Corporations

1. Corporations Chapter 12

2. Corporation Characteristics • Is a legal entity, distinct and separate from the individuals who create and operate it. • It may acquire, own and dispose of property in its own name. • It may also incur liabilities and enter into contracts • It can sell shares of ownership • Stock – shares of ownership • It gives the corporations the ability to raise large amounts of capital.

3. Stock – shares of ownership Stockholder – owners of stock Dividends – distribution of income to shareholders Corporations

4. Types of Corporations • Public Corporations • those with shares of stock are traded in public markets • such as the NASDAQ or NYSE • regulated by the Securities and Exchange Commission. • http://www.sec.gov/ • Private or Nonpublic Corporations • Shares are not traded publicly are usually owned by a small group of investors.

5. Additional Characteristics • Additional Characteristics of Corporations • Limited liability • A corporation’s creditors usually may not go beyond the assets of the corporation to satisfy their claims. • Board of Directors • Elected by the shareholders • Meets periodically to establish corporate policies • Selects the Chief Executive Officers • Dividends • Distribution of income to shareholders • Liable for Taxes • on the income of the corporation • before the distribution of dividends to shareholders • may cause double taxation of income

6. Forming a Corporation • Application of incorporation • Filed with the state authority • http://www.sunbiz.org/ • Once approved the state grants a Charter or Articles of Incorporation • Articles of incorporation • Formally create the corporation

7. Organizational Costs • Costs may be incurred in organizing a corporation • Costs include legal fees, taxes, state incorporation fees, license fees, and promotional costs

8. Example 1 • Suppose that $15,000 is spent in the forming of the corporation.

9. Paid-In Capital from Issuing Stock • Two main sources of stockholders’ equity • Paid in capital • Paid in capital comes from the issuance of stock • Retained earnings • From the earnings of the business not distributed as dividends

10. Authorized – number of shares of stock that a corporation can issue Issued – number sold Outstanding – number in hands of stockholders Stock

11. Stock Authorizing > Issued ≥ Outstanding

12. Stock • Par value or stated value – assigned monetary value • Rights • Right to vote in matters concerning the corporation • Right to share in distribution of earnings • Right to share in assets at liquidation • Rights vary with the class of stock

13. Classes of Stock • Common stock • Has all the rights listed above • Preferred stock • The dividend rights of preferred stock are usually stated in monetary terms or as a percent of par • $2 preferred stock • Has a right to an annual $2 per share dividend • 5% preferred stock with par of $100 • Has a right to an annual dividend of $5 per share • They have the first right to dividends when any dividends are declared. • Have greater chance of receiving their dividends

14. Dividends • Dividends • First paid to preferred stockholders • Remainder to common stockholders

15. Dividend Distributionsby class • Corporation has 4,000 shares of common stock and 1,000 shares outstanding of 8% preferred stock with a par value of $50. The Board declares the following dividends.

16. Example 2 What are dividends distributed to preferred stock and common stock? Preferred stock gets 8% times par value 8% x $50 = $4 per share There are 1,000 shares outstanding of preferred stock so dividend is: $4 per share x 1,000 shares outstanding = $4,000

17. Example 2

18. Note • Even though the dividends declared increased each year, preferred stock only received the $4,000 and common stock always receives the remainder which increases as dividends increase.

19. Example 3 Corporation has 5,000 shares of common stock and 2,000 shares outstanding of $10 preferred stock with a par value of $50. The Board declares the following dividends. 2005: $30,000 2006: $55,000 2007: $20,000 What are dividends distributed to preferred stock and common stock?

20. Issuing Stock • An account is created for each type of stock. • These accounts are classified as equity. • They increase with a credit. • Stock can be issued at par or above par • Issued at par: • Amount received is the same amount credited to the stock account.

21. Journal Entry

22. Example 4 • The Corporation issues 10,000 shares of $5 par value common stock and 4,000 shares of $10 par value preferred stock at par. Record the entry. Preferred stock: 4,000 shares x $10 per share = $40,000 Common stock: 10,000 shares x $ 5 per share = $50,000 Total cash received $90,000

23. Example 4

24. Premium on sale of stock • When stock is issued for a price that is more than its par. • Caused by • Financial conditions, earnings record, and dividend record of the corporation • Investor expectations of the corporation’s potential earning power

25. Premium on sale of stock • When stock is issued for a price above its par value, it has sold at a PREMIUM. • When stock is issued for a price above its par value, it has sold at a DISCOUNT. • Difference between par value and selling price is placed in an equity account called Paid in Capital in Excess of Par.

26. Journal Entry

27. Example 5 The Corporation issues 4,000 shares of $10 par value preferred stock for $15 per share. Record the entry. Preferred stock: Selling price: $15 per share x 4,000 shares = $60,000 Par value: $10 per share x 4,000 shares = $40,000 Paid in capital $20,000 EXCESS

28. Journal Entry

29. Example 6 • The Corporation issues 7,000 shares of $4 par value common stock and 3,000 shares of $20 par value preferred stock. The common stock is issued at $7 per share and the preferred stock at $24 per share. Record the entry.

30. Rule • Companies will never declare a gain or loss on transactions with its own stock. • Always the difference will go to paid in capital in excess of par.

31. No Par Stock • Stock may be issued without par value • Entire proceeds from the sale are credited to the stock account • No paid in capital in excess of par account will exist

32. Accounting for Dividends • Cash dividends • A cash distribution of earnings by a corporation to its shareholders. • These are the most common though other assets may be distributed. • Three conditions for dividends to be paid: • Sufficient retained earnings • Sufficient cash • Formal action by the board of directors. Though they are not legally required to do so.

33. Three important dates with dividends: • Example 6: • On May 10, 2007, the ABC Corporation’s Board of Directors declared a cash dividend of $.25 per common stock share to stockholder’s of record on May 31, 2007 payable on June 10th. There are 10,000 shares outstanding.

34. Date 1: Declaration Date • Declaration date • The date that Board of Directors approves the dividend. • A liability is incurred by the corporation. • Entry: • Cash dividends DR • Dividends payable CR

35. Example 6

36. Date 2: Date of Record • This date determines which shareholders will get the dividend. • No entry • Shares sold after May 31 are called ex-dividend stock. The sales price includes a share of the dividend

37. Example 6 • May 31 is the date of record. Shareholders at the close of business on this day will receive the dividend check.

38. Date 3: Payment Date • This is the date that the dividend checks are mailed out • Entry: • Dividends payable DR • Cash CR

39. Example 6

40. Stock Dividends • A distribution of shares of stock to stockholders. • These distributions are in common stock • Issued to holders of common stock only • The effect of the stock dividend on the stockholders’ equity of the issuing corporation is to transfer retained earnings to paid in capital. • Therefore no assets are affective • The amount transferred from retained earnings to paid in capital is normally the fair market value of the shares issued in the stock dividend.

41. Example 7 • Suppose that on June 10, 2007, Morton Company declares a 2% stock dividend on shares outstanding on June 30, 2007. The stock dividend is payable on July15, 2007. The stockholder’s equity account looks like this:

42. Example 7 Common stock, ($15 par value with 100,000 shares issued) $1,500,000 Paid in Capital $ 700,000 Retained Earnings $7,000,000 Fair market value of stock on declaration date is $20 per share.

43. Example 7: Declaration Date

44. Example 7: Payment Date

45. Note • It does not change the assets, liabilities or total stockholder’s equity of a company

46. Treasury Stock • Companies may buy its own stock to provide shares: • for resale to employees • for reissuing as a bonus to employees • for supporting the market price of the stock • Cost method • A commonly used method of accounting for the purchase and resale of treasury stock.

47. Treasury Stock • Transactions for Treasury Stock • Repurchase – • when a company buys back its stock • create a new equity account called: Treasury Stock • it is a contra equity account • increases with a debit • recorded at the purchase price called COST

48. Treasury Stock • Sale • Recorded at original buy back cost • Difference between SELLING PRICE and cost • Recorded in PAID IN CAPITAL

49. Example 9: A corporation has common stock with a par value of $25. The company repurchases 2,000 shares at $45 per share. Record the buy back.

50. Example 9 • The company sells 700 shares at $60 per share. Record the entry. Selling price: 700 x $60 = $42,000 Cost: 700 x$45 = $31,500 Excess paid in capital 10,500