financial accounting chp 11

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STOCKHOLDERS’ EQUITY:PAID-IN CAPITAL

Chapter

11

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Existence is separate from

owners.

Existence is separate from

owners.

An entity created by law.

An entity created by law.

Has rights and privileges.

Has rights and privileges.

Privately, or Closely, Held

Publicly Held

Ownership can be

CorporationsCorporations

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Limited personal liability for

stockholders.

Limited personal liability for

stockholders.

Transferability of ownership.

Transferability of ownership.

Professional management.

Professional management.

Continuity of existence.

Continuity of existence.

Advantages of IncorporationAdvantages of Incorporation

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Heavy taxation.Heavy taxation.

Greater regulation.Greater regulation.

Cost of formation.Cost of formation.

Separation of ownership and management.

Separation of ownership and management.

Disadvantages of IncorporationDisadvantages of Incorporation

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Publicly Owned Corporations Face Different Rules

Publicly Owned Corporations Face Different Rules

By LAW, publicly owned corporations must:

Prepare financial statements in accordance with GAAP.

Have their financial statement audited by an independent CPA.

Comply with federal securities laws.

Submit financial information for SEC review.

By LAW, publicly owned corporations must:

Prepare financial statements in accordance with GAAP.

Have their financial statement audited by an independent CPA.

Comply with federal securities laws.

Submit financial information for SEC review.

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The costs associated with incorporation are usually

expensed immediately, but amortized over 5 years for

tax purposes.

The costs associated with incorporation are usually

expensed immediately, but amortized over 5 years for

tax purposes.

Formation of a CorporationFormation of a Corporation

Each corporation is formed according to the laws of the state where it is located.

The application for corporate status is called the Articles of Incorporation.

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Stockholders

Rights

Voting (in person or by proxy).

Proportionate distribution of

dividends.

Proportionate distribution of

assets in a liquidation.

Rights of StockholdersRights of Stockholders

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C orpora te O rgan iza tion C hart

Secreta ry T rea surer C ontro ller O ther V icePresidents

President

B oa rd of D irectors

StockholdersUltimate control

Ultimate control

Stockholders usually meet once a year.

Stockholders usually meet once a year.

Stockholder ledgers are often maintained by a stock transfer agent or stock

registrar.

Stockholder ledgers are often maintained by a stock transfer agent or stock

registrar.

Rights of StockholdersRights of Stockholders

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Each unit of ownership is

called a share of stock.

A stock certificate serves

as proof that a stockholder has

purchased shares.

Rights of StockholdersRights of Stockholders

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When the stock is sold, the stockholder

signs a transfer endorsement on the back of the

stock certificate.

Rights of StockholdersRights of Stockholders

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C orpora te O rgan iza tion C hart

Secreta ry T rea surer C ontro ller O ther V icePresidents

President

B oa rd of D irectors

StockholdersOverall

responsibility for managing the company.

Overall responsibility for managing the company.

Selected by a vote of the

stockholders

Selected by a vote of the

stockholders

Functions of the Board of DirectorsFunctions of the Board of Directors

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C orpora te O rgan iza tion C hart

Secreta ry T rea surer C ontro ller O ther V icePresidents

President

B oa rd of D irectors

Stockholders

Chief Accountant

Chief Accountant

Contractual and legal representation

Contractual and legal representation

Custodian of funds

Custodian of funds

Functions of the Corporate OfficersFunctions of the Corporate Officers

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Paid-in Capita l

Contributions byinvestors in exchange

for capital stock.

Retained Earnings

Retention of profitsearned by thecorporation.

Stockholders' equity isincreased in tw o w ays.

Paid-In Capital of a CorporationPaid-In Capital of a Corporation

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The maximum number of

shares of capital stock that can be

sold to the public.

AuthorizedShares

AuthorizedShares

Authorization and Issuance of Capital Stock

Authorization and Issuance of Capital Stock

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Issued shares are authorized shares of stock that have been

sold.

Unissued shares are authorized shares of stock that

never have been sold.

Usually shares are

sold through an underwriter.

Usually shares are

sold through an underwriter.

AuthorizedShares

AuthorizedShares

Authorization and Issuance of Capital Stock

Authorization and Issuance of Capital Stock

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UnissuedShares

TreasuryShares

OutstandingShares

Treasury shares are issued shares that

have been reacquired by the corporation.

IssuedShares

IssuedShares

Outstanding shares are issued shares that are

owned by stockholders.

AuthorizedShares

AuthorizedShares

Authorization and Issuance of Capital Stock

Authorization and Issuance of Capital Stock

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Par value is an arbitrary amount

assigned to each share of

stock when it is authorized.

Market price is the amount that each share of stock will sell

for in the market.

Market price is the amount that each share of stock will sell

for in the market.

Stockholders’ EquityStockholders’ Equity

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Common stock can be issued in three forms:Common stock can be issued in three forms:

No-Par Common

Stock

No-Par Common

Stock

Par Value Common

Stock

Par Value Common

Stock

Stated Value Common

Stock

Stated Value Common

Stock

Let’s examine this form of

stock.

Let’s examine this form of

stock.

All proceeds credited to

Common Stock

All proceeds credited to

Common Stock

Treated like par value common

stock

Treated like par value common

stock

Stockholders’ EquityStockholders’ Equity

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Prepare the journal entry to record an issuance of 10,000 shares of $2 par value stock for $25

per share which occurred on September 1, 2003.

Prepare the journal entry to record an issuance of 10,000 shares of $2 par value stock for $25

per share which occurred on September 1, 2003.

Record:

The cash received.

The number of shares issued × the par value per share in the Common Stock account.

The remainder is assigned to Contributed Capital in Excess of Par.

Record:

The cash received.

The number of shares issued × the par value per share in the Common Stock account.

The remainder is assigned to Contributed Capital in Excess of Par.

Issuance of Par Value StockIssuance of Par Value Stock

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The journal entry to record an issuance of 10,000 shares of $2 par value stock for $25 per share on

September 1, 2003, should include a credit to common stock for the par value of the shares

issued.

The journal entry to record an issuance of 10,000 shares of $2 par value stock for $25 per share on

September 1, 2003, should include a credit to common stock for the par value of the shares

issued.

Date Description Debit Credit

1-Sep Cash 250,000 Common Stock 20,000 Contributed Capital in Excess of Par 230,000

Issuance of Par Value StockIssuance of Par Value Stock

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Stockholders' Equity with Common StockStockholders' Equity Contributed capital: Common Stock - $2 par value; 50,000 shares authorized; 10,000 shares issued and outstanding 20,000$ Contributed Capital in Excess of Par 230,000 Retained earnings 65,000 Total stockholders' equity 315,000$

Issuance of Par Value StockIssuance of Par Value Stock

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A separate class of stock, typically having priority over common shares in . . .

Dividend distributions (rate is usually stated). Distribution of assets in case of liquidation.

A separate class of stock, typically having priority over common shares in . . .

Dividend distributions (rate is usually stated). Distribution of assets in case of liquidation.

Cumulative dividend rights.

Cumulative dividend rights.

Normally has no voting

rights.

Normally has no voting

rights.

Usually callable by

the company.

Usually callable by

the company.

Other Features Include:

Preferred StockPreferred Stock

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Vs. NoncumulativeCumulative

Dividends in arrears must be

paid before dividends may be paid on common

stock.

Dividends in arrears must be

paid before dividends may be paid on common

stock.

Undeclared dividends from

current and prior years do not have to be paid in future

years.

Undeclared dividends from

current and prior years do not have to be paid in future

years.

Cumulative Preferred StockCumulative Preferred Stock

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Common stock, $50 par value; 4,000 shares authorized, issued and outstanding 200,000$ Preferred stock, 9%, $100 par value; 1,000 shares authorized, issued and outstanding 100,000 Total contributed capital 300,000$

Example: Consider the following partial Statement of Stockholders’ Equity.

During 2002, the directors declare cash dividends of $5,000. In year 2003, the directors declare cash

dividends of $42,000.

Stock Preferred as to DividendsStock Preferred as to Dividends

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Common stock, $50 par value; 4,000 shares authorized, issued and outstanding 200,000$ Preferred stock, 9%, $100 par value; 1,000 shares authorized, issued and outstanding 100,000 Total contributed capital 300,000$

Example: Consider the following partial Statement of Stockholders’ Equity.

During 2000, the directors declare cash dividends of $5,000. In year 2001, the directors declare cash

dividends of $42,000.

Stock Preferred as to DividendsStock Preferred as to DividendsPreferred Common

If Preferred Stock is Noncumulative:Year 2002 $5,000 dividends declared 5,000$ -$

Year 2003 Step 1: Current preferred dividend 9,000$

Step 2: Remainder to common shareholders 33,000$

If Preferred Stock is Cumulative:Year 2002 $5,000 dividends declared 5,000$ -$

Year 2003 Step 1: Dividends in arrears 4,000$ Step 2: Current preferred dividend 9,000 Step 3: Remainder to common shareholders 29,000$

Totals 13,000$ 29,000$

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I just converted 100 shares of preferred stock into

1,000 shares of common stock and ended up with a

higher dividend yield!

I just converted 100 shares of preferred stock into

1,000 shares of common stock and ended up with a

higher dividend yield!

Gee, I can’t do that with MY preferred

stock!

Gee, I can’t do that with MY preferred

stock!

Some preferred stock is convertible

into shares of common stock.

Convertible Preferred StockConvertible Preferred Stock

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Preferred StockPreferred Stock

Stockholders' Equity with Common and Preferred StockStockholders' Equity Contributed capital: Preferred Stock - $100 par value; 1,000 shares authorized; 50 shares issued and outstanding 5,000$ Common Stock - $10 par value; 50,000 shares authorized; 30,000 shares issued and outstanding 300,000 Contributed Capital in Excess of Par 1,000 Retained earnings 65,000 Total stockholders' equity 371,000$

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Companies sometimes issue stock in exchange for non-

cash assets.

Companies sometimes issue stock in exchange for non-

cash assets.

Since no cash is received, record the transaction at the market value of the goods or

services received.

Since no cash is received, record the transaction at the market value of the goods or

services received.

Stock Issued for Assets Other Than Cash

Stock Issued for Assets Other Than Cash

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I love this stuff!

Can we do some more?

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Accounting by the issuer.

Accounting by the issuer.

Accounting by the investor.

Accounting by the investor.

Common stock is carried at original issue

price.

Common stock is carried at original issue

price.

Investments in marketable securities are carried at market

value.

Investments in marketable securities are carried at market

value.

Market ValueMarket Value

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Factors affecting market price of preferred stock:

Dividend rate Risk Level of interest rates

Factors affecting market price of preferred stock:

Dividend rate Risk Level of interest rates

The return based on the market value is called the “dividend

yield.”

The return based on the market value is called the “dividend

yield.”

Market Price of Preferred StockMarket Price of Preferred Stock

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Factors affecting market price of common stock:

Investors’ expectations of future profitability.

Risk that this level of profitability will not be achieved.

Factors affecting market price of common stock:

Investors’ expectations of future profitability.

Risk that this level of profitability will not be achieved.

Changes in market value have no impact on the

books of the issuer.

Changes in market value have no impact on the

books of the issuer.

Market Price of Common StockMarket Price of Common Stock

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Ice Cream Parlor

Banana Splits On Sale Now

Stock SplitsStock Splits

Companies use stock splits to reduce market price.

Outstanding shares increase, but par value is decreased proportionately.

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Before Split

After Split

Common Stock Shares 5,000

Par Value per Share 1.00$

Total Par Value 5,000$

Before Split

After Split

Common Stock Shares 5,000 10,000

Par Value per Share 1.00$ 0.50$

Total Par Value 5,000$ 5,000$

Assume that a corporation had 5,000 shares of $1 par value common stock outstanding

before a 2–for–1 stock split.

Increase

Decrease

No Change

Stock Splits - ExampleStock Splits - Example

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No voting or

dividend rights

Contra equity

account

When stock is reacquired, the corporation records the treasury stock at cost.

When stock is reacquired, the corporation records the treasury stock at cost.

Treasury shares are

issued shares that have been reacquired

by the corporation.

Treasury shares are

issued shares that have been reacquired

by the corporation.

Treasury StockTreasury Stock

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Date Description Debit CreditDate Description Debit Credit

1-May Treasury Stock 165,000 Cash 165,000 3000 shares × $55 = $165,000

On May 1, 2003, East Corp. reacquired 3,000 shares of its common stock at $55 per share.

Prepare the journal entry for May 1.

Treasury Stock - ExampleTreasury Stock - Example

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Date Description Debit CreditDate Description Debit Credit

3-Dec Cash 75,000 Treasury Stock 55,000 Contributed Capital in Excess of Par 20,000

On December 3, 2003, East Corp. reissued 1,000 shares of the stock at $75 per share.

Prepare the journal entry for December 3.

1,000 shares × $75 = $75,0001,000 shares × $75 = $75,000

1,000 shares × $55 cost = $55,0001,000 shares × $55 cost = $55,000

Treasury Stock - ExampleTreasury Stock - Example

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Stockholders' Equity Contributed capital: Preferred Stock - $100 par value; 1,000 shares authorized; 50 shares issued & outstanding 5,000$ Common Stock - $10 par value; 50,000 shares authorized; 30,000 shares issued and outstanding 300,000 Contributed Capital in Excess of Par 21,000 Retained earnings 65,000 Subtotal 391,000$ Less: Treasury stock 110,000 Total Stockholders' equity 281,000$

Stockholders’ Equity - PresentationStockholders’ Equity - Presentation

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This isn’t what I meant when I asked

for stock for my birthday!

End of Chapter 11End of Chapter 11