1 STOCKHOLDERS’ EQUITY: Chapter 11

2 Existence is separate from owners. An entity created by law. Has rights and privileges. Privately, or Closely, Held Publicly Held Ownership can be Corporations

3 Limited personal liability for stockholders. Transferability of ownership. Professional management. Continuity of existence. Advantages of Incorporation

4 Heavy taxation. Greater regulation. Cost of formation. Separation of ownership and management. Disadvantages of Incorporation

5 Stockholders Rights ¶ Voting (in person or by proxy). · Proportionate distribution of dividends. ¸ Proportionate distribution of assets in a liquidation. Rights of Stockholders

6 Ultimate control Stockholders usually meet once a year. Stockholder ledgers are often maintained by a stock transfer agent or stock registrar. Rights of Stockholders

7 Each unit of ownership is called a share of stock. A stock certificate serves as proof that a stockholder has purchased shares. Rights of Stockholders

8 When the stock is sold, the stockholder signs a transfer endorsement on the back of the stock certificate. Rights of Stockholders

9 Overall responsibility for managing the company. Selected by a vote of the stockholders Functions of the Board of Directors

10 Chief Accountant Contractual and legal representation Custodian of funds Functions of the Corporate Officers

11 Paid-In Capital of a Corporation

12 The maximum number of shares of capital stock that can be sold to the public. Authorized Shares Authorized Shares Authorization and Issuance of Capital Stock

13 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. Authorized Shares Authorized Shares Authorization and Issuance of Capital Stock

14 Unissued Shares Treasury Shares Outstanding Shares Treasury shares are issued shares that have been reacquired by the corporation. Issued Shares Issued Shares Outstanding shares are issued shares that are owned by stockholders. Authorized Shares Authorized Shares Authorization and Issuance of Capital Stock

15 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. Stockholders’ Equity

16 Common stock can be issued in two forms: No-Par Common Stock Par Value Common Stock Let’s examine this form of stock. All proceeds credited to Common Stock Stockholders’ Equity Existing Company’s Act New Company’s Act

17 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, 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/Share Premium 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/Share Premium Issuance of Par Value Stock

18 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. Issuance of Par Value Stock

19 Issuance of Par Value Stock

20 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. Normally has no voting rights. Usually callable by the company. Other Features Include: Preferred Stock

21 Vs.NoncumulativeCumulative 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. Cumulative Preferred Stock

22 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 Dividends

23 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 Dividends

24 I just converted 100 shares of preferred stock into 1,000 shares of common stock and ended up with a higher dividend yield! MY Gee, I can’t do that with MY preferred stock! Some preferred stock is convertible into shares of common stock. Convertible Preferred Stock

25 Preferred Stock

26 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. Stock Issued for Assets Other Than Cash

27 I love this stuff! Can we do some more?

28 Accounting by the issuer. Accounting by the investor. Common stock is carried at original issue price. Investments in marketable securities are carried at market value. Market Value

29 Factors affecting market price of preferred stock: l Dividend rate l Risk l Level of interest rates Factors affecting market price of preferred stock: l Dividend rate l Risk l Level of interest rates The return based on the market value is called the “dividend yield.” Market Price of Preferred Stock

30 Factors affecting market price of common stock: l Investors’ expectations of future profitability. l Risk that this level of profitability will not be achieved. Factors affecting market price of common stock: l Investors’ expectations of future profitability. l Risk that this level of profitability will not be achieved. Changes in market value have no impact on the books of the issuer. Market Price of Common Stock

31 Ice Cream Parlor Banana Splits On Sale Now Stock Splits Companies use stock splits to reduce market price. Outstanding shares increase, but par value is decreased proportionately.

32 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 - Example

33 Stock Dividends A company may be short of cash and be unable to pay a cash dividend. A stock dividend is a distribution by a corporation of its own stock to its shareholders. Stock dividends Affect only stockholders equity accounts i.e. RE & Common Stock Have no effect on total stockholders equity. Stock dividends to be distributed to stockholders are proportionate to the number of shares they already own. Example. Suppose you own 300 shares of common stock. The company distributes a 10% stock dividend. You would now receive 30 additional shares and would now have 330 shares but you would be in the same position as before in terms of percentage ownership.

34 Recording Stock Dividends Stock dividends are issued - To continue dividends but conserve on cash for investment purposes - To reduce the market price of its stock so as to make it more attractive to investors. Dr Retained Earnings (MV of shares) Cr Common Stock (Par value) Cr Paid-in Capital in Excess of Par Note that a stock dividend merely rearranges the Stockholders equity section of the BS.

35 No voting or dividend rights Contra equity account 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 Stock

36 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 - Example

37 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 = $75,000 1,000 shares × $55 cost = $55,000 Treasury Stock - Example

38 Stockholders’ Equity - Presentation

39 Statement of Changes in Equity – Presentation as per IAS1 Assume that the Stockholder’s Equity information on slide 38 was as at December and that for 2004 the following occurred: Net income after tax was $30,000 Issued 10,000 shares of common stock with a par value of $10 for $15 Paid cash dividends of $5,000 for preference stock and $2000 for common stock. Issued stock dividend of 1,000 shares of common stock with a par value of $10. The FMV was also $10 Required: Prepare a statement of changes in equity for the year ended December 31, 2004 (Solution presented in class)

40 This isn’t what I meant when I asked for stock for my birthday! End of Chapter 11