Corporations: Paid-in Capital and the Balance Sheet

1. Corporations: Paid-in Capital and the Balance Sheet Chapter 12

2. Advantages and Disadvantages of Corporations DISADVANTAGES Ownership and management separated. Double taxation Government regulation is expensive Start-up costs are higher ADVANTAGES • Corporations can raise more money • Corporations have continuous life • Ownership transfer is easy • No mutual agency • Stockholders have limited liability

3. Corporate Organization • Authorization–State’s permission to operate • Authorized stock–How many shares of a class of stock a corporation may issue • Capital stock–Represents ownership of the corporation's capital • Stock certificate–Paper evidencing ownership in a corporation • Company name • Stockholder name • Number of shares owned • Outstanding stock–Stock held by stockholders

4. Stock

5. Stockholders’ Equity Basics Paid-in capital(Contributed capital) Retained earnings Earned by profitable operations Internally generated Results from internal corporate decisions to retain net income for use in the company • Amounts received from stockholders • Common stock is main source • Externally generated • Resulting from transactions with outsiders

6. Classes of Stock Common stock Preferred stock Certain advantages over common stock Receive dividends before common Fixed dividend amount Upon liquidation, receive assets before common Also have basic rights of common stockholders unless withheld • Four basic rights • Vote—voting on corporate matters • Dividends—receive a proportionate part of dividend declared • Liquidation—receive a proportionate part of assets remaining • Preemption—maintain their proportionate ownership

7. Par, Stated and No-par Par value No-par No arbitrary amount assigned Could have a stated value Stated value treated as par • Arbitrary amount assigned to a share of stock • Set when the corporate charter is filed • Usually set low as to avoid legal difficulties

8. Accounting for the Issuance of Stock • Sell directly to stockholders • Use an underwriter/brokerage firm • Buys unsold stock • Issue price–price received for issuing stock • Usually exceeds par value • Stock exchange– here public company stock is traded • NYSE–New York Stock Exchange • NASDQ

9. Accounting for the Issuance of Stock • Issuing 1,000,000 common stock ($1 par) at par

10. Accounting for the Issuance of Stock • Issuing common stock($1 par) above par • Amount received above par is called a premium • Not a gain; called additional paid-in capital • Another account is created for the premium amount

11. Stockholders’ Equity Presentation • The balance of the Common stock account is calculated Total Paid-in capital is the sum of Common stock plus Paid-in capital in excess of par

12. Accounting for Stock Issuances • No-par stock • No Paid-in capital in excess of par account needed • Full amount received is credited to Common stock • Balance sheet shows only the Common stock account

13. Accounting for Stock Issuances • Stated value stock • Similar to accounting for par value stock • Amount above stated value is credited to Paid-in capital in excess of stated value Stated value Stated value

14. Accounting for Stock Issuances • Issuing stock for assets other than cash • Asset is debited for its fair value • Building is debited instead of cash

15. Accounting for Stock Issuances • Issuing preferred stock • Similar to issuing common stock, except Preferred stock is credited at par value

16. Accounting for Stock Issuances • Preferred stock usually is not issued above par

17. Stockholders’ Equity on the Balance Sheet • Equity accounts are listed in the following order on the balance sheet: Preferred stock , Common stock, Retained earnings

18. S12-5: Issuing stock and interpreting stockholders’ equity Scifilink.com issued stock beginning in 2012 and reported the following on its balance sheet at December 31, 2012: Common stock, $ 2.00 par value Authorized: 6,000 shares Issued: 4,000 shares $ 8,000 Paid-in capital in excess of par 4,000 Retained earnings 26,500 Requirement: Journalize the company’s issuance of the stock for cash.

19. S12-5: Issuing stock and interpreting stockholders’ equity • Common stock, $ 2.00 par value • Authorized: 6,000 sharesIssued: 4,000 shares $ 8,000 Paid-in capital in excess of par 4,000 • Retained earnings 26,500

20. E12-15: Issuing stock Susie Systems completed the following stock issuance transactions: May 19 Issued 2,000 shares of $1 par common stock for cash of $9.50 per share. June 3 Sold 300 shares of $3, no-par preferred stock for $15,000 cash. June 11 Received equipment with market value of $78,000. Issued 3,000 shares of the $1 par common stock in exchange. Requirements: 1. Journalize the transactions. Explanations are not required. 2. How much paid-in capital did these transactions generate for Susie Systems?

21. E12-15: Issuing stock Susie Systems completed the following stock issuance transactions: May 19 Issued 2,000 shares of $1 par common stock for cash of $9.50 per share.

22. E12-15: Issuing stock Susie Systems completed the following stock issuance transactions: June 3 Sold 300 shares of $3, no-par preferred stock for $15,000 cash.

23. E12-15 : Issuing stock Susie Systems completed the following stock issuance transactions: June 11 Received equipment with market value of $78,000. Issued 3,000 shares of the $1 par common stock in exchange.

24. E12-15: Issuing stock 2. How much paid-in capital did these transactions generate for Susie Systems? • 19,000 issue of CS for Cash + • 15,000 issue of PS for Cash + • 78,000 stock issued for equipment with market value of 78,000 $112,000

25. Retained Earnings • Closing entries • Step 1 – Close Revenues • Step 2 – Close Expenses

26. Retained Earnings • Closing entries • Step 3 – Close Income summary

27. Deficit Balance • A loss causes Retained earnings to decrease • A debit balance in Retained earnings is a deficit

28. Deficit Balance on Balance Sheet • A deficit is reported as a negative amount

29. Accounting for Cash Dividends • Sometimes a state prohibits using Paid-in capital for dividends • Legal capital is the portion of equity unavailable for dividends • Dividends are declared before paying • Three dates: • Declaration date–Board declares a dividend and creates a liability • Date of record–determines which stockholders receives dividends • Payment date–pay dividends and remove liability

30. Declaring and Paying Dividends • Preferred dividends expressed as either: • A percent of par value • Or a flat dollar amount per share • Common dividends are expressed as a dollar amount per share 2,000 shares of $100 par 8% preferred = $16,000 dividend 2,000 shares of no-par $3 preferred = $6,000 dividend

31. Declaring and Paying Dividends • Declaration date • Date of Record (no entry) • Payment date

32. Dividing Dividends Between Preferred and Common Note: Preferred dividend per share ($50 x 6%) = $3 Annual preferred dividend is (2,000 shares x $3) = $6,000

33. Dividing Dividends Between Preferred and Common • Preferred stockholders receive dividends before common • Common stockholders receive dividends if total declared is large enough to cover preferred

34. Cumulative and Noncumulative Preferred Stock • Cumulative preferred stock • Accumulates dividends each year until the dividends are paid • Dividends in arrears—dividends passed or not paid • Noncumulative preferred stock • Dividends not paid do not accumulated from one year to the next • Dividend in arrears are paid first, then current dividends paid

35. Cumulative and Noncumulative Preferred Stock Cumulative Preferred • A company declares $50,000 for dividends • In arrears, 1 year at $6,000 • Preferred gets $6,000 in arrears + $6,000 current • Common receives the remainder • Distribution if Preferred is Noncumulative • Preferred $6,000 • Common $44,000

36. Different Values of Stock

37. Book Value of Preferred Stock • Book value attributed to preferred stock + any preferred dividends that are in arrears • Book value attributed to preferred stock is either • the number of outstanding preferred shares times liquidation value per share, OR • the book value of preferred equity (the Preferred stock account balance) • Plus any dividends that are in arrears, if the preferred stock is cumulative.

38. Book Value per Share

39. S12-10 : Book value per share of common stock Bronze Tint Trust has the following stockholders’ equity: Bronze Tint has not declared preferred dividends for five years (including the current year).

40. S12-10: Book value per share of common stock Compute the book value per share of Bronze Tint’s preferred and common stock.

41. S12-10: Book value per share of common stock Compute the book value per share of Bronze Tint’s preferred and common stock. (*$ 0.73645833 rounded)

42. Rate of Return on Total Assets • Measures a company’s success in using assets Net income + Interest expense Average total assets

43. Rate of Return on Common Stockholders’ Equity • Relationship between net income available and their average common equity invested Net income – Preferred dividends Average common stockholders’ equity

44. S12-11: Computing return on assets and return on equity Godhi’s 2012 financial statements reported the following items—with 2011 figures given for comparison:

45. S12-11: Computing return on assets and returnon equity Compute Godhi’s rate of return on total assets and rate of return on common stockholders’ equity for 2012. Do these rates of return look high or low? Rate of return on total assets Net income + Interest expense Average total assets = $3,890 + 210 / $31,550 = 13% (0.12995) Rate of return on common stockholders’ equity Net income – Preferred dividends Average common stockholders’ equity = $3,890 - 0 / $15,519 = 25.1% (0.250660) High

46. Income Taxes • Federal tax rate of 35% when combined with State taxes can increase total taxes to 40% • Corporations measure two income tax amounts • Income tax expense–income statement based • Income tax payable–IRS taxable income based • Income tax expense • Income before tax on the income statement x Income tax rate • Income tax payable • Taxable income from the IRS filed tax return x Income tax rate • Major difference–depreciation methods differ

47. Differences Between Income Statement and the Tax Return • Example • Income before income tax of $33,000,000 • $33,000,000 X 40% = $13,200,000 taxes • Taxable income of $20,000,000 • $20,000,000 X 40% = $8,000,000 IRS taxes • Difference is $5,200,000 • $13,200,000 - $8,000,000 • Deferred until taxable income catches up