Stockholder’s Equity COMPONENTS OF S/E Par Value Required: report total par value for all shares issued and outstanding • Represents legal capital of corporation (provides minimal protection for creditors) • In most states, corporations cannot pay any dividends out of par value • APIC •
What shareholders were willing to pay in excess of par or stated value
Retained Earnings Cumulative NI of the corporation since incorporation after subtracting dividends • Accumulated Other Comprehensive Income (OCI) Is cumulative • Items Foreign currency translation adjustment • Gain/Loss on AFS security • DIVIDENDS If declared dividend is > accumulated earnings = “partially liquidating dividend ” Retained Earnings 1500 [balance of R/E available to distribute] d istribute] APIC 250 Dividends Payable 1750 [amount of dividend declaration]
Pure Liquidating Dividend (by definition: return of capital ) APIC xx Dividend payable xx Preferred Dividends Cumulative – P/S dividends in arrears must be paid before common shareholders get paid Participating – Puts a limit/ceiling on what common stockholders may receive (same rate as preferred) Ex: After P/S have been paid, common S/H entitled to (P/S % * C/S par value) • Non-Participating – Following payment of fixed P/S dividend, remainder goes to Common Stockholders Dividends in Arrears Report divs in arrears as a disclosure. No liability exists until divs are declared by board. • Payment order for Dividends 1. Cumula Cumulati tive ve P/S P/S divid dividend endss in arrear arrearss 2. Curre Current nt yea yearr P/S P/S divi divide dends nds 3. Commo Common n stoc stockho khold lder erss a. If P/S P/S is is par parti tici cipat patin ing gà limited to (Par * P/S rate) b. b. If P/S P/S is is nonpa nonpart rtic icip ipat atin ing g àThe rest all goes to the common stockholders 4. Remainde nder: Participation (if applicable)
a. Allocate to Common and Preferred Shareholders based on relative par value
STOCK DIVIDENDS Dividend declared in the form of shares • Guideline: • If shares outstanding increases by 25% or more, treat as a split • Less than a 25% increase in shares, treat as stock dividend •
Recording a Stock Dividend Use FMV at date of declaration Stock dividends or splits never affect total S/E (BV or corporation) In essence, have capitalized a portion of R/E Increases total shares outstanding by x% • •
•
•
R/E declaration date] C/S APIC
300,000 60,000 240,000
[6,000 new shares * $50/share FMV @ [6,000 shares * $10 par] [PLUG, to balance]
Recording a Stock Split Example: 100% stock div (2 for 1 stock split) Use PAR VALUE at date of declaration Two ways to handle 1. Memo entry only : Shares outstanding double, par is cut in half 2. Book a JE (capitalize R/E @ par) : To maintain par value (for legal reasons, bylaws, etc…) • •
R/E
600,000 C/S
[60,000 new shares * $10 par] 600,000
Receiving a Stock Dividend/Stock Split Memorandum entry only: Recalculate cost per share No Income associated with transaction in financial accounting • •
Cash Dividend Entry @ Declaration R/E xx Cash dividend payable xx Property Dividends Dividends issued in the form other than cash or same company stock • Ex: MSFT sends you 100 shares of AOL as a dividend = property dividend • KEY: Always record @ FMV of property on date of declaration • If N/P is issued in lieu of cash, Dr. R/E by face amount only (interest expense not part of • div)
Property Dividend Example JE: on 12/1/x1, declared property dividend of marketable securities (CV = 60K, FMV = 78K) R/E
78K 60K 18K
Investment in Mkt Sec’s Gain on investment disposal]
[carrying amount] [must recognize gain upon
Stock Options (meant to be compensation) WHEN TO MEASURE: Day of the stock option grant • VALUATION: Use the fair value of the stock options on the day of the grant • FMV of option will be given on the CPA exam •
Black-Scholes Model to estimate FV of Options DEVILS – helpful pneumonic Dividends What are the expected dividends from the shares? Exercise Price At what price can employees buy the stock? Volatility How volatile is the stock? Interest Rates High or low in terms of discounting? Life of options How long do I have to exercise the option (when does it expire)? Stock Price What is the stock trading at on the day of the grant?
JE on day of the stock option grant Deferred Compensation “contra equity acct” Stock Options Outstanding “S/E account”
160K
[FMV of option @ date of grant] 160K
[FMV of option]
KEY: Must allocate compensation over time service is rendered (4 years in this example)!!! NOTE: “Deferred Compensation” is contra to S/E (reduces net S/E)
12/31/x1 Compensation Expense Deferred Compensation Upon Exercise of Stock Options Cash option holder] Stock Options Outstanding C/S
40K
[160K / 4 years of service] 40K
250K
[10,000 shares @ $25/share option price paid by
160K 100K
[10K shares @ $10 par issued]
APIC
310K
[PLUG]
*Note: Exercise of options has no effect on allocating compensation over service years TREASURY STOCK (contra to Common Stock account) When a corporation acquire shares of its own stock , they immediately go to the treasury • T/S are considered authorized & issued, but NOT outstanding • Reported in B/S as a “contra equity item” (Dr. bal- reduces total S/E) • Cost of T/S places restriction on R/E available for distribution as dividends • Footnote required: Can distributed all of R/E, except cost of T/S •
Methods to Account for Treasury Stock Assumptions: $10 par, $5 APIC, per share. 1000 1 000 shares issued Cost Method To record acquisition of T/S (at $18/share) T/S 3,600 [200 shares acquired * $18 cost/share] Cash 3,600 To record Sale of T/S (at $20/share) Cash 2,000 [100 shares * $20/share sale price] T/S 1,800 [@ cost of T/S] APIC – T/S 200 [PLUG, never realize gain when dealing with T/S]
To record Sale of remaining T/S (at $12/share) Cash 1,200 [100 shares * $12/share] APIC- T/S 200 [wipe out first, to extent of acct bal from previous T/S gains] R/E 600 [PLUG, to balance] T/S 1,800 [@ cost] RULE: When selling T/S for a loss, can only debit APIC-T/S to the extent of prior gains on T/S i.e. – The APIC-T/S account CANNOT HAVE A DEBIT BALANCE!!!! • Par Value Method Assumptions: $10 par, $5 APIC, per share. 1000 1 000 shares issued
To record acquisition of T/S (200 shares @ $18/share) T/S 2,000 [200 shares * $10 par] APIC 1,000 [$5 original APIC/share * 200 shares] R/E 600 [PLUG] Cash 3,600 [$18/sh * 200 shares acquired] To record selling T/S (200 shares @ $14/share) Cash 2,800 [200 shares *$14/sh] T/S 2,000 [T/S is at par, not cost!] APIC 800 [PLUG]
Stock Subscription w/partial down payment in current year Cash xx [20% down payment] Subscriptions receivable xx [balance due, 80%] C/S subscribed xx [shares * par] APIC xx [PLUG] Incorporating @ FMV and issuing common stock Assets xx [@FMV] Liabilities xx [@FMV] C/S – Par xx APIC xx [PLUG = FV of net assets – par value of c/s issued] Appropriation of R/E Most states require that R/E be appropriated for the amount of T/S held @ B/S date • Purpose: Purpose: Restrict a portion of R/E from being available for dividends •
Quasi-Reorganization Primary Purpose: Eliminate accumulated deficit (negative R/E balance) so the company has a fresh start with a $0 balance in R/E Involves restating assets to FMV and reducing the par value of C/S • C/S 250K [$25 reduction in par value * 10,000 shares] R/E 210K [to eliminate 210K Dr. balance (deficit) in R/E prior to re-org] APIC 40K [PLUG] Repurchase and retirement of Stock Par = $10; Issue price = $25; $25 ; Reacquisition Price = $20 • C/S – Par 10 APIC – C/S 15 Cash 20 APIC – retirement 5 [PLUG] Note: Retained earnings can be decreased, but never increased, as a result of the acquisition and retirement of its own common stock Partnership Formation BONUS METHOD for allocating capital accounts Assumes unidentifiable assets contributed to the PTP do not constitute a PTP asset • Allocates total invested capital (identifiable ) equally to PTR’s or according to PTP P TP agreement • Does not create intangible assets (goodwill) • up on admission of new PTR Use old profit/loss ratio to allocate bonus to old partners upon • Total capital of new PTP = (FV of new assets contributed) + (original PTR capital balances) • Each PTR’s capital account then = (total PTP capital) * (that PTR’s capital interest %) • Retirement under Bonus Method
If final settlement to retiring PTR exceeds capital balance (represents unrecorded goodwill ), ), the excess is recorded as a decrease to the remaining PTR’s capital accounts
•
GOODWILL METHOD Revalues assets of PTP by recording goodwill, increases PTR’s capital accounts by same amt •
Example: X contributes assets w/FMV of $60K, Y contributes $20K cash, each partner is entitled to an equal initial capital balance under the PTP agreement. Under the goodwill method, what is Y’s capital balance? Answer: $60,000 (20K cash + 40K goodwill: the contributed unidentifiable asset) Cash 20K I/D Assets 60K Goodwill 40K X, capital 60K Y, capital 60K Example #2: Net assets of old PTP = 320K; New PTR pays 140K for 25% interest; goodwill is to be recorded. Implied value of PTP = 140K/25% = Identifiable assets of new PTP = 320K (old) + 140K (cash) = Goodwill to allocate to old PTR’s based on profit/loss % =
560K (460K) 100K
**So if old PTR A had h ad 40% interest in profit/loss, he adds 40K to his capital account (G.W.)
