chapter 12 1. advantages 1.corporations can raise more money 2.corporations have continuous life...

Corporations: Paid-in Capital and the Balance Sheet

Chapter 12

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Advantages and Disadvantages of Corporations

ADVANTAGES1. Corporations can raise

more money2. Corporations have

continuous life3. Ownership transfer is

easy4. No mutual agency5. Stockholders have

limited liability

DISADVANTAGES1. Ownership and

management separated.2. Double taxation3. Government regulation

is expensive4. Start-up costs are higher

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Corporate OrganizationAuthorization–State’s permission to operateAuthorized stock–How many shares of a class of stock a corporation may issueCapital stock–Represents ownership of the corporation's capitalStock certificate–Paper evidencing ownership in a corporation

Company nameStockholder nameNumber of shares owned

Outstanding stock–Stock held by stockholders

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Stock

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Stockholders’ Equity BasicsPaid-in capital(Contributed capital)

Amounts received from stockholdersCommon stock is main sourceExternally generatedResulting from transactions with outsiders

Retained earningsEarned by profitable operationsInternally generated Results from internal corporate decisions to retain net income for use in the company

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Classes of StockCommon stock

Four basic rightsVote—voting on corporate mattersDividends—receive a proportionate part of dividend declared Liquidation—receive a proportionate part of assets remainingPreemption—maintain their proportionate ownership

Preferred stockCertain advantages over common stock

Receive dividends before commonFixed dividend amountUpon liquidation, receive assets before commonAlso have basic rights of common stockholders unless withheld

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Par, Stated and No-par

Par valueArbitrary amount assigned to a share of stockSet when the corporate charter is filedUsually set low as to avoid legal difficulties

No-parNo arbitrary amount assignedCould have a stated valueStated value treated as par

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Accounting for the Issuance of Stock

Sell directly to stockholdersUse an underwriter/brokerage firm

Buys unsold stock

Issue price–price received for issuing stockUsually exceeds par value

Stock exchange– here public company stock is traded

NYSE–New York Stock ExchangeNASDQ

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Accounting for the Issuance of StockIssuing 1,000,000 common stock ($1 par) at par

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ASSETS Liabilities Stockholders Equity

Cash Common Stock1,000,000 1,000,000

Accounting for the Issuance of StockIssuing common stock($1 par) above par

Amount received above par is called a premiumNot a gain; called additional paid-in capitalAnother account is created for the premium amount

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Paid In capital In excess Par - Common

19,000,000

Stockholders’ Equity Presentation

The balance of the Common stock account is calculated

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Total Paid-in capital is the sum of Common stock plus Paid-in capital in excess of par

Accounting for Stock IssuancesNo-par stock

No Paid-in capital in excess of par account neededFull amount received is credited to Common stock

Balance sheet shows only the Common stock account

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20,000,000 20,000,000

Accounting for Stock IssuancesStated value stock

Similar to accounting for par value stockAmount above stated value is credited to Paid-in capital in excess of stated value

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Stated value

Stated value

Accounting for Stock Issuances

Issuing stock for assets other than cashAsset is debited for its fair value

Building is debited instead of cash

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Accounting for Stock IssuancesIssuing preferred stock

Similar to issuing common stock, except Preferred stock is credited at par value

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Cash Preferred Stock50,000 50,000

Accounting for Stock IssuancesPreferred stock usually is not issued above par

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Cash Preferred Stock55,000 50,000

Paid In capital In excess Par - Preferred

5,000

Stockholders’ Equity on the Balance Sheet

Equity accounts are listed in the following order on the balance sheet: Preferred stock , Common stock, Retained earnings

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S12-5: ISSUING STOCK AND INTERPRETING STOCKHOLDERS’ EQUITY

Scifilink.com issued stock beginning in 2012 and reported the following on its balance sheet at December 31, 2012:

Common stock, $ 2.00 par valueAuthorized: 6,000 shares

Issued: 4,000 shares $ 8,000Paid-in capital in excess of par 4,000Retained earnings 26,500

Requirement: Journalize the company’s issuance of the stock for cash.

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S12-5: ISSUING STOCK AND INTERPRETING STOCKHOLDERS’ EQUITY

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Journal Entry

DATE ACCOUNTS DEBIT CREDIT

Dec 31 Cash 12,000

Common stock 8,000

Paid in capital in excess of par 4,000

Common stock, $ 2.00 par valueAuthorized: 6,000 sharesIssued: 4,000 shares $ 8,000 Paid-in capital in excess of par 4,000Retained earnings 26,500

E12-15: ISSUING STOCK

Susie Systems completed the following stock issuance transactions:May 19 Issued 2,000 shares of $1 par common stock for cash of

$9.50 per share.June 3 Sold 300 shares of $3, no-par preferred stock for $15,000

cash.June 11 Received equipment with market value of $78,000. Issued

3,000 shares of the $1 par common stock in exchange.

Requirements:

1. Journalize the transactions. Explanations are not required.

2. How much paid-in capital did these transactions generate for Susie Systems?

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Susie Systems completed the following stock issuance transactions:

May 19 Issued 2,000 shares of $1 par common stock for cash of $9.50 per share.

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Journal Entry


May 19 Cash 19,000

Common stock 2,000




June 3 Sold 300 shares of $3, no-par preferred stock for $15,000 cash.

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Journal Entry


Jun 3 Cash 15,000

Preferred stock 15,000

E12-15 : ISSUING STOCK


June 11 Received equipment with market value of $78,000. Issued 3,000 shares of the $1 par common stock in exchange.

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Journal Entry


Jun 11 Equipment 78,000

Common stock 3,000



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2. How much paid-in capital did these transactions generate for Susie Systems?

$112,000

• 19,000 issue of CS for Cash +• 15,000 issue of PS for Cash +• 78,000 stock issued for equipment

with market value of 78,000

Retained Earnings Closing entries

Step 1 – Close RevenuesStep 2 – Close Expenses

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Retained EarningsClosing entries

Step 3 – Close Income summary

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Deficit BalanceA loss causes Retained earnings to decrease

A debit balance in Retained earnings is a deficit

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Deficit Balance on Balance Sheet

A deficit is reported as a negative amount

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Accounting for Cash DividendsSometimes a state prohibits using Paid-in capital for dividendsLegal capital is the portion of equity unavailable for dividendsDividends are declared before payingThree dates:

Declaration date–Board declares a dividend and creates a liabilityDate of record–determines which stockholders receives dividendsPayment date–pay dividends and remove liability

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Declaring and Paying DividendsPreferred 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

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2,000 shares of $100 par 8% preferred = $16,000 dividend

2,000 shares of no-par $3 preferred = $6,000 dividend

Declaration date

Date of Record (no entry)Payment date

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Declaring and Paying Dividends

Dividing Dividends Between Preferred and Common

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Note: Preferred dividend per share ($50 x 6%) = $3Annual preferred dividend is (2,000 shares x $3) = $6,000

Dividing Dividends Between Preferred and Common

Preferred stockholders receive dividends before commonCommon stockholders receive dividends if total declared is large enough to cover preferred

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Cumulative and Noncumulative Preferred Stock

Cumulative preferred stock Accumulates dividends each year until the dividends are paidDividends in arrears—dividends passed or not paid

Noncumulative preferred stock Dividends not paid do not accumulated from one year to the next

Dividend in arrears are paid first, then current dividends paid

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Cumulative PreferredA company declares $50,000 for dividends

In arrears, 1 year at $6,000

Preferred gets $6,000 in arrears + $6,000 currentCommon receives the remainder

Distribution if Preferred is NoncumulativePreferred $6,000Common $44,000

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Cumulative and Noncumulative Preferred Stock

Different Values of Stock

Market value

• Price at which a person can buy or sell a share• Most important to shareholders

Liquidation value

• Amount guaranteed to preferred if company liquidates

Book value

• Amount of equity per share of stock• If preferred stock exists, subtract preferred equity from total equity to compute book value of common shares

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Book Value of Preferred Stock

Book value attributed to preferred stock + any preferred dividends that are in arrears

Book value attributed to preferred stock is eitherthe number of outstanding preferred shares times liquidation value per share, ORthe book value of preferred equity (the Preferred stock account balance)

Plus any dividends that are in arrears, if the preferred stock is cumulative.

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Book Value per ShareBook value of preferred stock:

Liquidation price or Preferred stock account A

Dividends in arrears on any outstanding preferred shares B

Total book value attributed to preferred stock A+B

Number of outstanding preferred shares C

Book value per share of preferred stock (A+B)/C

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Book value of common stock:

Total stockholders’ equity D

Less: book value attributed to preferred A+B

Total book value attributed to common stock D-(A+B)

Number of outstanding common shares E

Book value per share of common stock D-(A+B)/E

S12-10 : BOOK VALUE PER SHARE OF COMMON STOCK

Bronze Tint Trust has the following stockholders’ equity:

Bronze Tint has not declared preferred dividends for five years (including the current year).

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Paid-in capital:

Preferred stock, 5%, $10 par, 6,000 shares authorized, 4,500 shares issued

$ 45,000

Common stock, $0.20 par, 1,200,000 shares authorized and issued

240,000

Paid-in capital in excess of par—common 400,000

Total paid-in capital $685,000

Retained earnings 255,000

Total stockholders’ equity $ 940,000

S12-10: BOOK VALUE PER SHARE OF COMMON STOCK

Compute the book value per share of Bronze Tint’s preferred and common stock.

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Preferred stock

Par value of Preferred stock $45,000

Cumulative dividends 11,250

Total book value attributed to preferred stock 56,250

Number of outstanding preferred shares 4,500

Book value per share of preferred stock $12.50

S12-10: BOOK VALUE PER SHARE OF COMMON STOCK

Compute the book value per share of Bronze Tint’s preferred and common stock.

(*$ 0.73645833 rounded)

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Common stock

Total stockholders’ Equity $940,000

Less: Preferred equity (56,250)

Common equity $883,750

Number of outstanding Common shares 1,200,000

Book value per share of common stock * $0.74

Rate of Return on Total AssetsMeasures a company’s success in using assets

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Net income + Interest expense

Average total assets

Rate of Return on Common Stockholders’ Equity

Relationship between net income available and their average common equity invested

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Net income – Preferred dividends

Average common stockholders’ equity

S12-11: COMPUTING RETURN ON ASSETS AND RETURN ON EQUITY

Godhi’s 2012 financial statements reported the following items—with 2011 figures given for comparison:

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S12-11: COMPUTING RETURN ON ASSETS AND RETURNON EQUITY

Compute Godhi’s rate of return on total assets and rate of return on common stockholders’ equity for 2012. Do these rates of return look high or low?

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Rate of returnon total assets

=Net income + Interest expense

Average total assets

Rate of return on commonstockholders’ equity

=Net income – Preferred dividends

Average common stockholders’ equity

$3,890 + 210 / $31,550 = 13% (0.12995)

$3,890 - 0 / $15,519 = 25.1% (0.250660)

High

Income TaxesFederal tax rate of 35% when combined with State taxes can increase total taxes to 40%Corporations measure two income tax amounts

Income tax expense–income statement basedIncome tax payable–IRS taxable income based

Income tax expense Income before tax on the income statement x Income tax rate

Income tax payable Taxable income from the IRS filed tax return x Income tax rate

Major difference–depreciation methods differ46

Differences Between Income Statement and the Tax Return

ExampleIncome before income tax of $33,000,000

$33,000,000 X 40% = $13,200,000 taxes

Taxable income of $20,000,000$20,000,000 X 40% = $8,000,000 IRS taxes

Difference is $5,200,000 $13,200,000 - $8,000,000Deferred until taxable income catches up

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chapter 12 1. advantages 1.corporations can raise more money 2.corporations have continuous life...

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