Acc 305 Chapter 15

Front 1

Special characteristics of corporate form

Back 1

1. Influence of state corporate law
2. Use of the capital stock or share system
3. Development of a variety of ownership interests

Front 2

State Corporate Law

Back 2

Each state has its own business corporation act

Front 3

Capital Stock/Share System

Back 3

Each share represents an ownership right with the following privileges:
1. To share proportionately in profits and losses
2. To share proportionately in management (right to vote for directors)
3. To share proportionately in corporate assets upon liquidation
4. To share proportionately in any new issues of stock of the same class - called the preemptive right

Front 4

Variety of Ownership Interests

Back 4

1. Common Stock
2. Preferred Stock

Front 5

Common Stock

Back 5

Residual corporate interest that bears the
1. Ultimate risk of loss
2. Receives the benefits of success

Front 6

Preferred Stock

Back 6

In return for certain preference to earnings, a preferred stockholder
1. Sacrifices their right to a voice in management
2. Sacrifices their right to share in profit above a stated amount

Front 7

Key Components of Stockholders' Equity

Back 7

A company's "residual interest" derived from equation:
Assets-Liabilities=Stockholders' Equity
Main Category:
1. Contributed Capital
2. Earned Capital

Front 8

Contributed Capital

Back 8

Amount paid in on capital stock-provided by stockholders to the corporation for use in the business
-Capital stock
-Additional paid-in-capital

Front 9

Earned Capital

Back 9

Capital that develops from profitable operations. Consists of all undistributed income that remains invested in the company
-Retained earnings

Front 10

Issuance of par value stock

Back 10

1. Generally an arbitrary amount ($1,$5, etc. -per-share)
2. Low par values help companies avoid the contingent liability associated with stock sold below par
3. Corporations maintain par value account for:
a. Preferred stock/Common stock
b. Paid-in Capital in Excess of Par (APIC)

Front 11

Issuance of stock in noncash transaction

Back 11

Companies should record stock issued for services/property other than cash at the:
1. Fair value of stock issued
2. Fair value of noncash consideration received
(whichever is more clearly determinable)

Front 12

Accounting entry for contribution of equity

Back 12

Cash xxx
Common stock xxx
Paid in capital
(the difference) xxx

Front 13

Cost of Issuing Stock

Back 13

Treated as a reduction of the amount paid in as "paid in capital". Examples:
1. Legal fees
2. Accountants fees
3. Underwriter fees (% of deal: 1-7%)
4. Printing costs
5. Taxes

Front 14

Reacquisition of Shares (Treasury Stock)

Back 14

Reasons:
1. To provide tax efficient distributions of excess cash to shareholders
2. To increase earnings per share and return on equity
3. To provide stock for employee stock compensation contracts or to meet potential merger needs

Front 15

Treasury stock characteristics

Back 15

1. Not an asset - treated as a contra account, reduces stockholders' equity account
2. Does not have shareholders rights
a. No voting
b. No dividends

Front 16

Features of Preferred stock

Back 16

1. Preferred as to dividends because are paid before common stockholders
2. Dividend expressed as a percentage of par value or alternatively as a specific dollar amount
3. Cumulative preferred stock
i. Dividends in arrears must be paid before the current year's dividend is paid to either preferred or common shareholders
ii. Dividends in arrears are not liabilities until declared by the Board of Directors
4. Preference as to assets in the event of liquidation
5. Convertible into common stock
6. Callable at the option of the corporation
7. Nonvoting

Front 17

Policies used in distributing dividends

Back 17

a. Dividends are paid only if the company has both retained earnings and available cash
b. Why companies refrain from paying out legally available earnings?
1. Reinvestment of earnings
2. To build up cash/equity cushion
3. To smooth out dividend payments

Front 18

Types of Dividends

Back 18

1. Cash dividends
2. Property dividends
3. Liquidating dividends
4. Stock dividends

Front 19

Cash dividends

Back 19

1. Board of directors vote on the declaration pf cash dividends
2. Once declared, cash dividend is a legal current liability
3. Recording of dividends:
a. Date of declaration
Equity decreases, Liability increases
b. Date of record
No entry
c. Date of payment
Liability decreases, Asset decreases

Front 20

Property dividends

Back 20

1. Dividends payable in assets other than cash
2. Corporations should restate at fair value the property it will distribute, recognizing any gain or loss
3. Example entry:
Retained earnings xxx
Investment in ABC subsidiary xxx

Front 21

Liquidating dividends

Back 21

1. Any dividends not based on retained earnings that reduces corporate paid in capital (essentially a return of capital)
2. Example entry
Common stock xxx
Paid in capital xxx
Cash xxx

Front 22

Accounting for small stocks dividends

Back 22

The fair value of the stock is used to record the stock dividend. Example:
Retained Earnings xxx
Common stock xxx
Paid in capital xxx
(Retained earnings is debited for the number of shares distributed multiplied by their fair market value on the date of distribution)

Front 23

Accounting for large stocks

Back 23

If the dividend is more than 25% of the outstanding shares, then the "par value" of the stock issued is used to record the stock dividend by debiting retained earnings

Front 24

Stock splits

Back 24

1. No entry, only the number of shares and par value have changed
2. Purpose:
a. To reduce the market value of stock
b. Decreases par value and increased number of shares

Front 25

Analyze Shareholders Equity

Back 25

1. Rate of return on common shareholders equity
2. Book value per share
3. Payout ratio

Front 26

Rate of return on common shareholders equity

Back 26

= (Net income - Preferred dividends)/Avg common stockholders' equity
Shows how many dollars of net income the company earned for each dollar invested by the owners

Front 27

Book value per share

Back 27

= Common stockholders equity/# of outstanding shares
Amount each share would receive if the company were liquidated on the basis of amounts reported on balance sheet

Front 28

Payout ratio

Back 28

= Cash dividends/(Net income - preferred dividends)
Ratio of cash dividends to net income