24SkSpltDivTreas

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24 In depth:Stock splits,stock dividends andTreasury stock

Profit

Debit Credit or

Loss

Expenses

BALANCE SHEET INCOME STATEMENT

Assets Liabilities Revenue

Equity

Learning Objectives

1. Explain stock splits

2. Account for stock dividends

3. Account for Treasury stock transactions

4. Analysis: Compute and explain basicearnings per share and price earningsratio

Corporate financemanagers want to

maximize theavailability and

minimize the cost ofequity capital


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Objective 24.1: Explain stock splits

O24.1

1 Old Share1 New

Share

1 New

Share

The corporation calls in all

outstanding old shares and issues

new ones.

Stock splits are the process of replacing eachsingle share of outstanding stock with multiple new

shares of stock. For example a 2 for 1 stock splitwould result in every single share of old stock

being replaced with 2 shares of new stock.


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Why Stock splits?

When stock is split, the market must re-price the new

shares.Management hopes that in the re-pricing process, the

market will increase the total market value for the stock.

Example: With a 2 for 1 split, the hope is that the new price

will be greater than half of the previous price

This would benefit existing stockholders, their holdings

would be worth more.

It also helps the corporation. Investors are paying more forthe same projected returns than they were prior to the stock

split.

O24.1


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Stock splits: No journal entry notation only

EQUITY

Co mmo n St ock at Par 200,000

(20,000 shares @$10 par value)

Contributed Capital

in Excess o f Par 130,000

Retained Earnings 245,000

To tal Equity 575,000

Before Stock Split

EQUITY

Co mmo n St ock at Par 200,000


Contributed Capital

in Excess o f Par 130,000

Retained Earnings 245,000

To tal Equity 575,000

After Stock Split

NO CHANGE IN THEDOLLAR AMOUNTS

IN ANY OF THEEQUITY ACCOUNTS

Profit

Debit Credit orLoss

Expenses



Equity

O24.1


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Objective 24.2: Account for stock

dividends

Cash Dividends

$

More shares ofstock

Stock Dividends

Profit

Debit Credit or

Loss

Expenses



Equity

Stock dividendsresult in no change

in total equity

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Stock dividends

O24.2

STOCKHOLDER EQUITY

Common Stock at Par 500,000


Contributed Capital

in Excess of Par 250,000

Retained Earnings 1,000,000

Total Equity 1,750,000

Autofil Corporation

Stockdividends

move dollars

from here

To here


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Stock dividends

O24.2

STOCKHOLDER EQUITY



Contributed Capital




Autofil Corporation

No change intotal Equity



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Declaration of stock dividend

Board of Directors

We declare a10% stockdividend

I have 5,000sharesIll

get 500 more!

Stockholder

O24.2

Profit

Debit Credit or

Loss

Expenses



Equity

No changein total

Equity



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Stockholders receive more shares

I get 500more shares

but. . .

Stockholder

O24.2

I still own the

same % ofthecorporation

500 moreshares of

stock

BeforedividendShares outstanding = 100,000.

Penny owned 5,000 or5,000/100,000 = 5%.

After dividendShares outstanding 100,000 x

1.1 = 110,000. Penny owns5,000 x 1.1 = 5,500 shares or

5,500/110,000 = 5%



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This size (%) of the stock dividend is important!

O24.2

Small Stock DividendDebitretained earnings for fair ormarket value of the stock (#shares individend times the market value of

each share) on the date of the

dividend declaration

CreditCommon Stock DividendDistributable for the par value times

the number of new shares issued inthe dividend

Credit Contributed Capital in Excessof Par an amount necessary to

balance the journal entry

Large Stock Dividend

Debitretained earnings for the parvalue per share times the number of

new shares issued in the dividend on

the date of the dividend declaration

CreditCommon Stock DividendDistributable for the par value per

share times the number of new shares

issued in the dividend

*20 -25% or less *20 -25% or more

* Assume 20%



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Stock dividends

O24.2

STOCKHOLDER EQUITY



Contributed Capital




Autofil CorporationBoth large andsmall stock

dividendsmove amountsfrom Retained

Earnings toContributed

Capitalaccounts



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This size (%) of the stock dividend is important!

O24.2

Small stockdividend movesthe market value

out of retainedearnings

Large stockdividend movespar value out of

retained earnings

*20 -25% or less *20 -25% or more

* Assume 20%



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Recording small stock dividend- date of declaration

Billiards Corporation declares a 15% stock dividend.

There are 300,000 shares outstanding $5 par value.The market price per share is $12 on the same date.

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Date Description PR Debit Credit12/31/11 Retained Earnings 3500 540,000

Stock Dividends Distributable 3110 225,000

Contributed Capital in Excess 315,000

of Par, Common Stock 3115

GENERAL JOURNAL

Profit

Debit Credit or

Loss

Expenses



Equity

O24.2

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14




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GENERAL JOURNAL

O24.2

300,000 x .15 x $12 market price

300,000 x .15 x $5 par value

540,000225,000

15



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GENERAL JOURNAL

O24.2

This is a temporary holding account in the Equitysection. When the stock shares are actually

distributed, this amount will be moved to CommonStock at Par as shown on the following slides

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16

Recording small stock dividend- date of record



Date of record 2/15/12; date of distribution 3/1/12

Page 56Date Description PR Debit Credit

2/15/12

GENERAL JOURNAL

O24.2

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17

Recording small stock dividend- date of distribution

Page 56Date Description PR Debit Credit

3/1/12 Stock Dividends Distributable 3110 225,000

Common Stock, $5 par 3005 225,000

GENERAL JOURNAL

O24.2

On the date of distribution the parvalue of the stock dividend is formallymoved to the Common Stock account.




Profit

Debit Credit or

Loss

Expenses



Equity

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Recording large stock dividend- date of declaration

Bowling Corporation declares a 30% stock dividend.


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Date Description PR Debit Credit12/31/11 Retained Earnings 3500 1,500,000

Stock Dividends Distributable 3110 1,500,000

GENERAL JOURNAL

Profit

Debit Credit or

Loss

Expenses



Equity

O24.2

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19

Recording large stock dividend- date of declaration



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Date Description PR Debit Credit12/31/11 Retained Earnings 3500 1,500,000

Stock Dividends Distributable 3110 1,500,000

GENERAL JOURNAL

O24.2

500,000 x .3 x $10 par value

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20

Recording large stock dividend- date of record

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Date Description PR Debit Credit

2/15/12

GENERAL JOURNAL

O24.2




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21

Recording large stock dividend- date of distribution

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3/1/12 Stock Dividends Distributable 3110 1,500,000

Common Stock, $10 par 3005 1,500,000

GENERAL JOURNAL

On the date of distribution the parvalue of the stock dividend is formallymoved to the Common Stock account.

Profit

Debit Credit or

Loss

Expenses



Equity

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Why stock dividends?

O24.2

For the same reasons stock splits are used:When stock dividends are distributed, the market

must re-price the new shares.

Management hopes that in the re-pricing process,the market will increase the total market value for

the stock.

The following slide demonstrates three scenarios. ..

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New market price immediately after stock

dividend

O24.2

Shares

Outstanding

Market Price

per share

Total

Market

value

BEFORE STOCK DIVIDEND 400,000 16.00 6,400,000$

Stock div idend 10%

AFTER STOCK DIVIDEND 440,000

14.55$

No Change in value 440,000 14.55$ 6,400,000$

Stockholders gain 440,000 16.00$ 7,040,000$

Stockholders lose 440,000 14.00$ 6,160,000$

Examples of result ing market price per share

If new market price is greater than

then stockholders gain value, if less, they lose value.

1

2

3

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New market price immediately after stock

dividend

O24.2

Shares

Outstanding

Market Price

per share

Total

Market

value

BEFORE STOCK DIVIDEND 400,000 16.00 6,400,000$

Stock div idend 10%

AFTER STOCK DIVIDEND 440,000

14.55$

No Change in value 440,000 14.55$ 6,400,000$

Stockholders gain 440,000 16.00$ 7,040,000$

Stockholders lose 440,000 14.00$ 6,160,000$

Examples of result ing market price per share

If new market price is greater than

then stockholders gain value, if less, they lose value.

Management hopes for this to resultthen new stockholders will pay the

issuing firm more for each new share

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Objective 24.3: Account for Treasurystock transactions

O24.3

Treasury stock is a

CONTRAEQUITY

Account

Profit

Debit Credit or

Loss

Expenses



Equity

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Treasury stock

O24.3

Cash Account s Payab le SalesAccount s Receiv ab le Long Term Deb t

Inventory

Property, Plant & Equipment

Investments

Cost of Goo ds Sold

Sellling Exp enses

Equit y General & Admin. Expenses

Com mo n Stoc k at Par

Cont ribut ed Capitalin Excess of Par

Retained Earnings

Treasury Stock

Profit

Debit Credit or

Loss

Expenses

BALANCE SH EET INCOM E STATEM ENTAsset s Liabilit ies Revenue

Net Stockholder Equity 260,000

Contributed Capital andRetained Earnings 300,000

(40,000)Treasury Stock

TreasuryStock

REDUCESStockholdersEquity

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Treasury stock

Authorized Shares

Issued Shares

Outstanding

Shares

Treasury stock

purchases resultin fewer

outstandingshares than

issued shares

O24.3

(40,000)Treasury Stock

Contributed Capital andRetained Earnings

300,000

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Treasury stock purchase

Marine Corporation repurchases 2,000 sharesof their common stock for $58 per share.

Profit

Debit Credit or

Loss

Expenses



Equity

Page 17


5/17/12 Treasury Stock 3800 116,000

Cash 1000 116,000

Purchase 2 ,000 shares treasury sto ck

GENERAL JOURNAL

O24.3

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Resulting change to equity

STOCKHOLDER EQUITY

Common Stock at Par 2,250,000

(25 0,00 0 shares @ $5 par )

Cont ributed Capital in Excess

o f Par, Co mmo n Sto ck 11,250,000


To tal Equity 16,700,000

Marine Corporation

BEFORE Treasury Stock Purchase

STOCKHOLDER EQUITY


(25 0,00 0 shares @ $5 par 5 ,00 0 in treasury)

Contributed Capital in Excess



Treasury Stock (116,000)


Marine Corporation

AFTER Treasury Stock Purchase

The Treasury Stock purchasereduces Cash and REDUCES

TOTAL STOCKHOLDER EQUITYO24.3

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Treasury stock sale

Marine Corporation sells 1,000 shares

of their Treasury stock for $58 per share(same as purchase price)

Profit

Debit Credit or

Loss

Expenses



Equity

Page 19


6/30/12 Cash 1000 58,000

Treasury Stock 3800 58,000

Sale o f 1,000 shares treasury stock @ $58

GENERAL JOURNAL

O24.3

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STOCKHOLDER EQUITY


(25 0,00 0 shares @ $5 par )






Marine Corporation

BEFORE Treasury Stock Sale

STOCKHOLDER EQUI TY


(25 0,00 0 shares @ $5 par 5,00 0 in t reasury)

Contributed Capital in Excess





Marine Corporation

AFTER Treasury Stock Sale

The Treasury Stock sale increasesCash and INCREASES TOTAL

STOCKHOLDER EQUITYO24.3

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Treasury stock sale

Marine Corporation sells 500 shares

of their Treasury stock for $74 per share(purchase price was $58)

ProfitDebit Credit or

Loss

Expenses



Equity

Page 19


8/30/12 Cash 1000 37,000

Contributed Capital, Treasury Stock 3700 8,000


Sale of 50 0 shares tre asury stock @ $ 74

GENERAL JOURNAL

O24.3

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Treasury stock sale



Page 19


8/30/12 Cash 1000 37,000




GENERAL JOURNAL

O24.3

This is a normal creditbalance Equityaccount. Itrepresents the excess over cost received for the

resale of Treasury stock held by the firm.

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8/30/12 Cash 1000 37,000




GENERAL JOURNAL

Treasury stock sale

O24.3

$74 x 500 shares

Amount needed tobalance

500 shares x $58cost



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STOCKHOLDER EQUITY


(25 0,00 0 shares @ $5 par )






Marine Corporation


STOCKHOLDER EQUITY





Contributed CapitalTreasury Stock 8,000


Treasury Stock (29,000)Total Equity 16,679,000

Marine Corporation


The sale of Treasury Stock abovecost requires the use of a

Contributed Capital, Treasury stockaccount

O24.3

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Treasury stock sale

Marine Corporation sells remaining 500 shares


ProfitDebit Credit or

Loss

Expenses



Equity

Page 19


11/30/12 Cash 1000 16,000


Retained Earnings 3900 5,000


GENERAL JOURNAL

O24.3

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Treasury stock sale



Page 19


11/30/12 Cash 1000 16,000




GENERAL JOURNAL

O24.3

All available creditbalances in the ContributedCapital, Treasury Stock account are used (debited)first. If additional debits are necessary to balancethe journal entry, the Retained Earnings account is

used.

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Treasury stock sale



Page 19


11/30/12 Cash 1000 16,000




GENERAL JOURNAL

O24.3

$32 x 500 shares

Available credit balance of 8,000Amount needed to

balance

500 shares x $58cost

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STOCKH OLDER EQUITY



Contr ibuted Capital in Excesso f Par, Common Stock 11,250,000

Contr ibuted CapitalTreasury Stock 0


Treasury Stock 0To tal Equity 16,695,000


Marine Corporation


STOCKHOLDER EQUITY





Contributed CapitalTreasury Stock 8,000


Treasury Stock (29,000)To tal Equity 16,679,000

Marine Corporation


The Treasury Stock and theContributed Capital, Treasury stock

accounts are zero. Retained Earningsis reduced by $5,000

O24.3

and total

Equity went upby $16,000!

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Objective 24.4:Analysis: Compute andexplain basic earnings per share and price

earnings ratio

Profit

Debit Credit or

Loss

Expenses



Equity

P/E ratiocompares

earnings foreach share to

the marketprice for each

share

O24.4

Investors are especially interested inthese earnings ratios which allow market

comparisons of stock investments

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Basic earnings per share

Earnings available to common stockholders =

net income minus preferred dividends

This calculation can only becompared to the prior periodsin the same firm. The followingP/E ratio allows comparison to

other firms stock.

O24.4

Average # common sharesoutstanding

Earnings available tocommon stockholders

=Basic

Earningsper

share


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E l S C


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Example

O24.4

Asset s 2011 Liabili t ies 2011

Cash 112,400 Total liab ilit ies 925,600

Accounts receivable 437,600 Equit y

Inventory 866,900 Common Stock -No par 1,900,000

Propert y, Plant , Equip. 2,836,700 Preferred Stock -No par 80,000


Total assets 4,253,600 Total liab. + equit y 4,253,600

Preferred d ividend 6,400$

Market price common 15$ per share

Sales 3 ,457,600 Earnings availab le to

co mmo n st o ckho ld ers 4 28 ,8 30$

Cost of Goods Sold 2,247,440 Avg. Common Shares Outstanding 200,000

Wages expense 345,300 Basic Earnings per Share 2.14$

Sellling expenses 123,500 (Earnings avail t o common/ shares out st anding)Administ rat ive exp. 196,500 Price Earnings rat io 7.0 x

Miscellaneous exp. 109,630 (Market price/ EPS)

Net Profit 435,230

Balance Sheet -Allway Corporat ion

As of 12/ 31 2011

Income Statement

For the year ended 12/ 31/ 11

Investors are paying 7times the annual earnings

per share for 1 share ofAllway common stock

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24SkSpltDivTreas

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