1 equity financing an electronic presentation by douglas cloud by douglas cloud pepperdine...
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1
Equity Equity FinancingFinancing
An electronic presentationAn electronic presentation by Douglas Cloudby Douglas Cloud
Pepperdine UniversityPepperdine University
An electronic presentationAn electronic presentation by Douglas Cloudby Douglas Cloud
Pepperdine UniversityPepperdine University
chapter 11
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Learning Objectives
1. Identify the rights associated with ownership of common and preferred stock.
2. Record the issuance of stock for cash, on a subscription basis, and in exchange for noncash assets or for services.
3. Use both the cost and par value methods to account for stock repurchases.
4. Account for the issuance of stock rights and stock warrants.
ContinuedContinuedContinuedContinued
3
Learning Objectives
5. Explain the difference between the intrinsic value and fair value methods, and use both in accounting for a fixed stock option plan.
6. Distinguish between stock conversions that require a reduction in retained earnings and those that do not.
7. List the factors that impact the retained earnings balance.
ContinuedContinuedContinuedContinued
4
Learning Objectives 8. Properly record cash dividends, property dividends, small and large stock
dividends, and stock splits.
9. Explain the background of unrealized gains and losses recorded as direct equity adjustments, and list the major types of equity reserves founds in foreign balance sheets.
10. Prepare a statement of changes in stockholders’ equity.
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Equity Items
XYZ Corporation
Common Stock
ISSUE preferred or
common stock
PAY cash
dividends
XYZ Corporation
Common Stock
INCREASE shares
outstanding through stock dividends and
stock splits
GRANT options to
officers and employees
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Equity Items
XYZ Corporation
Common Stock
REPURCHASE shares of stock
XYZ Corporation
Common Stock
CONVERT other securities into shares of common stock
XYZ Corporation
Common
Stock
XYZ Corporation
Common
Stock
XYZ Corporation
Common
StockXYZ Corporation
Common Stock
REPORT performance to
current and potential investors
XYZ Corporation
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Common Stock
The owners of common stock of a corporation can be thought of as the true owners of the business.
The owners of common stock of a corporation can be thought of as the true owners of the business.
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Common Stock
Unless restricted by terms of the articles of
incorporation, the common stockholder has certain
basic rights.
Unless restricted by terms of the articles of
incorporation, the common stockholder has certain
basic rights.
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The right to vote in the election of directors and in the determination of certain corporate polices such as the management compensation plan or major corporate acquisitions.
The right to maintain one’s proportional interest in the corporation through purchase of additional common stock if and when it is issued.
Common Stock
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Rex Corporation issued 5,000 shares of common stock with a par value of $1 on
April 1, 2005, for $30,000 cash.
Rex Corporation issued 5,000 shares of common stock with a par value of $1 on
April 1, 2005, for $30,000 cash.
Apr. 1 Cash 30,000Common Stock 5,000Additional Paid-In Capital 25,000
Common Stock
at Par Valueat Par Value
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Preferred StockPreferred Stock
The title “preferred” stock is
somewhat misleading.
The title “preferred” stock is
somewhat misleading.
Preferred isn’t better; it’s different.
Preferred isn’t better; it’s different.
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Preferred StockPreferred Stock
The rights of ownership given up by preferred stockholders:
The rights of ownership given up by preferred stockholders:
• Voting: In most cases, preferred stockholders are not allowed to vote for the board of directors.
• Sharing in success: The cash dividends received by preferred stockholders are usually fixed in amount. If the company does exceptionally well, preferred stockholders do not get to share in the success.
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• Cash dividend preference: Preferred stockholders are entitled to receive their full cash dividend before any cash dividend can be issued to common stockholders.
• Liquidation preference: If the company goes bankrupt, preferred stockholders are entitled to have their investment repaid in full, before common stockholders receive anything.
The protection enjoyed by preferred stockholders is:
The protection enjoyed by preferred stockholders is:
Preferred StockPreferred Stock
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CumulativeHas the right to receive accumulated dividends before any dividends may be paid to common stockholders.
Non-Cumulative
Has no right to “passed”dividends.
ParticipatingHas claim to a portion ofcommon dividends afterreceiving preferred dividends.
Preferred StockPreferred Stock
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Callable Permits the issuing companyto redeem the preferred stock.
RedeemablePermits the holder to redeem thestock—usually with somerestrictions.
ConvertiblePermits the holder to exchangepreferred stock for common stock.
Preferred StockPreferred Stock
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Preferred StockPreferred Stock
Dividends on cumulative preferred stock that are passed are referred to as dividends in arrears.
Dividends on cumulative preferred stock that are passed are referred to as dividends in arrears.
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Preferred StockPreferred Stock
And… dividends are not a liability until declared
by the board of directors.
And… dividends are not a liability until declared
by the board of directors.
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Preferred StockPreferred Stock
Participating preferred stock issues provide for additional dividends to be paid to preferred stockholders
after dividends of a specified amount are
paid to common stockholders.
Participating preferred stock issues provide for additional dividends to be paid to preferred stockholders
after dividends of a specified amount are
paid to common stockholders.
Callable preferred stock is preferred
stock that is redeemable at the
option of the corporation.
Callable preferred stock is preferred
stock that is redeemable at the
option of the corporation.
Redeemable preferred stock is
preferred stock that is redeemable at the
option of the stockholder.
Redeemable preferred stock is
preferred stock that is redeemable at the
option of the stockholder.
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Capital Stock Issued for Cash
Goode Corporation issued 4,000 shares of $1 par common stock on April 1, 2005, for $45,000 cash.
Goode Corporation issued 4,000 shares of $1 par common stock on April 1, 2005, for $45,000 cash.
Apr. 1 Cash 45,000Common Stock 4,000Paid-In Capital in Excess of Par 41,000
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On April 1, 2005, Goode Corporation issued 4,000 shares of no-par common stock without a
stated value for $45,000 cash.
On April 1, 2005, Goode Corporation issued 4,000 shares of no-par common stock without a
stated value for $45,000 cash.
Apr. 1 Cash 45,000Common Stock 45,000
Capital Stock Issued for Cash
21Capital Stock Sold on Subscription
On November 1, 2005, a firm received subscriptions for 5,000 shares of $1 par common at $12.50 per share with 50%
down, balance due in 60 days.
On November 1, 2005, a firm received subscriptions for 5,000 shares of $1 par common at $12.50 per share with 50%
down, balance due in 60 days.
Nov. 1 Common Stock Subscription Receivable 62,500
Common Stock Subscribed 5,000Paid-In Capital in Excess of Par 57,500
22Capital Stock Sold on Subscription
On November 1, 2005, a firm received subscriptions for 5,000 shares of $1 par common at $12.50 per share with 50%
down, balance due in 60 days.
On November 1, 2005, a firm received subscriptions for 5,000 shares of $1 par common at $12.50 per share with 50%
down, balance due in 60 days.
Nov. 1 Cash 31,250Common Stock Subscription Receivable 31,250
23Capital Stock Sold on Subscription
On December 9, received balance due on one-half of subscribers and issued stock to fully paid subscribers, 2,500 shares.
On December 9, received balance due on one-half of subscribers and issued stock to fully paid subscribers, 2,500 shares.
Dec. 9 Cash 15,625Common Stock
Subscription Receivable 15,625
9 Common stock Subscribed 2,500Common Stock 2,500
24Stock Issued for Consideration Other Than Cash
AC Company issues 200 shares of $0.50 par value common stock in return for
land. The company’s stock is currently selling for $50 per share.
AC Company issues 200 shares of $0.50 par value common stock in return for
land. The company’s stock is currently selling for $50 per share.
Dec. 5 Land 10,000Common Stock 100
Paid-In Capital in Excess of Par 9,900
25Stock Issued for Consideration Other Than Cash
Assume that the land has a readily determinable market price of $12,000, but AC Company’s common stock has
no established fair market value.
Assume that the land has a readily determinable market price of $12,000, but AC Company’s common stock has
no established fair market value.
Dec. 5 Land 12,000Common Stock 100
Paid-In Capital in Excess of Par 11,900
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Stock Repurchases
1. Provide shares for incentive compensation and employee savings plans.
2. Obtain shares needed to satisfy requests by holders of convertible securities.
3. Reduce the amount of equity relative to the amount of debt.
4. Invest excess cash temporarily.
Companies Companies acquired their acquired their
own stock to…own stock to…
Companies Companies acquired their acquired their
own stock to…own stock to…
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Stock Repurchases
5. Remove some shares from the open market in order to protect against a hostile takeover.
6. Improve per-share earnings by reducing the number of shares outstanding and returning inefficiently used assets to shareholders.
7. Display confidence that the stock is currently undervalued by the market.
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Treasury Stock
• Stock issued by a corporation but subsequently reacquired by the corporation and held for possible future reissuance or retirement.
• Reported as a contra-equity account, not as an asset.
• Does not create a gain or loss on reacquisition, reissuance, or retirement.
• May decrease Retained Earnings, but cannot increase it.
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Issued 10,000, $1 par value shares at $15 per shareIssued 10,000, $1 par value shares at $15 per share
Cost MethodCash 150,000 Common Stock. 10,000 Paid-In Capital in Excess of Par 140,000
Treasury Stock
Cash 150,000Common Stock. 10,000
Paid-In Capital in Excess of Par 140,000
Par Value Method
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Reacquired 1,000 shares at $40 per share.Reacquired 1,000 shares at $40 per share.
Treasury Stock
Cost MethodTreasury Stock 40,000
Cash 40,000
Treasury Stock 1,000Paid-In Capital in Excess of Par 14,000Retained Earnings 25,000 Cash 40,000
Par Value Method
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Sold 200 shares of treasury stock at $50 per share.Sold 200 shares of treasury stock at $50 per share.
Treasury Stock
Cost MethodCash 10,000
Treasury Stock 8,000 Paid-In Capital from
Treasury Stock 2,000
Cash 10,000Treasury Stock 200Paid-In Capital in Excess of Par 9,800
Par Value Method
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Sold 500 shares of treasury stock at $34 per share.Sold 500 shares of treasury stock at $34 per share.
Treasury Stock
Cost MethodCash 17,000Paid-In Capital from Treasury
Stock 2,000Retained Earnings 1,000
Cash 20,000
Cash 17,000Treasury Stock 500Paid-In Capital in Excess of Par 16,500
Par Value Method
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Retired remaining 300 shares of treasury stock.Retired remaining 300 shares of treasury stock.
Treasury Stock
Cost MethodCommon Stock 300Paid-In Capital in Excess of Par 4,200Retained Earnings 7,500
Treasury Stock 12,000
Common Stock 300Treasury Stock 300
Par Value Method
34Stock Rights, Warrants, and Options
Stock rights—Issued to existing shareholders to permit them to maintain their proportionate ownership interests when new shares are to be issued.
Stock warrants—Sold by the corporation for cash, generally in conjunction with the issuance of another security.
Stock options—Granted to officers or employees, usually as part of a compensation plan.
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Stock Warrants
Stewart Co. sells 1,000 shares of $50 par preferred stock for $58 per share. Stewart Co.
gives the purchaser detachable warrants enabling the holders to subscribe to 1,000 shares of $2 par common stock for $25 per
share. Immediately following the issuance of the stock, the warrants are selling for $3, and
the fair market value of a preferred share without the warrant attached is $57.
Stewart Co. sells 1,000 shares of $50 par preferred stock for $58 per share. Stewart Co.
gives the purchaser detachable warrants enabling the holders to subscribe to 1,000 shares of $2 par common stock for $25 per
share. Immediately following the issuance of the stock, the warrants are selling for $3, and
the fair market value of a preferred share without the warrant attached is $57.
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Stock Warrants
Value assigned to
warrants=
Total issue price
xMarket value of warrants
Market value of security
without warrants
+ Market value of warrants
$57 + $3
Value assigned to
warrants= $58,000 x $3 = $2,900
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Stock Warrants
The entry on Stewart’s book to record the sale of the preferred stock with
detachable warrants is:
The entry on Stewart’s book to record the sale of the preferred stock with
detachable warrants is:
Cash 58,000Preferred Stock, $50 par 50,000 Paid-In Capital in Excess of Par--Preferred Stock5,100Common Stock Warrants2,900
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Stock Warrants
If the warrants are exercised, the entry to record the issuance of common stock is:
If the warrants are exercised, the entry to record the issuance of common stock is:
Common Stock Warrants 2,900Cash 25,000
Common Stock, $2 par 2,000 Paid-In Capital in Excess of Par—Common Stock25,900
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Stock Warrants
If these warrants were allowed to expired, what entry would be required?
If these warrants were allowed to expired, what entry would be required?
Common Stock Warrants 2,900Paid-In Capital from Expired Warrants 2,900
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All employees eligible?
Shares offered equally?
Reasonable exercise period?
Exercise Prices » Market Price?
NoYes
Yes
Non-compen-satory Plan
Record sharesissued when stock
is purchased.
No
No
No
Compensatory Plan
Determine compensationexpense; amortize
over period employeeis to provide service.
No
Grant andMeasurementdates same?
Yes
Number of sharesand Exercise Price
known?
Estimate compensationexpense; amortize
over period employeeis to provide service.
Determine actual expense;amortize over remaining
period employee is toprovide service.
Record shares issuedwhen stock is purchased.
Adjust for UnearnedCompensation, if any.
No
Yes
40Stock-Based CompensationStock-Based Compensation
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Stock-Based CompensationStock-Based Compensation
On January 1, 2003, the board of directors of Neff Company
authorize the grant of 10,000 stock options. Each option permits the
purchase of one share of Neff common stock at $50 per share.
On January 1, 2003, the board of directors of Neff Company
authorize the grant of 10,000 stock options. Each option permits the
purchase of one share of Neff common stock at $50 per share.
The company estimates a grant date value of $10 for each of the
employee stock options. The total fair value of the options granted is $100,000. Compensation cost is allocated over three years from
January 1, 2003 (the grant date) to January 1, 2006 (the vesting date).
The company estimates a grant date value of $10 for each of the
employee stock options. The total fair value of the options granted is $100,000. Compensation cost is allocated over three years from
January 1, 2003 (the grant date) to January 1, 2006 (the vesting date).
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Stock-Based CompensationStock-Based Compensation
Dec. 31 Compensation Expense 33,333Paid-In Capital from Stock Options 33,333
2003
$100,000 ÷ 3
SimilarSimilar entries would be made in 2004 and 2005.SimilarSimilar entries would be made in 2004 and 2005.
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Stock-Based CompensationStock-Based Compensation
Dec. 31 Cash 500,000Paid-In Capital from Stock Options 100,000
Common Stock (no par) 600,000
2006
On December 31, 2006, all 10,000 of the options are exercised to purchase Neff’s no-
par common stock.
On December 31, 2006, all 10,000 of the options are exercised to purchase Neff’s no-
par common stock.
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Stock-Based CompensationStock-Based Compensation
Dec. 31 Paid-In Capital from Stock Options 600,000
Paid-In Capital from Expired Options 600,000
2006
If the options had been allowed to expired, the following entry would have been
necessary on December 31, 2006:
If the options had been allowed to expired, the following entry would have been
necessary on December 31, 2006:
45
Stock Conversions
Dec. 31 Preferred Stock, $50 par 50,000Paid-In Capital in Excess of Par—Preferred 10,000
Common Stock 4,000Paid-In Capital in Excess of Par—Common 56,000
2005
On December 31, 2005, 1,000 shares of preferred stock (par $50) are exchanged for
4,000 shares of common stock (par $1)
On December 31, 2005, 1,000 shares of preferred stock (par $50) are exchanged for
4,000 shares of common stock (par $1)
Case 1Case 1
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Stock Conversions
Dec. 31 Preferred Stock, $50 par 50,000Paid-In Capital in Excess of Par—Preferred 10,000Retained Earnings 20,000
Common Stock 80,000
2005
On December 31, 2005, 1,000 shares of preferred stock (par $50) are exchanged for
4,000 shares of common stock (par $20)
On December 31, 2005, 1,000 shares of preferred stock (par $50) are exchanged for
4,000 shares of common stock (par $20)
Case 2Case 2
47Factors AffectingRetained Earnings
Error correctionsSome changes in accounting principleNet incomeQuasi-reorganizations
RetainedEarnings IncreasesIncreasesIncreasesIncreases
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Error correctionsPrior period adjustments
Treasury stockNet loss
Some changes in accounting principlesCash and stock dividendsRetained
Earnings
Factors AffectingRetained Earnings
DecreaseDecreasess
DecreaseDecreasess
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Accounting for Dividends
• Declaration date: The date the corporation’s board of directors formally declares a dividend will be paid.
• Date of record: The date on which stockholders of record are identified as those who will receive a dividend.
• Date of payment: The date when the dividend is actually distributed to stockholders.
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Cash Dividend
ABC Corporation declares a $100,000 dividend; the following journal entries should be made:
Declaration Date
Dividends (Retained Earnings) 100,000
Dividends Payable 100,000
Payment Date
Dividends Payable 100,000
Cash100,000
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Property Dividend
It is a distribution to stockholders that is
payable in some asset other than cash.
It is a distribution to stockholders that is
payable in some asset other than cash.
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Property Dividend
Bigley Corporation owns 100,000 shares in Tri-State Oil Co, carrying value $2,700,000, current market value
$3,000,000, or $30 per share. There are 1,000,000 shares of Bigley stock
outstanding. A dividend of 1/10 of a share of Tri-State Oil Co. is declared for each share of Bigley stock outstanding.
Bigley Corporation owns 100,000 shares in Tri-State Oil Co, carrying value $2,700,000, current market value
$3,000,000, or $30 per share. There are 1,000,000 shares of Bigley stock
outstanding. A dividend of 1/10 of a share of Tri-State Oil Co. is declared for each share of Bigley stock outstanding.
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Declaration of Dividend
Dividend (or Retained Earnings) 3,000,000
Property Dividends Payable 2,700,000
Gain on Distribution of Property
Dividend 300,000
Property Dividend
Payment of Dividend
Property Dividends Payable 2,700,000
Investment in Tri-State Oil Co.2,700,000
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Stock Dividends
• Small– Less than 20-25% of the outstanding shares.– Debit Retained Earnings for the MARKET
value of the shares.• Large
– Greater than 20-25% of the shares outstanding.– Debit Retained Earnings for the PAR value of
the shares.
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• Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
• Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
Example 1: Stock Dividend
Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
Is this a large or small stock dividend?
Is this a large or small stock dividend?
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• Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
• Assume the following about Gean, Inc.:– Common stock ($2 par, 10,000
shares outstanding) $20,000– Additional paid-in capital $24,200– Retained earnings $12,500– Stock dividend declared 1,500 shares– Market price of stock $10/share
Example 1: Stock Dividend
Because 1,500 shares represent 15% of the
outstanding stock, it is a small stock dividend.
Because 1,500 shares represent 15% of the
outstanding stock, it is a small stock dividend.
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Declaration Date
Retained Earnings 15,000
Stock Dividends Distributable 3,000
Paid-In Capital in Excess of Par 12,000
Example 1: Stock Dividend
Issuance Date
Stock Dividends Distributable 3,000
Common Stock 3,000
59
Example 2: Stock Dividend
• Assume the following about Gimli’s Corp.:– Common Stock ($5 par, 20,000
shares outstanding) $100,000– Additional Paid-In Capital $100,000– Retained Earnings
$52,000– Stock Dividend Declared 10,000 shares– Market Price of Stock $20/share
• Assume the following about Gimli’s Corp.:– Common Stock ($5 par, 20,000
shares outstanding) $100,000– Additional Paid-In Capital $100,000– Retained Earnings
$52,000– Stock Dividend Declared 10,000 shares– Market Price of Stock $20/share
Is this a large or small stock dividend?Is this a large or small stock dividend?50% = large dividend50% = large dividend
60
Example 2: Stock Dividend
Declaration Date
Retained Earnings 50,000
Stock Dividends Distributable50,000
Issuance Date
Stock Dividends Distributable 50,000
Common Stock50,000
61Unrealized Gains and Losses on Available-For-Sale Securities
Available-for-sale securities are those that were not
purchased with the immediate intention to resell…
Available-for-sale securities are those that were not
purchased with the immediate intention to resell…
…but the company also doesn’t necessarily plan to
hold these securities forever.
…but the company also doesn’t necessarily plan to
hold these securities forever.
62Unrealized Gains and Losses on Available-For-Sale Securities
Kendell had net income of $1,350. Other items that impacted net income are:Unrealized gain (loss) on available-
for-sale securities $100(Increase) Decrease in minimum
pension liability (60 )Unrealized gain (loss) on derivative
instruments (20 )Foreign currency translation
adjustment, increase (decrease) instockholders’ equity 300
63Unrealized Gains and Losses on Available-For-Sale Securities
Net income
$1,350Other comprehensive income:
Unrealized gain on available-for- sale securities
60Increase in minimum pension liability
(36
)Unrealized loss on derivative instruments
(12
)Foreign current transaction adjustments
180Comprehensive income
$1,542
64
Liquidating Dividend
A liquidating dividend is a distribution representing a return to stockholders of a
portion of contributed capital.
A liquidating dividend is a distribution representing a return to stockholders of a
portion of contributed capital.
65Disclosures Related to the Equity Section
Authorized but unissued. Subscribed for and held for issuance
pending receipt of cash for the full amount of the subscription price.
Outstanding in the hands of stockholders. Reacquired and held by the corporation for
subsequent reissuance. Canceled by appropriate corporate action.
Capital stock may be:
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