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Chapter 8. The Analysis of the Statement of Shareholders’Equity. The Analysis of the Statement of Shareholders’ Equity. Link to Previous Chapter. Chapter 7 gave a design for. financial statements that. readies them for analysis. This Chapter. What is hidden. How is dirty. -. How is the.

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slide1

Chapter 8

The Analysis of the Statement of Shareholders’Equity

slide2

The Analysis of the Statement of Shareholders’ Equity

Link to Previous Chapter

Chapter 7 gave a design for

financial statements that

readies them for analysis.

This Chapter

What is hidden

How is dirty

-

How is the

This chapter reformulates the

dirty

-

surplus

surplus income

statement of

statement of owners’ equity

income ?

treated in the

owners’ equity

according to the design in

reformulation ?

reformulated

Chapter 7. The reformulation

to highlight the

information it

highlights comprehensive

contains ?

income.

Link to Next Chapter

Chapters 9 continues the

reformulation with the balance

sheet and the income

statement.

For more applications,

visit the website

Link to Web Page

what you will learn from this chapter
What you will learn from this Chapter
  • How GAAP statements of shareholders\' equity
  • are typically laid out
  • Why reformulation of the statement is
  • necessary
  • What is reported in "other comprehensive
  • income" and where it is reported
  • What "dirty-surplus" items appear in the
  • statement of shareholders\' equity
  • How stock options work to compensate
  • employees
  • How stock options and other contingent equity
  • claims result in hidden expenses
  • How management can create (or lose) value for
  • shareholders with share transactions
slide4

GAAP Statement of Shareholders’ Equity

Opening book value of equity (common and preferred)

+ Net share transactions with common stockholders

+ Capital contributions (paid in capital from share issues)

- Share repurchases (into treasury stock or against paid-in capital)

+ Net share transactions with preferred shareholders

+ Capital contributions (share issues)

- Share redemptions

+ Change in retained earnings

+ Net income

- Common dividends

- Preferred dividends

+ Accumulated other comprehensive income

+ Change in unearned (deferred) stock compensation

Closing book value (common and preferred)

the governing accounting relation
The Governing Accounting Relation

Book value, beginning of period

+ Comprehensive income

- Net payout to shareholders

= Book value, end of period

reformulation the steps
Reformulation: The Steps
  • Restate beginning and ending balances for items incorrectly included in or excluded from common equity
      • Preferred stock
      • Dividends payable
      • Unearned (deferred) compensation
  • Calculate net transactions with shareholders

Cash dividends + share repurchases – share issues

  • Calculate comprehensive income

Net income + Other comprehensive income –

Preferred dividends

nike the reformulated statement
Nike: The Reformulated Statement

Balances: 2003 2004

Reported $3,990.7 $4,781.7

Dividends payable 36.9 52.6

Unearned compensation 0.6 5.5

Restated balance 4,028.24,839.8

reebok reformulated statement
Reebok: Reformulated Statement

Balances:

2003 2004

Reported 1,033.7 1,220.0

Unearned compensation 1.2 5.8

Restated balance 1,034.91,225.8

fasb statement no 130
FASB Statement No. 130

Requires the reporting of comprehensive income

in one of three ways

  • Within the income statement
  • In separate statement
  • Within the equity statement

Most firms choose the last alternative

slide14

Ratio Analysis

Payout and Retention Ratios

ratio analysis continued
Ratio Analysis (continued)

Shareholder Profitability Ratio

Growth Ratios

hidden dirty surplus
Hidden Dirty Surplus
  • Shareholders lose when shares are issued at less than the market price (e.g. exercise of options)
  • This loss, however, is not recorded as expense.
  • What is the nature of this loss? If options are part of a compensation package, this loss is an employee compensation expense. If from a conversion of a bond, preferred stock or warrants, the loss is a financing expense.
  • What is the amount of the loss? Market price - exercise price.
  • Special case: options granted in the money are recorded as deferred compensation
fasb statement no 123r
FASB Statement No. 123R
  • Statement 123R requires an expense to be recognized at option grant date, equal to the value of the option at that date
  • Up to 2006, pro forma net income, including the expense, was reported in footnotes. The expense must now be reported in the income statement.
  • No further expense recorded as the option moves into the money or at exercise date.
  • Firms record a tax benefit (for non-qualified options) at exercise date, and credit this to shareholders’ equity.
  • IFRS2 has a similar requirement.
measuring the loss from exercise of stock options method 1 reebok
Measuring the Loss from Exercise of Stock Options: Method 1 (Reebok)

Expense is implied from the tax benefit:

measuring the loss from exercise of stock options method 2 reebok
Measuring The Loss from Exercise of Stock Options: Method 2 (Reebok)

Calculate difference between average stock price and exercise price:

Use when tax benefit is not reported, or for incentive options (where there is no tax benefit).

reebok reformulated statement1
Reebok: Reformulated Statement

Shares are issued at market value, and the difference between the market value and after-tax receipts from the shares issued is a loss from exercise of options.

hidden losses on put options dell computer
Hidden Losses on Put Options: Dell Computer

From the 2002 equity statement (see Chapter 2):

The Loss:

dell reformulated statement
Dell: Reformulated Statement

Dell Computer Corporation

Reformulated Statement of Shareholders’ Equity

Balance, February 2, 2001 $5,696

Transactions with shareholders:

Shares issued in stock option exercises

(at market) $1,747

Shares repurchased (at market) (1,632) 115

Comprehensive income

Comprehensive income reported 1,222

Loss on exercise of employee stock options $1,391

Tax benefit for employee stock options 487 (904)

Loss on put options (1,368) (1,050)

Other (3)

Balance, February 1, 2002 $4,758

losses on convertible securities
Losses on Convertible Securities

Loss = Market price of common issued -

Book value of convertible surrendered

The market value method vs. the book value

method

- The market value method recognizes losses on

conversion

- The book value method records the shares at

the book value of the convertible securities,

with no loss recognized

Almost all firms use the book value method.

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