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Chapter 11

Chapter 11. Accounting for Equity. Sole Proprietorship. Partnership. Corporation. Business Entity Forms. C 5. *. *. Characteristics of Businesses. C 5. * Proprietorships and partnerships that are set up as LLC’s provide limited liability.

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Chapter 11

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  1. Chapter 11 Accounting for Equity

  2. Sole Proprietorship Partnership Corporation Business Entity Forms C 5

  3. * * Characteristics of Businesses C 5 *Proprietorships and partnerships that are set up as LLC’s provide limited liability.

  4. Owners of a corporation are called shareholders (or stockholders). When a corporation issues only one class of stock, we call it common stock(or capital stock). Corporation C 5

  5. Ownership can be Corporate Form of Organization C 1 An entity created by law. Privately Held Existence is separate from owners. Has rights and privileges. Publicly Held

  6. Characteristics of Corporations C 1 Advantages • Separate Legal Entity • Limited Liability of Stockholders • Transferable Ownership Rights • Continuous Life • Stockholders Are Not Corporate Agents • Ease of Capital Accumulation Disadvantages • Governmental Regulation • Corporate Taxation

  7. Organizing and Managing a Corporation C 1 Stockholders Board of Directors President, Vice-President, and Other Officers Employees of the Corporation

  8. Stockholders usually meet once a year. Ultimate control. Selected by a vote of the stockholders. Overall responsibility for managing the company. Organizing and Managing a Corporation C 1

  9. Rights of Stockholders C 1 • Vote at stockholders’ meetings. • Sell stock. • Purchase additional shares of stock. • Receive dividends, if any. • Share equally in any assets remaining after creditors are paid in a liquidation.

  10. Stock Certificates and Transfer C 1 Each unit of ownership is called ashare of stock. A stock certificate serves as proof that a stockholder has purchased shares. When the stock is sold, the stockholder signs atransfer endorsementon the back of the stock certificate.

  11. Basics of Capital Stock C 1 Total amount of stock that a corporation’s charter authorizes it to sell.

  12. Total amount of stock that has been issued to stockholders. Basics of Capital Stock C 1

  13. Selling (Issuing) Stock C 1  Par valueis an arbitrary amount assigned to each share of stock when it is authorized. Market priceis the amount that each share of stock will sell for in the market.

  14. Classes of Stock P1 Par Value No-Par Value Stated Value

  15. Issuing Par Value Stock P1 Par Value Stock On September 1, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction. • Record: • The cash received. • The number of shares issued × the par value per share in theCommon Stockaccount. • The remainder is assigned toContributed Capital in Excess of Par.

  16. Issuing Par Value Stock P1 Par Value Stock On September 1, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction.

  17. Issuing Par Value Stock P1

  18. Issuing Stock for Noncash Assets P1 Par Value Stock On September 1, Matrix, Inc. issued 100,000 shares of $2 par value stock for land valued at $2,500,000. Let’s record this transaction. • Record: • The asset received at its market value. • The number of shares issued × the par value per share in theCommon Stockaccount. • The remainder is assigned toContributed Capital in Excess of Par.

  19. Issuing Stock for Noncash Assets P1 Par Value Stock On September 1, Matrix, Inc. issued 100,000 shares of $2 par value stock for land valued at $2,500,000. Let’s record this transaction.

  20. Preferred Stock C 3 A separate class of stock, typically having priority over common shares in . . . • Dividend distributions. • Distribution of assets in case of liquidation. Usually has a stated dividend rate. Normally has no voting rights.

  21. Cumulative Vs. Noncumulative Cumulative or Noncumulative Dividend P4 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. Most preferred stock is cumulative.

  22. Participating Vs. Nonparticipating Participating or Nonparticipating Dividend P4 Dividends may exceed a stated amount once common stockholders receive a dividend equal to the preferred stated rate. Dividends are limited to a maximum amount each year. The maximum is usually the stated dividend rate. Most preferred stock is nonparticipating.

  23. Reasons for Issuing Preferred Stock P4 • To raise capital without sacrificing control. • To boost the return earned by common stockholders through financial leverage. • To appeal to investors who may believe the common stock is too risky or that the expected return on common stock is too low.

  24. Cash Dividends P2 To pay a cash dividend the corporation must have: • A sufficient balance in retained earnings and • The cash necessary to pay the dividend.

  25. June 30 Stockholders Corporation Dividends Cash Dividends P2 Regular cash dividends provide a return to investors and almost always affect the stock’s market value.

  26. Entries for Cash Dividends P2 Three important dates Dividends Date of Declaration Date of Record Date of Payment Record liability for dividend. No entry required. Record payment of cash to stockholders.

  27. Entries for Cash Dividends P2 On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. The dividend will be paid on March 19 to stockholders of record on February 19. Dividends Date of Declaration Record liability for dividend.

  28. Entries for Cash Dividends P2 On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. The dividend will be paid on March 19 to stockholders of record on February 19. No entry required on February 19. Date of Record No entry required.

  29. Entries for Cash Dividends C 1 On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. The dividend will be paid on March 19 to stockholders of record on February 19. Date of Payment Record payment of cash to stockholders.

  30. Deficits and Cash Dividends P2 Created when a company incurs cumulative losses or pays dividends greater than total profits earned in other years.

  31. 100 shares HotAir, Inc. Common Stock $1 par Stock Dividends P3 The corporation distributes additional shares of its own stock to its stockholders without receiving any payment in return. • Why a stock dividend? • Can be used to keep the market • price on the stock affordable. • Can provide evidence of • management’s confidence that • the company is doing well.

  32. Recording a Small Stock Dividend P3 Here is the stockholders’ equity section of Quest’s balance sheet prior to the declaration of asmall stock dividend.

  33. Recording a Small Stock Dividend P3 On December 31, 2008, Quest declared a 2% stock dividend, when the stock was selling for $10 per share. The stock will be distributed to stockholders on January 20, 2009. Let’s make the December 31 entry. 100,000 × 2% = 2,000 × $10 = $20,000 2,000 × $1 par = $2,000

  34. New Shares Stock Splits P3 A distribution of additional shares of stock to stockholders according to their percent ownership. $10 par value Old Shares Common Stock 100 shares $5 par value Common Stock 200 shares

  35. Stock Splits P3 Thomas, Inc. has the following stockholders’ equity section just prior to a 2-for-1 stock split.

  36. Stock Splits P3 After the 2-for-1 split the stockholders’ equity section of the balance sheet looks like this . . . No accounting entry is made.

  37. Treasury Stock P5 Corporations acquire shares of their own stock. • Use the shares to acquirecontrol of another corporation. • To avoid a hostile takeover. • Use the shares foremployee stock options. • To maintain a strong market forits stock or show managementconfidence in the current price. Why would a company do that?

  38. Treasury Stock P5

  39. Purchasing Treasury Stock P5 On May 8, Whitt, Inc. purchased 2,000 of its own shares of stock in the open market for $8,000. Treasury stock is shown as a reduction in total stockholders’ equity on the balance sheet.

  40. Selling Treasury Stock at Cost P5 On June 30, Whitt sold 100 shares of its treasury stock for $4 per share. $8,000 ÷ 2,000 shares = $4 cost per treasury share

  41. Selling Treasury Stock Above Cost P5 On July 19, Whitt, Inc. sold an additional 500 shares of its treasury stock for $8 per share.

  42. Selling Treasury Stock Below Cost P5 On August 27, Whitt sold an additional 400 shares of its treasury stock for $1.50 per share.

  43. Basicearnings per share Net income - Preferred dividends Weighted-average common shares outstanding = Earnings Per Share A 1 Earnings per share is one of the most widely cited items of accounting information.

  44. Stock Options A 1 The right to purchase common stock at a fixed price over a specified period of time. As the stock’s price rises above the fixed option price, the value of the option increases. Market price of stock $75 per share. Option purchase price $30 per share.

  45. Stock Options A 1 Options are given to key employees to motivate them to: • focus on company performance, • take a long-run perspective, and • remain with the company.

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