Corporations: Organization, Stock Transactions, and Dividends

13 Corporations: Organization, Stock Transactions, and Dividends Principles of Financial Accounting, 11e Reeve • Warren • Duchac

1 Describe the nature of the corporate form of organization. 13-4

1 Characteristics of a Corporation A corporationis a legal entity, distinct and separate from the individuals who create and operate it. As a legal entity, a corporation may acquire, own, and dispose of property in its own name.

1 Public Corporations The stockholders or shareholders who own the stock own the corporation. Corporations whose shares of stock are traded in public markets are called public corporations.

1 Private Corporations Corporations whose shares are not traded publicly are usually owned by a small group of investors and are called nonpublic or private corporations. The stockholders of all corporations have limited liability.

1 Board of Directors The stockholders control a corporation by electing a board of directors. The board meets periodically to establish corporate policy. It also selects the chief executive officer (CEO) and other major officers.

Exhibit 1 1 Organizational Structure of a Corporation Stockholders Board of Directors Officers Employees

1 Characteristics of a Corporation • A corporation has separate legal existence from its owners. • A corporation has transferable units of ownership. • A corporation has limited stockholders’ liability.

1 Costs may be incurred in organizing a corporation. The recording of a corporation’s organizing costs of $8,500 on January 5 is shown below:

2 Describe the two main sources of stockholders’ equity. 13-17

2 Stockholders’ Equity The owner’s equity in a corporation is called stockholders’ equity, shareholders’ equity, shareholders’ investment, or capital.

2 The two sources of capital are: • Capital contributed to the corporation by the stockholders, called paid-in capital or contributed capital. • Net income retained in the business, called retained earnings.

2 Stockholders’ Equity Section of a Corporate Balance Sheet Stockholders’ Equity Paid-in capital: Common stock $330,000 Retained earnings 80,000 Total stockholders’ equity $410,000 If there is only one class of stock, the account is entitled Common Stock or Capital Stock.

2 A debit balance in Retained Earnings is called a deficit. Such a balance results from accumulated net losses. A credit balance in Retained Earnings does not represent surplus cash or cash left over from dividends.

3 Describe and illustrate the characteristics of stock, classes of stock, and entries for issuing stock. 13-22

3 Characteristics of Stock The number of shares of stock that a corporation is authorized to issue is stated in the charter. A corporation may reacquire some of the stock that has been issued. The stock remaining in the hands of stockholders is then called outstanding stock.

3 Characteristics of Stock Shares of stock are often assigned a monetary amount, called par. Corporations may issue stock certificates to stockholders to document their ownership. Some corporations have stopped issuing stock certificates except on special request.

3 Classes of Stock • Stock issued without a par is called no-par stock. Some states require the board of directors to assign a stated value to no-par stock. • Some state laws require that corporations maintain a minimum stockholder contribution, called legal capital, to protect creditors.

3 Number of Shares Authorized, Issued, and Outstanding Outstanding Authorized Issued

3 Major Rights That Accompany Ownership of a Share of Stock • The right to vote in matters concerning the corporation. • The right to share in distributions of earnings. • The right to share in assets on liquidation. These stock rights normally vary with the class of stock.

3 Classes of Stock The two primary classes of paid-in capital are common stock and preferred stock. The primary attractiveness of preferred stocks is that they are preferred over common as to dividends.

3 Cumulative Preferred Stock Cumulative preferred stock has a right to receive regular dividends that were not declared (paid) in prior years. Noncumulative preferred stock does not have this right.

Exhibit 4 3 Dividends to Cumulative Preferred Stock (continued)

Exhibit 4 Dividends to Cumulative Preferred Stock (continued) Amount distributed $22,000 Preferred dividend (1,000 shares): 2008 dividend in arrears $4,000 2009 dividend in arrears 4,000 2010 dividend 4,000 12,000 Common dividend (4,000 shares) $10,000 Dividends per share: Preferred $ 12.00 Common $ 2.50

3 Example Exercise 13-1 Dividends per Share Sandpiper Company has 20,000 shares of 1% cumulative preferred stock of $100 par and 100,000 shares of $50 par common stock. The following amounts were distributed as dividends: Year 1: $10,000 Year 2: 45,000 Year 3: 80,000 Determine the dividends per share for preferred and common stock for each year. 13-32

Year 1Year 2Year 3 Amount distributed $10,000 $45,000 $80,000 Preferred dividend (20,000 shares) 10,000 30,000* 20,000 Common dividend (100,000 shares) $ 0 $15,000 $60,000 *(10,000 + $20,000) Follow My Example 13-1 For Practice: PE 13-1A, PE 13-1B 3 Example Exercise 13-1 (continued) Dividends per share: Preferred $0.50 $1.50 $1.00 Common stock None $0.15 $0.60 13-33

3 Issuing Stock A corporation is authorized to issue 10,000 shares of preferred stock, $100 par, and 100,000 shares of common stock, $20 par. One-half of each class of authorized shares is issued at par for cash.

3 If the stock is issued (sold) for a price that is more than its par, the stock has been sold at a premium. If the stock is issued (sold) for a price that is less than its par, the stock has been sold at a discount.

3 Premium on Stock Caldwell Company issues 2,000 shares of $50 par preferred stock for cash at $55.

3 A corporation acquired land for which the fair market value cannot be determined. The corporation issued 10,000 shares of $10 par common that has a current market value of $12 in exchange for the land.

3 Using the same data as we used for par the transaction at stated value is recorded as follows:

3 Example Exercise 13-2 Entries for Issuing Stock On March 6, Limerick Corporation issued for cash 15,000 shares of no-par common stock at $30. On April 13, Limerick issued at par 1,000 shares of 4%, $40 par preferred stock for cash. On May 19, Limerick issued for cash 15,000 shares of 4%, $40 par preferred stock at $42. Journalize the entries to record the March 6, April 13, and May 19 transactions. 13-41

Follow My Example 13-2 3 Example Exercise 13-2 (continued) Mar. 6 Cash……………………………….. 450,000 Common Stock…………….. 450,000 (15,000 shares × $30) Apr. 13 Cash……………………………….. 40,000 Preferred Stock……………. 40,000 (1,000 shares × $40) May 19 Cash……………………………….. 630,000 Preferred Stock……………. 600,000 Paid-in Capital in Excess of Par……………………….. 30,000 (15,000 shares × $42) For Practice: PE 13-2A, PE 13-2B 13-42

4 Describe and illustrate the accounting for cash dividends and stock dividends. 13-43

4 Cash Dividends A cash distribution of earnings by a corporation to its stockholders is called a cash dividend. There are usually three conditions that a corporation must meet to pay a cash dividend. • Sufficient retained earnings • Sufficient cash • Formal action by the board of directors

4 Date of Declaration The date of declaration is the date the board of directors formally authorized the payment of the dividend. On this date, the corporation incurs the liability to pay the amount of the dividend.

4 Date of Record The date of record is the date the corporation used to determine which stockholders will receive the dividend.

4 Date of Payment The date of payment is the date the corporation will pay the dividends to the stockholders who owned the stock on the date of record.

4 On October 1, Hiber Corporation declares the cash dividends shown below with a date of record of November 10 and a date of payment of December 2. Dividend per Share Total Dividends Preferred stock, $100 par, 5,000 shares outstanding… $2.50 $12,500 Common stock, $10 par, 100,000 shares outstanding $0.30 30,000 Total……………………………... $42,500

4 On October 1, the declaration date, Hiber Corporation records the following entry:

4 On December 10, the date of record, no entry is required since this date merely determines which stockholders will receive the dividend.

4 On December 2, the date of payment, Hiber Corporation records the payment of the dividend as follows:

Follow My Example 13-3 Feb. 26 Cash Dividends………………………………………. 75,000 Cash Dividends Payable………….................... 75,000 Follow My Example 6-1 4 Example Exercise 13-3 Entries for Cash Dividends The important dates in connection with a cash dividend of $75,000 on a corporation’s common stock are February 26, March 30, and April 2. Journalize the entries required on each date. Mar. 30 No entry required. Apr. 2 Cash Dividends Payable……………………………. 75,000 Cash………………………………..................... 75,000 13-52 For Practice: PE 13-3A, PE 13-3B

4 Stock Dividends A distribution of dividends to stockholders in the form of the firm’s own shares is called a stock dividend.

4 On December 15, the board of directors of Hendrix Corporation declares a 5% stock dividend of 100,000 shares (2,000,000 shares × 5%) to be issued on January 10 to stockholders of record on December 31. The market price on the declaration date is $31 a share.

4 The entry to record the declaration of the 5 percent stock dividend is as follows:

4 On January 10, the number of shares outstanding is increased by 100,000. The following entry records the issue of the stock:

4 Before and After Stock Dividends After Stock Dividend Before Stock Dividend Total shares issued 10,000 10,600 10,000 + (10,000 × 6%)

4 Before and After Stock Dividends After Stock Dividend Before Stock Dividend Total shares issued 10,000 10,600 Number of shares owned 1,000 1,060 1,000 + (1,000 × 6%)

1,000 ÷ 10,000 1,060 ÷ 10,600 4 Before and After Stock Dividends After Stock Dividend Before Stock Dividend Total shares issued 10,000 10,600 Number of shares owned 1,000 1,060 Proportionate ownership 10% 10%

Corporations: Organization, Stock Transactions, and Dividends