11-113-1 corporations: organization, stock transactions, and dividends 13 principles of financial...
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11-113-1
Corporations: Organization, Stock Transactions, and
Dividends
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Principles of Financial Accounting, 11eReeve • Warren • Duchac
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Describe the nature of the corporate form of organization.
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Characteristics of a Corporation
A corporation is a legal entity, distinct and separate from the individuals who create and operate it. As a legal entity, a corporation may acquire, own, and dispose of property in its own name.
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The stockholders or shareholders who own the stock own the corporation. Corporations whose shares of stock are traded in public markets are called public corporations.
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Public Corporations
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Corporations whose shares are not traded publicly are usually owned by a small group of investors and are called nonpublic or private corporations. The stockholders of all corporations have limited liability.
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Private Corporations
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The stockholders control a corporation by electing a board of directors. The board meets periodically to establish corporate policy. It also selects the chief executive officer (CEO) and other major officers.
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Board of Directors
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EmployeesEmployees
OfficersOfficers
Board of DirectorsBoard of Directors
Organizational Structure of a Corporation
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Exhibit 1
StockholdersStockholders
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• A corporation has separate legal existence from its owners.
• A corporation has transferable units of ownership.
• A corporation has limited stockholders’ liability.
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Characteristics of a Corporation
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Costs may be incurred in organizing a corporation. The recording of a corporation’s organizing costs of $8,500 on January 5 is shown below:
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Describe the two main sources of stockholders’ equity.
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The owner’s equity in a corporation is called stockholders’ equity, shareholders’ equity, shareholders’ investment, or capital.
Stockholders’ Equity
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The two sources of capital are:1. Capital contributed
to the corporation by the stockholders, called paid-in capital or contributed capital.
2. Net income retained in the business, called retained earnings.
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Stockholders’ Equity Section of a Corporate Balance Sheet
Stockholders’ EquityPaid-in capital: Common stock $330,000Retained earnings 80,000 Total stockholders’ equity $410,000
If there is only one class of stock, the account is entitled Common Stock or Capital Stock.
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A debit balance in Retained Earnings is called a deficit. Such a balance results from accumulated net losses. A credit balance in Retained Earnings does not represent surplus cash or cash left over from dividends.
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Describe and illustrate the characteristics of stock, classes of stock, and entries for issuing stock.
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Characteristics of Stock
The number of shares of stock that a corporation is authorized to issue is stated in the charter. A corporation may reacquire some of the stock that has been issued. The stock remaining in the hands of stockholders is then called outstanding stock.
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Shares of stock are often assigned a monetary amount, called par. Corporations may issue stock certificates to stockholders to document their ownership. Some corporations have stopped issuing stock certificates except on special request.
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Characteristics of Stock
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• Stock issued without a par is called no-par stock. Some states require the board of directors to assign a stated value to no-par stock.
• Some state laws require that corporations maintain a minimum stockholder contribution, called legal capital, to protect creditors.
Classes of Stock
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Authorized
Number of Shares Authorized, Issued, and Outstanding
IssuedOutstanding
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1. The right to vote in matters concerning the corporation.
Major Rights That Accompany Ownership of a Share of Stock
2. The right to share in distributions of earnings.
3. The right to share in assets on liquidation.
These stock rights normally vary with the class of stock.
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The two primary classes of paid-in capital are common stock and preferred stock. The primary attractiveness of preferred stocks is that they are preferred over common as to dividends.
Classes of Stock
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Cumulative preferred stock has a right to receive regular dividends that were not declared (paid) in prior years. Noncumulative preferred stock does not have this right.
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Cumulative Preferred Stock
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Dividends to Cumulative Preferred Stock
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Exhibit 4
(continued)
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Dividends to Cumulative Preferred Stock (continued)
Exhibit 4
Amount distributed $22,000Preferred dividend (1,000 shares):
2008 dividend in arrears $4,0002009 dividend in arrears 4,0002010 dividend 4,000 12,000
Common dividend (4,000 shares) $10,000
Dividends per share:Preferred $ 12.00Common $ 2.50
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Example Exercise 13-1
Dividends per Share
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Sandpiper Company has 20,000 shares of 1% cumulative preferred stock of $100 par and 100,000 shares of $50 par common stock. The following amounts were distributed as dividends:
Year 1: $10,000Year 2: 45,000Year 3: 80,000
Determine the dividends per share for preferred and common stock for each year.
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Example Exercise 13-1 (continued) 3
Dividends per share:Preferred $0.50 $1.50 $1.00Common stock None $0.15 $0.60
Year 1 Year 2 Year 3
Amount distributed $10,000 $45,000 $80,000Preferred dividend (20,000shares) 10,000 30,000* 20,000Common dividend (100,000
shares) $ 0 $15,000 $60,000*(10,000 + $20,000)
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For Practice: PE 13-1A, PE 13-1B
Follow My Example 13-1
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A corporation is authorized to issue 10,000 shares of preferred stock, $100 par, and 100,000 shares of common stock, $20 par. One-half of each class of authorized shares is issued at par for cash.
Issuing Stock
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If the stock is issued (sold) for a price that is more than its par, the stock has been sold at a premium. If the stock is issued (sold) for a price that is less than its par, the stock has been sold at a discount.
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Caldwell Company issues 2,000 shares of $50 par preferred stock for cash at $55.
Premium on Stock
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A corporation acquired land for which the fair market value cannot be determined. The corporation issued 10,000 shares of $10 par common that has a current market value of $12 in exchange for the land.
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Using the same data as we used for par the transaction at stated value is recorded as follows:
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Example Exercise 13-2
Entries for Issuing Stock
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On March 6, Limerick Corporation issued for cash 15,000 shares of no-par common stock at $30. On April 13, Limerick issued at par 1,000 shares of 4%, $40 par preferred stock for cash. On May 19, Limerick issued for cash 15,000 shares of 4%, $40 par preferred stock at $42.
Journalize the entries to record the March 6, April 13, and May 19 transactions.
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Example Exercise 13-2 (continued) 3
Mar. 6 Cash……………………………….. 450,000Common Stock…………….. 450,000
(15,000 shares × $30)
Apr.13 Cash……………………………….. 40,000Preferred Stock……………. 40,000
(1,000 shares × $40)
May 19 Cash……………………………….. 630,000Preferred Stock……………. 600,000Paid-in Capital in Excess of Par……………………….. 30,000
(15,000 shares × $42)
13-42 For Practice: PE 13-2A, PE 13-2B
Follow My Example 13-2
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Describe and illustrate the accounting for cash dividends and stock dividends.
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Cash Dividends
A cash distribution of earnings by a corporation to its stockholders is called a cash dividend. There are usually three conditions that a corporation must meet to pay a cash dividend.
1. Sufficient retained earnings
2. Sufficient cash
3. Formal action by the board of directors
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The date of declaration is the date the board of directors formally authorized the payment of the dividend. On this date, the corporation incurs the liability to pay the amount of the dividend.
Date of Declaration
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The date of record is the date the corporation used to determine which stockholders will receive the dividend.
Date of Record
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The date of payment is the date the corporation will pay the dividends to the stockholders who owned the stock on the date of record.
Date of Payment
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On October 1, Hiber Corporation declares the cash dividends shown below with a date of record of November 10 and a date of payment of December 2.
Dividend per Share
Total Dividends
Preferred stock, $100 par,5,000 shares outstanding… $2.50 $12,500
Common stock, $10 par,100,000 shares outstanding $0.30 30,000
Total……………………………... $42,500
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On October 1, the declaration date, Hiber Corporation records the following entry:
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On December 10, the date of record, no entry is required since this date merely determines which stockholders will receive the dividend.
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On December 2, the date of payment, Hiber Corporation records the payment of the dividend as follows:
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4 Example Exercise 13-3
Entries for Cash Dividends
The important dates in connection with a cash dividend of $75,000 on a corporation’s common stock are February 26, March 30, and April 2. Journalize the entries required on each date.
For Practice: PE 13-3A, PE 13-3B13-52
Follow My Example 6-1
Follow My Example 13-3
Feb. 26 Cash Dividends………………………………………. 75,000Cash Dividends Payable………….................... 75,000
Mar. 30 No entry required.
Apr. 2 Cash Dividends Payable……………………………. 75,000Cash………………………………..................... 75,000
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A distribution of dividends to stockholders in the form of the firm’s own shares is called a stock dividend.
Stock Dividends
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On December 15, the board of directors of Hendrix Corporation declares a 5% stock dividend of 100,000 shares (2,000,000 shares × 5%) to be issued on January 10 to stockholders of record on December 31. The market price on the declaration date is $31 a share.
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The entry to record the declaration of the 5 percent stock dividend is as follows:
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On January 10, the number of shares outstanding is increased by 100,000. The following entry records the issue of the stock:
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Before and After Stock Dividends
10,000 + (10,000 × 6%)
Before Stock Dividend
After Stock Dividend
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Total shares issued 10,000 10,600
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Before and After Stock Dividends
Before Stock Dividend
After Stock Dividend
Total shares issued 10,000 10,600Number of shares owned 1,000 1,060
1,000 + (1,000 × 6%)
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Before and After Stock Dividends
Before Stock Dividend
After Stock Dividend
Total shares issued 10,000 10,600Number of shares owned 1,000 1,060Proportionate ownership 10% 10%
1,000 ÷ 10,000 1,060 ÷ 10,600
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Example Exercise 13-4
Entries for Issuing Stock
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Vienna Highlights Corporation has 150,000 shares of $100 par common stock outstanding. On June 14, Vienna Highlights declared a 4% stock dividend to be issued August 15 to stockholders of record on July 1. The market price of the stock was $110 a share on June 14.
Journalize the entries required on June 14, July 1, and August 15.
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Example Exercise 13-4 (continued) 4
June 14 Stock Dividends (150,000 × 4% × $110)………… 660,000Stock Dividends Distributable (6,000 × $100)………………………………….. 600,000Paid-in Capital in Excess of Par— Common Stock ($660,000 – $600,000)…… 60,000
July 1 No entry required.
Aug. 15 Stock Dividend Distributable…………………….. 600,000Common Stock………………………………. 600,000
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For Practice: PE 13-4A, PE 13-4B
Follow My Example 13-4
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Describe and illustrate the accounting for treasury stock transactions.
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Treasury stock is stock that a corporation has issued and then reacquired. A corporation may purchase its own stock for a variety of reasons including the following:
Treasury Stock Transactions
1. To provide shares for resale to employees
2. To reissue as bonuses to employees, or
3. To support the market price of the stock.
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On January 5, a firm purchased 1,000 shares of treasury stock (common stock, $25 par) at $45 per share. The cost method for accounting for treasury stock is used.
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Later, 600 shares of treasury stock were sold for $60 per share.
*The amount debited to Treasury Stock per share when purchased is the amount per share that must be credited to that account when sold.
*
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On October 4, the corporation sells the remaining 400 shares of treasury stock for $40 per share.
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Example Exercise 13-5
Entries for Treasury Stock
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On May 3, Buzz Off Corporation reacquired 3,200 shares of its common stock at $42 per share. On July 22, Buzz Off sold 2,000 of the reacquired shares at $47 per share. On August 30, Buzz Off sold the remaining shares at $40 per share.
Journalize the transactions of May 3, July 22, and August 30.
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Example Exercise 13-5 (continued) 5
May 3 Treasury Stock (3,200 × $42)…………………….. 134,400Cash……………………………………………... 134,400
July 22 Cash (2,000 × $47)…………………………………. 94,000Treasury Stock (2,000 × $42)……………….. 84,000Paid-in Capital from Sale of Treasury Stock [2,000 × ($47 – $42)]………………… 10,000
Aug. 30 Cash (1,200 × $40)…………………………………. 48,000Paid-in Capital from Sale of Treasury Stock [1,200 × ($42 – $40)]……………………... 2,400 Treasury Stock (1,200 × $42)……………….. 50,400
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For Practice: PE 13-5A, PE 13-5B
Follow My Example 13-5
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Describe and illustrate the reporting of stockholders’ equity.
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Stockholders’ Equity Section of a Balance Sheet
Method 1
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Exhibit 5
(continued)
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Stockholders’ Equity Section of a Balance Sheet (continued)
Method 2
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Exhibit 5
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Example Exercise 13-6
Reporting Stockholders’ Equity
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Common Stock, $50 par $1,500,000Paid-in Capital in Excess of Par 160,000Paid-in Capital from Sale of Treasury Stock 44,000Retained Earnings 4,395,000Treasury Stock 120,000
Using the following accounts and balances, prepare the Stockholders’ Equity section of the balance sheet. Forty thousand shares of common stock are authorized and 5,000 shares have been reacquired.
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Example Exercise 13-6 (continued) 6
Stockholders’ Equity
Paid-in capital:Common stock, $50 par
(40,000 shares authorized,30,000 shares issued)……………….. $1,500,000
Excess of issue price over par………….. 160,000 $1,660,000From sale of treasury stock 44,000 Total paid-in capital………………….. $1,704,000
Retained earnings……………………………… 4,395,000Total………………………………………….. $6,099,000
Deduct treasury stock (5,000 shares at cost)……………………………………….. 120,000Total stockholders’ equity……………………. $5,979,000
13-73 For Practice: PE 13-6A, PE 13-6B
Follow My Example 13-6
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Reporting Retained Earnings
Changes to retained earnings may be reported using one of the following:1. Separate retained earnings
statement2. Combined income and retained
earnings statement3. Statement of stockholders’ equity
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Retained Earnings Statement
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Exhibit 6
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Restrictions
The retained earnings available for use as dividends may be limited by the actions of a corporation’s board of directors. These amounts, called restrictions or appropriations, remain part of the retained earnings. However, they must be disclosed, usually in the notes to the financial statements.
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Restrictions of retained earnings are classified as follows:1. Legal. State laws may require a
restriction of retained earnings.2. Contractual. A corporation may
enter into contracts that require restrictions of retained earnings.
3. Discretionary. A corporation’s board of directors may restrict retained earnings voluntarily.
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Example Exercise 13-7
Retained Earnings Statement
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Dry Creek Camera Inc. reported the following results for the year ending March 31, 2010:
Retained earnings, April 1, 2009 $3,338,500Net income 461,500Cash dividends declared 80,000Stock dividends declared 120,000
Prepare a retained earnings statement for the fiscal year ended March 31, 2010.
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Describe the effect of stock splits on corporate financial statements.
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Stock Split
A stock split is a process by which a corporation reduces the par or stated value of the common stock and issues a proportionate number of additional shares.
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Rojek Corporation has 10,000 shares of $100 par common stock outstanding with a current market price of $150 per share. The board of directors declares a 5-for-1 stock split. A stock split does not require a journal entry.
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Financial Analysis
Earnings per Share =
Net Income – Preferred DividendsNumber of Common Shares
Outstanding
Blockbuster Inc.:
Earnings per Share =
$54.7 – $11.3
187.1 common shares outstanding
Earnings per Share =
$0.23 per common share
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Earnings per Share =
Net Income – Preferred DividendsNumber of Common Shares
Outstanding
Netflix, Inc.:
Earnings per Share =
$49.1
62.6 common shares outstanding
Earnings per Share =
$0.78 per common share
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Financial Analysis