© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Reporting and Analyzing Equity

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-2 Privately Held Publicly Held Ownership can be Characteristics of Corporations Existence is separate from owners. An entity created by law. Has rights and privileges.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-3 Separate Legal Entity Separate Legal Entity Limited Liability of Stockholders Limited Liability of Stockholders Ownership Rights Are Transferable Ownership Rights Are Transferable Continuous Life Continuous Life Stockholders Are Not Corporate Agents Stockholders Are Not Corporate Agents Ease of Capital Accumulation Ease of Capital Accumulation Governmental Regulation Governmental Regulation Corporate Taxes Corporate Taxes Separate Legal Entity Separate Legal Entity Limited Liability of Stockholders Limited Liability of Stockholders Ownership Rights Are Transferable Ownership Rights Are Transferable Continuous Life Continuous Life Stockholders Are Not Corporate Agents Stockholders Are Not Corporate Agents Ease of Capital Accumulation Ease of Capital Accumulation Governmental Regulation Governmental Regulation Corporate Taxes Corporate Taxes Characteristics of Corporations

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-4 Exh Stockholders Board of Directors President, Vice-President, and Other Officers Employees of the Corporation Organizing and Managing a Corporation

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-5 Ultimate control Stockholders usually meet once a year Selected by a vote of the stockholders Overall responsibility for managing the company Organizing and Managing a Corporation

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-6  Vote at stockholders’ meetings.  Sell stock.  Purchase additional shares of stock.  Share equally with other common stockholders in any dividends.  Share equally in any assets remaining after creditors are paid in a liquidation of corporate assets.  Vote at stockholders’ meetings.  Sell stock.  Purchase additional shares of stock.  Share equally with other common stockholders in any dividends.  Share equally in any assets remaining after creditors are paid in a liquidation of corporate assets. Rights of Stockholders

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-7 Each unit of ownership is called a share of stock. A stock certificate serves as proof that a stockholder has purchased shares. Each unit of ownership is called a share of stock. A stock certificate serves as proof that a stockholder has purchased shares. Stock Certificates and Transfer When the stock is sold, the stockholder signs a transfer endorsement on the back of the stock certificate.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-8 Basics of Capital Stock Total amount of stock that a corporation’s charter authorizes it to sell.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide 11-9 Basics of Capital Stock Total amount of stock that has been issued to stockholders.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Par value is an arbitrary amount assigned to each share of stock when it is authorized. Market price is the amount that each share of stock will sell for in the market. Issuing Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Par, No Par, and Stated Value Common Stock Classes of Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Par Value Stock On September 1, 2002, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction. Par Value Stock On September 1, 2002, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction. Record: The cash received. The number of shares issued × the par value per share in the Common Stock account. The remainder is assigned to Contributed Capital in Excess of Par. Record: The cash received. The number of shares issued × the par value per share in the Common Stock account. The remainder is assigned to Contributed Capital in Excess of Par. Issuing Par Value Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Issuing Par Value Stock Par Value Stock On September 1, 2002, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction. Par Value Stock On September 1, 2002, Matrix, Inc. issued 100,000 shares of $2 par value stock for $25 per share. Let’s record this transaction.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Issuing Par Value Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Exh Stockholders’ Equity

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide A separate class of stock, typically having priority over common shares in... Dividend distributions. Dividend distributions. Distribution of assets in case of liquidation. Distribution of assets in case of liquidation. A separate class of stock, typically having priority over common shares in... Dividend distributions. Dividend distributions. Distribution of assets in case of liquidation. Distribution of assets in case of liquidation. Usually has a stated dividend rate. Normally has no voting rights. Preferred Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide NoncumulativeCumulative Dividends in arrears must be paid before dividends may be paid on common stock. Undeclared dividends from current and prior years do not have to be paid in future years. Cumulative or Noncumulative Dividend Most preferred stock is cumulative.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Example: Consider the following partial Statement of Stockholders’ Equity The Board of Directors did not declare or pay dividends in In 2002, the Board of Directors declare and pay cash dividends of $42,000. Cumulative or Noncumulative Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide PreferredCommon If Preferred Stock isNoncumulative: Year 2001No dividend paid$ -0- Year 2002 Step 1: Current preferred dividend9,000$ Step 2: Remainder to common shareholders33,000$ If Preferred Stock isCumulative: Year 2001No dividend paid$ -0- Year 2002 Step 1: Dividends in arrears9,000$ Step 2: Current preferred dividend9,000 Step 3: Remainder to common shareholders24,000$ Totals18,000$ 24,000$ Cumulative or Noncumulative Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide NonparticipatingParticipating Dividends may exceed a stated amount once common stockholders receive a dividend equal to the preferred stated rate. Dividends are limited to a maximum amount each year. The maximum is usually the stated dividend rate. Participating or Nonparticipating Dividend Most preferred stock is nonparticipating.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide To pay a cash dividend, the corporation must have a sufficient balance in retained earnings and the cash necessary to pay the dividend. Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Regular cash dividends provide a return to investors and almost always affect the stock’s market value. Dividends Stockholders June 30 Cash Dividends Corporation

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Three important dates Date of Declaration Record liability for dividend. Dividends Date of Record No entry required. Date of Payment Record payment of cash to stockholders. Entries for Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Date of Declaration Record liability for dividend. Dividends On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. Entries for Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. The date of record is February 19. No Entry Required Date of Record No entry required. Entries for Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On January 19, a $1 per share cash dividend is declared on Dana, Inc.’s 10,000 common shares outstanding. The date of record is February 19. The dividend is paid on March 19. Date of Payment Record payment of cash to stockholders. Entries for Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Created when a company incurs cumulative losses or pays dividends greater than total profits earned in other years. Deficits and Cash Dividends

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide The corporation distributes additional shares of its own stock to its stockholders without receiving any payment in return. HotAir, Inc. Common Stock 100 Shares $1 par value Stock Dividends Why a stock dividend? Can be used to keep the market price on the stock affordable. Can provide evidence of management’s confidence that the company is doing well. Why a stock dividend? Can be used to keep the market price on the stock affordable. Can provide evidence of management’s confidence that the company is doing well.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Small Stock Dividend Distribution is  25% of the previously outstanding shares. Capitalize retained earnings for the market value of the shares to be distributed. Small Stock Dividend Distribution is  25% of the previously outstanding shares. Capitalize retained earnings for the market value of the shares to be distributed. Large Stock Dividend Distribution is > 25% of the previously outstanding shares. Capitalize retained earnings for the minimum amount required by state law, usually par or stated value of the shares. Large Stock Dividend Distribution is > 25% of the previously outstanding shares. Capitalize retained earnings for the minimum amount required by state law, usually par or stated value of the shares. Entries for Stock Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Here is the stockholders’ equity section of Quest’s balance sheet prior to the declaration of a stock dividend. Entries for Stock Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On December 31, 2002, Quest declared a 2% stock dividend, when the stock was selling for $10 per share. The stock will be distributed to stockholders on January 20, Let’s make the December 31 entry. Recording a Small Stock Dividend 100,000 × 2% = 2,000 × $10 = $20,000 2,000 × $1 par = $2, ,000 × 2% = 2,000 × $10 = $20,000 2,000 × $1 par = $2,000

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Before the stockdividend. After the stockdividend.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Router, Inc. shows the following stockholders’ equity section just prior to issuing a large stock dividend. Recording a Large Stock Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On December 31, 2002, Router declared a 40% stock dividend, when the stock was selling for $8 per share. State law requires that large stock dividends be capitalized at par value per share. 50,000 × 40% = 20,000 shares × $1 par value = $20,000 Recording a Large Stock Dividend

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide A distribution of additional shares of stock to stockholders according to their percent ownership. Common Stock $10 par value 100 shares Old Shares New Shares Common Stock $5 par value 200 shares Stock Splits

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Thomas, Inc. has the following stockholders’ equity section just prior to a 2-for-1 stock split. Stock Splits

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide After the 2-for-1 split the stockholders’ equity section of the balance sheet looks like this... No accounting entry is made. No accounting entry is made. Stock Splits

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Treasury Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Corporations acquire shares of their own stock. Why would a company do that? Why would a company do that? Use the shares to acquire control of another corporation. Use the shares to acquire control of another corporation. To avoid a hostile takeover. To avoid a hostile takeover. Use the shares for employee stock options. Use the shares for employee stock options. Use the shares to acquire control of another corporation. Use the shares to acquire control of another corporation. To avoid a hostile takeover. To avoid a hostile takeover. Use the shares for employee stock options. Use the shares for employee stock options. Treasury Stock

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On May, 8, 2002, Whitt, Inc. purchased 2,000 of its own shares of stock in the open market for $8,000. Purchasing Treasury Stock Treasury stock is shown as a reduction in total stockholders’ equity on the balance sheet. Treasury stock is shown as a reduction in total stockholders’ equity on the balance sheet.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On June 30, 2002, Whitt sold 100 shares of its treasury stock for $4 per share. Selling Treasury Stock at Cost $8,000 ÷ 2,000 shares = $4 cost per treasury share

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On July 19, 2002, Whitt, Inc. sold an additional 500 shares of its treasury stock for $8 per share. Selling Treasury Stock Above Cost

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide On August 27, 2002, Whitt sold an additional 400 shares of its treasury stock for $1.50 per share. Selling Treasury Stock Below Cost

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Net Income Reporting Income Information ContinuingOperations ExtraordinaryItems DiscontinuedSegments Change in AccountingPrinciple

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Revenues, expenses and income generated by the company’s continuing operations. Revenues, expenses and income generated by the company’s continuing operations. Reporting Income Information ContinuingOperations Net Income

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Income from operating the discontinued segment prior to its disposal and gain or loss on the sale of the net assets of the segment. Income from operating the discontinued segment prior to its disposal and gain or loss on the sale of the net assets of the segment. Reporting Income Information DiscontinuedSegments Net Income

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide A gain or loss that is unusual in nature and infrequent in occurrence. A gain or loss that is unusual in nature and infrequent in occurrence. Reporting Income Information ExtraordinaryItems Net Income

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide The increase or decrease in income when changing from one generally accepted accounting principle to another. The increase or decrease in income when changing from one generally accepted accounting principle to another. Reporting Income Information Change in AccountingPrinciple Net Income

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Reporting Income Information

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Campus, Inc. prepared the following schedule in connection with its change from double-declining balance to straight-line depreciation. Campus is subject to a 20% income tax rate Campus is subject to a 20% income tax rate Changes in Accounting Principles

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Earnings per share is one of the most widely cited items of accounting information. Earnings Per Share Basic earnings per share = Net income - Preferred dividends Weighted-average common shares outstanding

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Derby, Inc. reports net income of $75,000 and paid preferred dividends of $10,000 during The company started the year with 10,000 shares of common stock outstanding. Derby sold an additional 4,000 share of stock on March 31, and purchased 2,000 treasury shares on September 30, Changes in Shares Outstanding

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide EPS = $75,000 - $10,000 12,500 = $5.20 Changes in Shares Outstanding Derby, Inc. reports net income of $75,000 and paid preferred dividends of $10,000 during The company started the year with 10,000 shares of common stock outstanding. Derby sold an additional 4,000 share of stock on March 31, and purchased 2,000 treasury shares on September 30, 2002.

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Capital structure includes dilutive securities such as: Capital structure includes dilutive securities such as: Stock options (rights to purchase common stock). Stock options (rights to purchase common stock). Preferred stock convertible into common stock. Preferred stock convertible into common stock. These items may reduce the basic earnings per share. These items may reduce the basic earnings per share. The company may be required to report basic and diluted earnings per share on the face of the income statement. Complex Capital Structure

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide The right to purchase common stock at a fixed price over a specified period of time. As the stock’s price rises above the fixed option price, the value of the option increases. Option purchase price $30 per share. Market price of stock $75 per share. Stock Options

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Options are given to key employees to motivate them to: Options are given to key employees to motivate them to: focus on company performance, focus on company performance, take a long-run perspective, and take a long-run perspective, and remain with the company. remain with the company. Options are given to key employees to motivate them to: Options are given to key employees to motivate them to: focus on company performance, focus on company performance, take a long-run perspective, and take a long-run perspective, and remain with the company. remain with the company. Stock Options

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Total cumulative amount of reported net income less any net losses and dividends declared since the company started operating. Retained Earnings

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Legal Contractual Most states restrict the amount of treasury stock purchases to the amount of retained earnings. Most states restrict the amount of treasury stock purchases to the amount of retained earnings. Loan agreements can include restrictions on paying dividends below a certain amount of retained earnings. Loan agreements can include restrictions on paying dividends below a certain amount of retained earnings. Restricted Retained Earnings

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide A corporation’s directors can voluntarily limit dividends because of a special need for cash such as the purchase of new facilities. Appropriated Retained Earnings

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Correction of material errors in past years’ financial statements. If an amount is incorrectly expensed, add amount to Retained Earnings. Prior Period Adjustments

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Many items reported in the financial statements are based on estimates. If new information comes to light that would cause us to change our estimate, we show the impact of the change in current and future periods. What do you think bad debts should be? Changes in Accounting Estimates

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Statement of Changes in Stockholders’ Equity

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Annual amount of cash dividends distributed to common stockholders relative to the stock’s market price. Dividend Yield = Annual cash dividends per share Market value per share Dividend Yield

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide This ratio reveals information about the stock market’s expectations for a company’s future growth in earnings, dividends, and opportunities. Price- Earnings = Market value per share Earnings per share If earnings go up, will the market price of my stock follow? Price Earnings

© The McGraw-Hill Companies, Inc., 2003 McGraw-Hill/Irwin Slide Now Playing: Common Not Preferred! End of Chapter 11