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Chapter 11

Chapter 11. Stockholders’ Equity. PowerPoint Authors: Brandy Mackintosh Lindsay Heiser. Learning Objective 11-1. Explain the role of stock in financing a corporation. Corporate Ownership.

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Chapter 11

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  1. Chapter 11 Stockholders’ Equity PowerPoint Authors: Brandy Mackintosh Lindsay Heiser

  2. Learning Objective 11-1 Explain the role of stock in financing a corporation

  3. Corporate Ownership The major advantage of the corporate form of business is the ease of raising capital as both large and small investors can participate in corporate ownership. Easy to transfer ownership Provides limited liability Simple to become an owner • Because a corporation is a separate legal entity, it can • Own assets. • Incur liabilities. • Sue and be sued. • Enter into contracts.

  4. StockholderBenefits Corporate Ownership • Voting rights. • Dividends. • Residual claims. • Preemptive rights.

  5. Corporate Ownership

  6. Equity Versus Debt Financing Advantages of equity and debt financing. Advantages of equity • Equity does not have to be repaid. • Dividends are optional. Advantages of debt • Interest on debt is tax deductible. • Debt does not change stockholder control.

  7. Learning Objective 11-2 Explain and analyze common stock transactions.

  8. Common Stock Transactions

  9. Outstanding sharesare issued shares that are owned by stockholders. Authorized Shares Issued Shares Treasury sharesare issued shares that have been reacquired by the corporation. Authorization, Issuance, and Repurchase of Stock Issued shares are authorized shares of stock that have been distributed to stockholders. Unissued shares of stock are shares that have never been distributed to stockholders. Outstanding Shares The maximum number of shares of capital stock that can be issued to the public. Unissued Shares Treasury Shares

  10. Authorization, Issuance, and Repurchase of Stock

  11. Stock Authorization Par value is typically a very nominal amount such a $0.01 per share.  Par valueis an arbitrary amount assigned to each share of stock when it is authorized. Market priceis the amount that each share of stock will sell for in the market.

  12. No-par Stock Some states do notrequire a par value to be stated in the charter. Stock Authorization

  13. Initial public offering (IPO) Seasoned new issue The first time a corporation issues stock to the public. Subsequent issues of new stock to the public. National Beverage issues stock. Stock Issuance

  14. Stockholders’ Equity + Cash +1,000,000 Common Stock +1,000 Additional Paid-In Capital +999,000 Stock Issuance Most issues of stock to the public are cash transactions. National Beverage issued 100,000 shares of$0.01 par value common stock for $10 per share. 1,000,000 1,000 999,000 dr Cash (+A) (100,000 x $10) cr Common Stock (+SE) (100,000 x $0.01) cr Additional Paid-In Capital (+SE) (1,000,000 – 1,000) Analyze Record Liabilities Assets = 1 2

  15. Transactions between two investors do not affectthe corporation’s accounting records. I’d like to sell 100 shares of National Beverage stock. I’d like to buy 100 shares of National Beverage stock. Stock Exchanged between Investors

  16. Stock Used to Compensate Employees Employees pay packages can include stock options Gives the employees the option to acquire company stock at a predetermined price If the employees work hard and meet the corporation’s goals the stock price will increase. Employees can then exercise their option to acquire stock at the lower predetermined price and sell it at the higher price for a profit.

  17. Repurchase of Stock • A corporation repurchases its stock to: • Distribute excess cash to stockholders. • Send a signal that the company believesits stock is worth acquiring. • Obtain shares to reissue for the purchaseof other companies. • Obtain shares to reissue to employees as part of stock option plans.

  18. National Beverage repurchases its own stock (Treasury stock) Stockholders Employee compensation package includes salary plus stock options. Employee Repurchase of Stock Stock optionsallow employees to purchase stock from the corporation at a fraction of the stock’s market price.

  19. Treasury stock is notan asset. Repurchase of Stock No voting or dividend rights Contra equity account When stock is reacquired, the corporation records the treasury stock at cost.

  20. Stockholders’ Equity + Cash -1,250,000 Treasury Stock (+xSE) -1,250,000 Repurchase of Stock National Beverage reacquired 50,000 sharesof its common stock at $25 per share. 1,250,000 1,250,000 dr Treasury Stock (+xSE, -SE) cr Cash (-A) Analyze Record Liabilities Assets = 1 2

  21. Stockholders’ Equity + Cash +140,000 Treasury Stock (-xSE) +125,000 Additional Paid-In Capital +15,000 Reissuance of Treasury Stock National Beverage reissued 5,000 sharesof the Treasury Stock at $28 per share. 140,000 125,000 15,000 dr Cash (+A) (5,000 x $28) cr Treasury Stock (-xSE, +SE) (5,000 x $25) cr Additional Paid-In Capital (+SE) [5,000 x ($28 - $25)] Analyze Record Liabilities Assets = 1 2 No profit or loss is recognized on treasury stock transactions.

  22. Learning Objective 11-3 Explain and analyze cash dividends, stock dividends, and stock split transactions.

  23. Dividends on Common Stock Declared by board of directors. Not legally required. Creates liability at declaration. Requires sufficient Retained Earnings and Cash.

  24. Dividends Dates

  25. Stockholders’ Equity + Dividends Declared (+D) -106,260,000 Dividends Payable +106,260,000 Dividends Dates National Beverage declares an $2.30 dividend on each share of its 46,200,000 shares of common stock outstanding. 106,260,000 106,260,000 dr Dividends Declared (+D, -SE) cr Dividends Payable (+L) Analyze Record Liabilities Assets = 1 2

  26. Stockholders’ Equity + Cash -106,260,000 Dividends Payable -106,260,000 Dividends Dates National Beverage paid the previously declared $2.30dividend on its shares of common stock outstanding. 106,260,000 106,260,000 dr Dividends Payable (-L) cr Cash (-A) Analyze Record Liabilities Assets = 1 2

  27. No change in total stockholders’ equity. No change inpar values. All stockholders retain same percentage ownership. Stock Dividends Distribution of additional sharesof stock to stockholders. • Corporations issue stock dividends to: • Remind stockholders of the accumulating wealth in the company. • Reduce the market price per share of stock. • Signal that the company expects strong financial performance in the future.

  28. Record at currentmarket valueof stock. Record atpar valueof stock. Stock Dividends Small Large Stock dividend < 20 – 25% Stock dividend > 20 – 25% The journal entry moves an amount fromRetained Earnings to other equity accounts.

  29. Stockholders’ Equity + Retained Earnings -76,000 Common Stock +76,000 Stock Dividends National Beverage issued a 20 percent stock dividend on 38,000,000 outstanding shares of its $0.01 par value common stock and accounted for it as a large stock dividend. 76,000 76,000 dr Retained Earnings (-SE) cr Common Stock (+SE) Analyze Record Liabilities Assets = 1 2

  30. Stock Splits An increase in the number of shares and a corresponding decreasein par value per share. Retained earnings is not affected. A stock split creates more pieces of the same pie. Assume that a corporation had 1,000,000 shares of $0.01 par value common stock outstanding before a 2–for–1 stock split.

  31. Comparison of Distributionsto Stockholders

  32. Learning Objective 11-4 Describe the characteristics of preferred stock and analyze transactions affecting preferred stock.

  33. Stockholders’ Equity + Cash +50,000 Preferred Stock +10,000 Additional Paid-In Capital Preferred +40,000 Preferred Stock Issuance Priority over common stock Preferred Stock Usually has a fixed dividend rate Usually has no voting rights National Beverage issued 10,000 shares of its$1 par value preferred stock for $5 per share. 10,000 40,000 50,000 dr Cash (+A) (10,000 x $5) cr Preferred Stock (+SE) (10,000 x $1) cr Additional Paid-In Capital – Preferred (+SE) Analyze Record Liabilities Assets = 1 2

  34. Current Dividend Preference: The current preferred dividends must be paid before paying any dividends to common stock. Cumulative Dividend Preference: Any unpaid dividends from previous years (dividends in arrears) must be paid before common dividends are paid. Preferred Stock Dividends If the preferred stock isnoncumulative, any dividends not declared in previous years arelostpermanently.

  35. Preferred Stock Dividends Assume the preferred stock of Flavoria carries only a current dividend preference and that the company declares dividends totaling $8,000 in 2012 and $10,000 in 2013. How much would the preferred and common stockholders receive in 2012 and 2013?

  36. Preferred Stock Dividends

  37. Preferred Stock Dividends Assume that Flavoria Company has the same amount of stock outstanding. However assume that dividends are in arrears for 2010 and 2011. How much would the preferred and common stockholders receive in 2012 and 2013?

  38. Preferred Stock Dividends

  39. Retained Earnings Total cumulative amount of reported net income less any net losses and dividends declared since the company started operating. Baker Company Comparative Balance Sheets (Partial) For Year Ended December 31 Stockholders’ Equity Common Stock Additional Paid-in Capital Retained Earnings (Deficit) Total Stockholders’ Equity 2014 $ 100,000 750,000 50,000 900,000 2013 $ 100,000 750,000 (70,000) 780,000 Baker Company incurred a loss of $120,000 in 2013 thatresulted in an Accumulated Deficit in Retained Earnings.

  40. Learning Objective 11-5 Analyze the earnings per share (EPS), return on equity (ROE), and price/earnings (P/E) ratios.

  41. Net Income Average Number of Common Shares Outstanding EPS = $40,800,000 46,200,000 Shares = $0.88 per share EPS = Earnings Per Share (EPS) Earnings per share is probably the single most widely watched financial ratio. National Beverage’s income for 2011 was $40,800,000 and the average number of shares outstanding during the year was 46,200,000.

  42. $40,800,000 $110,950,000 ROE = = 36.8 percent Return on Equity (ROE) Return on equity is the amount earned for each dollar invested by stockholders. Net Income Average Stockholders’ Equity ROE = National Beverage’s income for 2011 was $40,800,000 and the average Stockholders’ Equity was $110,950,000.

  43. Current Stock Price (per share) Earnings Per Share (annual) P/E = Price/Earnings (P/E) Ratio The P/E ratio is a measure of the value that investors place on a company’s common stock. $ 15.10 $ 0.88 P/E = = 17.2 National Beverage’s stock price was $15.10 whenthe company reported its 2011 EPS of $0.88.

  44. Comparison of EPS, ROE,and P/E Ratios

  45. Supplement 11A Owners’ Equity for Other Forms of Business

  46. Owner’s Equity for a Sole Proprietorship Only two owner’sequity accounts. A Capital account to recordthe owner’s investmentsand the periodic incomeor loss. A Withdrawal accountto record the owner’s withdrawals of assets. No separate retainedearnings account. Closed to the capital accountat the end of each period.

  47. Accounting for Owner’s Equityfor a Sole Proprietorship To record a $150,000 investment by H. Simpson, the owner. To record H. Simpson’s $1,000 monthly withdrawal.

  48. Accounting for Owner’s Equityfor a Sole Proprietorship To close revenue and expense accounts to capital. To close the $1,000 monthly drawings to capital.

  49. Accounting for Partnership Equity Accounting for assets, liabilities, revenues and expenses follows the same accounting principles as any other form of business. Accounting for partners’ equity follows the same pattern as for a sole proprietorship. Separate Capital and Drawings accounts are maintained for each partner.

  50. Accounting for Partnership Equity To record investments by partners Able and Bakerwho will divide net income as follows: Able, 60percent and Baker 40 percent. To record the partners’ monthly withdrawal.

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