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Sources of Assets . Borrowing (Current Debt and Long-term Notes and Bonds Payable- Chapters 10 and 11) PowerPoint Presentation
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Financial Management. Chapter 12. Stockholders’ Equity Taipei Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2009, Dr. Howard Godfrey Edited May 16, 2009. Sources of Assets . Borrowing (Current Debt and Long-term Notes and Bonds Payable- Chapters 10 and 11)

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Financial Management.Chapter 12. Stockholders’ EquityTaipeiHoward Godfrey, Ph.D., CPAUNC CharlotteCopyright © 2009, Dr. Howard GodfreyEdited May 16, 2009

slide3

Sources of Assets.

  • Borrowing(Current Debt and Long-term Notes and Bonds Payable- Chapters 10 and 11)
  • Contributed capital(Common Stock andPreferred Stock)
  • Earned Capital(Retained Earnings)
slide4

Sources of Assets. Text pg 504.

Note the relative importance of debt, contributed capital and earned capital for these well known companies.

How can retained earnings be negative? (see Amazon- Pg. 513. More on that later.)

slide5

Before focusing on the Financial Management issues related to owner equity, we will record the transactions for a small, hypothetical start-up company and prepare its financial statements.

Lets move forward with the Hat Corp. case on the slides that follow. Then we will address specific financial management issues.

slide6

Hat Corporation – Slide 1.

Please study the transactions on the next slide for Hat Corporation in its first year of operations. The corporation provides a service on credit. Hat owns no building or equipment. Hat rents all needed equipment, office space, etc.

1. Prepare the journal entries for Hat Corporation on the slides provided after the transaction slide.

2. Post the entries to the T accounts. 3. Prepare financial statements.

slide16

Sources of Assets.Textbook page 513.

Which corporation (on page 513) does Hat Corporation most closely resemble, in terms of the relative importance of debt, contributed capital and earned capital?

slide17

Book Value of Stock.Textbook page 523.

What is the book value per share of the stock of Hat Corporation?

See earlier slide?

(Also next slide)

Is that also the market value?

slide20

Book Value. Textbook page 514.Note that the book value of common was $50 per share when the corporation was first organized.

Hat earned $25,000 of net income, which is $25 for each of the 1,000 shares. This is earnings per share of $25. Book value increased from $50 per share to $75 per share. What is its par value?

Market to Book Ratio. Textbook page 524. If this stock is selling for $150 per share, what is the Market to Book Ratio?

slide25

Preferred Stock. Text page 512.

On December 31, 2007, Hat Corporation will raise an additional $50,000 in cash by issuing preferred stock (500 shares of $100 par, 6%, cumulative)

What does this mean? The cash will be used to buy equipment.

How will it affect the Balance sheet. Please study the next slide.

slide27

Debt Equity Ratio.

How was the debt/equity ratio of the Hat Corp. affected by its decision to raise an additional $50,000 in cash by issuing preferred stock (500 shares of $100 par, 6%, cumulative)?

Use ending balances rather than average balances to compute the debt/equity ratio. See next slide.

slide30

Debt and Equity Distinguished.Textbook page 522.

In an earlier case, a manufacturer of racing engines was financed initially with funds invested by two mechanics (for 100% of the stock). Later a relative loaned the company the additional funds it needed for expansion and received a demand note receivable.

What characteristics of debt financing were important to the relative? To the current owners?

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Concept of Leverage [1 of 2]

A corporation has 1,000 shares of $100 par stock outstanding. No retained earnings. (Equity of $100,000).

The Corporation earns a net income of $10,000 per year (ROE is 10%).

Earnings per share is $10.

The market expects a 10% return, so the market price of the stock is $100 per share.

Corporation needs to expand by investing an additional $100,000 in the business. Corporation will earn 10% on the additional investment before interest expense.

Corporation will borrow the $100,000 at 6% interest. What is new earnings per share?

slide33

Big Corporation – Slide 1 of 10

The balance sheet at 1-1-2006 and budgeted income statement (for 2006) are presented on the next two slides.

Big Corp. manufactures & sells 10,000 units of its product.

Selling price is $10 per unit. Mfg. Cost is $5 per unit. Selling and Admin. Costs total $1 per unit. The income tax rate is 50%.

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Big Corp. Needs to Expand. 6 of 10

Big Corp. needs to double its productive capacity in order to supply its product to a new customer in a neighboring country. The new factory and equipment (New Venture) will cost $200,000.

This venture is not included in the budget on preceding slides for Big Corp.

The factory can be financed by issuing additional stock for $200,000 ($10 par to be issued at price of $25 per share- 8,000 shares), or by issuing 6% bonds for $200,000. Compare the impact of the expansion, if it is financed with stock or with bonds.

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Earnings per share. 8 of 10.

Please compute earnings per share after this expansion, under both financing alternatives.

slide45

Treasury Stock Pg 526+

Now lets change the topic to Treasury Stock. Please read the material on pages 526-529.

slide49
Stock Corporation – 4 of 5

What was the impact of this purchase of treasury stock on earnings per share?

(Fewer shares, higher EPS)

What was the impact on the income statement (of the sale treasury stock for $40 per share when it cost the company $30 to buy it back)? (No impact.) We do not make profit off of our shareholders – We make profit for them.

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Stock Corporation – 5 of 5

How would you record the sale of treasury stock for $5 per share (instead of $40 per share as above)?

See Page 528.

Cash 5,000

Retained Earnings 25,000

Treasury Stock 30,000

slide51
Stock Options – Page 529

What are the key issues in accounting for stock issued as compensation to executives?

slide52

Dividends Pg 531+

Now lets change the topic to Dividends. Please read the material on pages 531+.

slide57
Dividend Corp. - 5 of 5.

How would you record a

2-for-one stock split.

(Assume there has been no cash dividend or stock dividend.)

slide59
Stockholders' Equity Section

Which of these is not shown in the stockholders' equity section of the balance sheet?

a. common stock

b. preferred stock

c. organization costs

d. retained earnings

e. paid-in capital in excess of par

slide60
Stockholders' Equity Section

Which of these is not shown in the stockholders' equity section of the balance sheet?

c. organization costs

slide61
Big Corporation was organized on January 1, 2007. The company was authorized to issue 100,000 shares of no-par common stock with a stated value of $5 per share.

On January 1, 2007, the company sold 50,000 shares of common stock for $12 per share.

In 2007, the company had net income of $100,000 and paid dividends of $40,000.

At the end of 2007, total stockholders' equity is:

a. $660,000 b. $550,000

c. $300,000 d. $150,000

slide63
Retained earnings represent:

a. Cash available for dividends

b. The amount initially invested by the owners of a business

c. Income which has been reinvested in the business rather than distributed as dividends to stockholders

d. Income which is not subject to income taxes

slide64
Retained earnings represent:

c. Income which has been reinvested in the business rather than distributed as dividends to stockholders

slide65
Book Value of a Share of Stock

Which of the following best describes the book value of a share of stock?

a. Net assets divided by the number of shares outstanding.

b. The amount at which the stock would sell on the market if sold by a willing and informed seller to a willing and informed buyer.

c. Total assets of the company as reported in the accounting records, divided by the number of shares of stock outstanding.

d. Total shareholders‘ equity divided by the number of shares authorized.

slide66
Book Value of a Share of Stock

Which of the following best describes the book value of a share of stock?

a. Net assets divided by the number of shares outstanding.

slide67
Red Corporation issued 10,000 shares of $10 par value capital stock at the time of its incorporation on January 1, 2006.

The stock was issued for cash at a price of $12 per share.

The company had a net income of 25,000 in 2006. The company did not pay a dividend.

The company borrowed $100,000 on a 90-day note from the local bank on December 31, 2003. The year-end balance sheet would show total owner equity of:

a. $75,000 b. $100,000 c. $145,000

d. $155,000 e. Some other amount

slide69
Both stock dividends & stock splits:

a. Reduce total stockholders' equity.

b. Reduce retained earnings.

c. Reduce book value per share of common stock.

d. Are expenses.

slide70
Both stock dividends & stock splits:

c. Reduce book value per share of common stock.

slide71
Grey Company declared and issued 1,000 share of its $10 par common stock in connection with a 5% stock dividend. The market value per share was $15. Grey's stockholders' equity accounts immediately before issuance of the stock dividend shares were as follows:

Common stock, $10 par; 50,000 shares authorized; 20,000 shares outstanding $200,000

Additional paid-in capital 300,000

Retained earnings 350,000

What is the retained earnings balance immediately after recording the stock dividend?

a. $305,000 b. $335,000

c. $327,500 d.$350,000

slide73
Stock dividends:

a. reduce total shareholder's equity.

b. increase total shareholders' equity.

c. reduce total assets.

d. increase total assets.

e. none of the above.

slide74
Stock dividends:

a. reduce total shareholder's equity.

b. increase total shareholders' equity.

c. reduce total assets.

d. increase total assets.

e. none of the above.

slide75
Treasury stock was acquired for cash at more than its par value, and then subsequently sold for cash at more than its acquisition price. Assuming that the cost method of accounting for treasury stock transactions is used, what is the effect on additional paid-in capital from treasury stock transactions? SOURCE: CPA

Purchase of Sales of

treasury stocktreasury stock

a. No effect No effect

b. No effect Increase

c. Decrease Increase

d. Decrease No effect

slide76
Treasury stock was acquired for cash at more than its par value, and then subsequently sold for cash at more than its acquisition price. Assuming that the cost method of accounting for treasury stock transactions is used, what is the effect on additional paid-in capital from treasury stock transactions?

Purchase of Sales of

treasury stocktreasury stock

a. No effect No effect

b. No effect Increase

c. Decrease Increase

d. Decrease No effect

SOURCE: CPA

slide77
Which of the following actions will not reduce book value per share of common stock:
  • Declare and pay cash dividend
  • Declare and distribute common stock dividend
  • Issue a 2-for-1 stock split
  • Have a 1-for-2 reverse stock split
slide78
The

End