To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Chapter Stockholders’ Equity Short Exercises (5 min.) S 9-1 Corporation’s advantages: Continuous life Transferability of ownership (listed as two items on page 536) Limited liability of the stockholders Ease of raising capital (page 536) Corporation’s disadvantages: Corporate taxation Government regulation Separation of ownership and management (per text page 536) 716 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5 min.) S 9-2 The stockholders hold ultimate power in a corporation The chairperson of the board of directors is usually the most powerful person in a corporation Title is CEO The president is in charge of day-to-day operations Title is COO The chief financial officer is in charge of accounting and finance Title is CFO Chapter Stockholders’ Equity 717 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5-10 min.) S 9-3 The common stockholders are the real owners of a corporation Preferred stockholders have priority over common stockholders in (1) receipt of dividends and (2) receipt of assets if the corporation liquidates Common stockholders benefit more from a successful corporation because the preferred stockholders’ dividends are limited to a specified amount The common stockholders take more risk so their potential for gains through an increase in the company’s stock price is unlimited 718 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5-10 min.) DATE: _ TO: Karen Scanlon and Jennifer Shaw FROM: Student Name RE: Steps in forming a corporation S 9-4 The first step in organizing a corporation is to obtain a charter from the state The charter authorizes the corporation to issue a certain number of shares of stock to the owners of the business, who are called stockholders The corporation will exist when the incorporators (Per page 536) Pay fees, Sign the charter, File documents with the state, and Agree to a set of bylaws to determine how the corporation is to be governed internally Later steps include the stockholders will electing a board of directors who in turn appoint officers to manage the corporation on a day-to-day basis These officers consist of the chairperson of the board (the chief executive officer) and the president (the chief operating officer) who lead the chief financial officer who manage the day to day operations of the controller (accounting officer) and treasurer (finance officer) Chapter Stockholders’ Equity 719 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5-10 min.) S 9-5 The $72,927,000 was paid-in capital It was not a profit and therefore had no effect on net income The par value of stock has no effect on total paid-in capital Total paid-in capital is the total amount that stockholders have invested in (paid into) a corporation, including the par value of stock issued plus any additional paid-in capital (10 min.) S 9-6 Millions Horris Printer: Cash…………………………………………… Common Stock…………………………… Additional Paid-in Capital……………… Delectable Doughnuts: Cash…………………………………………… Common Stock…………………………… 720 Financial Accounting 8/e Solutions Manual 17,123 23 17,100 292 292 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (10 min.) S 9-7 Case A — Issue stock and buy the assets in separate transactions: Journal DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT Cash……………………………………… 800,000 Common Stock (12,000 × $20)…… 240,000 Paid-in Capital in Excess of Par…… 560,000 Issued stock Building…………………………………… 550,000 Equipment………………………………… 250,000 Cash…………………………………… 800,000 Purchased plant assets Case B — Issue stock to acquire the assets: Journal DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT Building…………………………………… 550,000 Equipment……………………………… 250,000 Common Stock (12,000 × $20)… 240,000 Paid-in Capital in Excess of Par… 560,000 Issued stock to acquire building and equipment The balances in all accounts are the same: Building…………………………………… Equipment……………………………….… Common Stock (12,000 x $20 Paid-in Capital in Excess of Par……… Chapter $550,000 250,000 240,000 560,000 Stockholders’ Equity 721 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5-10 min.) S 9-8 Thousands Stockholders’ equity: Common stock, $.01 par, 400 thousand shares issued…………………………………………… Paid-in capital in excess of par………………… Retained earnings………………………………… Other stockholders’ equity……………………… Total stockholders’ equity……………………… $ 196 647 (22) $825 (10 min.) S 9-9 Amounts In Thousands a Total revenues……………………………………… $1,340 Total expenses……………………………………… 806 Net income………………………………….………… $ 534 b Accounts payable…………………………………… Other current liabilities…………………………… Long-term debt………………………………… Total liabilities……………………………………… $ 440 2,569 27 $3,036 c Total liabilities (from Req b)……………………… Total stockholders’ equity (from S 9-7)………… Total assets…………………………………………… $3,036 825 $3,861 722 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (5 min.) S 9-10 Journal DATE ACCOUNT TITLES AND EXPLANATION DEBIT Treasury Stock…………………………… Cash……………………………………… Cash………………………………………… Treasury Stock………………………… Paid-in Capital from Treasury Stock Transactions………………………… CREDIT Millions 29 29 Overall, stockholders’ equity decreased by $21 million ($29 million paid out minus $8 million received) Chapter Stockholders’ Equity 723 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (15-20 min.) S 9-11 Req MEMORANDUM TO: Susan Smith Exports, Inc., Board of Directors FROM: Student Name RE: How the purchase of treasury stock will make it more difficult for outsiders to take over the company Purchasing treasury stock decreases the amount of stock outstanding If Susan Smith Exports holds a sufficient quantity of company stock in the treasury, outsiders, such as the Mobile investor group, may not be able to acquire a controlling interest (50+ percent) of the outstanding stock from the remaining stockholders Because it takes cash to buy treasury stock, the purchase decreases the size of the corporation Reducing the company’s cash position may make the company sufficiently unattractive to cause the outside investors to abandon their takeover plan Req Sales of treasury stock at prices above the purchase price increase company assets because of the greater amount of assets coming in from the sale than went out to buy the stock Treasury stock transactions not affect liabilities, so the sale of treasury stock also increases stockholders’ equity These sales of treasury stock will not affect net income because the company is dealing with its owners Transactions between the corporation and its owners cannot generate a profit or a loss that is reported on the income statement Student responses may vary 724 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (10 min.) S 9-12 Journal DATE ACCOUNT TITLES AND EXPLANATION DEBIT 2010 Dec 15 Retained Earnings ($110,000 × 06) + (45,000 × $1.00)… 51,600 Dividends Payable………………… Declared a cash dividend…………… 2011 Jan Dividends Payable…………………… 51,600 Cash………………………………… Paid the cash dividend CREDIT 51,600 51,600 During 2010, Retained Earnings increased by $43,400 (net income of $95,000 − dividends of $51,600) (5-10 min.) S 9-13 $360,000 (200,000 shares × $1.80 per share) Preferred: $360,000 Common: $ 40,000 Cumulative, because it is not labeled noncumulative Preferred: $1,080,000 ($360,000 × 3) Common: $ 420,000 ($1,500,000 − $1,080,000) Chapter Stockholders’ Equity 725 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (continued) Decision Case Req Plan appears to fit the plans of Smith and Jones better than Plan because: Their primary goal is to raise as much capital as possible without giving up control of the business Under Plan 2, the outside stockholders would have 60,000 votes [35,000 common votes + 25,000 preferred votes (500 shares × 50 votes per share)] Smith and Jones would lose control of the business because they would have only 50,000 votes Under Plan preferred stockholders have no votes Smith and Jones would have complete control since they would hold all the voting shares Plan would raise only $10,000 more than Plan 800 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (15-20 min.) Decision Case Req The stock dividend does not affect your proportionate ownership in the company because all the stockholders receive 10% new shares All stockholders are in the same relative position after the dividends as they were before Req Cash dividends received last year were $7,150 (10,000 shares × $0.715 per share) Cash dividends after the dividend will be $7,150 (11,000 shares × $0.65 per share) Thus, there is no change in cash dividends Req You incur no loss in value because the market value of your investment after the stock dividend — $610,203 (11,000 shares × $55.473) — is the same as it was before the dividend — 10,000 shares × $61.02 The increase in the number of shares you own at $55.473 per share offsets the decrease in the market price per share Any difference here is due to rounding Chapter Stockholders’ Equity 801 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (continued) Decision Case Req If the company continues paying the $0.715 cash dividend per share, after issuing the 10% stock dividend, total cash dividends will increase (Your annual dividends will rise to $7,865 [11,000 shares × $0.715].) The increase in dividends might attract new investors, who view the increased cash dividends as an indication that the business is operating quite well This investor interest may result in an increase in the market value of UPS stock, or at least keep the value higher than it would be without the increase in cash dividends 802 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (20-30 min.) Decision Case Req Millions a Net income, as reported for 2000………………… $979 b Net income after new developments [$979 − $130 − ($2,000 × 12)]…………… $609 c The trend of net income is down The reasons for the downward trend are (a) inclusion of the money-losing companies and (b) the interest expense on the new debt Req (amounts in millions) As reported…………… Adjustments for 2001: Inclusion of companies……… Exchange of notes payable for stock…… Interest expense on new debt As adjusted…………… Assets = $65,503 = Liabilities + Equity $54,033 + $11,470 5,700 = 5,600 + 100 = 2,000 – 2,000 = $71,203 = 240 – $61,873 + 240 $9,330 Chapter Stockholders’ Equity 803 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (continued) Decision Case Req As Reported As Adjusted Dollars in millions Debt ratio = Total liabilities Total assets = $54,033 $65,503 $61,873 $71,203 = 0.82 = 0.87 Req I would recommend downgrading Enron’s debt for two reasons: Downturn in net income due to (a) inclusion of the moneylosing companies, and (b) the added interest expense on the new debt Increase in the debt ratio due to the same two factors 804 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Ethical Issue Req The ethical issue is, ―What is the correct amount at which to record and disclose the value of the franchise on Campbell’s balance sheet?‖ Req and Req.3 The stakeholders in the transaction include Campbell, the potential buyers of the franchises, and potential lenders who loan them the money to buy the franchises in the future Campbell and the corporation are effectively the same entity The third party serves no purpose other than as an accomplice to overvalue the franchise Analysis of the decision to overvalue the franchise: (a) Economic: Campbell is better off temporarily, unless potential buyers sue him for damages, in which case he could be worse off franchises can Potential buyers of the individual-language be harmed Campbell’s balance sheet overstates his assets If outsiders believe his balance sheet, they may be induced to pay Campbell more than the individuallanguage franchises are worth Lenders can also be harmed by loaning money to Campbell on more favorable terms than his financial position warrants Chapter Stockholders’ Equity 805 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (b) Legal: If potential buyers are damaged by Campbell’s actions, they might sue him for recovery of those damages In this situation, the public is also defrauded if Campbell amortizes the cost of the franchise for income tax purposes Basing amortization on $500,000 overstates tax deductions and understates Campbell’s income As a result, his tax payments are lower than they should be This could expose Campbell to future investigations from the IRS (c) Ethical: involved individuals This type of scheme is harmful to everyone It is not truthful, and it violates the rights of and business entities to full and complete disclosure of the proper valuation of a business It is an example of the type of transaction that meets the letter of the law without meeting the spirit of the law Req The franchise should be valued at its true value, which is $50,000 Campbell should focus his time and energy on ways to make the business profitable in the long run in other ways, rather than focusing on turning a quick buck and playing legal games that could well get him into trouble with a lot of other parties Note: One of the authors experienced this actual situation in his first job after college 806 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Ethical Issue Req The ethical issue is whether the company acted properly in purchasing their shares on the open market based on inside information known only to them Req and Req Stakeholders include the company, its officers and directors, the shareholders from whom the stock was purchased, and the general public (a) Economic analysis: The company, and likely its officers and directors, benefitted temporarily at the other shareholders’ expense The managers purchased the stock at $6 and could sell it for $27 Thus, the managers enriched themselves at the expense of the stockholders who sold company stock at $6 Had the stockholders known of the oil discovery, those stockholders who sold shares probably would have held their St Genevieve stock Stockholders wanting to sell company stock would have demanded a price based on all relevant information about the company, including news of the discovery Chapter Stockholders’ Equity 807 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com (b) Legal analysis: If St Genevieve is a public company, their actions are illegal The Securities Exchange Act of 1934 prohibits insider trading It imposes stiff penalties for unethical conduct of this type The SEC will prosecute them for insider trading, probably fine them, and possibly send the officers and directors responsible for the decision to prison In addition, actions such as these have been the basis for numerous civil stockholder lawsuits, to recover monetary damages suffered because of the actions of the company (c) Ethical analysis: The managers clearly did not behave ethically, violating the rights of existing shareholders as well as the good faith of the investing public Managers defrauded the stockholders by withholding important information prior to buying company stock Req The correct way to handle this transaction is never to have proposed it in the first place However, if it did happen, the disclosure principle is relevant to the situation The transaction should be disclosed in the footnotes to the financial statements, and if potential liability to the SEC or others is probable and can be estimated, a loss be disclosed in the income statement and a liability should be accrued on the balance sheet 808 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Focus on Financials: Amazon.com, Inc (20-30 min.) Req Amazon.com, Inc has two classes of stock authorized at December 31, 2008: Preferred stock, $.01 par value, 500 million shares authorized, no shares issued and outstanding Common stock, $.01 par value, billion shares authorized, 445 million shares issued, 428 million shares outstanding Req Based on the comparative Consolidated Balance Sheets, as well as the information in the Consolidated Statements of Stockholders’ Equity and the Consolidated Statements of Cash Flows, Amazon.com, Inc repurchased million shares of its common stock during the year for a total of $100 million in cash ($50 per share) Req The company earned and reported net income of $645 million It appears first in the Consolidated Statements of Operations It Chapter Stockholders’ Equity 809 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com also appears as a reduction of the accumulated deficit in the Consolidated Statements of Stockholders’ Equity, and as the opening line of the Consolidated Statements of Cash Flows This is a good thing Req Return on equity = $645 ($2,672 + $1,197) / = 33.3% Return on assets = $645 + $71 ($8,314 + $6,485) / = 9.7% These rates of return indicate financial strength for two reasons: Both returns are high Return on equity is outstanding! Return on equity is much higher than return on assets, meaning that the common shareholders are earning a much higher return on their investment in the business than they are paying creditors for borrowed funds 810 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Focus on Analysis: Foot Locker, Inc (20-30 min.) Req Foot Locker, Inc has only one class of stock: Common stock, $.01 par value, 500,000,000 shares authorized; 158,997,000 shares issued and 154,474,000 shares outstanding as of the end of fiscal 2007 Req Foot Locker, Inc repurchased 2.283 million shares for $50 million The average price (computation in millions) was: Average price paid for treasury stock = Cash paid $50 = = $21.90 Number of shares 2.283 Based on the information in Footnote 26 to the Consolidated Financial Statements, the average price of the company’s stock during the year (based on the high ending quarterly price) was $20.41 [($24.78 + $24.15 + $17.60 + $15.14) ÷ 4] This indicates that the company paid an average price that was slightly more than the quoted market price of its stock probably did this for several reasons The company First, they may have needed the stock to distribute to employees in the form of compensation Second, share repurchases reduce the number Chapter Stockholders’ Equity 811 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com of shares outstanding, thus boosting the earnings per share Third, the company probably thought that the share price would recover in subsequent periods, thus making the stock a good buy Req Refer to the Consolidated Statements of Shareholders’ Equity Foot Locker, Inc issued a total of 1,187,000 new shares of its common stock in fiscal 2007: 513,000 shares were restricted stock issued under new stock option and awards plans to employees, and 674,000 shares were issued under director and employee stock plans Req Refer to the Consolidated Statements of Shareholders’ Equity Retained Earnings ( in millions) Bal., Feb 3, 2007 Dividends for fiscal 77 Cumulative effect of 2007 adoption of new accounting standard (FIN 48) Net income Bal., Feb 2, 2008 812 Financial Accounting 8/e Solutions Manual 1,785 51 1,760 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Group Project in Ethics (1-3 hours, including discussion) Req Stakeholders in a corporation vary widely with the nature of the corporation In the case of the corporations included in this case (GM, Chrysler, AIG, Citibank, Bank of America) because of their size and the scope of their operations, stakeholders include the shareholders, bondholders, other creditors, employees, suppliers, customers, local, regional, national and international economies, federal, state and local governments—just about everyone in the broadest sense of the term Req Student opinions on this will vary It might be interesting to divide the class into two teams and conduct a debate, each team taking a side Chapter Stockholders’ Equity 813 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com Req The measures of ―deficiency‖ can vary, but usually are: excessively high debt ratios, continuing and increasing deficits in retained earnings, debt covenants that are being violated, labor troubles, litigation If the company is not too far gone, in some cases, downsizing helps by cutting costs to be more in line with revenues Students’ teams might brainstorm this question as well Req Student opinions on this will vary Req Student opinions on this will vary and should be related to the opinions they express in requirement This question has economic, political and social ramifications Some would say that government taking equity positions in private businesses violates principles of free market economics and tends toward socialism If the equity positions were carefully crafted and sufficiently restricted to appear to have more debt than equity features, perhaps this could be justified in some people’s minds 814 Financial Accounting 8/e Solutions Manual ... value per share by the number of shares she owns The result will be the book value of her stock 730 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test... Cash…………………………………………… Common Stock…………………………… 720 Financial Accounting 8/e Solutions Manual 17,123 23 17,100 292 292 To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com... 9-7)………… Total assets…………………………………………… $3,036 825 $3,861 722 Financial Accounting 8/e Solutions Manual To download more slides, ebook, solutions and test bank, visit http://downloadslide.blogspot.com