Stockholders’ Equity Chapter 13 ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-1

Learning Objective 1 Identify the characteristics of a corporation ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-2

Advantages and Disadvantages of Corporations ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-3

Basic Stock Certificate ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-4

Categories of Stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-5

Stockholder Rights common stockInvestors receive an ownership interest in the form of shares of common stock. All common stockholders have certain rights associated with ownership. 1.Vote (1 share = 1 vote) 2.Dividends (entitled to a proportionate share of dividends) 3.Liquidation (entitled to share in proceeds from a liquidation) 4.Preemptive Ownership Rights (entitled to maintain % ownership) ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-6

Preferred Stock A separate class of stock, typically having priority over common shares in... –Dividend distributions. –Distribution of assets in case of liquidation. Usually callable by the company. Usually states the dividend rate as a percent of par value. Normally no voting rights. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-7

Stockholders’ Equity Basics Paid-in capital (Contributed capital) Amounts received from stockholders Common stock is main source Externally generated Resulting from transactions with outsiders Retained earnings Earned by profitable operations Internally generated Results from internal corporate decisions to retain net income for use in the company 8

Par, Stated and No-par Par value Arbitrary amount assigned to a share of stock Set when the corporate charter is filed Usually set low as to avoid legal difficulties No-par No arbitrary amount assigned Could have a stated value Stated value treated as par 9

Learning Objective 2 issuance of stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-10

Issuing Common Stock 1.debit Cash received 2.credit Common Stock for the number of shares issued x par value 3.credit Paid-In Capital in Excess of Par for the excess of issue price over par value ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-11

Issuing Common Stock at Par Smart Touch Learning sells 1,000,000 shares of stock on January 1 for $1 per share. The par value of the shares is $1 per share

Issuing Common Stock at a Premium Smart Touch Learning sells 1,000,000 shares of stock on January 2 for $20 per share. The par value of the shares is $1 per share

Reporting Common Stock 13-14

Accounting for Stock Issuances Stated value stock –Similar to accounting for par value stock –Amount above stated value is credited to Paid-in capital in excess of stated value 15 Stated value

Reporting Common Stock 13-16

Accounting for Stock Issuances No-par stock –No Paid-in capital in excess of par account needed –Full amount received is credited to Common stock –Balance sheet shows only the Common stock account 17

Issuing Preferred Stock Smart Touch Learning issues 1,000 shares of its $50 par, 6% preferred stock on January 3 at $55 per share

Reporting Preferred Stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-19

Account for cash dividends, stock dividends, and stock splits ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-20

Dividend Accounting Time Line 1.Declaration date –Board of directors declares the dividend and it becomes a liability. 2.Record Date –Stockholders holding shares on this date will receive the dividend. 3.Payment Date –Record the payment of the dividend to stockholders. Not legally required. Requires sufficient Cash and Retained Earnings. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-21

Dividend Accounting Time Line 1.Declaration date ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-22

Dividend Accounting Time Line 1.Declaration date 2.Record Date ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-23

Dividend Accounting Time Line 1.Declaration date 2.Record Date 3.Payment Date ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-24

Recording Dividends On May 1, Smart Touch Learning’s Board of Directors declares a $0.25 per share cash dividend on 2,000,000 outstanding shares of common stock. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-25

Recording Dividends On May 30, Smart Touch Learning pays the dividend to its shareholders. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-26

Preferred Dividends Preferred dividends are determined by contract and get paid before dividends on common stock. vsNoncumulativeCumulative Dividends in arrears must be paid before dividends may be paid on common stock. Dividends in arrears do not have to be paid in future years. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-27

Declaring and Paying Dividends Preferred dividends expressed as either: –A percent of par value –Or a flat dollar amount per share Common dividends are expressed as a dollar amount per share 28 2,000 shares of $100 par 8% preferred = $16,000 dividend 2,000 shares of no-par $3 preferred = $6,000 dividend

Preferred Dividends Fast forward to Smart Touch Learning’s preferred stock is cumulative. They did not declare any dividends in In 2016, the Board of Directors declares a $50,000 dividend. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-29

Preferred Dividends ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-30

Accounting for Stock Dividends No change in total stockholders’ equity All stockholders retain same percentage ownership No change in par values Distribution of additional shares of stock to stockholders ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-31

Accounting for Stock Dividends A distribution of a corporation’s own stock –Affects only stockholders’ equity accounts No effect on total stockholders’ equity No effect on assets or liabilities Stockholders receive proportionate shares –Example–10% stock dividend; every stockholder receives 10% of shares distributed Total number of shares issued and outstanding increases Ownership percentages remain the same 32

The Difference Between Small and Large Stock Dividends Small Stock Dividend Stock dividend < 20% to 25% Debit(reduce) R/E for the market value of stock issued. Credit(increase) Common Stock and Paid-In Capital. Large Stock Dividend Stock dividend > 20% to 25% Debit R/E for the par value of the shares issued. Credit Common Stock. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-33 Same three dates for a stock dividend Declaration date; record date; distribution date

34 Equity after 5% Common Stock Dividend(mkt $50 per share)

Stockholders’ Equity Presentation Equity after 50% Common Stock Dividend 35

Stock Splits Increases both the number of issued shares and outstanding shares. Stock after the split has a proportionately lower par value. Total capital amount of the common stock account does not change Smart Touch Learning has 3,150,000 shares of $1 par value stock outstanding. A 2-for- 1 stock split will result in 6,300,000 shares with a par value of $0.50 per share. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-36

Stock Split Example (2 for 1) Before split 37 After split

Effects of Dividends and Stock Splits Stock dividends and stock splits have similarities and differences 38 Event Common stock Paid-in capital in excess of par Retained earnings Total stockholders ’ equity Cash dividend No effect Decrease Stock dividend IncreaseMay IncreaseDecreaseNo effect Stock splitNo effect

Account for the purchase and sale of treasury stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-39

Treasury Stock Recorded at cost Appears as a contra-equity account(reduces) No voting or dividend rights Companies will sometimes reacquire their own stock from the market. Used to: support the company’s stock price sell to employees at a discount fulfill stock option obligations ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-40

Accounting for Treasury Stock Reported beneath Retained earnings on the balance sheet –Reduction to total stockholders’ equity Decreases outstanding shares –Not eligible for dividends –Not eligible to vote 41 Issued stock – Treasury stock = Outstanding stock

Treasury Stock transactions 42

Treasury Stock Journal Entries 43 On May 31, Smart Touch Learning purchased 1,000 shares of previously issued common stock, paying $5 per share.

Reporting Treasury Stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-44

Treasury Stock Journal Entries Sale of treasury stock at cost 45

Treasury Stock Journal Entries Sale of treasury stock above cost –Difference is credited to Paid-in capital from treasury stock transactions 46

Treasury Stock and Stockholders' Equity Reported beneath Retained earnings as a reduction 47 Authorized shares - 20,000,000 Issued shares - 6,300,000 Outstanding shares - 6,299,700

Eastman Chemical 48 Authorized350, Issued216,899,964 Less Treasury Stock69,137,973 Outstanding147,761,991

how equity is reported for a corporation ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-49

Statement of Retained Earnings Shows how the R/E balance changed during the period. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-50

Prior-Period Adjustments Errors from prior periods that must be corrected to make the R/E balance correct. Adjust beginning R/E. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-51

Statement of Stockholders’ Equity Shows the changes in all equity accounts for the period

Sjostrom, Inc. had beginning retained earnings of $300,000 on January 1, During the year, Sjostrom declared and paid $140,000 of cash dividends and earned $200,000 of net income. Prepare a statement of retained earnings for Sjostrom, Inc. for the year ending December 31, ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-53

©2014 Pearson Education, Inc. Publishing as Prentice Hall13-54

Use earnings per share, rate of return on common stock, and the price/earnings ratio to evaluate business performance ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-55

Earnings Per Share A measure of the net income of the company expressed as an amount per each share of common stock outstanding. Companies report earnings per share only for common stock. EPS is reported on the income statement. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-56

Earnings Per Share Using the numbers below, compute the EPS for Green Mountain Coffee Roasters ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-57

Earnings Per Share ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-58

Price/Earnings Ratio Ratio of market price of a share of common stock to the company’s earnings per share.Ratio of market price of a share of common stock to the company’s earnings per share. A higher PE Ratio signifies a higher return on investment.A higher PE Ratio signifies a higher return on investment. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-59

Price/Earnings Ratio Assuming Green Mountain Coffee Roasters, Inc. has a market price of $17.90 per share of common stock. Their EPS is $1.39 per share. ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-60

Rate of Return on Common Stock Also called Return on EquityAlso called Return on Equity Using the information for Green Mountain Coffee Roasters, compute Return on EquityUsing the information for Green Mountain Coffee Roasters, compute Return on Equity ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-61

Rate of Return on Common Stock ©2014 Pearson Education, Inc. Publishing as Prentice Hall13-62