Accounting for companies

13-1
© The McGraw-Hill Companies, Inc., 2006
Accounting for
Corporations

13-2
Shas Production
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13-3
Learning objectives
 Identify characteristics of corporations and their organization.
 Describe the components of stockholders’ equity.
 Explain characteristics of common and preferred stock.
 Explain the form and content of a complete income statement.
 Explain the items reported in retained earnings.
 Record the issuance of corporate stock.
 Distribute dividends between common stock and preferred stock.
 Record transactions involving cash dividends.
 Account for stock dividends and stock splits.
 Record purchases and sales of treasury stock and the retirement of
stock.

13-4
Privately HeldPrivately HeldPrivately HeldPrivately Held
Publicly HeldPublicly HeldPublicly HeldPublicly Held
Ownership
can be
Corporate Form of
Organization
Existence is
separate from
owners.
Existence is
separate from
owners.
An entity
created by law.
An entity
created by law.
Has rights and
privileges.
Has rights and
privileges.

13-5
Characteristics of Corporations
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
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

13-6
StockholdersStockholders
Board of DirectorsBoard of Directors
President, Vice-President,President, Vice-President,
and Other Officersand Other Officers
Employees of the CorporationEmployees of the Corporation
Organizing and Managing a Corporation

13-7
C o r p o r a te O r g a n iz a tio n C h a r t
S e c r e ta r y V ic e P r e s id e n t
F in a n c e
V ic e P r e s id e n t
P r o d u c tio n
V ic e P r e s id e n t
M a r k e tin g
P r e s id e n t
B o a r d o f D ir e c to r s
S to c k h o ld e r sUltimateUltimate
control.control.
UltimateUltimate
control.control.
usually meetusually meet
once a year.once a year.
usually meetusually meet
once a year.once a year.
Organizing and Managing a Corporation
Selected by aSelected by a
vote of thevote of the
stockholders.stockholders.
Selected by aSelected by a
vote of thevote of the
stockholders.stockholders.
OverallOverall
responsibilityresponsibility
for managingfor managing
the company.the company.
OverallOverall
responsibilityresponsibility
for managingfor managing
the company.the company.

13-8
Rights of Stockholders
 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.
 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.

13-9
Each unit of ownership is called a share of stock.
A stock certificate serves as proof that a
stockholder has purchased shares.
Each unit of ownership is called a share of stock.
A stock certificate serves as proof that a
stockholder has purchased shares.
Stock Certificates and Transfer
When the stock is sold, the stockholder signs a
transfer endorsement on the back of the stock
certificate.
When the stock is sold, the stockholder signs a
transfer endorsement on the back of the stock
certificate.

13-10
Basics of Capital Stock
Total amount of stock that aTotal amount of stock that a
corporation’s charter authorizes it to sell.corporation’s charter authorizes it to sell.
Total amount of stock that aTotal amount of stock that a
corporation’s charter authorizes it to sell.corporation’s charter authorizes it to sell.

13-11
Basics of Capital Stock
Total amount of stock that has beenTotal amount of stock that has been
issued to stockholders.issued to stockholders.
Total amount of stock that has beenTotal amount of stock that has been
issued to stockholders.issued to stockholders.

13-12
Par valuePar value is anis an
arbitrary amountarbitrary amount
assigned to eachassigned to each
share of stock whenshare of stock when
it is authorized.it is authorized.
Par valuePar value is anis an
arbitrary amountarbitrary amount
assigned to eachassigned to each
share of stock whenshare of stock when
it is authorized.it is authorized.
Market priceMarket price is theis the
amount that eachamount that each
share of stock willshare of stock will
sell for in the market.sell for in the market.
Market priceMarket price is theis the
amount that eachamount that each
share of stock willshare of stock will
sell for in the market.sell for in the market.
Selling (Issuing) Stock
≠

13-13
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.
Par Value Stock
Record:
1. The cash received.
2. The number of shares issued × the par value
per share in the Common Stock account.
3. The remainder is assigned to Contributed
Capital in Excess of Par.
Record:
1. The cash received.
Issuing Par Value Stock

13-14
Par Value Stock
Par Value Stock
Sept. 1 Cash 2,500,000
Common stock, $2 par value 200,000
Contributed capital in
excess of par value 2,300,000
Sold and issued 100,000 shares of common stock

13-15

13-16
Record:
1. The asset received at its market value.
Record:
1. The asset received at its market value.
Issuing Stock for Noncash
Assets
Par Value Stock
shares of $2 par value stock for land valued at
$2,500,000. Let’s record this transaction.
Par Value Stock

13-17
Issuing Stock for Noncash
Assets
Sept. 1 Land 2,500,000
Common stock, $2 par value 200,000
excess of par value 2,300,000
Exchanges 100,000 common shares for land
Par Value Stock
Par Value Stock

13-18
Preferred Stock
A separate class of stock, typically having priority over
common shares in . . .
 Dividend distributions.
 Distribution of assets in case of liquidation.
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.
Usually has a stated
dividend rate.
Normally has no
voting rights.
Normally has no
voting rights.

13-19
Preferred Stock
 Dillon Snowboards issues 50 shares of $100 par value
preferred stock for $6,000 cash on July 1, 2005.
 Dr. Cash 6,000
Cr. Preferred Stock, $100 par value 5,000
Cr. Contributed Capital in Excess
of par value, preferred stock 1,000

13-20
Reasons for Issuing Preferred
Stock
To raise capital without sacrificing control.
To appeal to investors who may believe the
common stock is too risky or that the expected
return on common stock is too low.
To raise capital without sacrificing control.
To appeal to investors who may believe the
common stock is too risky or that the expected
return on common stock is too low.

13-21
Cash Dividends
To pay a cash dividend
the corporation
must have:
1. A sufficient balance
in retained earnings
and
2. The cash necessary
to pay the dividend.
Cash Dividend Types and Frequency
73%
23%
0%
20%
40%
60%
80%
100%
Common Preferred

13-22
Cash Dividends
Regular cash dividends provide a return to investors and almost always
affect the stock’s market value.
Dividends
Stockholders
June
30
Corporation

13-23
Entries for Cash Dividends
Three important datesThree important dates
Date of Declaration
Record liability
for dividend.
Dividends
Date of Record
No entry
required.
Date of Payment
Record payment of
cash to stockholders.

13-24
Date of Declaration
Record liability
for dividend.
Dividends
OnOn January 19, a $1 per share cash dividend isJanuary 19, a $1 per share cash dividend is
declared on Dana, Inc.’s 10,000 commondeclared on Dana, Inc.’s 10,000 common
shares outstanding. The dividend will beshares outstanding. The dividend will be
paid on March 19 to stockholders of recordpaid on March 19 to stockholders of record
on February 19.on February 19.
Jan. 19 Retained earnings 10,000
Common dividend payable 10,000
Declared $1 per share cash dividend

13-25
Date of Record
No entry
required.
On January 19, a $1 per share cash dividend isOn January 19, a $1 per share cash dividend is
No entry required on
February 19.

13-26
Date of Payment
Record payment of
cash to stockholders.
On January 19, a $1 per share cash dividend isOn January 19, a $1 per share cash dividend is
Mar. 19 Common dividend payable 10,000
Cash 10,000
Paid $1 per share cash dividend

13-27
Deficits and Cash Dividends
Created when a company incurs cumulative losses or pays
dividends greater than total profits earned in other
years.

13-28
Stock Dividends
The corporation distributes additional shares of its own
stock to its stockholders without receiving any
payment in return.
The corporation distributes additional shares of its own
stock to its stockholders without receiving any
payment in return.
Stockholders
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.
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.
100 Shares
$1 par value
HotAir, Inc.
Common Stock
100 shares
$1 par

13-29
Stock Dividends
 A company has 1,000 common shares outstanding. Market
price is $12. The company announces a 20% stock dividend.
The market price will be $10. However, due to the
expectation of future more cash dividend, the market price
may increase to 10.5 or so.

13-30
Stock Dividends
Small Stock Dividend
Distribution is ≤ 25% of the previously outstanding
shares.
Capitalize retained earnings for the market value of
the shares to be distributed.
Small Stock Dividend
Distribution is ≤ 25% of the previously outstanding
shares.
Capitalize retained earnings for the market value of
the shares to be distributed.
Large Stock Dividend
Distribution is > 25% of the previously
outstanding shares.
Capitalize retained earnings for the minimum
amount required by state law, usually par or
stated value of the shares.
Large Stock Dividend
Distribution is > 25% of the previously
outstanding shares.
Capitalize retained earnings for the minimum
amount required by state law, usually par or
stated value of the shares.

13-31
Recording a Small Stock
DividendHere is the stockholders’ equity section of
Quest’s balance sheet prior to the
declaration of a small stock dividend.
Here is the stockholders’ equity section of
Quest’s balance sheet prior to the
declaration of a small stock dividend.

13-32
Recording a Small Stock
DividendOn December 31, 2005, 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, 2006. Let’s make the December 31
entry.
On December 31, 2005, Quest declared a 2% stock
share. The stock will be distributed to stockholders
on January 20, 2006. Let’s make the December 31
entry.
100,000 × 2% = 2,000 × $10 = $20,000/100,000 × 2% = 2,000 × $10 = $20,000/ 10000*.02=2000shares10000*.02=2000shares
2,000 × $1 par = $2,000 × $1 par = $2,000/2000*$10=20000RE, 2000*$1=20002,000/2000*$10=20000RE, 2000*$1=2000
100,000 × 2% = 2,000 × $10 = $20,000/100,000 × 2% = 2,000 × $10 = $20,000/ 10000*.02=2000shares10000*.02=2000shares
2,000 × $1 par = $2,000 × $1 par = $2,000/2000*$10=20000RE, 2000*$1=20002,000/2000*$10=20000RE, 2000*$1=2000
Dec. 31 Retained earnings 20,000
Common stock dividend
distributable 2,000
excess of par value 18,000
Declared a 2,000 shares (2%) stock dividend

13-33
Before theBefore the
stockstock
dividend.dividend.
After theAfter the
stockstock
dividend.dividend.

13-34
Recording a Large Stock
DividendRouter, Inc. shows the following stockholders’
equity section just prior to issuing a large stock
dividend.
Router, Inc. shows the following stockholders’
equity section just prior to issuing a large stock
dividend.

13-35
Recording a Large Stock
Dividend
On December 31, 2005, Router declared a 40% stock
share. State law requires that large stock
dividends be capitalized at par value per share.
On December 31, 2005, Router declared a 40% stock
share. State law requires that large stock
dividends be capitalized at par value per share.
50,000 × 40% = 20,000 shares × $1 par value = $20,00050,000 × 40% = 20,000 shares × $1 par value = $20,00050,000 × 40% = 20,000 shares × $1 par value = $20,00050,000 × 40% = 20,000 shares × $1 par value = $20,000
Dec. 31 Retained earnings 20,000
Common stock dividend
distributable 20,000
Declared a 20,000 shares (40%) stock dividend

13-36
Stock Splits
A distribution of additional shares of stock to stockholders
according to their percent ownership.
A distribution of additional shares of stock to stockholders
according to their percent ownership.
Common Stock
$10 par value
100 shares
Old
Shares
New
Shares Common Stock
$5 par value
200 shares

13-37
Stock Splits
Thomas, Inc. has the following stockholders’ equityThomas, Inc. has the following stockholders’ equity
section just prior to a 2-for-1 stock split.section just prior to a 2-for-1 stock split.
Thomas, Inc. has the following stockholders’ equityThomas, Inc. has the following stockholders’ equity
section just prior to a 2-for-1 stock split.section just prior to a 2-for-1 stock split.

13-38
Stock Splits
After the 2-for-1 split the stockholders’ equity section ofAfter the 2-for-1 split the stockholders’ equity section of
the balance sheet looks like this . . .the balance sheet looks like this . . .
After the 2-for-1 split the stockholders’ equity section ofAfter the 2-for-1 split the stockholders’ equity section of
the balance sheet looks like this . . .the balance sheet looks like this . . .
No accounting
entry is made.
No accounting
entry is made.

13-39
Stock Splits
 The split does not affect any equity amounts reported on
balance sheet or any individual stockholder’s percent
ownership. Both the contributed capital and retained
earnings accounts are unchanged by a split.

13-40
Treasury Stock
Corporations acquire shares of their own stock.
Why would a
company do
that?
Why would a
company do
that?
Use the shares to acquireUse the shares to acquire
control of another corporation.control of another corporation.
To avoid a hostile takeover.To avoid a hostile takeover.
Use the shares forUse the shares for
employee stock options.employee stock options.
To maintain a strong market forTo maintain a strong market for
its stock or show managementits stock or show management
confidence in the current price.confidence in the current price.
Use the shares to acquireUse the shares to acquire
control of another corporation.control of another corporation.
To avoid a hostile takeover.To avoid a hostile takeover.
Use the shares forUse the shares for
employee stock options.employee stock options.
To maintain a strong market forTo maintain a strong market for
its stock or show managementits stock or show management
confidence in the current price.confidence in the current price.

13-41
Treasury Stock

13-42
Purchasing Treasury Stock
On May 8, Whitt, Inc. purchased 2,000 of its own
shares of stock in the open market for $8,000.
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 totalTreasury stock is shown as a reduction in total
stockholders’ equity on the balance sheet.stockholders’ equity on the balance sheet.
Treasury stock is shown as a reduction in totalTreasury stock is shown as a reduction in total
stockholders’ equity on the balance sheet.stockholders’ equity on the balance sheet.
May 8 Treasury stock, common 8,000
Cash 8,000
Purchase 2,000 treasury shares at $4 per share

13-43
Selling Treasury Stock at Cost
On June 30, Whitt sold 100 shares of its treasury stock for $4 per share.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$8,000 ÷ 2,000 shares = $4 cost per treasury share
June 30 Cash 400
Treasury stock, common 400
Sold 100 shares of treasury for $4 per share

13-44
Selling Treasury Stock Above
CostOn July 19, Whitt, Inc. sold an additional 500 shares
of its treasury stock for $8 per share.
On July 19, Whitt, Inc. sold an additional 500 shares
of its treasury stock for $8 per share.
July 19 Cash 4,000
Treasury stock, 2,000
Contributed capital,
treasury stock 2,000
Sold 500 treasury shares for $8 per share

13-45
Selling Treasury Stock Below
CostOn August 27, Whitt sold an additional 400 shares of its
treasury stock for $1.50 per share.
On August 27, Whitt sold an additional 400 shares of its
treasury stock for $1.50 per share.
Aug. 27 Cash 600
1,000
Treasury stock, 1,600
Sold 500 treasury shares for $1.50 per share
Contributed capital,
treasury stock

13-46
Net IncomeNet IncomeNet IncomeNet Income
Reporting Income and Equity
Discontinued
Segments
Changes in
Accounting
Principle
Extraordinary
Items
Continuing
Operations

13-47
Revenues, expensesRevenues, expenses
and income generatedand income generated
by the company’sby the company’s
continuing operations.continuing operations.
Revenues, expensesRevenues, expenses
and income generatedand income generated
by the company’sby the company’s
continuing operations.continuing operations.
Continuing Operations
Continuing
Operations

13-48
Income from operating the discontinued segment priorIncome from operating the discontinued segment prior
to its disposalto its disposal andand gain or loss on the sale of the netgain or loss on the sale of the net
assets of the segment.assets of the segment.
Income from operating the discontinued segment priorIncome from operating the discontinued segment prior
to its disposalto its disposal andand gain or loss on the sale of the netgain or loss on the sale of the net
assets of the segment.assets of the segment.
Discontinued Segments
Discontinued
Segments

13-49
A gain or loss thatA gain or loss that
isis unusualunusual in naturein nature
andand infrequentinfrequent inin
occurrence.occurrence.
A gain or loss thatA gain or loss that
isis unusualunusual in naturein nature
andand infrequentinfrequent inin
occurrence.occurrence.
Extraordinary Items
Extraordinary
Items

13-50
The increase orThe increase or
decrease in incomedecrease in income
when changing fromwhen changing from
one generally acceptedone generally accepted
accounting principle toaccounting principle to
another.another.
The increase orThe increase or
decrease in incomedecrease in income
when changing fromwhen changing from
one generally acceptedone generally accepted
accounting principle toaccounting principle to
another.another.
Changes in Accounting
Principles
Changes in
Accounting
Principle

13-51
Income Statement

13-52
Earnings Per Share
Earnings per share is one of the most widely cited items
of accounting information.
Earnings per share is one of the most widely cited items
of accounting information.
Basic
earnings
per share
= Net income - Preferred dividends
Weighted-average common shares outstanding

13-53
Changes in Shares Outstanding
Derby, Inc. reports net income of $75,000 and paid
preferred dividends of $10,000 during 2005. The
company started the year with 10,000 shares of
common stock outstanding. Derby sold an additional
4,000 share of stock on March 31, and purchased
2,000 treasury shares on September 30, 2005.

13-54
EPS =EPS =
$75,000 - $10,000$75,000 - $10,000
12,50012,500
== $5.20$5.20
Changes in Shares Outstanding

13-55
Stock Options
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.
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.
Option
purchase
price $30
per share.
Market
price of
stock $75
per share.

13-56
Stock Options
Options are given to key employees to motivate
them to:
focus on company performance,
take a long-run perspective, and
remain with the company.
Options are given to key employees to motivate
them to:
focus on company performance,
take a long-run perspective, and
remain with the company.

13-57

13-58
Statement of Retained Earnings
Total cumulative amount of reported net income less
any net losses and dividends declared since the
company started operating.
Total cumulative amount of reported net income less
any net losses and dividends declared since the
company started operating.

13-59
LegalLegal ContractualContractual
Most states restrict
the amount of
treasury stock
purchases to the
amount of retained
earnings.
Most states restrict
the amount of
treasury stock
purchases to the
amount of retained
earnings.
Loan agreements
can include
restrictions on
paying
dividends below a
certain amount of
retained earnings.
Loan agreements
can include
restrictions on
paying
dividends below a
certain amount of
retained earnings.
Restricted Retained Earnings

13-60
Appropriated Retained
EarningsA corporation’s directors can voluntarily limit dividends
because of a special need for cash such as the
purchase of new facilities.
A corporation’s directors can voluntarily limit dividends
because of a special need for cash such as the
purchase of new facilities.

13-61
Prior Period Adjustments
Correction of material errors in past years’ financial
statements. If an amount is incorrectly expensed, add
amount to Retained Earnings.

13-62
(In millions) Retained
Shares Amount Earnings Total
Balance at January 1, 2005 821 2,500$ 9,500$ 12,000$
Stock sales 17 500 500
Stock repurchases and retirement (17) (260) (925) (1,185)
Cash dividends declared (150) (150)
Other, net 70 70
Net income 5,100 5,100
Balance at December 31, 2005 821 2,740$ 13,595$ 16,335$
Common stock and
capital in excess of par
Matrix, Inc.
Statement of Stockholders' Equity
For the Year Ended December 31, 2005
Statement of Stockholders’
Equity
This is a more inclusive statement than the statement of
retained earnings.

13-63
Book Value per Share—
Common
Records amount of stockholders’ equity applicable to common shares on
a per share basis.
Records amount of stockholders’ equity applicable to common shares on
a per share basis.
Book value perBook value per
common sharecommon share
==
Stockholders’ equity applicable
to common shares
Number of common shares
outstanding

13-64
Book Value per Share—
Preferred
Records amount of stockholders’ equity applicable to preferred shares on
a per share basis.
Records amount of stockholders’ equity applicable to preferred shares on
a per share basis.
Book value perBook value per
preferredpreferred shareshare
==
Stockholders’ equity applicable
to preferred shares
Number of preferred shares
outstanding

13-65
Dividend Yield
Tells us the annual amount of cash dividends distributed
to common stockholders relative to the stock’s
market price.
Tells us the annual amount of cash dividends distributed
to common stockholders relative to the stock’s
market price.
DividendDividend
YieldYield
==
Annual cash dividends per shareAnnual cash dividends per share
Market value per shareMarket value per share

13-66
This ratio reveals information about the stock market’sThis ratio reveals information about the stock market’s
expectations for a company’s future growth inexpectations for a company’s future growth in
earnings, dividends, and opportunities.earnings, dividends, and opportunities.
This ratio reveals information about the stock market’sThis ratio reveals information about the stock market’s
expectations for a company’s future growth inexpectations for a company’s future growth in
earnings, dividends, and opportunities.earnings, dividends, and opportunities.
If earnings go up,
will the market price
of my stock follow?
Price Earnings
Price-Price-
EarningsEarnings ==
Market value per shareMarket value per share
Earnings per shareEarnings per share

13-67
Homework for Chapter 13
 Ex 13-16, 13-17
 Problem 13-2A, 13-4A
 Due on July 12, 2006 (Wednesday)

13-68
End of Chapter

Accounting for companies

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