Shareholders’ Equity

1. Shareholders’ Equity Sid Glandon, DBA, CPA Associate Professor of Accounting The University of Texas at El Paso

2. Components of Equity • Contributed capital • Capital stock • Preferred stock • Common stock • Additional paid-in capital • Preferred stock • Common stock • Retained earnings • Less: treasury stock • Total shareholders’ equity

3. Corporate Form • Governed by state corporation law • Capital stock or share system • Multiple ownership interests • Limited liability of stockholders • Formality of profit distribution

4. Preferred Stock • Preference as to • Dividends • Assets in liquidation • Nonvoting • Stated at par with dividend expressed as a percentage of par

5. Features of Preferred Stock • Cumulative preferred stock • Dividends in arrears • Participating preferred stock • Fully participating • Partially participating • Convertible preferred stock • Callable preferred stock • Dividends in arrears must be paid first

6. Issuance of Common Stock • Par value stock • No-par stock (stated value) • Stock sold for cash • Stock sold on contract • Stock exchanged for services, etc. • Lump sum sales of securities • Stock issue costs

7. Reacquisition of Shares • Provide tax efficient distributions • Increase EPS and ROE • Provide stock • Employee stock compensation contracts • Potential mergers needs • Thwart takeover attempts • Reduce the number of shareholders • Make a market for the stock

8. Treasury Stock • Reacquired stock not retired • Not an asset • Issued but not outstanding • Purchase of treasury stock • Cost method • Par or stated value method

9. Cost Method of Recording Treasury Stock

10. Cost Method of Recording Treasury Stock

11. Cost Method of Recording Treasury Stock

12. Cost Method of Recording Treasury Stock

13. Cost Method of Recording Treasury Stock

14. Additional Paid-In Capital, Treasury Stock • When credit balance is eliminated, excess of cost over selling price is debited to retained earnings.

15. Treasury Stock Account • Contra equity account • Cost method record full cost of stock • Subtract treasury stock from total stockholders equity • Reduces the number of outstanding shares

16. Retiring Treasury Stock • Authorized but not issued • Journal entry similar to sale except the debit is to additional paid-in capital from retirement of treasury stock

17. Cost Method: Retirement of Treasury Stock

18. Cost Method: Retirement of Treasury Stock

19. Debits Net loss Cash dividends Property dividends Stock dividends Loss on treasury stock transactions Prior period adjustments Credits Net income Prior period adjustments Adjustments due to quasi-reorganization Retained Earnings

20. Dividend Policy • Restricted by debt covenants • Limited by state corporation laws • Internal financing-reinvest earnings • Smooth out dividend payments • Build up cushion for future • Availability of funds to pay dividends • No dividends paid on treasury stock

21. Types of Dividends • Cash dividends • Property dividends • Scrip dividends (deferred) • Liquidating dividends (return of capital) • Stock dividends (do not reduce total stockholders equity)

22. Cash Dividends • Declaration date • Date dividends are declared and accrued • Date of record • List of recipient stockholders is final • Payment date • Dividends are paid to stockholders of record

23. Cash Dividends: Example • 10,000 shares issued and outstanding • June 10, 2005 declared a $1 dividend • June 24, 2005 date of record • July 16, 2005 paid dividends

24. Journal Entries: Cash Dividends

25. Property Dividends • Payable in nonmonetary assets • Non-reciprocal transfers • Valued at FMV at date of declaration • Corporation recognizes gain or loss

26. Property Dividends: Example • Company distributes marketable securities as a property dividend • Date of declaration: December 21, 2004 • Date of record: January 14, 2005 • Date of payment: January 21, 2005 • FMV of securities • December 21, 2004, $134,000 • January 21, 2005, $135,900 • Cost of securities: $110,000

27. Journal Entries: Property Dividends

28. Liquidating Dividends • Return of corporate paid-in capital • Reduces paid-in capital • Corporation winding up operations • Dividends are specified as to income (regular) and capital (liquidating) portions

29. Liquidating Dividends:Example • December 30, 2004, declared a dividend of $1,200,000 • Income portion $900,000 • Capital portion $300,000 • January 15, 2005, paid dividend of $1,200,000

30. Journal Entries: Liquidating Dividends

31. Stock Dividends • Results in more shares issued • Ordinary (small) stock dividends • Issue of less than 20%-25% of stock • Accounting is based on FMV • Large stock dividends • Issue of more than 20%-25% of stock • Accounting is based on par value

32. Ordinary Stock Dividends: Example • Issued and outstanding stock: 1,000 shares, $10 par value • April 1, 2005 • 10% stock dividend declared (100 shares) • $12 per share FMV at date of declaration • May 1, 2005 • Stock dividends paid

33. Journal Entries: Ordinary Stock Dividends

34. Large Stock Dividends: Example • Issued and outstanding stock: 3,000 shares, $10 par value • April 1, 2004 • 30% stock dividend declared (900 shares) • $12 per share FMV on date of declaration • May 1, 2005 • Stock dividends paid

35. Journal Entries: Large Stock Dividends

36. Stock Splits • Par value decreases • Number of shares increases • Stockholders’ equity does not change • Composition of equity does not change • No formal journal entry • Splits make shares less expensive