Financial Accounting
Concepts
Fourth Edition
by
Edmonds, McNair, Milam, Olds
PowerPoint® presentation by
J. Lawrence Bergin
11- 2
Chapter 11
Accounting
for
Equity
Transactions
◆ Personal liability
◆ Taxation
◆ Transfer of ownership
◆ Ability to raise capital
◆ Government regulation
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Equity in Proprietorships
◆ Contributed capital and retained
earnings are combined into a
single capital account:
John Doe, Capital $XXXX
Equity in Partnerships
◆ Each partner has her/his own
separate “capital” account, each
containing the partner’s invested
capital and share of retained
earnings.
◆ As with proprietorships, partnerships
use withdrawal accounts for the
distributions made to the owners.
Each partner has his/her own
“withdrawal” (or “Drawing”) account.
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Corporations
◆ A corporation is a popular form of
business because . . .
➊ It is simple for individuals to purchase
small amounts of stock.
➋ It allows for an easy transfer of
ownership through established markets,
like the New York Stock Exchange.
➌ It provides stockholders with limited
liability.
Corporations
◆ Because a corporation is a separate
legal entity, it can . . .
● Own assets.
● Incur liabilities.
● Sue and be sued.
● Enter into contracts independent of the
stockholder owners.
◆ Many Americans own stock through a
mutual fund or pension program.
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Ownership of a Corporation
◆ Owners of common stock generally
receive the following rights:
● Voting (in person or by proxy).
● Distributions of profits (in the form of Dividends).
● Distributions of assets in a liquidation.
● Offers to purchase shares of a new stock
issue (pro rata basis).
Creating a Corporation
◆ State laws govern the creation of
corporations.
◆ An application for a charter (or articles
of incorporation) must include the
corporation’s name and purpose, kinds
and amounts of capital stock
authorized, and other detailed
information.
Creating a Corporation
Once the state
issues a charter,
the stockholders
elect a board of
directors.
Outstanding
Unissued
Issued Shares
Shares
Shares
Outstanding
Unissued
Issued Shares
Shares
Shares
Treasury reacquired by the
Shares corporation.
Common Stock
◆ Basic voting stock of the corporation
◆ Ranks after preferred stock for dividend
and liquidation distribution.
◆ Dividend rates are determined by the
board of directors based on the
corporation’s profitability
and other factors.
Preferred Stock
◆ Has dividend and liquidation preference
over common stock.
◆ Cumulative preferred stock has a
preference for all past dividends over any
paid to common shareholders.
◆ Generally does not have voting rights.
◆ Usually has a par or stated value.
◆ Usually has a fixed dividend rate that is
stated as a percentage of the par value.
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stated value.
● Retained earnings
◆ The cumulative net income earned by the
corporation less the cumulative dividends
declared by the corporation.
8.
9.
Treasury Stock
◆ A corporation’s own stock that had been
issued but was subsequently reacquired
and is still being held by that corporation.
◆ Why would a corporation reacquire its
own stock?
● To reduce the shares outstanding.
● Because the market price is low.
● To increase earnings per share, if shares
won’t be reissued soon.
● To use in employee stock option programs.
Treasury Stock
◆ is considered issued stock but not
outstanding stock.
◆ has no voting or dividend rights.
◆ is a contra equity account.
◆ reduces total stockholders’ equity on
the Balance Sheet.
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Dividend Dates
◆ Date of declaration
◆ Date of record
◆ Date of actual payment to shareholders
January
24
30
Preferred Shareholders
get their dividends first:
◆ Cumulative means that the preferred shareholders
get all the past dividends that they were not paid
(called “dividends in arrears” which must be
footnoted, but NOT reported as a liability on the
balance sheet) before common stockholders can
receive a dividend.
◆ 10 preferred shares x $100 par x .06 = $60/year
◆ They get a total of $120: $60 for 2004 dividends in
arrears and $60 for 2005 current year dividend.
◆ Common shareholders get the remaining $80.
($80/30 shares outstanding=$2.67 per share.)
[31 shares issued - 1 still in Treasury = 30 shares outstanding.]
Journal entries:
Dividends 200
Dividends Payable, Pref. 120
Dividends Payable, Com. 80
To record the declaration of cash dividends.
Cash Dividends
◆ What’s needed to pay cash dividends?
● retained earnings
● cash (but, could borrow cash to pay dividend)
● no restrictions from outsiders
◆ Income Statement:
◆ Statement of Changes in Stockholders’ Equity:
◆ Statemen’t of Cash Flows:
Retained Earnings
◆ Appropriating (or Restricting) Retained
Earnings
● Board of Directors can restrict (imposed by
outsiders) or appropriate (company’s choice)
portions of retained earnings.
◆ It is a way of communicating why more
dividends are not being paid.
◆ Does NOT change TOTAL Ret. Earnings.
# shares outstanding
Par value per share
Total par value
Total stock market value
Market value per share
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# shares owned…………...
Total company shares…...
% of stock owned………...
Total market value of
Remember, the stockstock…….
Ms. Smith’s price dropped from $80 to $20 per share.
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Retained Earnings
Represents the net income (loss) that has
been earned less dividends that have
been declared since the first day of
operations for the company.
Example (amounts assumed)
Retained Earnings
Price-Earnings Ratio
Selling price of one share of stock
Earnings per share*
Chapter 11
The End