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Chapter 12

Chapter 12. Reporting and Interpreting Owners’ Equity Corporations are not the only form of business. Advantages of a corporation. Business Background. Business Background. Because a corporation is a separate legal entity , it can . . . Own Assets. Incur Liabilities Sue and be sued

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Chapter 12

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  1. Chapter 12 Reporting and Interpreting Owners’ Equity Corporations are not the only form of business.

  2. Advantages of a corporation Business Background

  3. Business Background • Because a corporation is a separate legal entity, it can . . . • Own Assets. • Incur Liabilities • Sue and be sued • Enter into contracts

  4. Voting (in person or by proxy) Proportionate distribution of profits Proportionate distribution of assets in a liquidation Ownership of a Corporation Rights Shareholders

  5. Appointedby directors Ownership of a Corporation Shareholders (Owners of voting shares) Board of Directors Elected byshareholders Internal (managers) and External (non-managers) President VP VP VP VP (Production) (Marketing) (Finance) (Controller)

  6. Authorized Shares Authorized, Issued, and Outstanding Shares The maximum number of shares that can be sold to the public. This is frequently set to an unlimited amount to provide maximum flexibility to the corporation.

  7. Authorized Shares Issued shares are authorized shares that have been sold. Unissued shares are authorized shares that never have been sold.

  8. Authorized, Issued, and Outstanding Shares Outstanding sharesare issued shares that are owned by shareholders. Outstanding Shares Unissued Shares Issued Shares Treasury Shares Treasury sharesare issued shares that have been reacquired by the corporation. In Canada, reacquired shares are usually cancelled.

  9. Types of Share Capital Common Shares Preferred Shares

  10. Common Shares • Basic voting shares • Ranks after preferred shares • Dividend set by board of directors • (you have largest voting voice, but last access to assets in a liquidation. There is no legal requirement that you be paid dividends or be reimbursed at all)

  11. Par Value and No-par Value Shares Par Value Nominal value Legal capital Legal capitalis the amount of capital that must remain invested in the business until it is liquidated.

  12. Par Value and No-par Value Shares  Par Value Market Value

  13. No-par Value Shares The Canada Business Corporations Act, and most Provincial Charters do not require a par value to be stated in the charter.

  14. Preferred Shares • Preference over common shares • Usually has no voting rights • Usually has a fixed dividend rate • (rarely stops once regular dividends start, rarely decrease also)

  15. Special Features of Preferred Shares Convertible preferred shares may be exchanged for common shares. Callable preferred shares may be repurchased by the corporation at a predetermined price.

  16. Accounting for Share Capital Two primary sources of shareholders’ equity 1) Share capital 2) Retained earnings

  17. Accounting for Share Capital The shareholder’s equity section of BCE’s balance sheet reports five different accounts. These accounts represent the two primary sources of shareholder’s equity: • Contributed capital – reflects the amount invested by shareholders. Contributed capital has two distinct components: • Amounts initially received from the sale of shares • Contributed surplus that reflects contributions made by shareholders in excess of the amounts credited to share capital accounts

  18. Accounting for Share Capital • Retained earnings generated by the profit-making activities of the company. This is the cumulative amounts of net income earned since the organization of the corporation less the cumulative amount of dividends paid by the corporation since organization.

  19. BCE BCE issues new shares Sale and Issuance of Capital Shares Initial public offering (IPO) Seasoned new issue The first time a corporation sells shares to the public Subsequent sales of new shares to the public

  20. Secondary Markets Transactions between two investors that do not affectthe corporation’s accounting records. Because of our separate entity assumption. There is simply a new owner now

  21. Sale and Issuance of Shares On July 6, BCE issued 100,000 common shares for $22 per share.

  22. Shares Sold for Non-cash Assets and/or Services If the company can’t pay for services, they could issue common shares. This is a non-cash exchange of services and is recorded differently. 1. Record assets or services received at themarket valueof the shares at the date of the transaction. 2. If the market value of the shares cannot be determined, then the market value of the assets or servicesreceivedshould be used.

  23. Capital Stock Sold for Noncash Assets and/or Services On March 14, BCE issued 10,000 common shares to the Rose Law firm. The share was selling for $15.

  24. Stock Options (Shared Issued For Employee Compensation) • If BCE does not have new shares to issue when the stock options are exercised, then . . • BCE buys its own stock in the secondary market (Treasury stock) • Go to the open market and buy them, or create more shares • Management compensation package includes salary and stock options. • Stock optionsallow management to purchase shares from the corporation at a fraction of the share price in the secondary market.

  25. Accounting for Cash Dividends Declared by board of directors (Not legally required to declare, but once declared they must pay) Creates liability at declaration(There is now a legal liability to pay) Requires sufficient retained earnings and cash(accumulated income must be positive)

  26. Dividend Dates 1) Declaration date • Board of directors declares the dividend. • Record a liability.

  27. Dividend Dates 2) Date of Record • Shareholders holding shares on this date will receive the dividend.(No entry) X

  28. Dividend Dates 3) Date of Payment • Record the payment of the dividend to shareholders.

  29. Dividend Yield Dividends Per Share Market Price Per Share = Dividend Yield $1.20 $28.92 = = 4.1% Dividend Yield The 2004 dividend per common share for BCE is $1.20. The market price is $28.92 This ratio is often used to compare the dividend-paying performance of different investment alternatives.

  30. Dividends on Preferred Shares • Current Dividend Preference:The current preferred dividends must be paid before paying any dividends on common shares. • Cumulative Dividend Preference:Any unpaid dividends from previous years (dividends in arrears)must be paid before dividends on common shares are paid.

  31. Dividends on Preferred Shares If the preferred share isnoncumulative, any dividends not declared in previous years arelostpermanently. www.bce.ca/data/documents/bce_2003annual_en.pdf

  32. Dividends on Preferred Shares Kites, Inc. has the following types of shares outstanding: Common shares: 40,000 shares Preferred shares: $1.20, 5,000 shares Dividends were not paid last year. In the current year, the board of directors declared dividends of $50,000. How much will each class of shares receive?

  33. Dividends on Preferred Shares

  34. DividendsQuestion On November 1, 2005 a corporation’s board of directors declared a dividend for its 10,000 outstanding shares. The dividend is $2 per share, and will be paid on December 1. Which of the following will be included in the December 1 entry? a. Debit Retained Earnings, $20,000. b. Debit Dividends Payable, $20,000. << c. Credit Dividends Payable, $20,000. d. Credit Preferred Shares, $20,000.

  35. Focus on Cash Flows

  36. Accounting for Stock Dividends Distribution of additional sharesto shareholders No change in total shareholders’ equity Retained earnings decrease All shareholders retain the same percentage ownership

  37. Stock Dividends Small Large Stock dividend < 25% Stock dividend > 25% Record at currentmarket valueper share Record ataverage issue priceper share

  38. Stock Splits Distributions of 100% or more of outstanding shares to shareholders

  39. Stock Splits Assume that a corporation had 5,000 shares outstanding with a book value of $5,000 before a 2–for–1 stock split. Increase No Change Decrease

  40. DividendsNet Income 1,1801,593 Dividend Payout = Dividend Payout Ratio In 2004, BCE earned $1,593 and paid $1,180 in dividends. Dividend Payout = = 74% This ratio indicates the portion of current earnings paid to shareholders in the form of dividends.

  41. Accounting and Reporting for Unincorporated Businesses

  42. Chapter Supplement A Repurchase of Shares

  43. Repurchase of Shares BCE buysits own shares in Shareholders the secondary market. Management compensation package includes salary and stock options. Stock optionsallow management to purchase stock from the corporation at a fraction of the share price in the secondary market. Management

  44. Treasury Stock No voting or dividend rights Contra equity account When stock is reacquired, the corporation records the treasury stock at cost.

  45. Repurchased Shares Most Canadian corporations cancel repurchased shares. For example, if BCE reacquired 100,000 common shares at $22 per share on August 1, the journal entry would be . . . .

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