Transcript Libby Chapter 11 - Southern Methodist University

Reporting and
Interpreting
Owners’
Equity
Chapter 11
Copyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.
11-2
Learning Objectives
Explain the role of stock in the capital
structure of a corporation.
11-3
Understanding The Business
Advantages of
a corporation
Simple to
become an
owner
Easy to
transfer
ownership
Provides
limited
liability
11-4
Understanding The Business
Because a corporation is a separate
legal entity, it can . . .
Own
assets.
Incur
liabilities.
Sue and
be sued.
Enter into
contracts.
11-5
Ownership of a Corporation
Voting (in person
or by proxy).
Stockholders’
Rights
 Proportionate
distributions of
profits.
 Proportionate
distributions of
assets in a
liquidation.
11-6
Ownership of a Corporation
Stockholders
(Owners of voting shares)
Board of Directors
Internal (managers) and
External (non-managers)
Appointed
by directors
Vice President
(Production)
Elected by
shareholders
President
Vice President
(Marketing)
Vice President
(Finance)
Vice President
(Controller)
11-7
Authorized, Issued, and Outstanding
Capital Stock
Authorized
Shares
The maximum number
of shares of capital
stock that can be sold
to the public.
11-8
Authorized, Issued, and Outstanding
Capital Stock
Authorized
Shares
Issued
shares are
authorized
shares of
stock that
have been
sold.
Unissued
shares are
authorized
shares of
stock that
never have
been sold.
11-9
Authorized, Issued, and Outstanding
Capital Stock
Outstanding shares are
issued shares that are
owned by stockholders.
Authorized
Shares
Issued
Shares
Outstanding
Shares
Treasury
Shares
Unissued
Shares
Treasury shares are
issued shares that have
been reacquired by the
corporation.
11-10
Learning Objectives
Analyze the earnings per share ratio.
11-11
Earnings per share (EPS)
EPS
=
Net Income
Average Number of Shares Outstanding
Outback’s income for 2003 is
$170,000,000 and the average number of
shares outstanding is 75,260,000.
Earnings per share is probably
the single most widely watched
financial ratio.
11-12
Earnings per share (EPS)
EPS
EPS
=
Net Income
Average Number of Shares Outstanding
=
$170,000,000
75,260,000 Shares
=
$2.26 per share
Earnings per share is probably
the single most widely watched
financial ratio.
11-13
Earnings per share (EPS)
Outback EPS Comparisons Over Time
2001
2002
2003
$ 1.63
$ 1.96
$ 2.26
2003 EPS Comparison With Competitors
Outback
Ruby Tuesday
Wendy's
$ 2.26
$ 1.68
$ 2.07
Earnings per share is probably
the single most widely watched
financial ratio.
11-14
Learning Objectives
Describe the characteristics of common stock
and analyze transactions affecting common
stock.
11-15
Types of Capital Stock
Common
Stock
Preferred
Stock
11-16
Common Stock
Basic voting
stock
Ranks after
preferred
stock
Dividend set
by board of
directors
11-17
Par Value and No-par Value Stock
Par Value
Nominal
value
Legal
capital
Legal capital is the amount of capital,
required by the state, that must remain
invested in the business.
11-18
Par Value and No-par Value Stock
Par
Value

I get it!
Market
Value
11-19
No-par Value Stock
Some states do
Some
states
not
require
that a
par
value
do
notbe
stated inathe
require
par
charter.
value to be
stated in the
charter.
11-20
Accounting for Capital Stock
Two primary sources of
stockholders’ equity
Contributed
capital
Common
stock, par
value
Capital in
excess of
par value
Retained
earnings
11-21
Sale and Issuance of Capital Stock
Initial public offering
(IPO)
Seasoned new issue
The first time a
corporation sells
stock to the public.
Subsequent sales of
new stock to the
public.
Outback
Outback
issues new
stock.
11-22
Secondary Markets
Transactions between two investors
that do not affect the corporation’s
accounting records.
I’d like to sell
some of my
Outback stock.
I’d like to buy
some of your
Outback stock.
11-23
Sale and Issuance of Capital Stock
On July 6, Outback issued 100,000
shares of $0.01 par value common
stock for $22 per share.
Prepare the journal entry to
record
this transaction.
GENERAL
JOURNAL
Date
July 6
Description
Debit
Credit
11-24
Sale and Issuance of Capital Stock
On July 6, Outback issued 100,000
shares of $0.01 par value common
stock for $22 per share.
100,000 shares × $0.01 par value = $1,000
100,000 shares × $22 per share = $2,200,000
GENERAL JOURNAL
Date
Description
July 6 Cash
Common Stock
Capital In Excess of Par Value
Debit
Credit
2,200,000
1,000
2,199,000
11-25
Stock Options
Outback
If Outback does not have new
stock to issue when the stock
options are exercised, then . .
Employee
compensation
package includes
salary and stock
options.
Employee
Stock options allow
employees to purchase
stock from the corporation
at a fraction of the stock’s
value in the secondary
market.
11-26
Treasury Stock
Outback buys
its own stock in
the secondary
market.
(Treasury stock)
Outback
Management
compensation
package includes
salary and stock
options.
Management
Stockholders
Stock options allow
management to purchase
stock from the corporation
at a fraction of the stock’s
value in the secondary
market.
11-27
Treasury Stock
No voting
or
dividend
rights
Contra
equity
account
When stock is reacquired, the corporation
records the treasury stock at cost.
11-28
Treasury Stock
On May 1, Outback reacquired 100,000
shares of its common stock at $20 per share.
The journal entry for May 1 is . . . .
GENERAL JOURNAL
Date
Description
May 1 Treasury Stock
Cash
100,000 shares × $20 = $2,000,000
Debit
Credit
2,000,000
2,000,000
11-29
Treasury Stock
On December 3, Outback reissued 10,000
shares of the treasury stock at $30 per share.
The journal entry for December 3 is . . .
10,000 shares × $20 cost = $200,000
10,000 shares × $30 = $300,000
GENERAL JOURNAL
Date
Description
Dec. 3 Cash
Debit
Credit
300,000
Treasury Stock
200,000
Capital in Excess of Par Value
100,000
11-30
Learning Objectives
Discuss dividends and analyze transactions.
11-31
Accounting for Cash Dividends
Declared by board
of directors.
Not legally
required.
Creates liability at
declaration.
Requires sufficient
Retained Earnings
and Cash.
11-32
Dividend Dates
Declaration date
 Board
of directors declares the dividend.
 Record a liability.
GENERAL JOURNAL
Date
Description
Retained Earnings
Dividends Payable
Debit
Credit
XXX
XXX
11-33
Dividend Dates
Date of Record
 Stockholders
holding shares on this date will
receive the dividend. (No entry)
X
11-34
Dividend Dates
Date of Payment
 Record
the dividend payment to
stockholders.
GENERAL JOURNAL
Date
Description
Dividends Payable
Cash
Debit
Credit
XXX
XXX
11-35
Learning Objectives
Analyze the dividend yield ratio.
11-36
Dividend Yield Ratio
Dividend
Yield
=
Dividends Per Share
Market Price Per Share
Outback paid a dividend of $0.12 per
share in 2003 and the market price was
$40 per share.
This ratio is often used to compare the
dividend-paying performance of different
investment alternatives.
11-37
Dividend Yield Ratio
Dividend
Yield
Dividend
Yield
=
Dividends Per Share
Market Price Per Share
=
$0.12
$40.00
= 0.3%
This ratio is often used to compare the
dividend-paying performance of different
investment alternatives.
11-38
Dividend Yield Ratio
Outback Dividend Yield Comparison Over Time
2001
2002
2003
0.0%
0.1%
0.3%
2003 Dividend Yield Comparison With Competitors
Outback
Ruby Tuesday
Wendy's
0.3%
0.1%
0.2%
This ratio is often used to compare the
dividend-paying performance of different
investment alternatives.
11-39
Learning Objectives
Discuss the purpose of stock dividends, stock
splits, and report transactions.
11-40
Accounting for Stock Dividends
Distribution of additional shares
of stock to stockholders.
No change in total
stockholders’ equity.
No change in par
values.
All stockholders retain
same percentage
ownership.
11-41
Accounting for Stock Dividends
Small
Large
Stock dividend < 25%
Stock dividend > 25%
Record at current
market value
of stock.
Record at
par value
of stock.
11-42
Stock Splits
Ice Cream Parlor
Stock splits change the
par value per share,
but the total par value
is unchanged.
Banana Splits
On Sale Now
11-43
Stock Splits
Assume that a corporation had 3,000
shares of $2 par value common stock
outstanding before a 2–for–1 stock split.
Before
Split
After
Split
3,000
?
Par Value per Share
$ 2.00
?
Total Par Value
$ 6,000
?
Common Stock Shares
11-44
Stock Splits
Assume that a corporation had 3,000
shares of $2 par value common stock
outstanding before a 2–for–1 stock split.
Before
Split
After
Split
3,000
6,000
Increase
Par Value per Share
$ 2.00
$ 1.00
Decrease
Total Par Value
$ 6,000
$ 6,000
No
Change
Common Stock Shares
11-45
Learning Objectives
Describe the purpose of preferred stock and
analyze transactions affecting preferred stock.
11-46
Preferred Stock
Preference
over common
stock
Usually has
no voting
rights
Usually has a
fixed dividend
rate
11-47
Dividends on Preferred Stock
Current Dividend Preference: The current
preferred dividends must be paid before
paying any dividends to common stock.
Cumulative Dividend Preference: Any
unpaid dividends from previous years
(dividends in arrears) must be paid before
common dividends are paid.
11-48
Dividends on Preferred Stock
If the preferred stock is
noncumulative, any dividends
not declared in previous years
are lost permanently.
11-49
Dividends on Preferred Stock
Kites, Inc. has the following stock outstanding:
Common stock: $1 par, 100,000 shares
Preferred stock: 3%, $100 par, cumulative, 5,000 shares
Preferred stock: 6%, $50 par, noncumulative, 3,000 shares
Dividends were not paid last year. In the current year,
the board of directors declared dividends of $50,000.
How much will each class of stock receive?
11-50
Dividends on Preferred Stock
Total dividend declared
Preferred stock (cumulative)
Remainder
Preferred stock (noncumulative)
Remainder
Common stock
Remainder
$
50,000
11-51
Dividends on Preferred Stock
Total dividend declared
Preferred stock (cumulative)
Arrearage ($100 par × 3% × 5,000 shares) $
Current Yr. ($100 par × 3% × 5,000 shares)
Remainder
Preferred stock (noncumulative)
Remainder
Common stock
Remainder
$
15,000
15,000
50,000
30,000
$
20,000
11-52
Dividends on Preferred Stock
Total dividend declared
Preferred stock (cumulative)
Arrearage ($100 par × 3% × 5,000 shares) $
Current Yr. ($100 par × 3% × 5,000 shares)
Remainder
$
15,000
15,000
30,000
$
Preferred stock (noncumulative)
Current Yr. ($50 par × 6% × 3,000 shares)
Remainder
Common stock
Remainder
50,000
20,000
9,000
$
11,000
11-53
Dividends on Preferred Stock
Total dividend declared
Preferred stock (cumulative)
Arrearage ($100 par × 3% × 5,000 shares) $
Current Yr. ($100 par × 3% × 5,000 shares)
Remainder
$
15,000
15,000
30,000
$
Preferred stock (noncumulative)
Current Yr. ($50 par × 6% × 3,000 shares)
Remainder
20,000
9,000
$
Common stock
Current Yr. ($11,000 Remainder)
Remainder
50,000
11,000
11,000
$
0
11-54
Dividends on Preferred Stock
On June 1, 2003, a corporation’s board of
directors declared a dividend for the 2,500 shares
of its $100 par value, 8% preferred stock. The
dividend will be paid on July 15. Which of the
following will be included in the July 15 entry?
a. Debit Retained Earnings $20,000.
b. Debit Dividends Payable $20,000.
c. Credit Dividends Payable $20,000.
d. Credit Preferred Stock $20,000.
11-55
Dividends on Preferred Stock
On June 1, 2000 a corporation’s board of directors
GENERAL
declared a dividend
for JOURNAL
the 2,500 shares of its
Date
Debit
Credit
$100
par value,Description
8% preferred stock.
The dividend
July
Dividends
20,000
will15be
paid onPayable
July 15. Which of the
following
willCash
be included in the July 15 entry? 20,000
$100 × 8% = $8 dividend per share
a. Debit Retained
$20,000.
$8 × 2,500Earnings
= $20,000 total
dividend
b. Debit Dividends Payable $20,000.
c. Credit Dividends Payable $20,000.
d. Credit Preferred Stock $20,000.
11-56
Restrictions on Retained Earnings
If I loan you $150,000, I will
want you to restrict your
retained earnings.
Why would you
want to do that?
11-57
Learning Objectives
Discuss the impact of capital stock
transactions on cash flows.
11-58
Focus on Cash Flows
Outback
11-59
Chapter Supplement A
Accounting for Owners’ Equity for Sole
Proprietorships and Partnerships
11-60
Sole Proprietorships
A sole proprietorship is
owned by a one person.
Two equity accounts
Capital
Drawings
11-61
Sole Proprietorships
On January 2, J. Doe started a retail store by
investing $150,000 of his own money. The journal
entry to record this business formation is:
GENERAL JOURNAL
Date
Description
Jan. 2 Cash
J. Doe, Capital
Debit
Credit
150,000
150,000
11-62
Sole Proprietorships
Each month, J. Doe withdraws $1,000 for personal
living expenses. The January 30 journal entry to
record the first withdrawal is:
GENERAL JOURNAL
Date
Description
Jan. 30 J. Doe, Drawings
Cash
Debit
Credit
1,000
1,000
11-63
Sole Proprietorships
During the first year, J. Doe’s income totaled
$18,000, and his withdrawals totaled $12,000.
The equity section of J. Doe’s balance sheet at
the end of the first year is:
J. Doe, Capital, Beginning Balance
Add Net Income
Total
Less Drawings
J. Doe, Capital, Ending Balance
$
$
150,000
18,000
168,000
12,000
156,000
11-64
Partnerships
A partnership is owned by
two or more individuals.
Partnerships require clear
agreements about authority,
risks, and the sharing of profits
and losses.
Separate capital and drawings accounts
are maintained for each partner.
Partnership income is divided
among the partners according to
the partnership agreement.
11-65
Partnerships
Advantages
Ease of
formation
Complete
control by
partners
No income
taxes on
business
Primary
disadvantage
Unlimited
liability
11-66
Partnerships
On January 2, Able and Baker formed a partnership.
Able contributed $60,000 cash. Jones contributed
$40,000 cash. The partners agreed to divide
partnership income in the ratio of their
contributions (60:40). The journal entry to record
this business formation is:
GENERAL JOURNAL
Date
Description
Jan. 2 Cash
Debit
Credit
100,000
Able, Capital
60,000
Baker, Capital
40,000
11-67
Partnerships
The partners agreed that each month Able would
withdraw $1,000 and Baker would withdraw $650.
The January 30 journal entry to record the
first withdrawal is:
GENERAL JOURNAL
Date
Description
Jan. 30 Able, Drawings
Baker, Drawings
Cash
Debit
Credit
1,000
650
1,650
11-68
Partnerships
During the first year, partnership income totaled
$30,000. Withdrawals totaled $12,000 for Able
and $7,800 for Baker. The equity section of the
partnership balance sheet at the
end of the first year is:
Able and Baker Partnership
Partners' Equity
Able
Baker
Total
Beginning capital balances $
$
$
Investments by owners
60,000
40,000
100,000
Add Net income
18,000
12,000
30,000
Total
$ 78,000
52,000
130,000
Less partners' withdrawals
(12,000)
(7,800)
(19,800)
Ending capital balances
$ 66,000 $ 44,200 $ 110,200
11-69
Accounting and Reporting for Three Types
of Businesses
11-70
End of Chapter 11