Financial Accounting:
Tools for Business Decision Making, 4th Ed.
Kimmel, Weygandt, Kieso
CHAPTER 11
Prepared by
Ellen L. Sweatt
Georgia Perimeter College
and
Barbara Muller
Arizona State University West
1
Chapter 11
REPORTING AND
ANALYZING
STOCKHOLDERS’
EQUITY
Reporting and Analyzing
Stockholders’ Equity
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After studying Chapter 11, you should
be able to:
Identify and discuss the major
characteristics of a corporation.
Record the issuance of common stock.
Explain the accounting for the purchase
of treasury stock.
Differentiate preferred stock from
common stock.
3
Reporting and Analyzing
Stockholders’ Equity


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Prepare the entries for cash dividends
and understand the effect of stock
dividends and stock splits.
Identify the items that affect retained
earnings.
Prepare a comprehensive stockholders'
equity section.
Evaluate a corporation's dividend and
earnings performance from a
stockholder's perspective.
4
Corporation

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Created by law
Legal entity
Has most of the rights and privileges
of a person
Classified by purpose and ownership
 Purpose - profit or nonprofit
 Ownership - publicly or privately held
5
Publicly Held Corporation...
May have thousands of stockholders.
Its stock is regularly traded on national
securities markets.
Privately Held Corporation...
Usually has only a few stockholders and does
not offer its stock for sale to general public.
1
11
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Characteristics of a
Corporation
Separate legal existence
Limited liability of stockholders
Transferable ownership rights
Ability to acquire capital
Continuous life
Corporation management
Government regulations
Additional taxes
7
Separate Legal Existence
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Separate and distinct from its
owners.
Acts under its own name.
May buy, own, sell property;
borrow money; enter into
legally binding contracts; may
sue or be sued; pays its own
taxes.
Owners (stockholders) cannot
bind corporation unless
owners are agents of the
corporation.
8
Limited Liability of Stockholders
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Creditors have recourse only to
corporate assets to satisfy their
claims.
Liability of stockholders limited
to their investment in their
corporation.
Creditors have no legal claim
on personal assets of stockholders
unless fraud has occurred.
Stockholders’ losses limited to
amount of capital invested.
9
Transferable Ownership Rights
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Ownership evidenced by shares of stock
Transfer of ownership among stockholders
has no effect on corporation’s operating
activities or assets,
liabilities and total
stockholders' equity.
Corporation does not
participate in transfer of
ownership rights
after original sale.
10
Ability to Acquire Capital
Limited liability of stockholders
coupled with transferable ownership
rights make it easy to raise capital.
11
Continuous Life
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
Life of corporation is stated in its charter may be perpetual or limited to specific
number of years (can be extended).
Corporation is separate
legal entity, thus life
not affected by
withdrawal, death,
or incapacity of a stockholder.
12
Corporation Management
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The corporation establishes by-laws
upon receipt of its charter from the
state of incorporation.
Stockholders manage corporation
indirectly through board of directors.
Board of directors
 formulates operating policies
 selects officers to execute policy and to
perform daily management functions.
13
Corporate Organization Chart
15
Additional Taxes
16
Forming a Corporation

A corporation can operate in
various states (must have a license
from each state in which it does
business) but can be incorporated
in only one state.
17
Stockholder Rights
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Once chartered, the corporation sells
stock .
If only one class of stock - called
common stock.
Ownership rights specified in the
articles of incorporation or by-laws.
Proof of stock ownership is a printed
or engraved form known as a stock
certificate.
18
19
Stock Certificate Shows...
Name of the corporation
 Stockholder's name
 Class and special features of the stock
 The number of shares owned
 The signatures of
duly authorized
corporate officials.
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20
Questions in Issuing Stock...
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How many shares should be
authorized for sale?
How should the stock be issued?
At what price should the shares be
issued?
22
Authorized Stock...
Maximum amount of stock a corporation
is allowed to sell as authorized by
corporate charter.
Issued Stock...
Number of shares of issued stock have
been sold and been paid for.
Outstanding Stock...
Number of shares of issued stock
that are being held by stockholders.
23
Corporations Can Issue Stock...
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Directly to investors (typical in
privately held corporations).
Indirectly through an investment
banking firm (customary with
publicly held corporations).
24
Par Value Stock...

Is capital stock that has been assigned
a value per share in the corporate
charter.

Legal capital per share must be retained
in the business for the protection of
corporate creditors.
25
No-Par Value Stock...

Capital stock that has not been
assigned a value per share in the
corporate charter.
Stated Value of No-Par Stock
 Amount per share assigned by the board
of directors to no-par stock.
Par Value and Stated Value have NO
relationship to market value.
26
Stockholders’ Equity Section of a
Corporation’s Balance Sheet
Two Parts:
 Paid-in (contributed) capital - Amount paid to
corporation by stockholders in exchange for shares
of ownership.

Retained earnings (earned capital) Earned capital held for future use in the business.
27
Review
Which of the following represents the
maximum number of shares a corporation can
issue?
a. Outstanding shares
b.Issued shares
c. Authorized Shares
d.Treasury Shares
28
Review
Which of the following represents the
maximum number of shares a corporation can
issue?
a. Outstanding shares
b.Issued shares
c. Authorized Shares
d.Treasury Shares
29
2
11
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Accounting for
Common Stock Issues
The issue of common stock affects only
paid-in capital accounts.
When the issuance of common stock for
cash is recorded, the par value of the
shares is credited to common stock.
The portion of the proceeds above or
below par value is recorded in a
separate paid-in capital account.
30
Issuing Stock at Par
Hydro-Slide, Inc., issues 1,000 shares of
$1 par value of common stock at par for
cash.
Cash
Common Stock
1,000
1,000
31
Issuing Stock Above Par
If Hydro-Slide, Inc., issues an additional
1,000 shares of the $1 par value common
stock for cash at $5 per share, the entry is:
Cash
5,000
Common Stock
1,000
Paid-in Capital in
Excess of Par Value
4,000
32
Hydro-Slide, Inc.
Balance Sheet (partial)
Stockholders' equity
Paid-in capital
Common stock
Paid-in capital in excess of par
Total paid-in capital
Retained earnings
Total stockholders' equity
$ 2,000
4,000
$ 6,000
27,000
$33,000
Mead, Inc.
Balance Sheet (partial)
Stockholders' equity
Paid-in capital
Common stock,$5par value,
100,000 shares issued and
outstanding
Retained Earnings
Total stockholders’ equity
$ 500,000
200,000
$ 700,000
BEFORE TREASURY STOCK TRANSACTION
3
11
Treasury Stock...
Is a corporation's own stock
 that has been issued
 fully paid for
 reacquired by the corporation
 held in its treasury for future use.
35
Corporations Acquire Treasury
Stock to...
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Reissue shares to officers and employees
under bonus and stock compensation plans.
Increase trading of company's stock in
securities market in hopes of enhancing
market value.
Have additional shares available for use in
acquisition of other companies.
Reduce number of shares outstanding thereby
increasing earnings per share.
Prevent a hostile takeover.
36
Purchase of Treasury Stock
On February 1, 2007, Mead acquires
4,000 shares of its stock at $8 per share.
Treasury Stock
Cash
32,000
32,000
37
Treasury Stock
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The Treasury Stock account would increase by
the cost of the shares purchased - $32,000.
The original paid-in capital account, Common
Stock, would not be affected because the
number of issued shares does not change.
Treasury stock is deducted from total paid-in
capital and retained earnings in the
stockholders' equity section of the balance
sheet.
38
Mead, Inc.
Balance Sheet (partial)
Stockholders' equity
Paid-in capital
Common stock,$5par value,
100,000 shares issued and
96,000 outstanding
Retained Earnings
Total stockholders’ equity
Less: Treasury Stock
Total stockholders’ equity
$ 500,000
200,000
700,000
32,000
$ 668,000
AFTER TREASURY STOCK TRANSACTION
Review
In the stockholders’ equity section, the cost
of treasury stock is deducted from:
a. total paid-in capital and retained earnings
b.retained earnings
c. total stockholders’ equity
d.common stock in paid-in-capital
40
Review
In the stockholders’ equity section, the cost
of treasury stock is deducted from:
a. total paid-in capital and retained earnings
b.retained earnings
c. total stockholders’ equity
d.common stock in paid-in-capital
41
4
Preferred Stock...
11
Capital stock that has contractual
preferences over common stock in
certain areas.


Dividends
Assets in the event of liquidation
Preferred stockholders do not have
voting rights.
42
Preferred Stock
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Assume Corporation issues 10,000 shares of $10
par value preferred stock for $12 cash per share.
Cash
120,000
Preferred Stock
100,000
Paid-in Capital in Excess
20,000
of Par Value--Preferred Stock
(Preferred stock may have either a par value or no-par
value.)
43
Dividend Preferences
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Preferred stockholders have the right to
share in the distribution of corporate
income before common stockholders.
The first claim to dividends does not
guarantee dividends.
44
Cumulative Dividend...
Is a feature of preferred stock entitling
the stockholder to receive current and
unpaid prior-year dividends before
common stockholders receive any
dividends.
45
Dividends in Arrears...
 Are preferred dividends that were
scheduled to be declared but were
not declared during a given period.
 Are not a liability. No obligation
exists until a dividend is declared
by the board of directors.
 Must be disclosed in the notes to
the financial statements.
46
Dividends in Arrears
Scientific-Leasing has 5,000 shares of 7%, $100
par value cumulative preferred stock
outstanding.
The annual dividend is $35,000 (5,000 x $7 per
share).
Dividends are 2 years in arrears
Dividends in arrears ($35,000 x 2 years)
Current-year dividends
Total preferred dividends
$ 70,000
35,000
$105,000
47
Liquidation Preference
Is a feature that gives preferred
stockholders preference to
corporate assets in the event of
liquidation.
48
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Dividend...
Is a distribution by a corporation to its
stockholders on a pro rata basis.
Pro rata means that if you own 10% of
the common shares, you will receive
10% of the dividend.
Dividend forms:
 cash
 property
 script (promissory note to pay cash)
 stock
49
Cash Dividend
 Is a pro rata distribution of cash to
stockholders.
 A corporation must have 3 things to
pay cash dividends:
 Retained earnings
 Adequate cash
 Declared dividends
50
Cash Dividend
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In many states, payment of dividends
from legal capital is prohibited.
Payment of dividends from paid-in
capital in excess of par is legal in some
states.
Payment of dividends from retained
earnings is legal in all states.
Companies are frequently constrained
by agreements with lenders to pay
dividends only from retained earnings.
51
Entries for Cash Dividends
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Three dates are important in
connection with dividends:
the declaration date
the record date
the payment date
Mo n th a n d ye a r
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
00
Monda y
Tue sd a y
We dne sd a y
Thu rs da y
Frid a y
S a turda y
S un da y
52
The Declaration Date...
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Is the date the board of directors declares
the cash dividend.
Commits the corporation to a binding legal
obligation that cannot be rescinded.
On December 1, 2007, the directors of Media
General declare a $.50 per share cash dividend on
100,000 shares of $10 par value common stock.
The dividend is $50,000 (100,000 x $.50).
12/1
Retained Earnings
Dividends Payable
50,000
50,000
53
The Record Date...
The date ownership of the outstanding shares is
determined for dividend purposes.
Dec 20
No Entry Necessary.
The Payment Date...
The date dividend checks are mailed.
January 20 is the payment date for Media
General.
Jan 20 Dividends Payable
Cash
50,000
50,000
54
A Stock Dividend...
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Is a pro rata distribution of the
corporation's own stock to stockholders.
Is paid in stock.
Results in a decrease in retained earnings
and an increase in paid-in capital.
Does not decrease total stockholders'
equity or total assets.
Is often issued by companies that do not
have adequate cash to issue a cash
dividend.
55
Stock Dividends
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You have a 2% ownership interest in
Cetus Inc., owning 20 of its 1,000 shares
of common stock.
In a 10% stock dividend, 100 shares
(1,000 x 10%) of stock would be issued.
You would receive two shares (2% x 100),
but your ownership interest would remain
at 2% (22 /1,100).
You now own more shares of stock, but
your ownership interest has not changed.
56
Reasons for Stock Dividends
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To satisfy stockholders' dividend
expectations without spending cash.
To increase marketability of its stock by
increasing number of shares outstanding
and decreasing market price per share.
To emphasize that a portion of stockholders'
equity has been permanently reinvested in
business and is unavailable for cash
dividends.
57
Stock Dividends
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A small stock dividend (less than 20%25% of the corporation's issued stock)
is recorded at the fair market value per
share.
A large stock dividend (greater than
20%-25% of the corporation's issued
stock) is recorded at par or stated value
per share.
58
Stock Split
Because a stock split does not affect
the balances in stockholders' equity
accounts, it is not necessary to
journalize a stock split.
59
Stock Split...
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Is the issuance of additional shares of stock
to stockholders accompanied by:
 A reduction in the par or stated value.
 An increase in number of shares.
A stock split does not have any effect on total
paid-in capital, retained earnings, and total
stockholders' equity.
60
Review
Vista, Inc. had 300,000 shares of common stock outstanding
when a 30% stock dividend was declared and issued. How many
shares were outstanding after the stock dividend?
a. 390,000
b. 330,000
c. 300,000
d. 309,000
61
Review
Vista, Inc. had 300,000 shares of common stock outstanding
when a 30% stock dividend was declared and issued. How many
shares were outstanding after the stock dividend?
a. 390,000
b. 330,000
c. 300,000
d. 309,000
62
6
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Retained Earnings...
Is net income that is retained in the
business.
The balance in retained earnings is
part of the stockholders' claim on the
total assets of the corporation.
Retained earnings does not represent
a claim on any specific asset.
63
Deficit
Is a debit balance in retained
earnings and is reported as a
deduction in the stockholders'
equity section of the balance sheet.
64
Retained Earnings Restrictions...
Are legal, contractual or voluntary
circumstances that make a
portion of retained earnings
currently unavailable for
dividends.
65
Stockholders’ Equity with Deficit
66
8
11
The Payout Ratio =
CASH DIVIDENDS DECLARED ON COMMON STOCK
NET INCOME
… measures the percentage of earnings
distributed in the form of cash dividends to
common stockholders.
69
Return on Common
Stockholders’ Equity Ratio =
NET INCOME - PREFERRED STOCK DIVIDENDS
AVERAGE COMMON STOCKHOLDERS’ EQUITY
...measures the profitability from
the stockholders’ point of view.
70
Advantages of Bond Financing
Over Common Stock
Relationship of Par and No-Par
Value to Legal Capital
Stock
Par value
Legal Capital Per
Share
Par value
No-par value with Stated value
stated value
No-par value
Entire proceeds
without stated
value
72
Stock Dividends


Medland Corporation has $300,000 in
retained earnings and declares a 10%
stock dividend on its 50,000 shares of $10
par value common stock.
The current fair market value of the stock is
$15 per share.
Retained Earnings
75,000
Common Stock Dividends
50,000
Distributable
Paid-in Capital in Excess
25,000
of Par Value
73
Review
Roger is nearing retirement and would like to invest in a stock
that will provide a good steady income supply. Roger should
choose a stock with a:
a) high current ratio.
b) high dividend payout.
c) high earnings per share.
d) high price-earnings ratio.
74
Review
Roger is nearing retirement and would like to invest in a stock
that will provide a good steady income supply. Roger should
choose a stock with a:
a) high current ratio.
b) high dividend payout.
c) high earnings per share.
d) high price-earnings ratio.
75
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