13-1 C ORPORATIONS : P AID-IN C APITAL, R ETAINED E ARNINGS, D IVIDENDS, AND T REASURY S TOCK CHAPTER 13

13-2 Paid-in (Contributed) Capital contributed Refers to all capital contributed to a corporation. Sources are: Sale of StockStock Dividends Treasury StockDonated Capital

13-3 Retained Earnings Definition Net earnings (profits less losses) since the inception of the corporation less dividends paid since inception. l Normal Balance? Credit l Debit Balance is called? “Deficit”

13-4

13-5Dividends Distributions of earnings to stockholders Not legally required Liability created at declaration Declared by board of directors

13-6 l Types of dividend distributions: u Cash (the norm) u Stock (infrequent) l Both types of dividends require the Retained Earnings credit balance be > or = to the amount to be distributed l Cash dividends require sufficient cash to pay the dividend l Dividend dates for both types u Date of declaration u Date of record u Date of payment Dividends

13-7 Cash Dividends l Date of Declaration u Board of directors declares the dividend u Corp. records a liability

13-8 Cash Dividends l Date of Record u Stockholders owing shares on this date will receive the dividend u No entry is made! X

13-9 Cash Dividends l Date of Payment u Cash paid to stockholders u Corp. records the payment

13-10 Cash Dividends Question On June 1, 1999 a corporation’s board of directors declared a dividend for the 2,500 shares of its $100 par value, 8% preferred stock. The dividend will be paid on July 15. Which of the following will be included in the July 15 entry? a. Debit Retained Earnings $20,000. b. Debit Dividends Payable $20,000. c. Credit Dividends Payable $20,000. d. Credit Preferred Stock $20,000.

13-11 Cash Dividends Question On June 1, 1999 a corporation’s board of directors declared a dividend for the 2,500 shares of its $100 par value, 8% preferred stock. The dividend will be paid on July 15. Which of the following will be included in the July 15 entry? a. Debit Retained Earnings $20,000. b. Debit Dividends Payable $20,000. c. Credit Dividends Payable $20,000. d. Credit Preferred Stock $20,000. July 15 is the date of payment. On this date, the corporation would debit Dividends Payable and credit Cash for $20,000. $100 × 8% = $8 dividend per share $8 × 2,500 = $20,000 total dividend

13-12 Stock Dividends l Distributions of additional shares of stock to stockholders l Why issue a stock dividend? u Corporation may be low on cash so can’t issue a cash dividend u To decrease market price of stock Know complete list of 4 reasons on p. 469

13-13 Stock Dividends l Effect on Stockholders u Receive a percentage increase in the number of shares they own. u e.g., with a 10% stock dividend, if you own 100 shares, you get 10 additional shares l Effect on Corporation u No change in total stockholders’ equity u No change in par values

13-14 Stock Dividends Recorded by transferring an amount from the retained earnings section of the balance sheet to the paid-in capital section (i.e., from the “temporary” part of stockholders’ equity to the “permanent” part) This is known as “capitalizing” retained earnings

13-15 Balance Sheet Presentation Paid-in Capital Preferred Stock - $100 par, 7%, Cumulative; 10,000 shares authorized, issued, and outstanding1,000,000$ Common Stock - $10 par, 300,000 shares authorized, 40,000 issued and outstanding400,000 Total Paid-in Capital1,400,000$ Retained Earnings300,000 Total Stockholders' Equity1,700,000$ Stockholders’ Equity:

13-16 Small Stock Dividends Record at current market value of stock Stock dividend < 20% to 25%

13-17 Large Stock Dividends Record at par or stated value of stock Stock dividend > 20% to 25%

13-18 Small Stock Dividend Example Prepare the journal entries to record the following stock dividend. On March 1, 1999, Beachfront Condos, Inc. issued a 15% stock dividend. Beachfront has 3,000 shares of $50 par value common stock outstanding. The market price of the stock just prior to the stock dividend announcement was $125 per share. On April 15, 1999, Beachfront Condos, Inc. distributes the stock dividend.

13-19 Small Stock Dividend Example Declaration Entry GENERAL JOURNAL Page 34 DateDescription Post. Ref.DebitCredit Mar. 1Retained Earnings(Market) 56,250 Stock Dividend Distributable(Par) 22,500 Paid-in Capital-Stock Dividend(Plug) 33,750 To record stock dividend declaration 3,000 × 15% = 450 shares 450 × $125 mkt. = $56, × $50 par = $22,500

13-20 Paid-in Capital Preferred Stock - $100 par, 7%, Cumulative; 10,000 shares authorized, issued, and outstanding1,000,000$ Common Stock - $10 par, 300,000 shares authorized, 40,000 issued and outstanding400,000 Paid-in Capital in excess of Par Value Preferred Stock100,000$ Common Stock80, ,000 Total Paid-in Capital1,580,000$ Retained Earnings300,000 Total Stockholders' Equity1,880,000$ Balance Sheet Presentation (BEFORE TRANSFER)

13-21 Paid-in Capital Preferred Stock - $100 par, 7%, Cumulative; 10,000 shares authorized, issued, and outstanding1,000,000$ Common Stock - $10 par, 300,000 shares authorized, 40,000 issued and outstanding400,000 Stock dividend distributable22,500 Paid-in Capital in excess of par Preferred Stock100,000$ Common Stock80,000 Stock dividend33, ,750 Total Paid-in Capital1,636,250$ Retained Earnings243,750 Total Stockholders' Equity1,880,000$ Balance Sheet Presentation (AFTER TRANSFER - similar to p. 477)

13-22 Small Stock Dividend Example Distribution Entry GENERAL JOURNAL Page 34 DateDescription Post. Ref.DebitCredit Apr.15Stock Dividend Distributable22,500 Common Stock22,500 To record stock dividend distribution

13-23 Paid-in Capital Preferred Stock - $100 par, 7%, Cumulative; 10,000 shares authorized, issued, and outstanding1,000,000$ Common Stock - $10 par, 300,000 shares authorized, 40,000 issued and outstanding422,500 Stock dividend distributable- Paid-in Capital in excess of par Preferred Stock100,000$ Common Stock80,000 Stock dividend33, ,750 Total Paid-in Capital1,636,250$ Retained Earnings243,750 Total Stockholders' Equity1,880,000$ Balance Sheet Presentation (AFTER DISTRIBUTION)

13-24 Large Stock Dividend Example Now assume that instead of a 15% stock dividend, Beachfront Condos, Inc. issued a 50% stock dividend. Prepare the journal entries for March 1 and April 15.

13-25 Large Stock Dividend Example 3,000 × 50% = 1,500 shares 1,500 × $50 par = $75,000

13-26 Large Stock Dividend Example

13-27 Stock Splits Distributions of 100% or more of stock to stockholders Ice Cream Parlor Banana Splits On Sale Now

13-28 Stock Splits l Decrease par value of stock l Increase number of outstanding shares l No change in stockholders’ equity - not even in the composition

13-29 [January 29, 1997] Stock Splits - Real World Examples

13-30 Stock Split Assume that a corporation had 5,000 shares of $1 par value common stock outstanding before a 2–for–1 stock split.

13-31 Stock Split Assume that a corporation had 5,000 shares of $1 par value common stock outstanding before a 2–for–1 stock split. Increase Decrease No Change

13-32 Stock Split Another Example XYZ corporation had 5,000 shares of $60 par value common stock outstanding before a 2-for-1 stock split. Prepare the journal entry to record the stock split.

13-33 XYZ corporation had 5,000 shares of $60 par value common stock outstanding before a 2-for-1 stock split. Prepare the journal entry to record the stock split. Stock Split Another Example

13-34 XYZ corporation had 5,000 shares of $60 par value common stock outstanding before a 2-for-1 stock split. Prepare the journal entry to record the stock split. Stock Split Another Example

13-35 Summary of Effects of Stock Dividends and Stock Splits

13-36 Retained Earnings Appropriations GENERAL JOURNAL Page 34 DateDescription Post. Ref.DebitCredit Retained Earnings - UnappropriatedXXXX Retained Earnings- Appropriated XXXX Contractual or voluntary restrictions on retained earnings available for dividends u Simply splits one amount into two amounts!! u Does not change total retained earnings

13-37 Statement of Retained Earnings l One of the four basic financial statements l Summarizes changes in retained earnings for the period u Net Income (+) u Net Losses (-) u Dividends (-)

13-38 Simple Format: (p. 20) Complex Format: (p. 474) Not responsible for it! Statement of Retained Earnings

13-39 Treasury Stock Repurchased shares of a corporation’s own stock. Why reacquire own stock? u To reduce ownership u To reissue later at a higher market price u To increase earnings per share u To use in employee stock option programs This list is in 2nd par. on p. 475

13-40 Treasury Stock Repurchased shares of a corporation’s own stock. l Considered issued but not outstanding stock l Has no voting rights l Has no dividend rights l Reduces stockholders’ equity on the Balance Sheet See bottom of Illustration 13.7 on p. 477 for typical B/S presentation

13-41 Treasury Stock Acquisition of Treasury Stock is recorded at cost to reacquire the stock. (Cost)

13-42 Treasury Stock At reissuance of the treasury shares, Treasury Stock is credited at cost. (Cost)

13-43 l Nature of Treasury Stock account u Contra Stockholders’ Equity account u Shown last in Stockholders’ Equity section of the Balance Sheet as a deduction u Is not an asset account l Sale of Treasury Stock u “Gain” is credited to Paid-in Capital-Treasury Stock Transactions, a new account for us u “Loss” is debited to Paid-in Capital-Treasury Stock Transactions (as long as it does not force this account into a debit balance) Treasury Stock

13-44 On May 1, 1997 Photo Inc. reacquired 3,000 shares of its common stock at $55 per share. Prepare the journal entry. Treasury Stock Example

13-45 On May 1, 1997 Photo Inc. reacquired 3,000 shares of its common stock at $55 per share. Prepare the journal entry. Treasury Stock Example

13-46 On December 3, 1999 Photo Inc. reissued 1,000 shares of the stock at $75 per share. Prepare the journal entry. Treasury Stock Example

13-47 On December 3, 1999 Photo Inc. reissued 1,000 shares of the stock at $75 per share. Prepare the journal entry. Treasury Stock Example 1,000 × $75 = $75,000 1,000 × $55 = $55,000 $75,000 – $55,000 = $20,000

13-48 Net Income Inclusions and Exclusions Let’s review the income statement as we currently know it.

13-49

13-50 Net Income Inclusions and Exclusions Now, let’s see how some “weird” items will affect the financial statements.

13-51 Rest of Chapter - 4 “Weird” Reporting Situations l Extraordinary Items l Discontinued Operations l Cumulative Effect of a Change in Accounting Principles l Prior Period Adjustments

13-52 Income Statement (Top part of ILL. 13.8, p. 479) “THE LINE”

Weird Items Shown Below “The Line” on Income Statement l Discontinued Operations l Extraordinary Items l Cumulative Effect of a Change in Accounting Principles net of tax effects Note: All are shown net of tax effects

13-54 Discontinued Operations Sale or abandonment of a segment of a business e.g., Product Line, Division, Subsidiary

13-55 l Must account for two items ¶ Profit or loss on the discontinued segment for the period up to the point of sale · Gain or loss on the disposal of the discontinued segment itself l Remember u Both of these must be shown net of any tax effect Discontinued Operations

13-56 Discontinued Operations Example During the year, Gifts Etc. sold an unprofitable segment of the company. The segment had a net loss for the period of $150,000 and was sold for a gain of $100,000. All items are taxed at 30%. How will this appear on Gifts Etc.’s income statement illustrated earlier on slide #49?

13-57 Discontinued Operations Calculations Loss on Segment Operations*(150,000)$ Add: Tax Benefit ($150,000 × 30%)45,000 Net Loss(105,000)$ Gain on Segment Disposal100,000$ Less: Tax Expense ($100,000 × 30%)(30,000) Net Gain70,000$ *Up to point of sale

13-58 Discontinued Operations Income Statement Income before Discontinued Operations81,000$ * Discontinued Operations: Loss on Operations (net of $45,000 tax benefit)(105,000)$ Gain on Disposal (net of $30,000 tax expense)70,000 (35,000) * Previously shown as “Net Income” on income statement on slide #49

13-59 Extraordinary Items UnusualInfrequent

13-60 Two criteria, both of which must be met: and 1. Unusual in nature and 2. Infrequent in occurrence, given the environment in which the company exists Note, however, that the FASB dictated that gains or losses on early extinguishment (i.e., retirement) of debt must also be reported as extraordinary, even though the above criteria may not be met. Extraordinary Items

13-61 Extraordinary Items Example During the year, Gifts Etc. experienced an extraordinary loss of $75,000 due to an earthquake. All items are subject to a 30% tax rate. How would this item appear on Gifts Etc.’s income statement?

13-62 Extraordinary Items Calculation

13-63 Extraordinary Items Income Statement

13-64 Extraordinary Items Alternative Calculation of Tax Savings Tax Liability Calculation: Income before taxes $500,000 $500,000 Extraordinary Earthquake Loss (75,000) 0. Taxable Income 425, ,000 Tax Rate 30% 30%. Tax Liability $127,500 $150,000 Difference due to tax benefit (i.e., savings) of extraord. loss $22,500 Gifts Etc. has Lucky Inc. Extraord. Loss Has No Loss Therefore, the loss (net of tax savings) is only 52,500 (75, ,500) as shown on the previous slides.

13-65 Change to Change in Accounting Principles New GAAP Method Old GAAP Method l Occurs when changing from one GAAP to another GAAP l Examples u Double-declining-balance method to Straight-line method of depreciation u Percentage-of-Sales to Percentage-of- Receivables for Uncollectible Accounts

13-66 l Fact that a change occurred must be disclosed in notes to financial statements l Cumulative effect of change must be shown on income statement i.e., the change must be reflected on the financial statements as if the company had always been using the new method Change in Accounting Principles

13-67 Change in Accounting Principles Example During the year, Gifts Etc. decided to change from the double-declining-balance method to the straight-line method for depreciation. The net effect of this change is an increase in net income of $65,000. All items are subject to a 30% tax rate. How would this item appear on Gifts Etc.’s income statement?

13-68 Change in Accounting Principles Calculation

13-69 Change in Accounting Principles Income Statement

13-70 Prior Period Adjustments Appear on the Statement of Retained Earnings as an adjustment to beginning retained earnings balance Corrections of errors from a previous period

13-71 l Only two situations qualify as prior period adjustments u Misapplications of GAAP u Mathematical mistakes l Must be shown net of income tax effects l Do corrections have to be made for bad estimates in prior years? Prior Period Adjustments

13-72 Prior Period Adjustments Example While reviewing the depreciation entries for , the controller found that in 1997 depreciation expense was incorrectly debited for $150,000 when in fact it should have been debited $125,000. All items are taxed at 30%. Prepare the necessary journal entry in 1998 to correct this prior period error.

13-73 Prior Period Adjustments Example To correct this entry, can we just reverse it? Why or why not?

13-74 Prior Period Adjustments Example We can debit Accumulated Depreciation since it is a permanent account.

13-75 Prior Period Adjustments Example However, we can’t credit Depreciation Expense since it was closed to Income Summary and then to Retained Earnings.

13-76 Prior Period Adjustments Example Remember to consider the tax effects: $25,000 × 30% = $7,500 taxes payable

13-77 Earnings Per (Common) Share Earnings Per (Common) Share l Is one of the “gods” of the stock market l Calculated only for common stock l Calculated for each major item on the income statement u Income from Continuing Operations u Discontinued Operations u Extraordinary Items u Cumulative Effect of a Change in Accounting Principle u Net Income (See bottom of ILL. 13.8, p. 478)

13-78 l Calculated as Net Income - Dividends to Preferred Stockholders Common Average Number of Common Shares Outstanding l Pronouncements were 17 & 100 pages... Earnings Per (Common) Share Earnings Per (Common) Share

13-79 YOURS... OH NO! WHOSE IDEA WAS THIS?