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Chapter 9
Stockholders¶ Equity
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Learning Objective 1
Explain the advantages anddisadvantages of a corporation.
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Characteristics of a Corporation
Separate legal entityContinuous life and transferability
of ownershipLimited liabilitySeparation of ownership and
managementCorporate taxationGovernment regulation
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Advantages of a Corporation
1. Can raise more capital than aproprietorship or partnership can
2. Continuous life3. Ease of transferring ownership
4. Limited liability of stockholders
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Disadvantages of a Corporation
1. Separation of ownership
2. Corporate taxation
3. Government regulation
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Stockholders
Board of Directors
Chairperson of the Board
President
Authority Structure of a
Corporation
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Vote
Dividends
Liquidation
Preemption
Stockholders¶ Rights
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Stockholders¶ Equity
Two main components:
1. Paid-in capital (contributedcapital)
2. Retained earnings
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Capital Stock
Authorized shares
Outstanding shares
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Capital Stock
Common Stock
Most basic form
of capital stock -
issued by every
corporation
Preferred Stock
Has several
preferences over
common stock
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Capital Stock
Par Value Stock
An arbitrary
amount assigned
to a share of
stock
Does not have
par value, but
may have
stated value
No-par Stock
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Learning Objective 2
Measure the effect of issuingstock on a company¶s financial
position.
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Common Stock at Par
General Journal
Date Accounts and Explanations PR Debit redit
Jan 8 ash (6,200 x $10) 62,000
Common Stock 62,000
To record issuance of stock
Suppose IHOP¶s common stock has apar value of $10 per share. The
company issues 6,200 shares of common stock at par. What is theentry?
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Common Stock at Par
General Journal
Date Accounts and Explanations PR Debit redit
Jul 23 Cash (6,200 x $10) 62,000
Common Stock 62
Paid-in apital in Excess of Par 61,938
To record issuance of stock
Suppose IHOP¶s common stock has apar value of $0.01 per share. The
company issues 6,200 shares of common stock for $10 per share.What is the entry?
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Common Stock Above Par
Common Stock, $.01 par;
40,000 shares authorized,6,200 shares issued $ 62
Paid-in capital in excess of par 61,938Total paid-in capital $ 62,000Retained earnings 194,000Total stockholders¶ equity $256,000
Stockholders¶ Equity
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Common Stock at Par
Suppose IHOP¶s common stock is nopar value stock. The company issues
6,200 shares of common stock for $20per share. What is the entry?
eneral Journal
ate Accounts and xplanations ebit redit
Jul 23 ash (6,200 x $10) 124,000ommon Stock 124,000
To record issuance of stock
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Preferred Stock
Accounting for preferred stockfollows the pattern illustrated for
common stock.
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Learning Objective 3
Describe how treasury stocktransactions affect a company.
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Treasury Stock Transactions
Shares that a company hasissued and later reacquired.
Reasons
Stock purchase plan distribution
Increase net assets Avoidance of a takeover
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IHOP Corp. Before Purchase
of Treasury Stock
Common Stock $ 203Paid-in capital in excess of par 69,655Retained earnings 193,632
Total equity $263,490
Stockholder¶s Equity at December 31, 2005(if no treasury stock purchased)
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IHOP Corp. Purchase
of Treasury StockDuring 2005, IHOP paid $5,170 topurchase 288 shares of its common
stock as treasury stock.
r l r l
D A l i D i Cr i
N v 1 Tr r y S k 5,170
h 5,170P urchased treasury stock
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IHOP Corp. After Purchase
of Treasury Stock
Common Stock $ 203Paid-in capital in excess of par 69,655Retained earnings 193,632
Less: Treasury stock(288 shares at cost) (5,170)Total equity $258,320
Stockholder¶s Equity at December 31, 2005(with treasury stock purchased)
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Sale of Treasury Stock
Assume that on July 22, 2006, theshares of treasury stock are sold
for $5,300.
General Journal
Date Accounts and Explanations PR Debit Credit
Jul 22 Cash 5,300
Treasur y Stock 5,170Paid-in Capital f rom Treasur y
Stock Transactions 130
S old treasury stock
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IHOP Corp. After Sale of
Treasury Stock
Common Stock $ 203Paid-in capital in excess of par 69,785Retained earnings 193,632Total equity $263,620
Equity before purchase of treasury stocks 263,490
Increase in stockholders¶ equity $ 130
Stockholder¶s Equity at December 31, 2006
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Retirement of Stock
Decreases the outstandingstock of the corporation
Retired shares cannot bereissued
There is no gain or loss onretirement
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Retained Earnings Account
Balance =
Net income less
-Net losses
-Dividends declared
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Dividends and Splits
Dividend - corporation¶s returnto its stockholders of some of
the benefits of earningsStock spl i t - increase in the
number of authorized, issued,and outstanding shares
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Dividend Dates
Declaration date
Date of record
Payment date
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Learning Objective 4
Account for dividends andmeasure their impact on a
company.
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Preferred Stock Dividends
Pinecraft Industries, Inc., has both common stockand 100,000 shares of preferred stock outstanding.Preferred dividends are paid at the annual rate of
$1.50 per share. In 20x9, the company declares anannual dividend of $1,000,000.
Preferred dividend
(100,000 × $1.50 per share) $150,000Common dividend
(remainder: $1,000,000 ± $150,000) 850,000
Total dividend $1,000,000
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Preferred Stock Dividends
The preferred stock of Pinecraft is cumulative.Suppose the company passed the 20x6preferred dividend of $150,000. In 20x7, thecompany declares a $500,000 dividend.
Gener Jour nal
Date A ount and Explanat ons PR Debit r edit
Retained Ear nings 500,000
Dividends Payable-Pr ef err ed 300,000*
Dividends Payable- ommon 200,000
Declared a cash dividend
*$150,000 x 2 years
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Stock Dividends
Small stock dividends: 25% or less
Large stock dividends: above 25%
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Stock Dividend
IHOP declared a 10% stockdividend in 2006. Assume IHOP
had 20,000,000 shares of common stock outstanding. Thestock is trading for $15 per
share. How would this stockdividend be recorded?
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Stock Dividend
For a large stock dividend, debit Retained Earnings andcredit Common Stock for the par value of the shares.
eneral Journal n thousands
ate Accounts and xplanations ebit redit
etained arnings
(20,000,000 X 10% X $15) 30,000
ommon Stock(20,000,000 X 10% X $0.01) 20
aid-in Capital in xcess of ar
Common 29,980
Distributed a 10% stock dividend
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Stock Splits
Increases number of authorized, issued, and
outstanding shares of stockProportionate reduction in
stock¶s par value
Decreases market price
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Stock Splits
The market price of a share of Quaker Oats has beenapproximately $25. Assume that
the company wants to decrease itto $12.50. This 2-for-1 split meansthat the company would have twiceas many shares outstanding after
the split as is had before the split.
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Learning Objective 5
Use different stock values indecision making.
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Stock Values
Market value
Redemption value
Liquidation value
Book value
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Book Value Per Share
Preferred stock =
(Redemption value + Dividends in
arrears) ÷ Number of shares of preferred outstanding
Common stock =
(Total stockholders¶ equity ± Preferredequity) ÷ Number of shares of commonstock outstanding
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Book Value
Preferred stock, 6%, $100 par, 5,000 shares
authorized, 400 shares issued,
redemption value $130 per share $ 40,000
Additional paid-in capital in excess of par ±preferred 4,000
Common stock, $10 par, 20,000 shares
authorized, 5,500 shares issued 55,000
Additional paid-in capital in excess of par ±common 72,000
Retained earnings 85,000
Treasury stock ± common, 500 shares at cost ( 15,000)
Total stockholders¶ equity $241,000
S tockholders¶ Equity
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Book Value
Suppose that four years¶(including the current year)
cumulative preferred dividendsare in arrears and that preferredstock has a redemption value of
$130 per share.
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Book Value
P referred equity:Redemption value (400 shares × 130) $ 52,000
Cumulative dividends ($40,000 × $0.06 × 4 yrs) 9,600
Preferred equity $ 61,600
C ommon equity:Total stockholders¶ equity $241,000
Less preferred equity ± 61,600
Common equity $179,400
Book value per share: $179,400 ÷ 5,000 shares* $ 35.88
*5,500 shares issued minus 500 treasury shares
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Learning Objective 6
Evaluate a company¶s return onassets and return on
stockholders¶ equity.
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Rate of Return on Total Assets
(Net income + Interest expense)
÷ Average total assets
Measure of a company¶s ability to
generate profits from the use of its assets.
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Return on Equity
Rate of return on common stockholders¶ equity
= (Net income ± Preferred dividends)÷ Average common stockholders¶ equity
Measure of income earned from commonstockholders¶ investment in the company.
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Learning Objective 7
Report stockholders¶ equitytransactions on the statement of
cash flows.
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Reporting Stockholders¶Equity Transactions
Proceeds from issuance of common stock $172,000Purchase of treasury stock (5,170,000)
Net cash used by financing activities $(4,998,000)
During 2003, IHOP issued stock,repurchased stock, but paid no dividends.
Cash flows from financing activities:
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End of Chapter 9
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