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CHAPTER 8

Accounting for and Presentation of Owners Equity

McGraw-Hill/Irwin

2008 The McGraw-Hill Companies, Inc., All Rights Reserved.

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What Should You Learn in Chapter 8?

1. The characteristics of common stock and how common stock is presented in the balance sheet. 2. What preferred stock is, what its advantages and disadvantages to the corporation are, and how it is presented in the balance sheet. 3. The accounting for a cash dividend and the dates involved in dividend transactions. 4. What stock dividends and stock splits are and why each is used.

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What Should You Learn in Chapter 8?

5. What the components of accumulated other comprehensive income (loss) are and why these items appear in owners equity. 6. What treasury stock is, why it is acquired, and how treasury stock transactions affect owners equity.

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Nature of Owners Equity

Less

Total Owners Equity Paid-in Capital Retained Earnings Common Stock

Par or Stated Value Additional Paid-In Capital

Treasury Stock Preferred Stock

Par or Stated Value

Additional Paid-In Capital

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LO1

Owners Equity Section

Owners' Equity Paid-in capital Common stock $1 par, 100,000 shares issued and 95,000 outstanding Additional paid-in capital Total paid-in capital Retained earnings Total paid-in capital and retained earnings Less: cost of treasury stock (5,000 shares) Total owners' equity

100,000 2,800,000 2,900,000 1,400,000 4,300,000 (150,000) $ 4,150,000

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LO1

Paid-in Capital
Common Stock
On January 01, 2008, Matrix, Inc. issued 100,000 of its $3 par value common stock for $14 per share. The following entry is recorded:
GENERAL JOURNAL Date Account Titles and Explanation 2008 Jan. 1 Cash Common stock Additional-paid-in-capital Debit 1,400,000 300,000 1,100,000 Credit

This transaction has the following effect on the financial statements of Matrix:
Balance Sheet Assets Cash +1,400,000 = Liabilities + Owners' Equity Common Stock +300,000 Additional Paid-in Capital +1,100,000 Net income = Income Statement Revenues Expenses

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LO1

Common Stock
Issued shares that have been reacquired. Treasury

Unissued

Issued shares include outstanding and treasury shares.

Authorized Shares

Outstanding Issued shares that are owned by shareholders.

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LO2

Preferred Stock
Normally no voting rights, but dividend payment has preference over common stock. Has a par or stated value with dividend expressed as a percent of par.

If callable, may be retired. If convertible, may be exchanged for common shares.

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LO2

Preferred Stock

Normally, preferred stock is cumulative meaning that all dividends must be paid before any dividends can be paid to common shareholders.
Preferred may be noncumulative. If dividends are not paid, the company is not required to make-up the missed dividends.
Matrix, Inc. has 50,000, $100 par value, 6%, cumulative preferred stock outstanding. Calculate the annual dividend on the stock. 50,000 $100 = $5,000,000 total par 6% = $300,000 dividend

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LO2

Preferred Stock Versus Bonds

Comparison of Preferred Stock and Bonds Payable Similarities Preferred Stock Bonds Payable Dividend is usually fixed Interest is fixed claim to claim to income income Redemption value is fixed Maturity value is a fixed claim claim to assets to assets Is usually callable and may be Is usually callable and may be convertible convertible Differences Dividend may be skipped, Interest must be paid or firm even if it must be caught up faces bankruptcy before payments to common Principal must be paid at No maturity date maturity Dividends are not an Interest is a tax deductible expense and are not tax expense deductible

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LO1+2

Additional Paid-in Capital

Represents the excess of the amount received from the sale of preferred or common stock over par (or stated) value

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LO1+2

Retained Earnings
Represents the cumulative earnings of a corporation less the cumulative dividends paid since the business started operations.

Retained earnings is NOT cash.

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LO3

Cash Dividends
The company must have sufficient cash and retained earnings to pay the dividend.

Dividends must be declared by the board of directors before they can be legally paid.

The company is not legally required to pay dividends, but once declared a legal liability is created

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LO3

Cash Dividend
On January 5, 2008, the Board of Directors of Matrix, Inc. declares a cash dividend of $1 per share on the 500,000 shares of common stock outstanding. The dividend is payable to stockholders of record on February 5, and will be paid on March 5.

Date of declaration Jan. 5

GENERAL JOURNAL Date Account Titles and Explanation 2008 Jan. 5 Retained earnings Dividends payable Debit 500,000 500,000 Credit

Balance Sheet Assets = Liabilities Dividends payable +500,000 + Owners' Equity Retained earnings 500,000 Net income =

Income Statement Revenues Expenses

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LO3

Cash Dividend
On January 5, 2008, the Board of Directors of Matrix, Inc. declares a cash dividend of $1 per share on the 500,000 shares of common stock outstanding. The dividend is payable to stockholders of record on February 5, and will be paid on March 5.

Date of record Feb. 5

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LO3

Cash Dividend
On January 5, the Board of Directors of Matrix, Inc. declares a cash dividend of $1 per share on the 500,000 shares of common stock outstanding. The dividend is payable to stockholders of record on February 5, and will be paid on March 5.

Date of payment Mar. 5

GENERAL JOURNAL Date Account Titles and Explanation 2008 Mar. 5 Dividends payable Cash Debit 500,000 500,000 Credit

Balance Sheet Assets Cash 500,000 = Liabilities Dividends payable 500,000 + Owners' Equity Net income =

Income Statement Revenues Expenses

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LO4

Stock Dividends
Distribution of additional shares of stock to stockholders.

No change in par value of stock or in total stockholders equity.

Stockholders retain percentage ownership in the company (preemptive right)

Reasons for stock dividends: Preserve cash. Decrease market price of stock. Reduce retained earnings.

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LO4

Stock Dividend
Large Stock Dividend
Stock dividend more than 25% of the outstanding shares.

Small Stock Dividend

Stock dividend less than 25% of outstanding shares.

Record at current market value of stock.

Record at par or stated value of stock.

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LO4

Stock Dividend
On May 10, 2008, Matrix, Inc. declares and distributes a 2% stock dividend on its 500,000 common shares outstanding. Par value is $1.00 per share and the current market value is $17 per share.
GENERAL JOURNAL Date Account Titles and Explanation 2008 May 10 Retained earnings Common stock Additional paid-in-capital Debit 170,000 10,000 160,000 Credit

Common shares outstanding 500,000 Dividend rate 2% New shares issued 10,000 Market price per share $ 17 Value of dividend $ 170,000

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LO4

Stock Dividend
On May 10, 2008, Matrix, Inc. declares and distributes a 2% stock dividend on its 500,000 common shares outstanding. Par value is $1.00 per share and the current market value is $17 per share.
GENERAL JOURNAL Date Account Titles and Explanation 2008 May 10 Retained earnings Common stock Additional paid-in-capital Debit 170,000 10,000 160,000 Credit

Balance Sheet Assets = Liabilities + Owners' Equity Retained earnings 170,000 Common stock +10,000 Additional paid-in capital +160,000 Net income =

Income Statement Revenues Expenses

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LO4

Stock Split
Increase the number of shares outstanding. Decrease the par value per share.

No change to total stockholders equity.

No journal entry required.

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LO4

Stock Split
Matrix, Inc. has 300,000 shares of $1 par value common stock outstanding before a 2for1 stock split.
Before Split After Split 300,000 2 600,000 $ 1.00 2 $ 0.50 $ 300,000 $ 300,000

Common Shares Par Value per Share Total Par Value

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LO5

Other Comprehensive Income

A new category in owners equity called accumulated other comprehensive income (loss) includes the following unrealized changes to owners equity:

1. Cumulative foreign currency translation adjustments, 2. Unrealized gains or losses on available-for-sale investments, net of related income taxes, 3. Additional minimum pension liability adjustments, net of related income taxes.

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LO6

Treasury Stock
On July 25, 2008, Matrix, Inc. repurchases 5,000 of its common shares in the open market for $30 per share.
GENERAL JOURNAL Date Account Titles and Explanation 2008 July 25 Treasury stock Cash Debit 150,000 150,000 Credit

Balance Sheet Assets Cash 150,000 = Liabilities + Owners' Equity Treasury stock 150,000 Net income =

Income Statement Revenues Expenses

Contra owners equity account

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LO6

Treasury Stock
On Aug. 30, 2008, Matrix, Inc. resells 2,000 of its treasury stock in the open market for $35 per share.
GENERAL JOURNAL Date Account Titles and Explanation 2008 Aug. 30 Cash Treasury stock Aditional paid-in capital Debit 70,000 60,000 10,000 Credit

2,000 $30 cost per share

Balance Sheet Assets Cash +70,000 = Liabilities + Owners' Equity Treasury stock +60,000 Additional paid-in capital +10,000 Net income = Income Statement Revenues Expenses

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End of Chapter 8