11-1 11 REPORTING AND ANALYZING STOCKHOLDERS’ EQUITY 11-2 Financial Accounting, Seventh Edition Learning Learning Objectives Objectives After studying this chapter, you should be able to: 11-3 Identify and discuss the major characteristics of a corporation Record the issuance of common stock Explain the accounting for the purchase of treasury stock Differentiate preferred stock from common stock Prepare the entries for cash dividends and understand the effect of stock dividends and stock splits Identify the items that affect retained earnings Prepare a comprehensive stockholders’ equity section Evaluate a corporation’s dividend and earnings performance from a stockholder’s perspective Preview of Chapter 11 11-4 Financial Accounting Seventh Edition Kimmel Weygandt Kieso The The Corporate Corporate Form Form of of Organization Organization An entity separate and distinct from its owners Classified by Purpose Classified by Ownership Not-for-Profit Publicly held For Profit Privately held ► Salvation Army ► Facebook ► American Cancer Society ► IBM ► Caterpillar ► General Electric 11-5 ► Cargill Inc LO Identify and discuss the major characteristics of a corporation Characteristics Characteristics of of aa Corporation Corporation Characteristics that distinguish corporations from proprietorships and partnerships 11-6 Separate Legal Existence Limited Liability of Stockholders Transferable Ownership Rights Ability to Acquire Capital Continuous Life Corporate Management Government Regulations Additional Taxes Advantages Disadvantages LO Identify the major characteristics of a corporation Characteristics Characteristics of of aa Corporation Corporation Characteristics that distinguish corporations from proprietorships and partnerships Corporation acts Separate Legal Existence under its own name rather than in the Limited Liability of Stockholders name of its Transferable Ownership Rights stockholders Ability to Acquire Capital 11-7 Continuous Life Corporate Management Government Regulations Additional Taxes LO Identify the major characteristics of a corporation Characteristics Characteristics of of aa Corporation Corporation Characteristics that distinguish corporations from proprietorships and partnerships 11-8 Separate Legal Existence Limited Liability of Stockholders Transferable Ownership Rights Ability to Acquire Capital Continuous Life Corporate Management Government Regulations Additional Taxes Limited to their investment LO Identify the major characteristics of a corporation Characteristics Characteristics of of aa Corporation Corporation Characteristics that distinguish corporations from proprietorships and partnerships 11-9 Separate Legal Existence Limited Liability of Stockholders Transferable Ownership Rights Ability to Acquire Capital Continuous Life Corporate Management Government Regulations Additional Taxes Shareholders may sell their stock LO Identify the major characteristics of a corporation Characteristics Characteristics of of aa Corporation Corporation Characteristics that distinguish corporations from proprietorships and partnerships 11-10 Separate Legal Existence Limited Liability of Stockholders Transferable Ownership Rights Ability to Acquire Capital Continuous Life Corporate Management Government Regulations Additional Taxes Corporation can obtain capital through the issuance of stock LO Identify the major characteristics of a corporation Measuring Measuring Corporate Corporate Performance Performance Illustration: Microsystems Inc currently has 100,000 shares of common stock outstanding issued at $25 per share and no debt It is considering two alternatives for raising an additional $5 million: Plan A involves issuing 200,000 shares of common stock at the current market price of $25 per share Plan B involves issuing $5 million of 12% bonds at face value Income before interest and taxes will be $1.5 million; income taxes are expected to be 30% Illustration 11-23 11-72 LO Entries for Stock Dividends Appendix Appendix 11A 11A Illustration: Medland Corporation declares a 10% stock dividend on its 50,000 shares of $10 par value common stock The current fair market value of its stock is $15 per share Record the entry on the declaration date: Stock dividends (50,000 x 10% x $15) Common stock dividends distributable Paid-in capital in excess of par 75,000 50,000 25,000 Illustration 11A-1 11-73 LO Prepare entries for stock dividends Entries for Stock Dividends Appendix Appendix 11A 11A Illustration: Record the journal entry when Medland issues the dividend shares Common stock dividends distributable Common stock 11-74 50,000 50,000 LO Prepare entries for stock dividends Key Points 11-75 Under IFRS, the term reserves is used to describe all equity accounts other than those arising from contributed capital This would include, for example, reserves related to retained earnings, asset revaluations, and fair value differences Many countries have a different mix of investor groups than in the United States For example, in Germany, financial institutions like banks are not only major creditors of corporations but often are the largest corporate stockholders as well In the United States, Asia, and the United Kingdom, many companies rely on substantial investment from private investors LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Key Points 11-76 There are often terminology differences for equity accounts The following summarizes some of the common differences in terminology LO 10 Key Points 11-77 The accounting for treasury stock differs somewhat between IFRS and GAAP (However, many of the differences are beyond the scope of this course.) Like GAAP, IFRS does not allow a company to record gains or losses on purchases of its own shares One difference worth noting is that, when a company purchases its own shares, IFRS treats it as a reduction of stockholders’ equity, but it does not specify which particular stockholders’ equity accounts are to be affected Therefore, it could be shown as an increase to a contra equity account (Treasury Stock) or a decrease to retained earnings or share capital IFRS requires that the number of treasury shares held be disclosed LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Key Points 11-78 A major difference between IFRS and GAAP relates to the account Revaluation Surplus Revaluation surplus arises under IFRS because companies are permitted to revalue their property, plant, and equipment to fair value under certain circumstances This account is part of general reserves under IFRS and is not considered contributed capital As indicated earlier, the term reserves is used in IFRS to indicate all noncontributed (non–paid-in) capital Reserves include retained earnings and other comprehensive income items, such as revaluation surplus and unrealized gains or losses on available-for-sale securities LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Key Points 11-79 Under GAAP, some contingent liabilities are recorded in the financial statements, others are disclosed, and in some cases no disclosure is required Unlike GAAP, IFRS reserves the use of the term contingent liability to refer only to possible obligations that are not recognized in the financial statements but may be disclosed if certain criteria are met For those items that GAAP would treat as recordable contingent liabilities, IFRS instead uses the term provisions Provisions are defined as liabilities of uncertain timing or amount Under IFRS, the measurement of a provision related to an uncertain obligation is based on the best estimate of the expenditure required to settle the obligation LO 10 Key Points 11-80 IFRS often uses terms such as retained profits or accumulated profit or loss to describe retained earnings The term retained earnings is also often used The accounting related to prior period adjustments is essentially the same under IFRS and GAAP IFRS addresses the accounting for errors in IAS (“Accounting Policies, Changes in Accounting Estimates, and Errors”) One area where IFRS and GAAP differ in reporting relates to error corrections in previously issued financial statements While IFRS requires restatement with some exceptions, GAAP does not permit any exceptions LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Key Points 11-81 Equity is given various descriptions under IFRS, such as shareholders’ equity, owners’ equity, capital and reserves, and shareholders’ funds LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Looking to the Future The FASB and IASB are currently involved in two projects One project is investigating approaches to differentiate between debt and equity instruments The other project, the elements phase of the conceptual framework project, will evaluate the definitions of the fundamental building blocks of accounting In addition to these projects, the FASB and IASB have also identified leasing as one of the most problematic areas of accounting A joint project will initially focus primarily on lessee accounting One of the first areas to be studied is, “What are the assets and liabilities to be recognized related to a lease contract?” Should the focus remain on the leased item or the right to use the leased item? This question is tied to the Boards’ joint project on the conceptual framework— defining an “asset” and a “liability.” 11-82 LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS IFRS Practice Under IFRS, a purchase by a company of its own shares is recorded by: a) an increase in Treasury Stock b) a decrease in contributed capital c) a decrease in share capital d) All of these are acceptable treatments 11-83 LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS IFRS Practice The term reserves is used under IFRS with reference to all of the following except: a) gains and losses on revaluation of property, plant, and equipment b) capital received in excess of the par value of issued shares c) retained earnings d) fair value differences 11-84 LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS IFRS Practice Under IFRS, the amount of capital received in excess of par value would be credited to: a) Retained Earnings b) Contributed Capital c) Share Premium-Ordinary d) Par value is not used under IFRS 11-85 LO 10 Compare the accounting for transactions related to stockholders’ equity under GAAP and IFRS Copyright Copyright “Copyright © 2013 John Wiley & Sons, Inc All rights reserved Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc The purchaser may make back-up copies for his/her own use only and not for distribution or resale The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.” 11-86 [...]... Organization Stockholders Illustration 11- 1 Corporation organization chart Chairman and Board of Directors President and Chief Executive Officer General Counsel/ Secretary Vice President Marketing Treasurer 11- 15 Vice President Finance/Chief Financial Officer Vice President Operations Vice President Human Resources Controller LO 1 Identify and discuss the major characteristics of a corporation 11- 16 Other... Corporate Form Form of of Organization Organization Stockholders Rights Illustration 11- 3 3 Keep the same percentage ownership when new shares of stock are issued (preemptive right) 11- 20 LO 1 Identify and discuss the major characteristics of a corporation The The Corporate Corporate Form Form of of Organization Organization Stockholders Rights Illustration 11- 3 4 Share in assets upon liquidation in proportion... owner a voting right b The stockholders equity section begins with paid-in capital c The authorization of capital stock does not result in a formal accounting entry d Legal capital is intended to protect stockholders 11- 27 LO 2 Record the issuance of common stock Indicate whether each of the following statements is true or false False 1 Similar to partners in a partnership, stockholders of a corporation... each state in which they do business 11- 18 LO 1 Identify and discuss the major characteristics of a corporation The The Corporate Corporate Form Form of of Organization Organization Stockholders Rights Illustration 11- 3 1 Vote in election of board of directors and on actions that require stockholder approval 2 Share the corporate earnings through receipt of dividends 11- 19 LO 1 Identify and discuss the... Stated Value $2,000 b Common Stock $12,000 c Common Stock $10,000 and Paid-in Capital in Excess of Par Value $2,000 d Common Stock $10,000 and Retained Earnings $2,000 11- 34 LO 2 Record the issuance of common stock 11- 35 Accounting Accounting for for Treasury Treasury Stock Stock Common CommonStock Stock Paid-in Paid-inCapital Capital Account Account Preferred PreferredStock Stock Paid-in Paid-inCapital... proportion to their holdings This is called a residual claim 11- 21 LO 1 Identify and discuss the major characteristics of a corporation Stock Stock Issue Issue Considerations Considerations Authorized Stock 11- 22 Charter indicates the amount of stock that a corporation is authorized to sell Number of authorized shares is often reported in the stockholders equity section LO 2 Record the issuance of... common stock Stock Stock Issue Issue Considerations Considerations Prenumbered Shares Illustration 11- 4 Name of corporation Stockholder’s name Signature of corporate official 11- 23 LO 2 Record the issuance of common stock Stock Stock Issue Issue Considerations Considerations Issuance of Stock 11- 24 Corporation can issue common stock ► directly to investors or ► indirectly through an investment... distinguish corporations from proprietorships and partnerships 11- 14 Separate Legal Existence Limited Liability of Stockholders Transferable Ownership Rights Ability to Acquire Capital Continuous Life Corporate Management Government Regulations Additional Taxes Corporations pay income taxes as a separate legal entity and in addition, stockholders pay taxes on cash dividends LO 1 Identify the... business 11- 30 LO 2 Record the issuance of common stock Stock Stock Issue Issue Considerations Considerations Accounting for Issues of Common Stock Primary objectives: 1) Identify the specific sources of paid-in capital 2) Maintain the distinction between paid-in capital and retained earnings Other than consideration received, the issuance of common stock affects only paid-in capital accounts 11- 31 LO... 1,000 Paid-in capital in excess of par value 4,000 LO 2 Record the issuance of common stock Stock Stock Issue Issue Considerations Considerations Stockholders equity section assuming Hydro-Slide, Inc has retained earnings of $27,000 Illustration 11- 5 11- 33 LO 2 Record the issuance of common stock Stock Stock Issue Issue Considerations Considerations Review Question ABC Corp issues 1,000 shares of