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86 Cards in this Set

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What are the basic rights of stockholders
to share proportionately: (1) in profits, (2) in management (the right to vote for directors), (3) in corporate assets upon liquidation, and (4) in any new issues of stock of the same class (preemptive right).
Why is preemptive right important
protects existing share holders from dilution of the ownership share in the event the corporation issues new shares.
What is the difference between common and preferred stock
Preferred stock commonly has preference to dividends in the form of a fixed dividend rate and a preference over common stock to remaining corporate assets in the event of liquidation. Preferred stock usually does not give the holder the right to share in the management of the company. Common stock is the residual security possessing the greater risk of loss and the greater potential for gain; it is guaranteed neither dividends nor assets upon dissolution but it generally controls the anagement.
What is the difference between paid in capital and retained earnings, why is it important
The distinction between paid-in capital and retained earnings is important for both legal and economic points of view. Legally, dividends can be declared out of retained earnings in all states, but in many states dividends cannot be declared out of paid-in capital. Economically, management, stockholders, and others look to earnings for the continued existence and growthof the corporation.
What is authorized capital stock
—the total number of shares authorized by the state of incorporation for issuance.
What is unissued capital stock
the total number of shares authorized but not issued.
What is issued capital stock
the total number of shares issued (distributed to stockholders).
What is outstanding capital stock
the total number of shares issued and still in the hands of stockholders (issued less treasury stock).
What is treasury stock
shares of stock issued and repurchased by the issuing corporation but not retired.
What is par value, and why is it important?
Par value is an arbitrary, fixed per share amount assigned to a stock by the incorporators of the company and recognized by the state of incorporation as the amount that must be paid in for each share if the stock is to be fully paid when issued. It establishes the maximum responsibility of a stockholder in the event of insolvency or other involuntary dissolution.
How do you account for the issuance for cash of no-par value common stock at a price in excess of the stated value of the common stock
1. Cash is debited for the proceeds from the issuance of the common stock.
2. Common Stock is credited for the stated value of the common stock.
3. Additional Paid-in Capital is credited for the excess of the proceeds from the issuance of the common stock over its stated value.
What is the proportinal method for allocating the proceeds of lump sum sales of capital stock
The proportional method is used to allocate the lump sum received on sales of two or more classes of securities when the fair market value or other sound basis for determining relative value is available for each class of security.
What is the incremental method of allocating the proceeds of lump sum sales of capital stock
The value of the securities is used for those classes that are known and the remainder is allocated to the class for which the value is not known.
What are the different bases for stock valuation when assets other than cash are received for issued shares of stock
The general rule to be applied when stock is issued for services or property other than cash is that the property or services be recorded at either their fair market value or the fair market value of the stock issued, whichever is more clearly determinable. If neither is readily determinable, the
value to be assigned is generally established by the board of directors.
Explain how underwriting costs and accounting and legal fees associated with the issuance of stock should be recorded
The direct costs of issuing stock, such as underwriting costs, accounting and legal fees, printing costs, and taxes, should be reported as a reduction of the amounts paid in. Issue costs are therefore debited to Additional Paid-in Capital because they are unrelated to corporate operations.
For what reasons might a corporation purchase its own stock
(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, (4) to thwart takeover attempts or reduce the number of stockholders, (5) to make a market in the company’s stock, and (6) to contract the operations of the business.
Why shouldn't treasury stock be classified as an asset
Treasury stock should not be classified as an asset since a corporation cannot own itself.
How should the gain or loss on sale of treasury stock be treated
The “gain” or “loss” on sale of treasury stock should not be treated as additions to or deductions from income. If treasury stock is carried in the accounts at cost, these so-called gains or losses arise when the treasury stock is sold. These “gains” or “losses” should be considered as additions to or reductions of paid-in capital. In some instances, the “loss” should be charged to Retained Earnings. “Gains” or “losses” arising from treasury stock transactions are not included as a component of net income since dealings in treasury stock represent capital transactions.
Should dividends on treasury stock be treated as income
Dividends on treasury stock should never be included as income, but should be credited directly to retained earnings, against which they were incorrectly charged. Since treasury stock cannot be considered an asset, dividends on treasury stock are not properly included in net income.
What is meant by the term participating preferred stock
If the security is partially participating, it means that in addition to the specified fixed dividend the security may participate with the common stock in dividends up to a certain stated rate or amount.
What is a nonparticipating preferred stock
Nonparticipating means the security holder is entitled to no more than the specified fixed dividend
What is a fully participating preferred stock
A fully participating security shares pro rata with the common stock dividends declared without limitation
What is a cumulative stock?
Cumulative means dividends not paid in any year must be made up in a later year before any profits can be distributed to common stockholders. Any dividends not paid on cumulative preferred stock constitute a dividend in arrears. A dividend in arrears is not a liability until the board of directors declares a dividend.
Is a dividend in arrears considered a liability?
A dividend in arrears is not a liability until the board of directors declares a dividend.
Where in the financial statements is preferred stock generally reported
Preferred stock is generally reported at par value as the first item in the stockholders’ equity section of a company’s balance sheet. Any excess over par value is reported as part of additional paid-in capital.
What are the possible sources of additional paid in capital
(1) premiums on stock issued, (2) sale of treasury stock above cost, (3) recapitalizations or revisions in the capital structure, (4) assessments on stockholders, (5) conversion of convertible bonds or preferred stock, and (6) declaration of a small stock dividend.
How should common stock be classified in the stockholder's equity section?
Paid-in capital—capital stock
How should retained earnings be classified in the stockholder's equity section?
Retained earnings
How should Paid in capital in excess of par be classified in the stockholder's equity section?
Paid-in capital—additional paid-in capital
How should Treasury Stock be classified in the stockholder's equity section?
Deducted from total paid-in capital and
retained earnings
How should Paid in capital from Treasury stock be classified in the stockholder's equity section
Paid-in capital—additional paid-in capital
How should Paid in capital in excess of stated value be classified in the stockholder's equity section
Paid-in capital—additional paid-in capital
How should preferred stock be classified in the stockholders equity section
Paid-in capital—capital stock
The dividend policy of a company is influenced by
(1) the availability of cash, (2) the stability of earnings, (3) current earnings, (4) prospective earnings, (5) the existence or absence of contractual restrictions on working capital or retained earnings, and (6) a retained earnings balance.
What are teh principal considerations of a board of directors in making decisions involving dividend declarations
In declaring a dividend, the board of directors must consider the condition of the corporation such that a dividend is (1) legally permissible and (2) economically sound.
The considerations of the board of directors in considering the legality of a dividend is
1. Retained earnings, unless legally encumbered in some manner, is usually the correct basis for dividend distribution.
2. Revaluation capital is seldom the correct basis for dividends (except possibly stock dividends).
3. In some states, additional paid-in capital may be used for dividends, although such dividends may be limited to preferred stock.
4. Deficits in retained earnings and debits in paid-in capital accounts must be restored before payment of any dividends.
5. Dividends in some states may not reduce retained earnings below the cost of treasury stock held.
The considerations of a board of directors in considering the economic soundess of dividends are
(1) the availability (liquidity) of assets for distribution; (2) agreements with creditors; (3) the effect of a dividend on investor perceptions (e.g. maintaining an expected “pay-out ratio”); and (4) the size of the dividend with respect to the possibility of paying dividends in future bad years. In addition, the ability to expand or replace existing facilities should be considered.
Are dividends paid out of retained earnings
Dividends, at least cash dividends, are paid out of working capital. A balance must exist in retained earnings to permit a legal distribution of profits, but having a balance in retained earnings does not ensure the ability to pay a dividend if the cash situation does not permit it.
a cash dividend is
a distribution in cash
a property division is
a distribution in assets
other than cash.
a liquidating dividend is
Any dividend not based on retained earnings
A stock dividend is
the issuance of additional shares of the corporation’s stock in a nonreciprocal exchange involving existing stockholders with no change in the par or stated value.
What is the accounting entry for stock dividends
A stock dividend results in the transfer from retained earnings to paid-in capital of an amount equal to the market value of each share (if the dividend is less than 20-25%) or the par value of each share (if the dividend is greater than 20-25%).
WHat is the accounting entry for stock split
No formal journal entries are required for a stock split, but a notation in the ledger accounts would be appropriate to show that the par value of the shares has changed.
For what reason might a company restrict a portion of its retained earnings
Retained earnings are restricted because of legal or contractual restrictions, or the necessity to protect the working capital position.
How are restrictions of retained earnings reported
Restrictions are best disclosed in a note to the financial statements. This allows a more complete explanation of the restriction.
The residual interest in a corporation belongs to the
a. management.
b. creditors.
c. common stockholders.
d. preferred stockholders.
c
The pre-emptive right of a common stockholder is the right to
a. share proportionately in corporate assets upon liquidation.
b. share proportionately in any new issues of stock of the same class.
c. receive cash dividends before they are distributed to preferred stockholders.
d. exclude preferred stockholders from voting rights.
b
The pre-emptive right enables a stockholder to
a. share proportionately in any new issues of stock of the same class.
b. receive cash dividends before other classes of stock without the pre-emptive right.
c. sell capital stock back to the corporation at the option of the stockholder.
d. receive the same amount of dividends on a percentage basis as the preferred
stockholders.
a
Total stockholders' equity represents
a. a claim to specific assets contributed by the owners.
b. the maximum amount that can be borrowed by the enterprise.
c. a claim against a portion of the total assets of an enterprise.
d. only the amount of earnings that have been retained in the business.
c
A primary source of stockholders' equity is
a. income retained by the corporation.
b. appropriated retained earnings.
c. contributions by stockholders.
d. both income retained by the corporation and contributions by stockholders.
d
Stockholders' equity is generally classified into two major categories:
a. contributed capital and appropriated capital.
b. appropriated capital and retained earnings.
c. retained earnings and unappropriated capital.
d. earned capital and contributed capital.
d
The accounting problem in a lump sum issuance is the allocation of proceeds between the
classes of securities. An acceptable method of allocation is the
a. pro forma method.
b. proportional method.
c. incremental method.
d. either the proportional method or the incremental method.
d
When a corporation issues its capital stock in payment for services, the least appropriate
basis for recording the transaction is the
a. market value of the services received.
b. par value of the shares issued.
c. market value of the shares issued.
d. Any of these provides an appropriate basis for recording the transaction.
b
Direct costs incurred to sell stock such as underwriting costs should be accounted for as
1. a reduction of additional paid-in capital.
2. an expense of the period in which the stock is issued.
3. an intangible asset.
a. 1
b. 2
c. 3
d. 1 or 3
a
When treasury stock is purchased for more than the par value of the stock and the cost
method is used to account for treasury stock, what account(s) should be debited?
a. Treasury stock for the par value and paid-in capital in excess of par for the excess of
the purchase price over the par value.
b. Paid-in capital in excess of par for the purchase price.
c. Treasury stock for the purchase price.
d. Treasury stock for the par value and retained earnings for the excess of the purchase
price over the par value.
c
“Gains" on sales of treasury stock (using the cost method) should be credited to
a. paid-in capital from treasury stock.
b. capital stock.
c. retained earnings.
d. other income.
a
Wilson Corp. purchased its own par value stock on January 1, 2004 for $20,000 and
debited the treasury stock account for the purchase price. The stock was subsequently
sold for $12,000. The $8,000 difference between the cost and sales price should be
recorded as a deduction from
a. additional paid-in capital to the extent that previous net "gains" from sales of the same
class of stock are included therein; otherwise, from retained earnings.
b. additional paid-in capital without regard as to whether or not there have been previous
net "gains" from sales of the same class of stock included therein.
c. retained earnings.
d. net income.
a
How should a "gain" from the sale of treasury stock be reflected when using the cost
method of recording treasury stock transactions?
a. As ordinary earnings shown on the income statement.
b. As paid-in capital from treasury stock transactions.
c. As an increase in the amount shown for common stock.
d. As an extraordinary item shown on the income statement.
b
Which of the following best describes a possible result of treasury stock transactions by a
corporation?
a. May increase but not decrease retained earnings.
b. May increase net income if the cost method is used.
c. May decrease but not increase retained earnings.
d. May decrease but not increase net income.
c
Which of the following features of preferred stock make the security more like debt than
an equity instrument?
a. Participating
b. Voting
c. Redeemable
d. Noncumulative
c
The cumulative feature of preferred stock
a. limits the amount of cumulative dividends to the par value of the preferred stock.
b. requires that dividends not paid in any year must be made up in a later year before
dividends are distributed to common shareholders.
c. means that the shareholder can accumulate preferred stock until it is equal to the par
value of common stock at which time it can be converted into common stock.
d. enables a preferred stockholder to accumulate dividends until they equal the par value
of the stock and receive the stock in place of the cash dividends.
b
A "secret reserve" will be created if
a. inadequate depreciation is charged to income.
b. a capital expenditure is charged to expense.
c. liabilities are understated.
d. stockholders' equity is overstated.
b
At the date of the financial statements, common stock shares issued would exceed
common stock shares outstanding as a result of the
a. declaration of a stock split.
b. declaration of a stock dividend.
c. purchase of treasury stock.
d. payment in full of subscribed stock.
c
An entry is not made on the
a. date of declaration.
b. date of record.
c. date of payment.
d. An entry is made on all of these dates.
b
An entry is made on all of these dates.
20. Cash dividends are paid on the basis of the number of shares
a. authorized.
b. issued.
c. outstanding.
d. outstanding less the number of treasury shares.
c
Which of the following statements about property dividends is not true?
a. A property dividend is usually in the form of securities of other companies.
b. A property dividend is also called a dividend in kind.
c. The accounting for a property dividend should be based on the carrying value (book
value) of the nonmonetary assets transferred.
d. All of these statements are true.
c
Farmer Corporation owns 4,000,000 shares of stock in Baha Corporation. On December
31, 2003, Farmer distributed these shares of stock as a dividend to its stockholders. This
is an example of a
a. property dividend.
b. stock dividend.
c. liquidating dividend.
d. cash dividend.
a
A dividend which is a return to stockholders of a portion of their original investments is a
a. liquidating dividend.
b. property dividend.
c. liability dividend.
d. participating dividend.
a
A mining company declared a liquidating dividend. The journal entry to record the
declaration must include a debit to
a. Retained Earnings.
b. a paid-in capital account.
c. Accumulated Depletion.
d. Accumulated Depreciation.
b
If management wishes to "capitalize" part of the earnings, it may issue a
a. cash dividend.
b. stock dividend.
c. property dividend.
d. liquidating dividend.
b
Which dividends do not reduce stockholders' equity?
a. Cash dividends
b. Stock dividends
c. Property dividends
d. Liquidating dividends
b
The declaration and issuance of a stock dividend larger than 25% of the shares previously
outstanding
a. increases common stock outstanding and increases total stockholders' equity.
b. decreases retained earnings but does not change total stockholders' equity.
c. may increase or decrease paid-in capital in excess of par but does not change total
stockholders' equity.
d. increases retained earnings and increases total stockholders' equity.
b
Pryor Corporation issued a 2-for-1 stock split of its common stock which had a par value
of $10 before and after the split. At what amount should retained earnings be capitalized
for the additional shares issued?
a. There should be no capitalization of retained earnings
b. Par value
c. Market value on the declaration date
d. Market value on the payment date
b
The issuer of a 5% common stock dividend to common stockholders preferably should
transfer from retained earnings to contributed capital an amount equal to the
a. market value of the shares issued.
b. book value of the shares issued.
c. minimum legal requirements.
d. par or stated value of the shares issued.
a
At the date of declaration of a small common stock dividend, the entry should not include
a. a credit to Common Stock Dividend Payable.
b. a credit to Paid-in Capital in Excess of Par.
c. a debit to Retained Earnings.
d. All of these are acceptable.
a
The balance in Common Stock Dividend Distributable should be reported as a(n)
a. deduction from common stock issued.
b. addition to capital stock.
c. current liability.
d. contra current asset.
b
A feature common to both stock splits and stock dividends is
a. a transfer to earned capital of a corporation.
b. that there is no effect on total stockholders' equity.
c. an increase in total liabilities of a corporation.
d. a reduction in the contributed capital of a corporation.
b
What effect does the issuance of a 2-for-1 stock split have on each of the following?
Par Value per Share Retained Earnings
a. No effect No effect
b. Increase No effect
c. Decrease No effect
d. Decrease Decrease
c
Which one of the following disclosures should be made in the equity section of the
balance sheet, rather than in the notes to the financial statements?
a. Dividend preferences
b. Liquidation preferences
c. Call prices
d. Conversion or exercise prices
b
The rate of return on common stock equity is calculated by dividing
a. net income less preferred dividends by average common stockholders’ equity.
b. net income by average common stockholders’ equity.
c. net income less preferred dividends by ending common stockholders’ equity.
d. net income by ending common stockholders’ equity.
a
The payout ratio can be calculated by dividing
a. dividends per share by earnings per share.
b. cash dividends by net income less preferred dividends.
c. cash dividends by market price per share.
d. dividends per share by earnings per share and dividing cash dividends by net income
less preferred dividends.
d
Windsor Company has outstanding both common stock and nonparticipating, noncumulative
preferred stock. The liquidation value of the preferred is equal to its par value.
The book value per share of the common stock is unaffected by
a. the declaration of a stock dividend on preferred payable in preferred stock when the
market price of the preferred is equal to its par value.
b. the declaration of a stock dividend on common stock payable in common stock when
the market price of the common is equal to its par value.
c. the payment of a previously declared cash dividend on the common stock.
d. a 2-for-1 split of the common stock.
c
Dividends are not paid on
a. noncumulative preferred stock.
b. nonparticipating preferred stock.
c. treasury common stock.
d. Dividends are paid on all of these.
c
Noncumulative preferred dividends in arrears
a. are not paid or disclosed.
b. must be paid before any other cash dividends can be distributed.
c. are disclosed as a liability until paid.
d. are paid to preferred stockholders
a
How should cumulative preferred dividends in arrears be shown in a corporation's
statement of financial position?
a. Note disclosure
b. Increase in stockholders' equity
c. Increase in current liabilities
d. Increase in current liabilities for the amount expected to be declared within the year or
operating cycle, and increase in long-term liabilities for the balance
a