1. © 2005 by Robert F. Halsey, all rights reserved Stock Transactions Equity Carve Outs Reorganizations Convertibles Employee Stock options

2. © 2005 by Robert F. Halsey, all rights reserved Company Outsiders Cash Sale of subsidiary Sell-off Spin-off CompanyShareholders Dividend of Sub Split-off Company Shares of Sub Shares of company Shareholders

3. © 2005 by Robert F. Halsey, all rights reserved Sell-off Outright sale of the business Cashxxx Investmentxxx Gain on Salexxx Example: Limited sale of Bryline stock

4. © 2005 by Robert F. Halsey, all rights reserved Spin-off Distribution of stock in sub to shareholders as a dividend Retained Earningsxxx Investment in subxxx (no gain or loss) Example: Limited spin-off of Limited Too

5. © 2005 by Robert F. Halsey, all rights reserved Split-off Exchange of shares: shareholders exchange shares they own in parent for parent’s shares in sub  If distribution is pro-rata Treasury stockxxx Investment in subxxx  If distribution is a non-pro-rata tender offer Treasury stock (#shs * MP)xxx Investment in subxxx Gain on disposalxxx Example: Limited split-off of Abercrombie & Fitch

6. © 2005 by Robert F. Halsey, all rights reserved Describe the special non-recurring charges relating to Bath & Body Works. What effect did these charges have on the Limited’s financial statements? What adjustments might you make to the statements related to these charges? Equity Carve-Outs mini-case

7. © 2005 by Robert F. Halsey, all rights reserved Describe the financial statement effect of the nonrecurring item relating to Henri Bendel. What effect did this have on the company’s financial statements? What adjustments might you consider for this item? Equity Carve-Outs mini-case

8. © 2005 by Robert F. Halsey, all rights reserved In 1999, the company recorded the spin-off of Limited Two. Describe this transaction. How was the spin-off accounted for? What effects did the spin-off have on the Limited’s financial statements? Equity Carve-Outs mini-case

9. © 2005 by Robert F. Halsey, all rights reserved In 1998, the company consummated the split- off and spin-off of Abercrombie & Fitch. Describe the accounting for the split-off. What effect did this transaction have on the Limited’s financial statements? Describe the accounting for the spin-off? What effect did this transaction have on the Limited’s financial statements. Equity Carve-Outs mini-case

10. © 2005 by Robert F. Halsey, all rights reserved In 1998, the company sold its shares in Brylane. Describe the accounting for this transaction and the effect it had on the Limited’s financial statements. Equity Carve-Outs mini-case

11. © 2005 by Robert F. Halsey, all rights reserved Corporate Reorganizations Losses can result in a deficit balance in retained earnings. Companies emerging from corporate reorganization in bankruptcy are afforded an opportunity to eliminate the deficit under a quasi-reorganization. Eligibility: Deficit retained earnings Approval of shareholders and creditors Expectation of profitable operations in immediate future Retained earnings must be dated for 10 years and dollar amount of eliminated deficit disclosed for 3 years.

12. © 2005 by Robert F. Halsey, all rights reserved Accounting for Quasi-Reorganization Revalue assets and liabilities, recognizing the resulting loss (no write-up of net assets is permitted). Retained earnings deficit is charged against paid-in capital. PIC must be sufficient to absorb deficit. If not, it must be created by additional investment or reduction of par value.

13. © 2005 by Robert F. Halsey, all rights reserved Nextel mini-case What opinion is Deloitte & Touche rendering on the statements? What qualifications are they making to the opinion? Is fresh start accounting in conformity with GAAP? NII reports a gain relating to reorganization items in the amount of $2.18 billion. What are the components of this gain? How did the parent company’s (Nextel Communications’) ownership in the NII subsidiary decline from 100% to 36%? NII reports a decline in PPE from 2001 to 2002 despite CAPEX of $25,683 (see SCF). What caused this decline? Why is all of NII’s long-term debt reported as a current liability in 2001? Explain the process leading to the reporting of long- term debt in the amount of $432,157 in 2002. Why did paid-in capital decline from $934,948 in 2001 to $49,178 in 2002? Explain the reporting of $42,566 in retained earnings for 2002.

14. © 2005 by Robert F. Halsey, all rights reserved Convertible Securities Debt or Preferred Stock that is convertible into Common Stock When converted, Book Value of Debt or Preferred Stock is removed and Common Stock is issued for that amount

15. © 2005 by Robert F. Halsey, all rights reserved Conversion example Assume conversion of Debt with carrying amount of $1,000,000 into 50,000 shares of $5 Common Stock Debt1,000,000 Common Stock 250,000 APIC750,000 No income statement effect of conversion

16. © 2005 by Robert F. Halsey, all rights reserved EPS Considerations Diluted EPS assumes conversion at beginning of year For debt – elimination of after-tax interest expense in net income and addition of new shares in denominator For Pref. Stock – Elimination of preferred dividends in numerator and addition of new shares in denominator

17. © 2005 by Robert F. Halsey, all rights reserved Employee Stock Options Two allowable methods of accounting Intrinsic value method (APB 25): compensation expense = Mkt value of stock – exercise price. Can avoid I/S impact by setting the two equal at the date of grant Fair value method (SFAS 123): compensation expense = fair value of options as determined by option pricing models. Allocate to I/S over service period during which options are vested. If intrinsic value method is used, firms need to disclose pro-forma impact on net income had the fair value method been utilized

18. © 2005 by Robert F. Halsey, all rights reserved Intel mini-case

19. © 2005 by Robert F. Halsey, all rights reserved FAS123R Public companies must begin to reflect options granted to employees as compensation expense in their income statements. The fair value of the options must be estimated as of the date granted to employees. A company should use either of the following to estimate the value of the options: Observable market-based measurements of similar instruments, if available; OR An option-pricing model which can be either a lattice model or a closed model (such as Black-Scholes) The expense would be recognized over the expected term of the options. Any excess tax benefits enjoyed by a company upon the exercise of stock options would be classified as a financing cash inflow rather than an operating cash flow as currently recorded.