Hermes - The Immortal Guide (History & Mythology Documentary)

Accounting: The Language of Business (Part 79)

The great problem with corporate capitalism is that publicly owned companies have short time horizons. Unlike a privately owned business, the top executives of a publicly owned corporation generally come to their positions late in life. Consequently, they have a few years in which to make their fortune.

Paul Craig Roberts

Corporations: Organization, Capital Stock Transactions, and Dividends (Part G)

by

Charles Lamson 

Reporting Stockholders' Equity

As with other sections of the balance sheet, alternative terms and formats may be used in reporting stockholders' equity. In addition, the significant changes in the sources of stockholders' equity---paid-in capital and retained earnings---may be reported in separate statements or notes that support the balance sheet presentation.

Stockholders Equity and the Balance Sheet

Two alternatives for reporting stockholders' equity in the balance sheet are shown in Exhibit 5. In the first example, each class of stock is listed first, followed by related paid-in capital accounts. In the second example, the stock accounts are listed first. The other paid-in capital accounts are listed as a single item described as Additional paid-in capital. These combined accounts could also be described as Capital in excess of par for stated value of shares or a similar title. 

EXHIBIT 5 Stockholders' Equity Section of a Balance Sheet

Significant changes in stockholders' equity during a period may be presented either in a statement of stockholders' equity or in notes to the financial statements. In addition, relevant rights and privileges of the various classes of stock outstanding must be disclosed. Examples of types of information that must be disclosed include dividend and liquidation preferences, rights to participate in earnings, conversion rates, and redemption rights. Such information may be disclosed on the face of the balance sheet or in the accompanying notes.

Reporting Retained Earnings

A corporation may report changes in retained earnings by preparing a separate retained earnings statement, a combined income and retained earnings statement, or a statement of stockholders equity.

When a separate retained earnings statement is prepared, the beginning balance of retained earnings is reported. The net income is then added (or net loss is subtracted) and any dividends are subtracted to arrive at the ending retained earnings for the period. An example of such a statement for Adang Corporation is shown in Exhibit 6.

EXHIBIT 6 Retained Earnings Statement

An alternative format for presenting the retained earnings statement is to combine it with the income statement. An advantage of the combined format is that it emphasizes net income as the connecting link between the income statement and the retained earnings portion of stockholders' equity. Since the combined form is not often used, it is not illustrated.

Restrictions

The retained earnings available for use as dividends may be limited by action of a corporation's board of directors. These amounts, called restrictions or appropriations, remain part of the retained earnings. However, they must be disclosed, usually in the notes to the financial statements.

Restrictions may be classified as either legal, contractual, or discretionary. The board of directors may be legally required to restrict retained earnings because of state laws. For example, some state laws require that retained earnings be restricted by the amount of treasury stock purchased, so that legal capital will not be used for dividends. The board may also be required to restrict retained earnings because of contractual requirements. For example, the terms of a bank loan may require restrictions, so that money for preparing the loan will not be used for dividends. Finally, the board may restrict retained earnings voluntarily. For example, the board may limit dividend distributions so that more money is available for expanding the business.

Prior Period Adjustments

Material errors in a prior period's net income may arise from mathematical mistakes and from mistakes in applying accounting principles. The effect of material material errors that are not discovered within the same fiscal period in which they occurred should not be included in determining net income for the current period. Instead, corrections of such errors, called prior period adjustments, are reported in the retained earnings statement. These adjustments are reported as an adjustment to the retained earnings balance at the beginning of the period in which the error is discovered and corrected.

*WARREN, REEVE, & FESS, 2005, ACCOUNTING, 21ST ED., PP. 495-498*

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The Druids - History, Philosophy, Religion (Full Documentary)

Accounting: The Language of Business (Part 78)

The future of any corporation is as good as the value system of the leaders and followers in the organization.

N. R. Narayana Murthy

Corporations: Organization, Capital Stock Transactions, and Dividends (Part F)

by

Charles Lamson

Accounting for Dividends

When a board of directors declares a cash dividend, it authorizes the distribution of a portion of the corporation's cash to stockholders. When a board of directors declares a stock dividend, it authorizes the distribution of a portion of its stock. In both cases, the declaration of a dividend reduces the retained earnings of the corporation.

Cash Dividends

A cash distribution of earnings by a corporation to shareholders is called a cash dividend. Although dividends may be paid in the form of other assets, cash dividends are the most common form.

There are usually three conditions that a corporation must meet to pay a cash dividend:

1. Sufficient Retained Earnings

2. Sufficient Cash

3. Formal action by the board of directors

A large amount of retained earnings does not always mean that a corporation is able to pay dividends. The balances of the cash and retained earnings accounts are often unrelated. Thus, a large retained earnings account does not mean that there is cash available to pay dividends.

A corporation's board of directors is not required by law to declare dividends. This is true even if both retained earnings and cash are large enough to justify a dividend. However, many corporations try to maintain a stable dividend record in order to make their stock attractive to investors. Although dividends may be paid once a year or semi-annually, most corporations pay dividends quarterly. In years of high profits, a corporation may declare a special or extra dividend.

You may have seen announcements of dividend declarations in financial newspapers or investor services. An example of such an announcement is shown below.

On June 26, the board of directors of Campbell Soup Co. declared a quarterly cash dividend of $0.225 per common share to stockholders of record as of the close of business on July 8, payable on July 31.

This announcement includes three important dates: the date of declaration; (June 26), the date of record (July 8), and the date of payment (July 31). During the period of time between the record date and the payment date, the stock price is usually quoted as selling ex-dividends. This means that since the date of record has passed, a new investor will not receive the dividend.

To illustrate, assume that on December 1 the board of directors of Hiber Corporation declares the following quarterly cash dividends. The date of record is December 10, and the date of payment is January 2.

Hiber Corporation records the $42,500 liability for the dividends on December 1, the declaration date, as follows:

No entry is required on the date of record, December 10, since this date merely determines which stockholders will receive the dividend. On the date of payment, January 2, the corporation records the $42,500 payment of the dividends as follows:

If Hiber Corporation's fiscal year ends December 31, the balance in Cash Dividends will be transferred to Retained Earnings as a part of the closing process by debiting Retained Earnings and crediting Cash Dividends. Cash Dividends Payable will be listed on the December 31 balance sheet as a current liability.

If a corporation that holds treasury stock declares a cash dividend, the dividends are not paid on the treasury shares. To do so would place the corporation in the position of earning income through dealing with itself. For example, if Hiber Corporation in the preceding illustration had held 5,000 shares of its own common stock, the cash dividends on the common stock would have been $28,500 [(100,000 - 5000) * $0.30] instead of $30,000.

Stock Dividends

The distribution of shares of stock to stockholders is called a stock dividend. Usually, such distributions are in common stock and are issued to holders of common stock. Stock dividends are different from cash dividends in that there is no distribution of cash or other assets to stockholders.

The effect of a stock dividend on the stockholders' equity of the issuing corporation is to transfer retained earnings to paid-in capital. For public corporations, the amount transferred from retained earnings to paid-in capital is normally the fair value (market price) of the shares issued in the stock dividend. To illustrate, assume that the stockholders' equity accounts of Hendrix Corporation as of December 15 are as follows:

On December 15, the board of directors declares a stock dividend of 5% or 100,000 shares (2 million shares * 5 %) to be issued on January 10 to stockholders of record on December 31. The market price of the stock on the declaration date is $31 a share. The entry to record the declaration is as follows:

The $3,100,000 balance in Stock Dividends is closed to Retained Earnings on December 31. The stock dividends distributable account is listed in the Paid-in Capital section of the balance sheet. Thus, the effect of the stock dividend is to transfer $3,100,000 of retained earnings to paid-in capital.

On January 10, the number of shares outstanding is increased by 100,000 by the following entry to record the issue of the stock:

A stock dividend does not change the assets, liabilities, or stockholders equity of the corporation. Likewise, it does not change a stockholder's proportionate interest (equity) in the corporation. For example, if a stockholder owned 1,000 of a corporation's 10,000 shares outstanding, the stockholder owns 10% (1,000 / 10,000) of the corporation. After declaring a 6% stock dividend, the corporation will issue 600 additional shares (10,000 shares x 6%), and the total shares outstanding will be 10,600. The stockholder of 1,000 shares will receive 60 additional shares and will now own 1,060 shares, which is still a 10% equity interest. 

*WARREN, REEVE, & FESS, 2005, ACCOUNTING, 21ST ED., PP. 493-495*

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The Secrets of Tibet: Ancient Land, Modern World - Full Documentary

Accounting: The Language of Business (Part 77)

Innovation is critical to the heartbeat of any successful corporation in the industrialized world.

Dinesh Paliwal

Corporations: Organization, Capital Stock Transactions, and Dividends (Part E)

by 

Charles Lamson

Treasury Stock Transactions

A corporation may buy its own stock to provide shares for resale to employees, for reissuing as a bonus to employees, or for supporting the market price of the stock. For example, General Motors bought back its common stock and stated that two primary uses of this stock would be for incentive compensation plans and employee savings plans. Such stock that a corporation has once issued and then reacquires is called treasury stock.

A commonly used method of accounting for the purchase and resale of treasury stock is the cost method. When the stock is purchased by the corporation, paid-in capital (the full amount of cash or other assets that shareholders have given a company in exchange for stock, par value plus any amount paid in excess) is reduced by debiting Treasury Stock for its cost (the price paid for it). The par value [Par value is the value of a single common share as set by a corporation's charter. It is not typically related to the actual value of the shares. In fact it is often lower. Any stock certificate issued for shares purchased shows the par value. When authorizing shares, a company can choose to assign a par value or not. (bdc.ca)] and the price at which the stock was originally issued are ignored. When the stock is resold, Treasury Stock is credited for its cost, and any difference between the cost and the selling price is normally debited or credited to Paid-in Capital from Sale of Treasury Stock.

To illustrate assume that the paid in capital of a corporation is as follows:

The purchase and sale of the treasury stock are recorded as follows:

As shown in the journal entry above, a sale of treasury stock may result in a decrease in paid-in capital. To the extent that Paid-in Capital from Sale of Treasury Stock has a credit balance, it should be debited for any decrease. Any remaining decrease should then be debited to the retained earnings account. 

Stock Splits

Corporations sometimes reduce the par or stated value of their common stock and issue a proportionate number of additional shares. When this is done, a corporation is said to have split its stock, and the process is called a stock split.

When stock is split, the reduction in par or stated value applies to all shares, including the unissued, issued, and treasury shares. A major objective of a stock split is to reduce the market price per share of the stock. This, in turn, should attract more investors to enter the market for the stock and broaden the types and numbers of stockholders.

To illustrate a stock split, assume that Rojek Corporation has 10,000 shares of $100 par common stock outstanding with a current market price of $150 per share. The board of directors declares a 5-for-1 stock split, reduces the par to $20, and increases the number of shares to 50,000. The amount of common stock outstanding is $1,000,000 both before and after the stock split. Only the number of shares and the par per share are changed. Each Rojek Corporation shareholder owns the same total amount of stock before and after the stock split. For example, a stockholder who owned 4 shares of $100 par stock before the split (total par of $400) would own 20 shares of $20 par stock after the split (total par of $400).

Since there are more shares outstanding after the stock split, we would expect that the market price of the stock would fall. For example in the preceding example, there would be five times as many shares outstanding after the split. Plus, we would expect the market price of the stock to fall from $150 to approximately $30 ($150 / 5).

Since a stock split changes only the par or stated value and the number of shares outstanding, it is not recorded by a journal entry. Although the accounts are not affected, the details of stock splits are normally disclosed in the notes to the financial statements. 

*WARREN, REEVE & FESS, 2005, ACCOUNTING, 21ST ED., PP. 491-492*

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Accounting: The Language of Business (Part 76)

A healthy corporation acts on the interests of its stakeholders and customers.

Ari Melber

Corporations: Organization, Capital Stock Transactions, and Dividends (Part D) 

by

Charles Lamson

Issuing Stock

Recall from (part 75) that when only one class of stock is issued, it is called common stock. In this case, each share of common stock has equal rights. To appeal to a broader investment market, a corporation may issue one or more classes of stock with various preference rights. A common example of such a right is the preference to dividends. Such a stock is generally called a preferred stock. 

Bearing that in mind, a separate account is used for recording the amount of each class of stock issued to investors in a corporation. For example, assume that a corporation is authorized to issue 10,000 shares of preferred stock, $100 par (Shares of stock are often assigned a monetary amount, called par.), and 100,000 shares of common stock, $20 par. One half of each class of authorized shares is issued at par for cash. The corporation's journal entry (see part 10) to record the stock issued is as follows:

Stock is often issued by a corporation at a price other than its par. This is because the par value of a stock is simply its legal capital. The price at which stock can be sold by a corporation depends on a variety of factors, such as:

1. The financial condition, earnings record, and dividend record of the corporation.

2. Investor expectations of the corporation's potential earning power.

3. General business and economic conditions and prospects.

When stock is issued for a price that is more than its par, the stock is sold at a premium. When stock is issued for a price that is less than its par, the stock is sold at a discount. Thus, if stock with a par of $50 is issued for a price of $60 the stock has sold at a premium of $10. If the same stock is issued at a price of $45, the stocki has sold at a discount of $5. Many states do not permit stock to be issued at a discount. In others, it may be done only under unusual conditions. Since issuing stock at a discount is rare, it is not illustrated.

A corporation issuing stock must maintain records of the stockholders in order to issue dividend checks and distribute the financial statements in other reports. Large public corporations normally use a financial institution, such as a bank, for this purpose. In such cases, the financial institution is referred to as a transfer agent or registrar. For example, the transfer agent and registrar for Coca-Cola Enterprises is First Chicago Trust Company of New York.

Premium on Stock

When stock is issued at a premium, cash or other asset accounts are debited for the amount received. Common stock or preferred stock is then credited for the par amount. The excess of the amount paid over par is a part of the total investment of the stockholders in the corporation. Therefore, such an amount in excess of par should be classified as a part of the paid-in capital. An account entitled Paid-in Capital in Excess of Par is usually credited for this amount.

To illustrate, assume that Caldwell Company issues 2,000 shares of $50 par preferred stock for cash at $55. The entry to record this transaction is as follows:

When a stock is issued in exchange for assets other than cash, such as land, buildings, and equipment, the assets acquired should be recorded at their fair market value. If this value cannot be objectiviely determined, the fair market price of the stock issued may be used.

To illustrate, assume that a corporation acquired land for which the fair market value cannot be determined. In exchange the corporation issued 10,000 shares of its $10 par common. Assuming that the stock has a current market price of $12 per share, this transaction is recorded as follows:

No-Par Stock

In most states, both preferred and common stock may be issued without a par value. When no-par stock is issued, the entire proceeds are credited to the stock account. This is true even though the issue price varies from time to time. For example, assume that a corporation issues $10,000 of no-par common stock at $40 a share and at a later date issues 1,000 additional shares at $36. The entries to record the no par-stock are as follows:

Some states require that the entire proceeds from the issue of no-par stock be recorded as legal capital. In this case, the preceding entries would be proper. In other states, no par-stock may be assigned a stated value per share. The stated value is recorded like a par value, and the excess of the proceeds over the stated value is recorded as follows: 

^WAAREN, REEVE, & FESS, 2005, ACCOUNTING, 21ST ED., PP. 488-491*

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