a company reasonably expects to pay within the longer of one year or the operating cycle. The payment is made from existing current assets or through the creation of other current liabilities. All other liabilities are classified as long-term.

A company receives $198, $13 of which is for sales tax. To record the sale the company will A increase Sales Revenue for $198. B increase Sales Taxes Payable for $13. C increase Sales Tax Expense for $13. D increase Cash for $180. You selected B : increase Sales Taxes Payable for $13. got it correct SolutionAt the time of the sale the company increases Sales Taxes Payable for the amount of sales tax collected from the customer. Later, when the cash is remitted to the state, the Sales Taxes Payable account is decreased. The company does not report sales taxes as an expense, it is merely a collection agent for the taxing authority.

ABC Corporation issues 1,000 shares of $10 par value common stock at $12 per share. In recording the transaction, increases are recorded to A Common Stock $10,000 and Paid-in Capital in Excess of Par-Common Stock $2,000. B Common Stock $10,000 and Preferred Stock $2,000. C Common Stock $12,000. D Common Stock $10,000 and Retained Earnings $2,000. You selected B : Common Stock $10,000 and Preferred Stock $2,000. got it wrong the correct Answer is A : Common Stock $10,000 and Paid-in Capital in Excess of Par-Common Stock $2,000. Solution When a company issues common stock, the cash proceeds can be equal to, greater than, or less than par value. The par value of the stock is recorded in Common Stock and the portion of the proceeds above or below par value is recorded in a separate paid-in capital account.

A-Team Corporation issued 1,000 shares of $5 par value stock for land. The stock is actively traded at $9 per share. The land was advertised for sale at $10,500. The land should be recorded at A $5,000. B $9,000. C $4,000. D $10,500. You selected A : $5,000. got it wrong the correct Answer is B : $9,000. Solution When a company issues stock in exchange for services or noncash assets, the value recorded for the shares is determined by either the market price of the shares or the value of the goods or services received, whichever is more readily determinable. Since the stock is actively traded, its value is readily determinable.

CH9 LO4

Accounting for Cash Dividends LEARNING OBJECTIVE 4 Explain how to account for cash dividends. A dividend is a distribution by a corporation to its stockholders on a pro rata (proportional to ownership) basis. Pro rata means that if you own, say, 10% of the common shares, you will receive 10% of the dividend. Dividends can take four forms: cash, property, scrip (promissory note to pay cash), or stock. Cash dividends predominate in practice, although companies also declare stock dividends with some frequency. Investors are very interested in a company's dividend practices. In the financial press, dividends are generally reported quarterly as a dollar amount per share. (Sometimes they are reported on an annual basis.) For example, the recent quarterly dividend rate was 24 cents per share for Nike, 22 cents per share for GE, and 25 cents per share for Conagra Brands. Facebook does not pay dividends.

Paid-in Capital Paid-in capital is the total amount of cash and other assets paid in to the corporation by stockholders in exchange for capital stock. As noted earlier, when a corporation has only one class of stock, it is common stock. Retained Earnings Retained earnings is net income that a corporation retains in the business. Net income increases Retained Earnings. Dividends reduce Retained Earnings.

Accounting for Common Stock Let's now look at how to account for new issues of common stock. The primary objectives in accounting for the issuance of common stock are to: Identify the specific sources of paid-in capital. Maintain the distinction between paid-in capital and retained earnings. As shown below, the issuance of common stock affects only paid-in capital accounts (see Helpful Hint). HELPFUL HINT Stock is sometimes issued in exchange for services (payment to attorneys or consultants, for example) or for noncash assets (land or buildings). The value recorded for the shares issued is determined by either the market price of the shares or the value of the good or service received, depending upon which amount the company can more readily determine.

CH9 LO3

Accounting for Common, Preferred, and Treasury Stock LEARNING OBJECTIVE 3 Explain how to account for the issuance of common and preferred stock, and the purchase of treasury stock. A corporation is created by law. As a legal entity, a corporation has most of the rights and privileges of a person. The major exceptions relate to privileges that can be exercised only by a living person, such as the right to vote or to hold public office. Similarly, a corporation is subject to the same duties and responsibilities as a person. For example, it must abide by the law and it must pay taxes. We can classify corporations in a variety of ways. Two common classifications are by purpose and by ownership. A corporation may be organized for the purpose of making a profit (such as Facebook or General Motors), or it may be a nonprofit charitable, medical, or educational corporation (such as The Salvation Army or the American Cancer Society).

CH9 LO1

Accounting for Current Liabilities LEARNING OBJECTIVE 1 Explain how to account for current liabilities. What Is a Current Liability? Liabilities are often defined as "creditors' claims on total assets" and as "existing debts and obligations." Companies must settle or pay these claims, debts, and obligations at some time in the future by transferring assets or services. The future date on which they are due or payable (the maturity date) is a significant feature of liabilities. As explained in Chapter 2, a current liability is a debt that a company reasonably expects to pay: From existing current assets or through the creation of other current liabilities. Within one year or the operating cycle, whichever is longer. Debts that do not meet both criteria are long-term liabilities. Financial statement users want to know whether a company's obligations are current or long-term. A company that has more current liabilities than current assets often lacks liquidity, or short-term debt-paying ability. In addition, users want to know the types of liabilities a company has. If a company declares bankruptcy, a specific, predetermined order of payment to creditors exists. Thus, the amount and type of liabilities are of critical importance. The different types of current liabilities include notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest. In the sections that follow, we discuss a few of the common types of current liabilities (see Helpful Hint). HELPFUL HINT In previous chapters, we explained the recording of accounts payable and adjustments for some current liabilities.

DO IT! 3a Issuance of Stock Cayman Corporation begins operations on March 1 by issuing 100,000 shares of $1 par value common stock for cash at $12 per share. On March 28, Cayman issues 1,500 shares of $10 par value preferred stock for cash at $30 per share. Prepare a tabular summary to record the issuance of the common and preferred shares. ACTION PLAN In issuing shares for cash, increase Common Stock for par value per share. Add any additional proceeds in excess of par to a separate paid-in capital account.

Accounting for Treasury Stock Treasury stock is a corporation's own stock that has been reacquired by the corporation and is being held for future use. A corporation may acquire treasury stock for various reasons: To reissue the shares to officers and employees under bonus and stock compensation plans. To increase trading of the company's stock in the securities market. Companies expect that buying their own stock will signal that management believes the stock is underpriced, which they hope will enhance its market price. To have additional shares available for use in acquiring other companies. To reduce the number of shares outstanding and thereby increase earnings per share. A less frequent reason for purchasing treasury shares is to eliminate hostile shareholders by buying them out. Many corporations have treasury stock. For example, in the United States approximately 65% of companies have treasury stock. During one quarter, companies in the Standard & Poor's 500-stock index spent a record of about $118 billion to buy treasury stock. In a recent year, Nike purchased more than 6 million treasury shares. At one point, stock repurchases were so substantial that a study by two Federal Reserve economists suggested that a sharp reduction in corporate purchases of treasury shares might result in a sharp drop in the value of the U.S. stock market.

Balance Sheet Presentation of Stockholders' Equity In the stockholders' equity section of the balance sheet, companies report paid-in capital, retained earnings, accumulated other comprehensive income, and treasury stock. Within paid-in capital, two classifications are recognized: Capital stock, which consists of preferred and common stock. Companies show preferred stock before common stock because of its preferential rights. They report information about the par value, shares authorized, shares issued, and shares outstanding for each class of stock. Additional paid-in capital, which includes the excess of amounts paid in over par or stated value. In some instances, unrealized gains and losses are not included in net income. Instead, these excluded items, referred to as other comprehensive income items, are reported as part of a more inclusive earnings measure called comprehensive income. Examples of other comprehensive income items include certain adjustments to pension plan assets, types of foreign currency gains and losses, and some gains and losses on investments. The items reported as other comprehensive income are closed each year to the Accumulated Other Comprehensive Income account. Thus, this account includes the cumulative amount of all previous items reported as other comprehensive income This account can have either a positive or negative balance depending on whether or not accumulated gains exceed accumulated losses over the years. If accumulated losses exceed gains, then the company reports accumulated other comprehensive loss.

Analysis of Stockholders' Equity Investors are interested in both a company's dividend record and its earnings performance. Although those two measures are often parallel, that is not always the case. Thus, investors should investigate each one separately. Dividend Record One way that companies reward stock investors for their investment is to pay them dividends. The payout ratio measures the percentage of earnings a company distributes in the form of cash dividends to common stockholders (see Decision Tools). It is computed by dividing total cash dividends declared to common shareholders by net income. Decision Tools The payout ratio helps users determine the portion of a company's earnings that it pays out in dividends.

Keck Industries is planning to issue $7 million in bonds with a six-year maturity date and an annual rate of 5.4 percent. How much will they pay in interest over the life of the bonds? A $378,000 B $7,378,000 C $2,268,000 D $9,268,000 You selected D : $9,268,000 got it wrong the correct Answer is C : $2,268,000 Solution Interest over the life of the bonds will be $7 million x 0.054 x 6 = $2,268,000.

Becky Sherrick Company has total proceeds from sales of $4,515. If the proceeds include sales taxes of 5%, the amount to be recorded as Sales Revenue is A $4,515. B $4,289.25. C $4,300. D $4,000. You selected D : $4,000. got it wrong the correct Answer is C : $4,300. Solution ($4,515 ÷ 1.05) = $4,300

When companies set their dividend payout, they generally aim for a rate that is A high. B low. C sustainable. D variable. You selected D : variable. got it wrong the correct Answer is C : sustainable.

Companies attempt to set their dividend rate at a level that will be sustainable.

No-par value stock is capital stock that has not been assigned a value in the corporate charter. No-par value stock is fairly common today. For example, Nike and Procter & Gamble both have no-par stock. In many states, the board of directors assigns a stated value to the no-par shares.

Corporate Capital Owners' equity is identified by various names: stockholders' equity, shareholders' equity, or corporate capital. The stockholders' equity section of a corporation's balance sheet consists of two parts: Paid-in (contributed) capital. Retained earnings (earned capital). The distinction between paid-in capital and retained earnings is important from both a legal and a financial point of view. Legally, corporations can make distributions of earnings (declare dividends) out of retained earnings in all states. However, in many states they cannot declare dividends out of paid-in capital. Management, stockholders, and others often look to retained earnings for the continued existence and growth of the corporation.

Note that payment of the dividend on the payment date reduces both current assets and current liabilities, but it has no effect on stockholders' equity. The cumulative effect of the declaration and payment of a cash dividend on a company's financial statements is to decrease both stockholders' equity and total assets. Dividend Preferences Preferred stockholders have the right to share in the distribution of corporate income before common stockholders. For example, if the dividend rate on preferred stock is $5 per share, common shareholders cannot receive any dividends in the current year until preferred stockholders have received $5 per share. The first claim to dividends does not, however, guarantee dividends. Dividends depend on many factors, such as adequate retained earnings and availability of cash. For preferred stock, companies state the per share dividend amount as a percentage of the par value of the stock or as a specified amount. For example, EarthLink specifies a 3% dividend. Most preferred stocks have a preference on corporate assets if the corporation fails. This feature provides security for the preferred stockholder. The preference to assets may be for the par value of the shares or for a specified liquidating value. For example, Commonwealth Edison issued preferred stock that entitled the holders to receive $31.80 per share, plus accrued and unpaid dividends, in the event of involuntary liquidation. The liquidation preference is used in litigation pertaining to bankruptcy lawsuits involving the respective claims of creditors and preferred stockholders.

Cumulative Dividend Preferred stock contracts often contain a cumulative dividend feature. This feature stipulates that preferred stockholders must be paid both current-year dividends and any unpaid prior-year dividends before common stockholders are paid dividends. When preferred stock is cumulative, preferred dividends not declared that were supposed to be declared in a given period are called dividends in arrears. To illustrate, assume that Scientific Leasing has 5,000 shares of 7%, $100 par value cumulative preferred stock outstanding. Each $100 share pays a $7 dividend (.07 × $100). The annual dividend is $35,000 (5,000 × $7 per share). If dividends are two years in arrears, preferred stockholders are entitled to receive in the current year the dividends as shown in Illustration 9.16.

Cumulative Dividends Example: Scientific Leasing has 5,000 shares of 7%, $100 par value, cumulative preferred stock outstanding. Each $100 share pays a $7 dividend (.07 × $100). The annual dividend is $35,000 (5,000 × $7 per share). If dividends are two years in arrears, preferred stockholders are entitled to receive the following dividends. dividend in arrears 35 x 2 70k current yr dividends 35k total pref divs 105k

Cumulative Dividends Preferred stock contracts often contain a cumulative dividend feature. This feature stipulates that preferred stockholders must be paid both current-year dividends and any unpaid prior-year dividends before common stockholders are paid dividends. When preferred stock is cumulative, preferred dividends not declared that were supposed to be declared in a given period are called dividends in arrears. Dividends in arrears are not considered a liability. No obligation exists until the board of directors formally "declares" that the corporation will pay a dividend. Companies should disclose in the notes to the financial statements the amount of dividends in arrears. Doing so enables investors to assess the impact of this potential obligation on thecorporation's financial position.

The account Unearned Ticket Revenue represents unearned revenue, and Superior reports it as a current liability. As the university recognizes revenue, it reclassifies the amount from unearned revenue to Ticket Revenue. Unearned revenue is material for some companies. In the airline industry, tickets sold for future flights often represent almost 50% of total current liabilities. At United Air Lines, unearned ticket revenue is its largest current liability, recently amounting to more than $1 billion. Illustration 9.1 shows specific unearned revenue and revenue accounts used in selected types of businesses.

Current Maturities of Long-Term Debt Companies often have a portion of long-term debt that comes due in the current year. As an example, assume that Wendy Construction issues a five-year, interest-bearing $25,000 note on January 1, 2021. This note specifies that each January 1, starting January 1, 2022, Wendy should pay $5,000 of the note. When the company prepares financial statements on December 31, 2021, it should report $5,000 as a current liability and $20,000 as a long-term liability. (The $5,000 amount is the portion of the note that is due to be paid within the next 12 months.) Companies often identify current maturities of long-term debt on the balance sheet as long-term debt due within one year. In a recent year, General Motors had $724 million of such debt. It is not necessary to prepare an adjustment to recognize the current maturity of long-term debt. At the balance sheet date, all obligations due within one year are classified as current, and all other obligations are long-term.

Company balance sheets disclose both the number of shares issued (100,000) and the number in the treasury (4,000). The difference is the number of shares of stock outstanding (96,000). The term outstanding stock means the number of shares of issued stock that are being held by stockholders. In a bold (and some would say risky) move, Reebok at one time bought back nearly a third of its shares. This repurchase of shares dramatically reduced Reebok's available cash (see Ethics Note). In fact, the company borrowed significant funds to accomplish the repurchase. In a press release, management stated that it was repurchasing the shares because it believed that the stock was severely underpriced. The repurchase of so many shares was meant to signal management's belief in good future earnings. ETHICS NOTE The purchase of treasury stock reduces the cushion for creditors. To protect creditors, many states require that a portion of retained earnings equal to the cost of the treasury stock purchased be restricted from being paid as dividends.

DO IT! 3b Treasury Stock Santa Anita Inc. purchases 3,000 shares of its $50 par value common stock for $180,000 cash on July 1. It expects to hold the shares in the treasury until resold. Prepare a tabular summary to record the treasury stock transaction. ACTION PLAN Record the purchase of treasury stock at cost. Report treasury stock as a deduction from stockholders' equity (contra account) at the bottom of the stockholders' equity section.

No distribution can be made to common stockholders until Scientific Leasing pays this entire preferred dividend. In other words, companies cannot pay dividends to common stockholders while any preferred stock dividend is in arrears. Dividends in arrears are not considered a liability. No obligation exists until the board of directors formally "declares" that the corporation will pay a dividend. However, companies should disclose in the notes to the financial statements the amount of dividends in arrears. Doing so enables investors to assess the impact of this potential obligation on the corporation's financial position. The investment community does not look favorably upon companies that are unable to meet their dividend obligations. As a financial officer noted in discussing one company's failure to pay its cumulative preferred dividend for a period of time, "Not meeting your obligations on something like that is a major black mark on your record."

DO IT! 4 Preferred Stock Dividends MasterMind Corporation has 2,000 shares of 6%, $100 par value preferred stock outstanding at December 31, 2022. At December 31, 2022, the company declared a $60,000 cash dividend. Determine the dividend paid to preferred stockholders and common stockholders under each of the following scenarios. The preferred stock is noncumulative, and the company has not missed any dividends in previous years. The preferred stock is noncumulative, and the company did not pay a dividend in each of the two previous years. The preferred stock is cumulative, and the company did not pay a dividend in each of the two previous years. ACTION PLAN Determine dividends on preferred shares by multiplying the dividend rate times the par value of the stock times the number of preferred shares. Understand the cumulative feature: If preferred stock is cumulative, then any missed dividends (dividends in arrears) and the current year's dividend must be paid to preferred stockholders before dividends are paid to common stockholders. The company has not missed past dividends and the preferred stock is noncumulative. Thus, the preferred stockholders are paid only this year's dividends. The dividend paid to preferred stockholders would be $12,000 (2,000 × .06 × $100). The dividend paid to common stockholders would be $48,000 ($60,000 − $12,000). The preferred stock is noncumulative. Thus, past unpaid dividends do not have to be paid. The dividend paid to preferred stockholders would be $12,000 (2,000 × .06 × $100). The dividend paid to common stockholders would be $48,000 ($60,000 − $12,000). The preferred stock is cumulative. Thus, dividends that have been missed (dividends in arrears) must be paid. The dividend paid to preferred stockholders would be $36,000 (3 × 2,000 × .06 × $100). Of the $36,000, $24,000 relates to dividends in arrears and $12,000 relates to the current dividend on preferred stock. The dividend paid to common stockholders would be $24,000 ($60,000 − $36,000).

Analysis of Stockholders' Equity One way that companies reward stock investors for their investment is to pay them dividends. The Payout Ratio measures the percentage of earnings a company distributes in the form of cash dividends to common stockholders. The Payout Ratio is computed by dividing total cash dividends declared to common shareholders by net income.

DO IT! 5 Analyzing Stockholders' Equity On January 1, 2022, Siena Corporation purchased 2,000 shares of treasury stock. Other information regarding Siena Corporation is as follows. 2022 2021Net income$110,000 $110,000Dividends on preferred stock$10,000 $10,000Dividends on common stock$1,600 $2,000Common stockholders' equity, beginning of year$400,000* $500,000Common stockholders' equity, end of year$400,000 $500,000*Adjusted for purchase of treasury stock. (a) Compute return on common stockholders' equity for each year, and (b) discuss its change from 2021 to 2022. ACTION PLAN Determine return on common stockholders' equity by dividing net income available to common stockholders by average common stockholders' equity. 20222021Return on common stockholders' equity($110,000−$10,000)($400,000+$400,000)÷2=25%($110,000−$10,000)($500,000+$500,000)÷2=20% Between 2021 and 2022, return on common stockholders' equity improved from 20% to 25%. While this would appear to be good news for the company's common stockholders, this increase should be carefully evaluated. It is important to note that net income did not change during this period. The increase in the ratio was due to the purchase of treasury shares, which reduced the denominator of the ratio. As the company repurchases its own shares, it becomes more reliant on debt and thus increases its risk.

n December 1, 2022, the directors of Media General declare a $0.50 per share cash dividend on 100,000 shares of $10 par value common stock. The dividend is $50,000. The declaration is recorded as follows. this transaction has no effect on net income or cash flow

Dividends Payable is a current liability. It will normally be paid within the next several months. At the record date, the company determines ownership of the outstanding shares for dividend purposes (see Helpful Hint). The stockholders' records maintained by the corporation supply this information. For Media General, the record date is December 22. No accounting entry is required on this date. HELPFUL HINT The record date is important in determining the dividend to be paid to each stockholder. On the payment date, the company makes cash dividend payments to the stockholders on record as of December 22. It also records the payment of the dividend. If January 20 is the payment date for Media General, the payment is recorded as follows.

Recording Cash Dividends Three dates are important in connection with dividends: The declaration date. The record date. The payment date. Companies record transactions on the declaration date and the payment date. On the declaration date, the board of directors formally authorizes the cash dividend and announces it to stockholders. The declaration of a cash dividend commits the corporation to a binding legal obligation. Thus, the company must record the increase in Dividends and the increase in the liability Dividends Payable. To illustrate, assume that on December 1, 2022, the directors of Media General declare a $0.50 per share cash dividend on 100,000 shares of $10 par value common stock. The dividend is $50,000 (100,000 × $0.50). The declaration is recorded as follows.

Dividends Payable is a current liability. It will normally be paid within the next several months. At the record date, the company determines ownership of the outstanding shares for dividend purposes (see Helpful Hint). The stockholders' records maintained by the corporation supply this information. For Media General, the record date is December 22. No accounting entry is required on this date. HELPFUL HINT The record date is important in determining the dividend to be paid to each stockholder. On the payment date, the company makes cash dividend payments to the stockholders on record as of December 22. It also records the payment of the dividend. If January 20 is the payment date for Media General, the payment is recorded as follows. Note that payment of the dividend on the payment date reduces both current assets and current liabilities, but it has no effect on stockholders' equity. The cumulative effect of the declaration and payment of a cash dividend on a company's financial statements is to decrease both stockholders' equity and total assets.

Companies that believe they have many good opportunities for growth, such as Facebook, will reinvest those funds in the company rather than pay dividends. However, low dividend payments, or a cut in dividend payments, might signal that a company has liquidity or solvency problems and is trying to conserve cash by not paying dividends.

Earnings Performance Another way to measure corporate performance is through profitability. A widely used ratio that measures profitability from the common stockholders' viewpoint is return on common stockholders' equity (ROE) (see Decision Tools). This ratio shows how many dollars of net income a company earned for each dollar of common stockholders' equity. It is computed by dividing net income available to common stockholders (Net income - Preferred dividends) by average common stockholders' equity. Common stockholders' equity is equal to total stockholders' equity minus any equity from preferred stock.

Maggie Sharrer Company borrows $88,500 on September 1, 2022, from Sandwich State Bank by signing an $88,500, 12%, one-year note. What is the accrued interest at December 31, 2022? A $2,655 B $4,425 C $10,620 D $3,540 You selected D : $3,540 got it correct Solution $88,500 x 12% x 4/12 = $3,540

From a liquidity standpoint, which is more desirable for a company to have? A current liabilities exceed long-term liabilities B current liabilities exceed current assets C current assets equal current liabilities D current assets exceed current liabilities You selected D : current assets exceed current liabilities got it correct SolutionA company that has more current liabilities than current assets often lacks liquidity, or short-term debt-paying ability.

Purchase of Treasury Stock The purchase of treasury stock is generally accounted for by the cost method. This method derives its name from the fact that the Treasury Stock account is maintained at the cost of shares purchased (see Helpful Hint). Under the cost method, companies increase Treasury Stock by the price paid to reacquire the shares. Treasury Stock decreases by the same amount when the company later sells the shares.

HELPFUL HINT Treasury Stock is a contra stockholders' equity account. To illustrate, assume that on January 1, 2022, the stockholders' equity section for Mead, Inc. has 100,000 shares of $5 par value common stock outstanding (all issued at par value) and retained earnings of $200,000. Illustration 9.14 shows the stockholders' equity section of the balance sheet before purchase of treasury stock. On February 1, 2022, Mead acquires 4,000 shares of its stock at $8 per share. It is recorded as follows. The Treasury Stock account would increase by the cost of the shares purchased ($32,000). The original paid-in capital account, Common Stock, would not be affected because the number of issued shares does not change. Companies show treasury stock as a deduction from total paid-in capital and retained earnings in the stockholders' equity section of the balance sheet. Illustration 9.15 shows this presentation for Mead, Inc. Thus, the acquisition of treasury stock reduces stockholders' equity.

Par and No-Par Value Stocks Par value stock is capital stock that has been assigned a value per share in the corporate charter. Years ago, par value determined the legal capital that must be retained in the business for the protection of corporate creditors. That amount is not available for withdrawal by stockholders. Thus, in the past, most states required the corporation to sell its shares at par or above.

However, the usefulness of par value as a device to protect creditors was limited because par value was often immaterial relative to the value of the company's stock in the securities markets—even at the time of issue. For example, Facebook's par value is $0.000006 per share, yet its market price recently was $84. Thus, par has no relationship with market price. In the vast majority of cases, it is an immaterial amount. As a consequence, today many states do not require a par value. Instead, they use other means to protect creditors.

Bent Corporation issues 500, 10-year, 6%, $4,000 bonds dated January 1, 2022, at 96. To record the issuance A decrease Cash for $115,200. B increase Cash for $1,920,000. C increase Bonds Payable for $37,600. D increase Discount on Bonds Payable for $2,000,000. You selected C : increase Bonds Payable for $37,600. got it wrong the correct Answer is B : increase Cash for $1,920,000.SolutionBond price indicates the percent of face value the bond is selling for. A price of 96 means the bond is selling at 96% of face value, or ($2,000,000 x .96) = $1,920,000. The issuer will increase Cash for the amount of cash received, increase Bonds Payable for $2,000,000, and increase Discount on Bonds Payable for the difference.

If $400,000 bonds are issued on January 1 and pay $24,000 interest annually, what is the contractual rate of interest? A 10% B 12% C 8% D 6% You selected D : 6% got it correct Solution $24,000 ÷ $400,000 = 6%.

Authorized Stock Authorized stock is the amount of stock that a corporation is authorized to sell as indicated in its charter. If the corporation has sold all of its authorized stock, then it must obtain permission from the state to change its charter before it can issue additional shares.

Issuance of Stock A corporation can issue common stock directly to investors (see International Note). Alternatively, it can issue common stock indirectly through an investment banking firm that specializes in bringing securities to the attention of prospective investors. Direct issue is typical in closely held companies. Indirect issue is customary for a publicly held corporation.

CH9

LO1 Explain how to account for Current Liabilities (notes payable, interest payable and unearned revenue only) LO3 Explain how to account for the issuance of common and preferred stock, and the purchase of treasury stock Par value stock, no par value stock, stated value stock How to record the issuance of common stock, preferred stock and the purchase of treasury stock What is treasury stock and how does it affect stockholders' equity? What are authorized shares, issued shares, and outstanding shares? LO4 Explain how to account for cash dividends Cash Dividends on Common Stock only LO5 Discuss how stockholders' equity is reported and analyzed Understand how common stock, preferred stock, and treasury stock are reported on the balance sheet Compute Return on Stockholders' Equity and understand the general information this ratio provides

CH9 LO5

Presentation and Analysis of Stockholders' Equity LEARNING OBJECTIVE 5 Discuss how stockholders' equity is reported and analyzed.

Preferred Stock Dividends and Dividend Preferences Preferred stockholders have the right to share in the distribution of corporate income before common stockholders. Right to receive dividends before common stockholders does not, however, guarantee dividends. Per share dividend is stated as a percentage of preferred stock's par value or as a specified amount. As an example, we will normally see preferred stock dividends noted as follows: 7.5% $100 par value preferred stock or $7.50 $100 par value preferred stock. In either case, the per share dividend rate is $7.50. In the first case, the dividend is calculated by multiplying 7.5% by $100 to get $7.50.

Recording Cash Dividends Three dates are important in connection with dividends: Declaration date• On the declaration date, the board of directors formally authorizes the cash dividend and announces it to stockholders. • The declaration of a cash dividend commits the corporation to a binding legal obligation. Thus, the company must record the increase in Dividends and the increase in the liability Dividends Payable. Record date At the record date, the company determines ownership of the outstanding shares for dividend purposes. The stockholders' records maintained by the corporation supply this information. The record date is important in determining the dividend to be paid to each stockholder. Payment date On the payment date, the company makes cash dividend payments to the stockholders on record as of record. It also records the payment of the dividend (with a reduction of cash as well as a reduction of the liability).

To find the return on common stockholders' equity, divide net income available to common stockholders by ________ stockholders' equity. A ending common B average total C average common D ending total You selected B : average total got it wrong the correct Answer is C : average common

Return on common stockholders' equity is computed as: (Net income - Preferred dividends) ÷ Average common stockholders' equity.

Notes Payable Companies record obligations in the form of written notes as notes payable. Companies often use notes payable instead of accounts payable because notes payable provide written documentation of the obligation in case legal remedies are needed to collect the debt. Companies frequently issue notes payable to meet short-term financing needs. Notes payable usually require the borrower to pay interest. Notes are issued for varying periods of time. Those due for payment within one year of the balance sheet date are usually classified as current liabilities. To illustrate the accounting for notes payable, assume that on September 1, 2022, Cole Williams Co. signs a $100,000, 12%, four-month note maturing on January 1 with First National Bank. When a company issues an interest-bearing note, the amount of assets it receives generally equals the note's face value. Cole Williams Co. therefore will receive $100,000 cash and record the transaction as follows.

Sales Taxes Payable Many of the products we purchase at retail stores are subject to sales taxes. Many states require sales taxes on purchases made on the Internet as well. Sales taxes are expressed as a percentage of the sales price. The selling company collects the tax from the customer when the sale occurs and periodically (usually monthly) remits the collections to the state's department of revenue. Collecting sales taxes is important. For example, the State of New York recently sued Sprint Corporation for $300 million for its alleged failure to collect sales taxes on phone calls. Under most state laws, the selling company must enter separately on the cash register the amount of the sale and the amount of the sales tax collected (see Helpful Hint). (Gasoline sales are a major exception.) The company then uses the cash register readings to increase Sales Revenue and Sales Taxes Payable. For example, if the March 25 cash register readings for Cooley Grocery show sales of $10,000 and sales taxes of $600 (sales tax rate of 6%), its accounting records show the following. HELPFUL HINT Check your sales receipts from local retailers to see whether the sales tax is computed separately. For point-of-sales systems, the company receives sales information through the computer network.

Classification by ownership differentiates publicly held and privately held corporations. A publicly held corporation may have thousands of stockholders, and its stock is traded on a national securities market such as the New York Stock Exchange. Examples are IBM, Caterpillar, and General Electric (GE). A privately held corporation, often referred to as a closely held corporation, usually has only a few stockholders and does not offer its stock for sale to the general public. Privately held companies are generally much smaller than publicly held companies although some notable exceptions exist. For example, Cargill Inc., a private corporation that trades in grain and other commodities, is one of the largest companies in the United States. This chapter deals primarily with issues related to publicly held companies. A corporation is formed by grant of a state charter. The charter is a document that describes: The name and purpose of the corporation. The types and number of shares of stock that are authorized to be issued. The names of the individuals that formed the company. The number of shares that these individuals agreed to purchase.

Stockholder Rights When chartered, the corporation begins selling shares of stock. When a corporation has only one class of stock, it is identified as common stock. Each share of common stock gives the stockholder the ownership rights listed in Illustration 9.12. The articles of incorporation or the by-laws state the ownership rights of a share of stock. Proof of stock ownership is evidenced by a printed or engraved form known as a stock certificate2.

Cash Dividends A cash dividend is a pro rata (proportional to ownership) distribution of cash to stockholders. Cash dividends are not paid on treasury shares. For a corporation to pay a cash dividend, it must have the following: Retained earnings. Payment of dividends from retained earnings is legal in all states. In addition, loan agreements frequently constrain companies to pay dividends only from retained earnings. Many states prohibit payment of dividends from legal capital. However, payment of dividends from paid-in capital in excess of par value is legal in some states. Adequate cash. Recently, Facebook had a balance in retained earnings of $6,099 million but a cash balance of only $4,315 million. If it had wanted to pay a dividend equal to its retained earnings, Facebook would have had to raise $1,784 million more in cash. It would have been unlikely to do this because it would not be able to pay this much in dividends in future years. In addition, such a dividend would completely deplete Facebook's balance in retained earnings, so it would not be able to pay a dividend in the next year unless it had positive net income. Declared dividends. The board of directors has full authority to determine the amount of income to distribute in the form of dividends. Dividends are not a liability until they are declared.

The amount and timing of a dividend are important issues for management to consider. The payment of a large cash dividend could lead to liquidity problems for the company. Conversely, a small dividend or a missed dividend may cause unhappiness among stockholders who expect to receive a reasonable cash payment from the company on a periodic basis. Many companies declare and pay cash dividends quarterly. On the other hand, a number of high-growth companies pay no dividends, preferring to conserve cash to finance future capital expenditures. Investors monitor a company's dividend practices. Regular dividend boosts in the face of irregular earnings can be a warning signal. Companies with high dividends and rising debt may be borrowing money to pay shareholders. Low dividends may not be a negative sign because it may mean the company is reinvesting in itself, which may result in high returns through increases in the stock price. Presumably, investors seeking regular dividends buy stock in companies that pay periodic dividends, and those seeking growth in the stock price (capital gains) buy stock in companies that retain their earnings rather than pay dividends.

When will the carrying value of bonds equal the market price? A at the close of every trading day B every six months, on the date interest is paid C at the end of the fiscal period D on the date of issuance You selected D : on the date of issuance got it correct Solution The contra account, Discount on Bonds Payable, is deducted from bonds payable on the balance sheet. This amount represents the carrying (or book) value of the bonds. On the date of issue, this amount equals the market price of the bonds.

The carrying value of bonds is another term for A fair value. B discount. C premium. D book value. You selected D : book value. got it correct Solution The contra account, Discount on Bonds Payable, is deducted from bonds payable on the balance sheet. This amount represents the carrying (or book) value of the bonds.

When the company remits the taxes to the taxing agency, it decreases Sales Taxes Payable and decreases Cash. The company does not report sales taxes as an expense. It simply forwards to the government the amount paid by the customer. Thus, Cooley Grocery serves only as a collection agent for the taxing authority. Sometimes companies do not enter sales taxes separately on the cash register. To determine the amount of sales in such cases, divide total receipts by 100% plus the sales tax percentage. For example, assume that Cooley Grocery enters total receipts of $10,600. Because the amount received from the sale is equal to the sales price (100%) plus 6% of sales, or 1.06 times the sales total, we can compute sales as follows: $10,600 ÷ 1.06 = $10,000. Thus, we can find the sales tax amount of $600 by either:Subtracting sales from total receipts ($10,600 − $10,000).Multiplying sales by the sales tax rate ($10,000 × 6%).

Unearned Revenues A magazine publisher such as Sports Illustrated collects cash when customers place orders for magazine subscriptions. An airline company such as American Airlines often receives cash when it sells tickets for future flights. Season tickets for concerts, sporting events, and theatre programs are also paid for in advance. How do companies account for unearned revenues that are received before goods are delivered or services are performed? When the company receives an advance, it increases Cash and increases a current liability account identifying the source of the unearned revenue. When the company recognizes revenue, it decreases the unearned revenue account and increases a revenue account. To illustrate, assume that on August 6, Superior University sells 10,000 season football tickets at $50 each for its five-game home schedule. As each game is completed, Superior records the recognition of $100,000 ($500,000 ÷ 5) of revenue. The sale of season tickets on August 6 and the completion of a game on September 1 are recorded as follows.

Explain How to Account for Current Liabilities

What Is a Current Liability? A current liability is a debt that a company expects to pay: From existing current assets or through the creation of other current liabilities. Within one year or the operating cycle, whichever is longer. Debts that do not meet both criteria are long-term liabilities. Current liabilities include notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest.

When a bond is issued for more than its face value, the market rate of interest is ________ the interest rate stated on the bond. A independent of B equal to C higher than D less than You selected D : less than got it correct Solution Premiums and discounts arise due to differences between contractual interest rates and market interest rates and do not reflect on the financial strength of the issuing company. When the market rate is less than the contractual rate, the bond will sell at a premium.

What is the difference between the contractual interest rate and the market interest rate? A The contractual interest rate is the interest rate used to determine the present value of the bond, whereas the market interest rate is the general rate investors demand for loaning funds. B The contractual interest rate is the interest rate used to determine the present value of the bond, whereas the market interest rate is the rate used to determine the actual amount of cash interest the issuer pays and the investor receives. C The contractual interest rate is the general rate investors demand for loaning funds, whereas the market interest rate is used to determine the actual amount of cash interest the issuer pays and the investor receives. D The contractual interest rate is used to determine the actual amount of cash interest the issuer pays and the investor receives, whereas the market interest rate is the general rate investors demand for loaning funds. You selected D : The contractual interest rate is used to determine the actual amount of cash interest the issuer pays and the investor receives, whereas the market interest rate is the general rate investors demand for loaning funds. got it correct Solution The contractual interest rate determines the amount of cash the issuer pays. The market interest rate reflects the rate investors demand for loaning funds.

Decision Checkpoints Info Needed for Decision Tool to Use for Decision How to Evaluate Results

What portion of its earnings does the company pay out in dividends? What is the company's return on common stockholders' investment? Net income and total cash dividends on common stock Earnings available to common stockholders and average common stockholders' equity Payout ratio=Cash dividends declared on common stock/Net income Return on common stock-holders' equity=Net income − Preferred dividends/Average common stockholders' equity A low ratio may suggest that the company is retaining its earnings for investment in future growth.A high measure suggests strong earnings performance from common stockholders' perspective.

When a firm has dividends in arrears, A its preferred stockholders are less likely to receive dividends than its common stockholders. B its common stockholders have no hope of receiving dividend payments. C its preferred stockholders have no hope of receiving dividend payments. D its common stockholders are less likely to receive dividends than its preferred stockholders. You selected C : its preferred stockholders have no hope of receiving dividend payments. got it wrong the correct Answer is D : its common stockholders are less likely to receive dividends than its preferred stockholders. Solution When a firm has dividends in arrears, it must pay any current-year dividends and unpaid prior-year dividends to its preferred stockholders before common stockholders receive dividends. Thus, the common stockholders have a lower likelihood of receiving dividends, although the possibility of a dividend payment still exists.

When does a cash dividend become a binding legal obligation? A on the declaration date B on the date of record C on the last day of the fiscal year D on the payment date You selected C : on the last day of the fiscal year got it wrong the correct Answer is A : on the declaration date Solution Dividends become a binding legal obligation on the declaration date, the date when the board of directors formally authorizes the cash dividend and announces it to stockholders.

Payroll and Payroll Taxes Payable Assume that Susan Alena works 40 hours this week for Pepitone Inc., earning a wage of $10 per hour. Will Susan receive a $400 check at the end of the week? Not likely. Pepitone is required to withhold amounts from her wages to pay various governmental authorities. For example, Pepitone will withhold amounts for FICA taxes (Social Security and Medicare)1 and for federal and state income taxes. If these withholdings total $100, Susan will receive a check for only $300. Illustration 9.2 summarizes the types of payroll deductions that normally occur for most companies.

With every payroll, the employer incurs liabilities to pay various payroll taxes levied upon the employer. These payroll taxes include the employer's share of FICA taxes and state and federal unemployment taxes. Companies classify the payroll and payroll tax liability accounts as current liabilities because they must be paid to employees or remitted to taxing authorities periodically and in the near term. Taxing authorities impose substantial fines and penalties on employers if the withholding and payroll taxes are not computed correctly and paid on time.

Treasury stock is stock purchased by a corporation and held as an investment in its treasury. stock issued by the U.S. Treasury Department. corporate stock issued by the treasurer of a company. a corporation's own stock, which has been reacquired and held for future use.

a corporations own stock

A cash dividend is a pro rata (proportional to ownership) distribution of cash to stockholders. Cash dividends are not paid on treasury shares.For a corporation to pay a cash dividend, it must have: Retained earnings - Payment of cash dividends from retained earnings is legal in all states. Adequate cash - The corporation must have adequate cash to make the dividend payments. Declaration of dividends - The board of directors has full authority to determine the amount of income to distribute in the form of dividends. Dividends are not a liability until they are declared.

accounting for divs A Dividend is a distribution by a corporation to its stockholders on a pro rata (proportional to ownership) basis. Types of Dividends: 1. Cash2. Property3. Stock4. Scrip (promissory note) Cash dividends predominate in practice, although companies also declare stock dividends with some frequency. Cash dividends are generally reported quarterly as a dollar amount per share.

Which of the following represents the largest number of common shares? Treasury shares. Authorized shares. Outstanding shares. Issued shares.

authorized shares

The date on which a cash dividend becomes a binding legal obligation is on the date of record. last day of the fiscal year end. payment date. declaration date.

declaration date

Cash Dividends Review Question Answer Entries for cash dividends are required on the: declaration date and the record date. record date and the payment date. declaration date, record date, and payment date. declaration date and the payment date.

declaration date and the payment date

Liabilities are classified as current or long-term based on their description. payment terms. amount. due date.

due date

A current liability must be paid out of current earnings. True False

false

DO IT! 1b Wages and Payroll Taxes During the month of September, Lake Corporation's employees earned wages of $60,000. Withholdings related to these wages were $3,500 for FICA, $6,500 for federal income tax, and $2,000 for state income tax. Costs incurred for unemployment taxes were $90 for federal and $150 for state. Prepare a tabular summary to record the September 30 (a) salaries and wages expense and salaries and wages payable, assuming that all September wages will be paid in October, and (b) the company's payroll tax expense. ACTION PLAN Remember that wages earned are an expense to the company, but withholdings reduce the amount due to be paid to the employee. Payroll taxes are taxes the company incurs related to its employees.

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Accounting for Preferred Stock To appeal to a larger segment of potential investors, a corporation may issue an additional class of stock, called preferred stock. Preferred stock has contractual provisions that give it preference or priority over common stock in certain areas. Typically, preferred stockholders have a priority in relation to (1) dividends and (2) assets in the event of liquidation. However, they sometimes do not have voting rights.

ike common stock, companies issue preferred stock for cash or for noncash consideration. The recording of these transactions is similar to that for common stock. When a corporation has more than one class of stock, each paid-in capital account title should identify the stock to which it relates (e.g., Preferred Stock, Common Stock, Paid-in Capital in Excess of Par Value—Preferred Stock, and Paid-in Capital in Excess of Par Value—Common Stock). Preferred stock has either a par value or no par value. In the stockholders' equity section of the balance sheet, companies show preferred stock first because of its dividend and liquidation preferences over common stock.

Analysis of Stockholders' Equity Another way to measure corporate performance is through profitability. A widely used ratio that measures profitability from the common stockholders' viewpoint is return on common stockholders' equity (ROE). This ratio shows how many dollars of net income a company earned for each dollar of common stockholders' equity. It is computed by dividing net income available to common stockholders (Net income - Preferred dividends) by average common stockholders' equity. Common stockholders' equity is equal to total stockholders' equity minus any equity from preferred stock.

layout ratio example ompanies attempt to set their dividend rate at a level that will be sustainable. Companies that have high growth rates are characterized by low payout ratios because they reinvest most of their net income in the business. Thus, a low payout ratio is not necessarily bad news.

Notes Payable Written documentation of a debt that is signed by both parties. It is a legal contract that can be enforced in court. Usually requires borrower to pay interest. Frequently issued to meet short-term or long-term financing needs. Issued for varying periods of time. Usually classified as current liability if due for payment within one year of balance sheet date.

notes payable recording adjustment for interest Example: If Cole Williams Co. prepares financial statements annually, it makes an adjustment at December 31 to recognize four months of interest expense and interest payable of $4,000 ($100,000 × 12% × 4/12) as follows. n the December 31 financial statements, the current liabilities section of the balance sheet will show notes payable $100,000 and interest payable $4,000. In addition, the company will reportinterest expense of $4,000 under "Other expenses and losses" in the income statement.

Unearned Revenues Revenues that are received before goods are delivered or services are performed. 1. CompanyincreasesCashandincreasesacurrentliabilityaccount,Unearned Revenue. 2. Whenthecompanyrecognizesrevenue,itdecreasestheunearnedrevenue account and increases a revenue account. Examples = Airline, Magazine publisher, Hotel

ou and several classmates are studying for the next accounting exam. They ask you to answer the following questions. 1. If cash is borrowed on a $50,000, 6-month, 12% note on September 1, how much interest expense would be incurred by December 31? $50,000 x 12% x 4/12 = $2,000

If common stock is issued for an amount greater than par value, the excess would increase Retained Earnings. Legal Capital. Cash. Paid-in Capital in Excess of Par Value.

paid in capital in excess of par value

Unearned Rent Revenue is a revenue account. reported as a current liability. a contra account to Rent Revenue. decreased when rent is received in advance.

reported as current liability

Which of the following is not a right or preference associated with preferred stock? The right to vote. To receive dividends in arrears before common stockholders receive dividends. Preference to corporate assets in case of liquidation. First claim to dividends.

right to vote

Issuing Par Value Common Stock for Cash As discussed earlier, par value does not indicate a stock's market price. The cash proceeds from issuing par value stock may be equal to, greater than, or less than par value. When a company issues common stock for cash, it records: The par value of the shares in Common Stock. The portion of the proceeds that is above or below par value in a separate paid-in capital account. To illustrate, assume that Hydro-Slide, Inc. issues 1,000 shares of $1 par value common stock at par for cash. This transaction is recorded as follows. Now assume Hydro-Slide, Inc. issues an additional 1,000 shares of the $1 par value common stock for cash at $5 per share. The amount received above the par value, in this case $4($5 − $1), would be added to Paid-in Capital in Excess of Par Value. It is recorded as follows.The total paid-in capital from these two transactions is $6,000. If Hydro-Slide, Inc. has retained earnings of $27,000, the stockholders' equity section of the balance sheet is as shown in Illustration 9.13.

tockholders' equity—paid-in capital in excess of par value Some companies issue no-par stock with a stated value. For accounting purposes, companies treat the stated value in the same way as the par value. For example, if in our Hydro-Slide example the stock was no-par stock with a stated value of $1, it would be recorded the same as for the par stock except the term "Par Value'' would be replaced with "Stated Value.'' If a company issues no-par stock that does not have a stated value, then it increases the Common Stock account for the full amount received and there is no need for the Paid-in Capital in Excess of Stated Value account.

For accounting purposes, stated value is treated the same way as par value. True False

true

Notes payable usually require the borrower to pay interest. True False

true