2. ©The McGraw-Hill Companies, Inc. 2006McGraw-Hill/Irwin Chapter Eleven Accounting For Equity Transactions

3. Chapter Eleven Riddle What Do You Get When You Cross A Snowman With A Vampire? Answer = Frostbite. Vocabulary Lesson: “Parasites” What you see from the top of the Eiffel Tower!

4. “Terminology” for Owners’ Equity To “look at” on your own: Textbook “Downloaded file” from web page on Stockholders’ Equity terminologyStockholders’ Equity terminology Next 27 Ready Notes slides We will also cover most of the items in going over the Class Example Handout Problem for Ch. 11: Preformatted Excel Worksheet ‘Avi’ file

5. Formation of Business Organizations A sole proprietorship is owned by a single individual. A partnership is owned by two or more individuals. Partnerships require clear agreements about authority, risks, and the sharing of profits and losses. A partnership is owned by two or more individuals. Partnerships require clear agreements about authority, risks, and the sharing of profits and losses. A corporation is a separate legal entity created by the authority of a state government. Each state has separate laws governing establishing corporations. A corporation is a separate legal entity created by the authority of a state government. Each state has separate laws governing establishing corporations.

6. Regulation Few laws govern the operations of proprietorships and partnerships. Corporations are subject to regulations. Large, publicly traded corporations are much more heavily regulated than smaller closely held corporations.  SEC Acts of 1933 and 1934  Sarbanes-Oxley Act of 2002  Exchange listing requirements. Corporations are subject to regulations. Large, publicly traded corporations are much more heavily regulated than smaller closely held corporations.  SEC Acts of 1933 and 1934  Sarbanes-Oxley Act of 2002  Exchange listing requirements.

7. Corporate Advantages  Separate legal Entity  Limited liability of stockholders  Continuous life  Easily transferable ownership rights  Ability to raise capital Corporate Disadvantages  Governmental regulation  Corporate double taxation Corporate Advantages  Separate legal Entity  Limited liability of stockholders  Continuous life  Easily transferable ownership rights  Ability to raise capital Corporate Disadvantages  Governmental regulation  Corporate double taxation Comparing Corporations with Proprietorships and Partnerships

8. Elected by shareholders Appointed by directors Corporate Management Structure

9. Appearance of Capital Structure in Financial Statements The ownership interest (equity) in a business is composed of:  Owner/investor contributions.  Retained earnings. The ownership interest (equity) in a business is composed of:  Owner/investor contributions.  Retained earnings.

10. Legal capital is the amount of capital, required by the state of incorporation, that must remain invested in the business. Par Value Nominal Amount Legal capital Characteristics of Capital stock

11. Some states do not require a par value to be stated in the charter. No-par Stock Characteristics of Capital stock

12. 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.  Characteristics of Capital stock

13. Authorized, Issued, and Outstanding Capital Stock The maximum number of shares of capital stock that can be sold to the public. Authorized Shares

14. Authorized, Issued, and Outstanding Capital Stock Issued shares are authorized shares of stock that have been sold. Unissued shares are authorized shares of stock that never have been sold. Authorized Shares

15. Authorized, Issued, and Outstanding Capital Stock Unissued Shares Treasury Shares Outstanding Shares Issued Shares Treasury shares are issued shares that have been reacquired by the corporation. Outstanding shares are issued shares that are owned by stockholders. Authorized Shares

16. Corporations are not required to pay dividends, but once declared, dividends are legal obligations. Dividends Stockholders Cash Dividends Corporation

17. Three important dates Cash Dividends Date of Record No entry required. Payment Date Record payment of cash to stockholders. Declaration Date Record liability for dividend. Dividends

18. Declaration Date Record liability for dividend. Dividends On October 15, 2006, Nelson’s Board of Directors declared a cash dividend on the 100 outstanding shares its 7 percent, $10 par preferred stock. The dividend will be paid on December 15 to stockholders of record on November 15. Let’s record the entries. 0.07 × $10 par × 100 shares = $70

19. Date of Record No entry required on November 15. On October 15, 2006, Nelson’s Board of Directors declared a cash dividend on the 100 outstanding shares its 7 percent, $10 par preferred stock. The dividend will be paid on December 15 to stockholders of record on November 15. Let’s record the entry Date of Record No entry required.

20. Payment Date On October 15, 2006, Nelson’s Board of Directors declared a cash dividend on the 100 outstanding shares its 7 percent, $10 par preferred stock. The dividend will be paid on December 15 to stockholders of record on November 15. Let’s record the entry Payment Date Record payment of cash to stockholders.

21. Stock Dividends Distribution of additional shares of stock to stockholders. No change in total stockholders’ equity. No change in par values. All stockholders retain same percentage ownership.

22. Stock Dividends The journal entry moves an amount from Retained Earnings to other equity accounts. Nelson’s Board of Directors decided to issue a 10 percent stock dividend on the 150 outstanding shares of its $20 par value, Class B common stock. Market value at the time of the stock dividend was $30 per share. Let’s record the entry. 0.10 × 150 shares × $30 per share = $4500.10 × 150 shares × $20 par = $300

23. Stock Splits  Stock splits replace existing shares with a greater number of new shares.  Companies use stock splits to reduce market price per share of their outstanding stock.  The number of outstanding shares increase and par value is decreased proportionately.  Retained earnings is not affected. (No entry is made at all!)  Stock splits replace existing shares with a greater number of new shares.  Companies use stock splits to reduce market price per share of their outstanding stock.  The number of outstanding shares increase and par value is decreased proportionately.  Retained earnings is not affected. (No entry is made at all!)

24. Stock Splits Nelson’s Board of Directors declared a 2-for-1 stock split on the 165 outstanding shares of its $20 par value, Class B common stock.

25. Stock Splits Increase Decrease No Change No journal entry required – Change par value and number of shares authorized and outstanding. Nelson’s Board of Directors declared a 2-for-1 stock split on the 165 outstanding shares of its $20 par value, Class B common stock.

26. No voting or dividend rights Contra equity account When stock is reacquired, the corporation records the treasury stock at cost. Treasury shares are issued shares that have been reacquired by the corporation. Treasury Stock

27. Why would a company buy its own stock? Treasury Stock  Common reasons include:  Employee stock option plans.  Preparation for a merger.  To increase earnings per share.  Supporting the stock price.  To avoid a hostile takeover.  Common reasons include:  Employee stock option plans.  Preparation for a merger.  To increase earnings per share.  Supporting the stock price.  To avoid a hostile takeover.

28. Treasury Stock 50 shares × $20 per share = $1,000 Assume that Nelson paid $20 per share to buy back 50 shares of the $10 par value stock that it originally issued at a price of $22 per share. Let’s record this transaction. Assume that Nelson paid $20 per share to buy back 50 shares of the $10 par value stock that it originally issued at a price of $22 per share. Let’s record this transaction.

29. Treasury Stock 30 shares × $25 per share = $750 Assume Nelson resells 30 shares of its treasury stock at a price of $25 per share. Let’s record this transaction. Assume Nelson resells 30 shares of its treasury stock at a price of $25 per share. Let’s record this transaction. 30 shares × $20 cost = $600 No gain or loss is recognized on sale of treasury stock.

30. The Financial Analyst Dividends Increase in market price per share Stockholders benefit in two ways when a company generates earnings.

31. Price-Earnings Ratio Selling price of one share of stock Earnings per share* This ratio is used by analysts to evaluate the future prospects of a company. The higher the PE ratio, the more optimistic investors are about a company’s future. * Earnings per share = net income - preferred dividends divided by the weighted average number of common shares of outstanding stock.

32. Class Assignments Questions #8, 10, 15, 30, 32 (page 536)

33. Chapter 11