hhofma3e_ch13_inst

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Chapter 13
1
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Account for stock dividends
Account for stock splits
Account for treasury stock
Report restrictions on retained earnings
Complete a corporate income statement
including earnings per share
2
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1
Account for stock dividends
3
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
Cash dividends
Actual money goes out to share holders.
This is real money. Shareholders can spend it.
Stock dividends
This is not money. No money is sent to anybody.
The company sends additional shares of stock to every
owner, proportional to their shares held.
Every owner maintains the exact same percentage
ownership in the company.
Question: Which does not involve the cash
account?
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
A distribution of a corporation’s own stock
Affects only stockholders’ equity accounts
No effect on total stockholders’ equity
No effect on assets or liabilities
Stockholders receive proportionate shares
Example–10% stock dividend; every stockholder
receives 10% more shares
If you own 100 shares, you get 10 more
If I own 10 shares, I get 1 more
Total number of shares issued and outstanding increases
Ownership percentages remain the same
5
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Conserve cash
Continue dividends without using
cash
Reduce market price per share
Share supply increases; market price decreases
Less expensive; more attractive investment
Reward investors
Shareholders receive something of perceived value
If I just got more shares, and everyone else got more shares
too, are any of us really better off?
6
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The point of this transaction is to put the retained earnings
more visibly “in the hands” of the investor.
A small stock dividend shouldn’t materially affect the stock
price, so we do the transaction at market price.
1) Take the market value of the new shares out of retained earnings
{Debit Retained earnings}
2) Put that amount into Common stock account subject to that
accounts par value limits
{Credit Capital stock}
{Or, Credit: Stock dividend to be distributed}
3) Put the residual in the Additional paid In capital account
{Credit: Additional paid in capital}
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Same three dates for a stock dividend
Declaration date; record date; distribution date
We are preparing one single summary transaction
Pull full market value from retained earnings
Put it in the common stock account, subject to par
Demo: Issue a 5% stock dividend on common stock
There are 2,000,000 shares of $1 par stock outstanding
The stock is trading at $50 (market value)
What did we just do to the usefulness of the balance sheet?
8
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These are greater than 25%, large enough to affect
stock price.
So, there is no pretending that they won’t.
Since we aren’t pretending to support market
price, we just take the par value out of retained
earnings and reposition that as common stock
This keeps the stock price affordable to smaller
investors and placates investor return desires.
9
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Large
Distribution is greater than 20% to 25% of issued shares
Debit Retained earnings for par or stated value of shares
Credit Common stock for par or stated value of shares
Rare
Journal entry demo: 50% stock dividend
2,100,000 shares outstanding
$1 par value
These are quite rare, normally a company will either
do a small stock dividend, or a stock split.
10
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2
Account for stock splits
16
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2 big slices at
$4 each?
4 little slices
at $2 each?
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$100 stocks
seem too
expensive
$0.50 stocks
must be
underperforming
companies
Stock splits can
be performed to
put the per
share price
wherever you
want it.
$50 stocks
must be
doing well
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
Why is there price movement around stock splits?
Small investors view the stock as more affordable.
Sustainable stock price increase indicator.
To the extent that people agree that the price will move, this belief
alone may cause the move – especially if it is helped along a
little…...
2-for-1.com
GE, MSFT, HOG, AAPL, HD
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
A stock split:
Cuts par value per share
Increases the number of shares of stock issued and
outstanding
Leaves all account balances and total stockholders’
equity unchanged
Balances in the accounts are unchanged
Record in a memorandum entry–a journal entry
without debits and credits
20
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Old Balance Sheet item:
Common Stock, $1 par value, 3,150,000
Shares issued and outstanding....................$3,150,000
NEW Balance Sheet item:
Common Stock, 50¢ par value, 6,300,000
shares issued and outstanding……………...$3,150,000
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3
Account for treasury stock
28
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Shares that a company has issued and later
reacquired
Held as a contra equity account at repurchase cost
No entry made to original capital stock account
Reasons corporations purchase their own stock:
Buy low and sell high to increase wealth
To boost the company’s stock price
To avoid a takeover by an outside party
To make stock available for employee rewards
An alternate way to give cash to shareholders
29
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Authorized
Shares
The maximum
number of
shares of capital
stock that may
be sold to the
public.
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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.
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Where Treasury Stock Comes
From
Outstanding shares are issued
shares that are currently owned
by stockholders.
Authorized
Shares
NO voting rights!
Outstanding
Shares
Issued
Shares
Treasury
Shares
Unissued
Shares
Treasury shares are issued
shares that have been
repurchased by the
corporation.
No dividends!
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
Where Treasury Stock Comes
From
Outstanding shares are issued
shares that are currently owned
by stockholders.
Authorized
Shares
Issued
Shares
Outstanding
Shares
When treasury
stock is re-issued it
becomes regular
stock again!
Unissued
Shares
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Purchase of treasury stock
Company debits Treasury stock and credits Cash
Sale of treasury stock at cost
Next: Treasury stock earnings bypass the income
statement!
36
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Sell 200 shares of that $5 cost stock @ $6 each
Difference is credited to Paid-in capital from
treasury stock transactions
Sell 200 shares of that $5 treasury stock @ $4.30
Difference is debited to Paid-in Capital from
treasury stock transactions, if available
Debit Retained earnings if that account is empty
37
Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.
Sell 200 shares of that $5 Treasury stock @
$4.50 per share.
Paid-in capital from treasury stock transactions is
insufficient to cover shortfall
Debit Retained earnings for the difference
38
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Reported beneath Retained earnings as a
reduction
39
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5
Complete a corporate income statement
including earnings per share
46
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Information about net income can be divided into
two major categories
Normal, recurring revenue and
expense transactions.
Income from
continuing
operations.
1. The results
of
discontinued
operations
Unusual, nonrecurring events
that affect net income.
2. The impact
of
extraordinary
items.
3. The effects
of changes in
accounting
principles.
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Continuing Operations
Should continue from period to period
Useful for making projections about future earnings
Why use this number?
This should be the basis of forecasting future year
earnings
If you are buying into a company now, this is the
basis you care about, not those other non-repeating
49 items.
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Reported after income from continuing
operations
Reported net of any tax effects
Two distinctly different gains and losses:
Discontinued operations
Extraordinary items
Note: Plant asset gains/losses are part of continuing
operations
50
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Segment of a business that has been sold
Each segment is an identifiable division of company
Reported separately because the segment will
not be around in the future
Operating profits/loss
Gain/loss on sale of the segment
51
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Material in amount.
Gains or losses that are
both unusual in nature and
not expected to recur in the
foreseeable future.
Reported net of related
taxes.
NOT: lawsuits, strikes,
recurring acts of nature,
plant asset gains/losses
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Both unusual and infrequent
Not expected to recur in the foreseeable future
Examples:
Losses from natural disasters
Foreign government takeover (expropriation)
Reported net of income tax effect
Items not qualifying as extraordinary
Gains and losses on the sale of plant assets
Losses due to lawsuits
Losses due to employee labor strikes
Natural disasters that occur frequently in the area
53
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During 2011, an earthquake caused $75,000
damage to Apex’s factory.
The company reported income before
extraordinary item of $175,000.
All gains and losses are subject to a 30% tax
rate.
How would this item appear on the 2011 income
statement?
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Extraordinary Loss $ (75,000)
Less: Tax Benefits
($75,000 × 30%)
22,500
Net Loss
$ (52,500)
Income Statement Presentation:
Earnings before extraordinary item
Extraordinary Loss:
Earthquake loss
(net of tax benefit of $22,500)
$?)
Net Income
$ 175,000
?
(52,500)
?
$ 122,500
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Measures amount of net income for each share of
common stock outstanding
Separate EPS figure for different purposes
Income from continuing operations
Forward projection: if you are going to buy it
Net income
Historical perspective: if you already own it
56
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Altar, Corp., earned net income of $118,000 for 2012. Altar’s books
include the following figures:
Preferred stock, 3%, $50 par, 1,000 shares
issued and outstanding . . . . . . . . . . . . . . . . . . . . . $ 50,000
Common stock, $2 par, 53,000 issued . . . . . . . . . . 106,000
Paid-in capital in excess of par—common . . . . . . 460,000
Treasury stock, common, 1,200 at cost . . . . . . . . . . 24,000
1. Compute Altar’s EPS for the year.
$(118,000 – 15,000)/51,800 = $2.25*
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(2.249034749034749) rounded
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Growth rate
Companies aim to increase earnings per share to
demonstrate increasing wealth building power
Earnings relative to stock price
Comparing the stock price per share to the earnings
per share provides a measure of value of the stock
The Price to Earnings ratio compares stock price to
earnings per share
A measure of how much it costs to buy $1.00 in a
company’s earnings.
A high p/e ratio indicates an expensive stock
A low p/e ratio indicates a value stock
60
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P/E ratio = Price per share ÷ Earnings per share
Using the P/E ratio:
Find a company you like based on:
Earnings – strong income statement
Balance sheet – strong financial standing
Cash flows – learn next week
Situation analysis
THEN, evaluate whether or not it is worth the
purchase price by using the p/e ratio
61
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Stock dividends are either small (less than 20%–
25%) or large (greater than 20%–25%). Small
stock dividends are valued at the stock’s fair
market value. Large stock dividends are valued
at par. Stock dividends have no effect on total
stockholders’ equity, but do increase paid-in
capital and decrease Retained earnings.
Stock splits reduce par value and market value
per share. Stock splits increase the number of
issued and outstanding shares. Stock splits have
no effect on any general ledger accounts.
66
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Treasury stock occurs when a company repurchases
previously issued shares. Treasury stock is a contra
equity account; therefore, increases in Treasury stock
decrease total stockholders’ equity. Treasury stock
purchases are recorded at cost, not par. All gains/losses
on treasury stock sales are reported in the stockholders’
equity accounts.
Restrictions on retained earnings most often arise from
loan restrictions. These restrictions usually require
companies to maintain minimum levels of retained
earnings, thereby restricting amounts available for cash
dividends and treasury stock purchases. Restrictions
must be disclosed in the footnotes to the financial
statements.
67
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The corporate income statement extends its
coverage to include items that aren’t continuing.
Extraordinary items—those infrequent and
unusual—are reported separately, net of their tax
effect on the income statement. Earnings per
outstanding common share are reported for each
major income statement item. The statement of
retained earnings may include prior-period
adjustments for corrective items. Comprehensive
income includes the four items identified that
aren’t normally reported on the income
statement.
68
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69
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Copyright
All rights reserved. No part of this publication may be reproduced,
stored in a retrieval system, or transmitted, in any form or by any
means, electronic, mechanical, photocopying, recording, or
otherwise, without the prior written permission of the publisher.
Printed in the United States of America.
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