Chapter 15: Accounting for Stockholders' Equityretained earnings
stock issue costs
companies will typically incur costs related to legal and underwriting fees
participating preferred shares
contain a provision requiring the preferred shareholders share ratably in distributions with common shareholders; participating occurs most often when dividends to common shareholders exceed the percentage stated for the preferred shares.
what is the most common method of accounting for treasury stock?
cost method
if the repurchase price is less than the original proceeds, you credit or debit the difference to additional paid in capital from share retirement
credit
ex-dividend date
date determined by the relevant stock exchange (generally two business days before the record date). investors purchasing the stock on or after this date will not receive the dividend.
where does the concept of par value come from?
dates back to when all firms were required to maintain a minimum amount of capital that they could not distribute to shareholders.;an original purchaser of the company's shares could be liable for any amounts contributed below par value in the event of corporate liquidation.
if the repurchase price is greater than original proceeds, you credit or debit the difference to additional paid in capital from share retirement if possible, or credit or debit retained earnings
debit, debit
are dividends an increase or decrease of equity
decrease
do stock issue costs increase or decrease additional paid in capital?
decrease
stockholders' equity disclosures
disclosed in notes: details about the rights and privileges of each class of capital stock, terms and provisions of callable, convertible, and redeemable securities; stock options; and other contingent shares or potentially dilutive securities
are dividends in areas disclosed in the footnotes? liabilities?
disclosed in the footnotes, not liabilities
changes in stockholders' equity accounts
disclosures must include changes in the separate accounts comprising stockholders' equity (in addition to retained earnings) and of the changes in the number of shares of equity securities.
redeemable preferred shares
disclosures must include the amount of redemption requirements in each of the five years following the date of the latest statement of financial position presented.
converticle equity securities
disclosures must include: 1. events or changes in circumstances that would cause a contingency to be met 2. any significant feature necessary to understand the conversion rights and timing of those rights. 3. the conversion price and the number of shares into which a security is potentially convertible. 4. events or changes in circumstances that could adjust or change the contingency, conversion price, or number of shares, including significant terms of those changes. 5. the manner of settlement upon conversion and any alternative settlement methods.
rights and privileges of classes of stock
disclosures must include: pertinent rights and privileges of the various securities outstanding, the number of shares issued upon conversion, exercise, or satisfaction of required conditions.
preferred shares and liquidation preferences
disclosures must include: preference in involuntary liquidation considerably in excess of the par or stated value of preferred shares, amounts at which preferred stock may be called or is subject to redemption, dividends in arrears on cumulative preferred stocks.
property dividends
distributions in any asset other than cash
stock dividends
distributions in the form of the firm's own equity shares
cash dividends
distributions to shareholders in cash
declaration date
dividend declared by the board of directors and the firm records a legal liability for t he dividend
wha is a disadvantage to preferred stocks?
dividends are not tax deductible, while interest on debt is tax deductible
what are accumulated dividends referred to as?
dividends in arrears
the entire proceeds in regards to fixed dividends is treated as what at issuance?
equity
preferred shares
equity securities that have several preferences over common stock.
record date
firm determines the registered stockholders
payment date
firm distributes the dividend.
retained earnings
firm's cumulative earnings or losses that is has not distributed as dividends
a contractual obligation to pay cash (or some other asset) to the holder in regards to preferred shares
fixed dividend
are preferred stock values higher or lower than common shares?
higher because firms usually pay preferred dividends as a fixed percentage of par value.
prior-period adjustment
if a company finds an error after releasing the financial statements, it must determine if corrections to past year's financial statements are necessary. *firms are required to report only material errors that would influence the economic decisions of financial statement users.
when is a stock dividend considered a small stock dividend?
if the number of shares issued does not exceed 20% to 25% of the previously outstanding shares/
when is a stock dividend considered a large stock dividend?
if the number of shares issued is more than 20% to 25% of the previously outstanding shares.
accumulated other comprehensive income
includes items such as unrealized gains and losses on available for sale investment securities, foreign currency translation adjustments, and certain pension cost adjustments
preferred shareholders
investors holding shares in a company who have preferential rights over common shares.
are preferred shares equity or liabilities
legally equity but offer the older a fixed dividend, similar to debt interest.
do states require a minimum capital now?
many states no longer require minimum capital and permit no par stock.
what is comprehensive income composed of?
net income and other comprehensive income
do firms include the effects of certain events and transactions in net income?
no
do stock dividends change the total equity balance?
no
does the declaration of a stock dividend lead to a legal liability?
no
are callable preferred shares classified as debt
no because any payment for calling the shares is under the control of the issuing corporation.
when a company purchases and sells treasury shares for amounts above and below cost, does it report these gains and losses on the income statement?
no, the company reports them on the stockholders' equity section of the balance sheet because they are considered capital transactions
are preferred shares voting?
no, usually nonvoting
where do firms report accumulated other comprehensive income?
on the balance sheet in the stockholders' equity section, along with contributed capital and retained earnings.
firms allocate the total proceeds of common stock issued for cash between what two things?
par or stated value and the additional paid in capital.
the firm separates the total cash proceeds received on issuance of preferred stock between what two things?
par value and additional paid in capital in excess of par-preferred
what value is contributed capital at
par value of common and preferred shares
mandatorily redeemable preferred shares
preferred shares for which redemption is certain at a specified price on a specified date; the certain event that causes mandatory redemption can be the passage of time or upon the occurrence of a specific event, such as the death of a corporate officer.
non-mandatorily redeemable preferred shares
preferred shares that can be redeemed at the option of the shareholder, but that option may not be exercised with certainty
fixed-dividend preferred shares
preferred shares where the dividend is fixed and the payment is required
additional paid in capital in excess of par or stated value
represents the amounts that common and preferred shareholders contribute in excess of the par or stated value
stock splits
results in a proportionate increase in the number of equity share and a proportionate decrease in the share's par value, if the shares have a par value.
in regards to stock dividends what happens to retained earnings? contributed capital?
retained earnings are decreased; contributed capital is increased; *the amount depends on the size of the dividend.
retired shares are similar to treasury shares except that..
retired shares are no longer consider issued.
unissued shares
shared authorized but not issued.
callable preferred shares
shares for which the issuing entity as the right to call (buy back) the shares at a specified price and future date.; accounted for in the same manner as non-callable shares, must pay any dividends in arrears if called
cumulative preferred shares
stipulate that if the board of directors does not declare a dividend, the dividends accumulate
accumulated other comprehensive income
the aggregation of OCI over the years, the third component of stockholders' equity
contributed capital
the amounts paid in by common and preferred shareholders
common stock issued for non cash consideration
the corporation should value the goods and services received at the fair value of the consideration given up in the exchange
treasury shares
the corporation's own shares repurchased by the corporation and held for some future use.
retained earnings
the cumulative earnings of the firm that is has not distributed as dividends.
par value
the face or state value of the share certificate
what does stockholders' equity represent?
the interest held by the investors; shareholders can only assert their claims after the company has satisfied the senior claims of creditors.
issued shares
the number of shares sold or otherwise distributed to shareholders
outstanding shares
the number of shares still in the hands of the stockholders, computed as issued shares less treasury shares.; used for financial statistics, such as earnings per share and book value per share, cash dividend payments, and determines those with voting rights.
the sum of the par value and the average additional paid in capital in regards to accounting for share retirement represents what?
the original issue proceeds
common shareholders
the residual claimants (individuals, other corporations, or institutions) of the firm who receive dividends distributions after the company has paid all other claimers of capital, their return on investment
equity
the residual interest in the assets of an entity that remains after deducting its liabilities
stockholders' equity (shareholders' equity, net assets, or book value)
the sum of all residual claims against the assets of the firm measured as the difference between the assets and the liabilities of the entity
authorized shares
the top number of shares that the firm can legally issue.; typically, approved by the attorney general in the state of incorporation and included in the articles of incorporation.
what are retired shares classified as?
unissued authorized shares
large stock dividend
unless there is evidence to the contrary, the accountant assumes that a dividend of this size would materially reduce the market price per share of the stock when the additional shares are distributed. the dividend is accounted for at the par value of the stock.
small (ordinary) stock dividends
unless there is evidence to the contrary,t he accountant assume that a dividend of this size would not have a material, negative effect on the market price per share of the stock when the additional shares are distributed. * the dividend is valued at the fair market value of the share.
if the stock does not have a reliable fair value, what does the corporation use?
uses the fair value of the consideration received.
when can firms pay common dividends?
when all preferred dividends are paid
can a company hold or retire repurchased shares?
yes
do dividends represent a return to shareholders on their investment in the corporation?
yes
do investments and distributions by owners to the entity impact the equity of the firm directly
yes
does US GAAP account for the issuance of convertible shares in the same way as non-convertible preferred shares?
yes
debt
a contractual obligation to pay money on demand or on a fixed or determinable dates.
treasury shares
a corporation's own stock that are authorized, issued, and previously outstanding that the corporation buys back.; still considered issued shares
par values are usually set at what amount?
a immaterial amount
how does US GAAP treat mandatorily redeemable shares?
a liability, because the requirement to disburse cash is outside the control of the issuing operation. that is, there is a future sacrifice of economic benefits arising from a present obligation.
comprehensive income
a measure of changes in a company's equity that result from recognized transactions and all economic events of the period other than transactions with owners.
cost method
acquisition: debit treasury stock for the cost of the repurchased shares. credit cash for the amount paid. reissuance: above cost- excess over cost recorded as addition paid in capital below cost- reduce the additional paid-in capital related to treasury stock for the amount below cost if possible. if not possible, reduce retained earnings.
convertible preferred shares
allow the shareholder to convert its shares to common shares at a predetermined rate or exchange ratio; carry the same preference as non-convertible preferred stock; however, they may also covert to common shares
liquidating dividends
any distribution that the firm pays from contributed capital instead of retained earnings
what value does a corporation record the non cash assets or services at
at the fair value of the stock issued in the exchange
three reasons that support the presentation of other comprehensive income separate from net income
1. OCI items have a low probability of cash flow realization in the short term and therefore should not be included in net income. including these items would further remove net income from the underlying cash flows of the firm. 2. the temporary nature of OCI items would create earnings volatility (when these temporary events reverse) if included in net income. 3. OCI events are not part of normal business operations, so they should not be included in net income.
accounting for share retirements
1. additional paid in capital related to the retired shares is removed from the balance sheet.
what are 3 things commonly reported in the equity section of the balance sheet?
1. classes of stock 2. par values 3. number of shares authorized, issued, and outstanding
if the error occurred in any year that is not included int he comparative statements in the annual report, the firm makes a prior-period adjustment by (3)
1. correcting the appropriate balance sheet accounts in the earliest balance sheet presented. 2. reporting any income effects in retained earnings, net of tax, as of the beginning of the first period presented in the comparative statements. 3. reporting correct balance sheet amounts in the current and all future periods.
features of preferred shares (6)
1. cumulative 2. participating 3. convertible 4. callable 5. redeemable 6. fixed dividend
purpose of share repurchases (5)
1. for stock option plans, stock bonus plans, and employee stock purchase prices 2. for exchanges for another-firm's voting shares in a merger or acquisition 3. to support the market price of the stock 4. to prevent takeover attempts 5. to distribute cash to shareholders.
what are the two options a company has when reporting OCI
1. include components of OCI after net income on one continuous statement summing to comprehensive income. 2. present a separate statement of other comprehensive income that beings with net income on the first line and details the components of OCI. this approach results in presenting two statements: one displaying the details of net income and the other displaying the details of other comprehensive income.
items affecting retained earnings include (4)
1. net income (loss) 2. dividends 3. the sale of treasury stock below cost. 4. prior-period adjustments
what are the 2 priorities that preferred shares have over common stock?
1. priority over receiving dividends 2. priority claim to assets in liquidations
accounting for treasury stock options (4)
1. recorded in a contra-stockholders' equity account and reported as a reduction of total stockholders' equity on the balance sheet 2. treasury shares reduce the number of shares outstanding. 3. do not have voting rights and cannot receive cash dividends 4. do split and can receive stock dividends in some states.
primary elements of other comprehensive income (OCI)
1. unrealized gains and losses from the available for sale portfolio of investment securities and derivatives classified as cash flow hedges. 2. foreign currency translation adjustments 3. unrecognized pension costs and benefits.
what are the two advantage that preferred stock proceeds over debt and common equity financing for a corporation?
1. used to raise private equity capital without giving up control of the corporation 2. preferred stock is less risky the debt because,, nine interest on debt, dividends are not mandatory
accounting steps for small (ordinary) stock dividends (5)
1. value the dividend at the market price at the date of declaration 2., on the date of declaration, increase the dividends accounts by the dividend at market value, which will ultimately be closed to retained earnings. 3. increase the common stock dividend distributional account for the par value of the stock. this account is a capital stock account. 4. increase the additional paid in capital account for the difference between the market value and the par value of the stock to be distributed. 5. when the dividend is distributed, remove the common stock dividend distributable account with a debit and credit to the common stock account. * at the end of the period the dividends account is closed to retained earnings.
accounting steps for large stock dividends (3)
1. when declaring a large stock dividend, debit dividends for the par value of the stock. 2. credit stock dividend distributable, an equity account, for the par value of the stock. 3. when distributing the stock dividend, reduce the stock dividend distributable and increase common stock at par.
