Stockholders’ Equity 1 Corporate Capital Illustration Experience Tradition/tutorialoutletdotcom

Stockholders’ Equity 1 Corporate Capital Illustration:
Bad Corporation issued 300 shares of $10 par value
common stock
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Stockholders’ Equity 1 Corporate Capital
Illustration: Bad Corporation issued 300 shares of $10 par value
common stock for $4,500. Prepare the journal entry to record the
issuance of the shares.
Cash 2 4,500 Common Stock (300 x $10) 3,000 Paid-in Capital in
Excess of Par Value 1,500 3 Corporate Capital
No-Par Stock
Reasons for issuance: Avoids contingent liability. Avoids confusion
over recording par value versus fair
market value. A major disadvantage of no-par stock is that some
states levy a

high tax on these issues. In addition, in some states the total issue
price for no-par stock may be considered legal capital, which could
reduce the flexibility in paying dividends. 3 3 Corporate Capital
Illustration: Ma Corporation is organized with authorized
common stock of 10,000 shares without par value. If Ma issues
500 shares for cash at $10 per share, it makes the following
entry.
Cash
Common Stock 4 5,000
5,000 3 Corporate Capital
Illustration: Some states require that no-par stock have a stated

value. If a company issued 1,000 of the shares with a $5 stated
value at $15 per share for cash, it makes the folwing entry.
Cash
Common Stock
Paid-in Capital in Excess of Stated Value 5 15,000
5,000
Stock Issued with Other Securities (Lump-Sum)
Two methods of alcating proceeds:
1. Proportional method.

2. Incremental method. 6 3 Corporate Capital
Illustration: B Corporation issued 300 shares of $10 par value
common stock and 100 shares of $50 par value preferred stock for a
lump sum of $13,500. Common stock has a market value of $20 per
share, and preferred stock has a market value of $90 per share.
Proportional
Method
7 3 Corporate Capital
Prepare the
journal entry
to record
issuance of

shares. Cash 8 Proportional
Method 13,500 Preferred Stock (100 x $50) 5,000 Paid-in Capital in
Excess of Par – Preferred 3,100 Common Stock (300 x $10) 3,000
Paid-in Capital in Excess of Par – Common 2,400
3 Corporate Capital
Illustration: B Corporation issued 300 shares of $10 par value
common stock and 100 shares of $50 par value preferred stock for a
lump sum of $13,500. The common stock has a market value of $20
per
share, and the value of preferred stock is unknown. Incremental
Method
Prepare the

journal entry
to record
issuance of
shares. Cash 10 Incremental
Method 13,500 Preferred Stock (100 x $50) 5,000 Paid-in Capital in
Excess of Par – Preferred 2,500 Common Stock (300 x $10) 3,000
Paid-in Capital in Excess of Par – Common 3,000
3 Corporate Capital
Stock Issued in Noncash Transactions
The general rule: Companies should record stock issued
for services or property other than cash at the fair value of the stock
issued or fair value of the noncash consideration received, whichever
is more clearly determinable. 11 3 Corporate Capital

Illustration: The following series of transactions illustrates the
procedure for recording the issuance of 10,000 shares of $10 par
value common stock for a patent for A Company, in various
circumstances.
1. A cannot readily determine the fair value of the patent, but it knows
the fair value of the stock is $140,000.
Patents 140,000 Common Stock
Paid-in Capital in Excess of Par - Common 12 100,000
2. A cannot readily determine the fair value of the stock, but it
determines the fair value of the patent is $150,000.
Patents 150,000 Common stock

3. A cannot readily determine the fair value of the stock nor the
fair value of the patent. An independent consultant values the
patent at $125,000 based on discounted expected cash flows. Patents
125,000 Common stock
Costs of Issuing Stock
Direct costs incurred to sell stock, such as underwriting costs,
accounting and legal fees, printing costs, and taxes, should be
reported as a reduction of the amounts paid in (Paid-in
Capital in Excess of Par). 15 3 Corporate Capital

Purchase of Treasury Stock
Two acceptable methods: Cost method (more widely used). Par
(Stated) value method. Treasury stock reduces stockholders’ equity.
Illustration: C Company issued 100,000 shares of $1 par value
common stock at a price of $10 per share. In addition, it has retained
earnings of $300,000. 17 4 Corporate Capital
Illustration: C Company issued 100,000 shares of $1 par value
common stock at a price of $10 per share. In addition, it has retained
earnings of $300,000.
On January 20, C acquires 10,000 of its shares at $11 per share. C
records the reacquisition as follows.

Treasury Stock
Cash 18 110,000
Illustration: The stockholders’ equity section for C after purchase of
the treasury stock. 19 4 Corporate Capital
Sale of Treasury Stock Above Cost Below Cost Both increase total
assets and stockholders’ equity. 20 4 Corporate Capital
Sale of Treasury Stock above Cost. C acquired 10,000 treasury
share at $11 per share. It now sells 1,000 shares at $15 per share
on March 10. C records the entry as follows.
Cash

Treasury Stock
Paid-in Capital from Treasury Stock 21 15,000
11,000
Sale of Treasury Stock below Cost. C sells an additional 1,000
treasury shares on March 21 at $8 per share, it records the sale as
follows.
Cash 8,000 Paid-in Capital from Treasury Stock 3,000 Treasury Stock
11,000 22 4 Corporate Capital Illustration: Assume that C sells an
additional 1,000 shares at $8
per share on April 10.
Cash 8,000 Paid-in Capital from Treasury Stock 1,000 Retained

Earnings 2,000 Treasury Stock
23 11,000 4 Corporate Capital
Retiring Treasury Stock
Decision results in 24 cancellation of the treasury stock and a
reduction in the number of shares of issued stock. 4 Preferred Stock
Features of Preferred Stock 25 Cumulative Participating Convertible
Callable Redeemable 5 Preferred Stock
Illustration: B Co. issues 10,000 shares of $10 par value
preferred stock for $12 cash per share. B records the issuance as
folws:
Cash 120,000 Preferred stock
100,000

Paid-in Capital in Excess of Par - Preferred
20,000 26 5 Dividend Policy
Types of Dividends
1. Cash dividends. 3. Liquidating dividends. 2. Property dividends. 4.
Stock dividends. All dividends, except for stock dividends, reduce the
total
stockholders’ equity in the corporation. 27 7 Dividend Policy
Cash Dividends Board of directors vote on the declaration of cash
dividends. A declared cash dividend is a liability. Companies do not
declare or pay cash
dividends on treasury
stock. Three

Three dates:
dates:
a.
a. Date
Date of
of declaration
declaration
b.
b. Date
Date of
of record

record
c.
c. Date
Date of
of payment
payment 28 7 Dividend Policy
Illustration: D Corp. on June 10 declared a cash dividend of 50 cents
a share on 1.8 million shares payable July 16 to all stockholders of
record June 24.
At date of declaration (June 10)

Retained Earnings 900,000 Dividends Payable
At date of record (June 24) 900,000
No entry At date of payment (July 16)
Dividends Payable
Cash
29 900,000
900,000
7 Dividend Policy
Property Dividends 30 Dividends payable in assets other than cash.
Restate at fair value the property it will distribute, recognizing
any gain or ss. 7 Dividend Policy
Illustration: H, Inc. transferred to stockholders some of its equity

investments costing $1,250,000 by declaring a property dividend on
December 28, 2013, to be distributed on January 30, 2014, to
stockholders of record on January 15, 2014. At the date of
declaration, the securities have a market value of $2,000,000. H
makes the following entries.
At date of declaration (December 28, 2013)
Equity Investments 750,000 Unrealized Holding Gain or ss—Income
Retained Earnings
Property Dividends Payable
31 750,000

2,000,000
2,000,000
7 Dividend Policy
Illustration: H, Inc. transferred to stockholders some of its equity
investments costing $1,250,000 by declaring a property dividend on
December 28, 2013, to be distributed on January 30, 2014, to
stockholders of record on January 15, 2014. At the date of
declaration, the securities have a market value of $2,000,000. H
makes the following entries.
At date of distribution (January 30, 2014)
Property Dividends Payable

Equity Investments 32 2,000,000
2,000,000 7 Dividend Policy
Liquidating Dividends 33 Any dividend not based on earnings
reduces corporate
paid-in capital. The portion of these dividends in excess of
accumulated
income represents a return of part of the stockholder’s
investment. 7 Dividend Policy
Illustration: Hay Inc. issued a “dividend” to its common stockholders
of $1,200,000. The cash dividend announcement noted stockholders
should consider $900,000 as income and the remainder a return of
capital. Hay records the dividend as follows.

Date of declaration
Retained Earnings 900,000 Paid-in Capital in Excess of Par-Common
300,000 Dividends Payable
1,200,000 Date of payment
Dividends Payable 34 Cash
1,200,000 1,200,000
7 Dividend Policy
Stock Dividends and Stock Splits
Stock Dividends 35 Issuance by a company of its own stock to
stockholders on
a pro rata basis, without receiving any consideration. Used when
management wishes to “capitalize” part of
earnings. If stock dividend is less than 20–25 percent of the common

shares outstanding, company transfers fair market value
from retained earnings (small stock dividend). 8 Dividend Policy
Illustration: K Corporation has outstanding 1,000 shares of $100
par value common stock and retained earnings of $50,000. If K
declares a 10 percent stock dividend, it issues 100 additional shares
to current stockholders. If the fair value of the stock at the time of the
stock dividend is $130 per share, the entry is:
Date of declaration
Retained Earnings 13,000 Common Stock Dividend Distributable
10,000

Paid-in Capital in Excess of Par-Common
3,000
Date of distribution
Common Stock Dividend Distributable
36 Common Stock
10,000 10,000
8 Dividend Policy
Stock Split
To
No reduce the market value of shares.
entry recorded for a stock split. Decrease 37 par value and increase
number of shares. 8 Dividend Policy

Stock Split and Stock Dividend Differentiated
Large Stock Dividend - 20–25 percent of the number of
shares previously outstanding. 38 ► Same effect on market price as a
stock split. ► Par value transferred from retained earnings to capital
stock. 8 Dividend Policy
Illustration: L, Inc. declared a 30 percent share dividend on
November 20, payable December 29 to stockholders of record
December 12. At the date of declaration, 1,000,000 shares, par value
$10, are outstanding and with a fair value of $200 per share. The
entries are: 39 8 EPS 40 Weighted-Average Shares Outstanding
Illustration: Z Inc. has the following changes in its common stock

during the period. Compute the weighted-average number of shares
outstanding for Z
Inc.
41 6 Weighted-Average Shares Outstanding Illustration 10 42 6
Weighted-Average Shares Outstanding
Illustration: Ban Company has the folwing changes in its common
stock during the period. Compute the weighted-average number of
shares outstanding for
Ban Company.
43 6 Weighted-Average Shares Outstanding Illustration 12 44 6
Computing Earnings per Share
Earnings per Share—Complex Capital Structure
Complex Capital Structure exists when a business has convertible
securities, options, warrants, or other rights that upon conversion or
exercise could dilute earnings per

share.
Company generally reports
both basic and diluted
earnings per share.
45 7 EPS - Complex Capital Structure
Diluted EPS includes the effect of all potential dilutive common
shares that were outstanding during the period. Companies will not
report diluted EPS if the securities in their
capital structure are antidilutive.
Diluted EPS – Convertible Securities
Measure the dilutive effects of potential conversion on EPS

using the if-converted method.
This method for a convertible bond assumes: 47 1. the conversion at
the beginning of the period (or at the time
of issuance of the security, if issued during the period), and 2. the
elimination of related interest, net of tax. 7 EPS - Complex Capital
Structure
Illustration: M Corporation has net income of $210,000 for the
year and a weighted-average number of common shares
outstanding during the period of 100,000 shares. The company
has two convertible debenture bond issues outstanding. One is a
6 percent issue sold at 100 (total $1,000,000) in a prior year and
convertible into 20,000 common shares. Interest expense on the
6 percent convertibles is $60,000. The other is a 10 percent

issue sold at 100 (total $1,000,000) on April 1 of the current year
and convertible into 32,000 common shares. Interest expense on
the 10 percent convertible bond is $75,000. The tax rate is 40
percent. 48 7 EPS - Complex Capital Structure
Calculate basic earnings per share. Net income = $210,000 = $2.10
Weighted-average shares = 100,000 49 7 EPS - Complex Capital
Structure
M calculates the weighted-average number of shares outstanding,
as follows. Calculate diluted earnings per share. 50 7 EPS - Complex
Capital Structure
When calculating Diluted EPS, begin with basic EPS.
Basic
EPS 6%

Debentures 10%
Debentures $210,000 + $60,000 x (1 - .40) + $100,000 x (1 - .40) x
9/12
=
100,000 Basic EPS
= 2.10 + 20,000 Effect on EPS
= 1.80 + 24,000 Effect on EPS = 1.875
Diluted EPS = $2.02 51 7 EPS - Complex Capital Structure
Illustration: In 2013, C Enterprises issued, at par, 60, $1,000, 8%
bonds, each convertible into 100 shares of common stock. C had
revenues of $17,500 and expenses other than interest and taxes of

$8,400 for 2014. (Assume that the tax rate is 40%.) Throughout
2014, 2,000 shares of common stock were outstanding; none of the
bonds was converted or redeemed.
Instructions
(a) Compute diluted earnings per share for 2014.
(b) Assume same facts as those for Part (a), except the 60 bonds
were issued on September 1, 2014 (rather than in 2013), and
none have been converted or redeemed.
Calculation of Net Income

Revenues $17,500 Expenses 8,400 Bond interest expense (60 x
$1,000 x 8%) 4,800 Income before taxes 4,300 Income tax expense
(40%) 1,740 Net income 53 $ 2,580 7 EPS - Complex Capital
Structure
When calculating Diluted EPS, begin with basic EPS. Basic EPS
Net income = $2,580 = $1.29 Weighted average shares = 2,000 54 7
EPS - Complex Capital Structure
When calculating Diluted EPS, begin with basic EPS. Diluted EPS
$2,580 +
2,000 Basic EPS
= 1.29

55 + $4,800 (1 - .40)
6,000 = $5,460 = $.68 8,000 Effect on EPS = .48
7 EPS - Complex Capital Structure
(b) Assume bonds were issued on Sept. 1, 2014 .
Calculation of Net Income 56 7 EPS - Complex Capital Structure
(b) Assume bonds were issued on Sept. 1, 2014 .
$4,500 + $1,600 (1 - .40) 2,000 + 6,000 x 4/12 yr. Basic EPS
= 2.25
57 = $5,460 = $1.37 4,000 Effect on EPS = .48

Illustration: Prior to 2014, B Company issued 40,000 shares of
6% convertible, cumulative preferred stock, $100 par value. Each
share is convertible into 5 shares of common stock. Net income for
2014 was $1,200,000. There were 600,000 common shares
outstanding during 2014. There were no changes during 2014 in
the number of common or preferred shares outstanding.
Instructions
(a) Compute diluted earnings per share for 2014. 58 7 EPS - Complex
Capital Structure
When calculating Diluted EPS, begin with basic EPS. Basic EPS

Net income $1,200,000 – Pfd. Div. $240,000* = $1.60 Weighted
average shares = 600,000 * 40,000 shares x $100 par x 6% =
$240,000 dividend
$1,200,000 – $240,000 + $240,000 600,000 + 200,000* = $1,200,000
800,000 = $1.50
Basic EPS = 1.60
60 Effect on
EPS = 1.20 *(40,000 x 5)

(a) Compute diluted earnings per share for 2014 assuming
each share of preferred is convertible into 3 shares of
common stock. Diluted EPS
$1,200,000 – $240,000 + $240,000 600,000 + 120,000* = $1,200,000
720,000 = $1.67
Basic EPS = 1.60
61 Effect on
EPS = 2.00 *(40,000 x 3)
(a) Compute diluted earnings per share for 2014 assuming
each share of preferred is convertible into 3 shares of

common stock. Diluted EPS Basic = Diluted EPS $1,200,000 –
$240,000 + $240,000 600,000 + 120,000* = $1,200,000
720,000 = Antidilutive
$1.67 Basic EPS = 1.60
62 Effect on
EPS = 2.00 *(40,000 x 3)
Diluted EPS – Options and Warrants
Measure the dilutive effects of potential conversion using the
treasury-stock method.
This method assumes: 63 (1) the exercise the options or warrants at
the beginning of the

year (or date of issue if later), and (2) that the company uses those
proceeds to purchase common
stock for the treasury. 7 EPS - Complex Capital Structure
Illustration: Z Company’s net income for 2014 is $40,000. The only
potentially dilutive securities outstanding were 1,000 options issued
during 2013, each exercisable for one share at $8. None has been
exercised, and 10,000 shares of common were outstanding during
2014. The average market price of the stock during 2014 was $20.
Instructions
(a) Compute diluted earnings per share.
(b) Assume the 1,000 options were issued on October 1, 2014

(rather than in 2013). The average market price during the
last 3 months of 2014 was $20. 64 7 EPS - Complex Capital Structure
Treasury-Stock Method
Proceeds if shares issued (1,000 x $8)
Purchase price for treasury shares
Shares assumed purchased
Shares assumed issued
Incremental share increase 65 $8,000 ÷ $20
400
1,000

$40,000 + 10,000 + Basic EPS
= 4.00
66 =
600 $40,000 = $3.77 10,600 Options
(b) Compute diluted earnings per share assuming the 1,000
options were issued on October 1, 2014.

Treasury-Stock Method ÷ x 67 7 EPS - Complex Capital Structure
(b) Compute diluted earnings per share assuming the 1,000
options were issued on October 1, 2014. Diluted EPS
$40,000
10,000 Basic EPS
= 4.00
68 + =
150 $40,000 = $3.94 10,150 Options 7

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