Chapter 12



Chapter 12

Contributed Capital

In this chapter you will learn how contributed capital affects businesses, how it is controlled, accounted for, and reported in financial statements.

What Is Contributed Capital?

Chapters 10 and 11 examined current and long-term liabilities, which together represent one major source of resources for companies. Liabilities are the dollar amounts of borrowed resources. A second source of resources is owners. When corporations obtain resources through owners' investments, the resources are called assets and the source of resources is called contributed capital. Thus, a corporation's contributed capital represents the dollar amount of resources invested by its owners. In prior chapters, the source of owner-invested resources was called common stock. In the remainder of this text, the source of owner-invested resources will be called contributed capital to reflect the fact that there are different types of corporate owners and there are several accounts in which their investments are reported. The third major source of resources is operations, that is, management's generation of resources through the operation of the company. The source of management generated resources is called net income, which is eventually reported as part of retained earnings. This chapter examines contributed capital while retained earnings is examined in Chapter 13.

In terms of the accounting equation, because owners have rights to amounts they invested and to resources generated by management (net income), contributed capital and retained earnings are both reported as parts of stockholders' equity, as shown below. The numbers in parentheses refer to the chapters in which the items are discussed.

|Assets |= |Liabilities |+ |Stockholders' Equity |

|Current Assets | |Current Liabilities | |Contributed |

|Cash and Cash Equivalents (6) | |Notes Payable (10) | |Capital (12) |

|Accts. Receivable (7) | |Accounts Payable (10) | |Retained Earnings (13) |

|Allow. for Uncoll. Accounts (7) | |Taxes Payable (10) | |Revenues |

|Merchandise | |Current Portion of Long-term Debt (10) | |Sales (7) |

|Inventory (8) | |Long-term Liabilities | |Sales Returns & Allowances (7) |

|Property, Plant, & Equipment | |Bonds Payable (11) | |Cost of Goods Sold (8) |

|Land (9) | |Deferred Taxes (11) | |Operating Expenses |

|Buildings (9) | |Obligations Under Capital Leases (11) | |Uncollectible Accounts Expense (7) |

|Accum. Depr., Buildings (9) | | | |Depreciation |

|Equipment (9) | | | |Expense (9) & (11) |

|Accum. Depr., Equipment (9) | | | |Salary & Wages |

|Autos & Trucks (9) | | | |Expense (10) |

|Accum. Depr., Autos & Trucks (9) | | | |Payroll Taxes |

| | | | |Expense (10) |

| | | | |Bank Service Exp. (6) |

| | | | |Other Revenues & Expenses |

| | | | |Interest Revenue (6) |

| | | | |Interest |

| | | | |Expense (6) & (11) |

| | | | |Gain or Loss on Disposal of Prop., Plt., & Eq. |

| | | | |(9) |

| | | | |Income Taxes |

| | | | |Expense (10) |

| | | | |Extraordinary Items |

| | | | |Gain or Loss on Early |

| | | | |Retire. Of Bonds (11) |

Exhibit 12-1 presents contributed capital for three merchandising companies and compares it to total assets. There are many differences among the companies. For example, Federated Department Stores’ contributed capital of $9.5 billion was the source of 32.1% of its resources, while Wal-Mart's contributed capital of approximately $3.2 billion was the source of only 2.1% of its resources. Contributed capital is the source of approximately 14 percent of the resources (assets) of the three companies. For contrast, remember, previous chapters showed the three companies obtained approximately 60 percent of their resources through borrowing (current and long-term liabilities).

|Exhibit 12-1 |

|Contributed Capital and Total Assets ($ millions) |

|January 31, 2007 |

| |Contributed |Total | |

|Company |Capital |Assets |Percent |

|Federated Department Stores |$9,492 |$29,559 |32.1 |

|Target |$2,459 |$37,349 |6.6 |

|Wal-Mart |$3,247 |$151,193 |2.1 |

The Nature of Contributed Capital

While the dollar amounts of resources invested by owners are reported as assets, the sources of such resources are reported in contributed capital accounts, the major ones of which will be examined in detail in this chapter. Exhibit 12-2 lists the balances in the contributed capital accounts for three merchandising companies. Although the amounts differ among the companies, all three reported only one type of owners, common stockholders. All three companies also reported additional paid-in capital, which is an account used to record part of the dollar amounts invested by owners, as will be discussed later.

|Exhibit 12-2 |

|Contributed Capital ($ millions) |

|January 31, 2007 |

| |Federated | | |

| |Department | | |

|Contributed Capital |Stores |Target |Wal-Mart |

|Common Stock |$6 |$72 |$413 |

|Additional Paid-in Capital |$9,486 |$2,387 |$2,834 |

|Totals |$9,492 |$2,459 |$3,247 |

Proprietorships, Partnerships, and Corporations

In order to understand contributed capital, it is necessary to understand the corporate form of business. In general, there are three basic forms of business: proprietorships, partnerships, and corporations.

Proprietorships A proprietorship is a company owned by one person, who is usually very actively involved in its operation. For example, many of the coffee shops and pizza restaurants near your campus are probably proprietorships operated by their owners. From an accounting standpoint, the resources, sources of resources, and results of operations of a proprietorship are kept separate from the personal life of its owner. From a legal and tax standpoint, however, the business is viewed as the responsibility of its owner. The owner is held personally responsible for any debts the company cannot pay. This legal requirement means the owner of a proprietorship has unlimited liability for the obligations of the business. If something disastrous happens, the owner could possibly lose the original dollar amount invested in the business and, if necessary, part or all other resources the owner possesses. For example, if someone injured in a coffee shop that is a proprietorship is awarded a $5,000,000 court settlement, the owner of the coffee shop would be personally responsible for the amount of the $5,000,000 that could not be paid by the coffee shop. Thus, even if the owner had only invested $10,000 in the coffee shop, the owner could end up losing much more than the $10,000 investment.

In addition to being responsible for the company's obligations, the owner of a proprietorship has the sole right to the company's net income as well as its resources when the company stops operating. In fact, this right to net income often makes people establish proprietorships. For tax purposes, the company's income is included as part of the income on which the owner is taxed. The proprietorship company is not responsible for income taxes. For example, if a pizza restaurant that is a proprietorship reported income of $8,000, the $8,000 would be reported as part of the owner's income on the owner's income taxes return. The pizza restaurant would not pay any income taxes on the $8,000 income.

Partnerships A partnership is a company owned by two or more persons, who are also usually actively involved in its operation. For example, many accounting firms, law firms, and medical practices are partnerships. Partnerships are often formed because of the different talents possessed by the partners. For example, one law partner might be a skilled corporate lawyer, while others could be skilled in personal injury law or law research. Still other partners could possess the resources necessary to start the company operating. Similar to proprietorships, the owners of partnerships have unlimited liability for the obligations of the company and have a right to the company's income as well as its resources when it stops operating. The income of the partnership is not taxed to the partnership but is included as part of the taxable income of the partners. Because of the various types of involvement of the owners, partnerships should have written agreements detailing the responsibilities of the partners and how the partnership's income will be distributed among them.

Corporations A corporation is a company whose legal existence is separate from its owners' existence. Many companies with which you are familiar are corporations, including the three companies in Exhibits 12-1 and 12-2. The primary right of corporations is the right to enter into contracts. For example, corporations may purchase assets, hire employees, sell products, and borrow money. In effect, corporations have the right to conduct business under their own responsibility. Unlike proprietorships and partnerships, in which the owners are ultimately responsible for the debts of the companies, corporations are responsible for their own debts. Owners of corporations are responsible only for the dollar amounts they invest. In other words, owners of corporations are said to have limited liability. The fact that corporation owners have limited liability is one of the major reasons people are willing to invest in corporations. As a result, many corporations have been able to obtain large amounts of resources from owners. Remember, for example, as shown in Exhibits 12-1 and 12-2, Target obtained approximately $2.5 billion from its owners.

Another important reason corporations are so popular in business is that it is often easy for owners to change the amounts they invest in them. As examined later in this chapter, shares of stock represent an owner's financial interest in a corporation. To change owners, it is simply necessary for owners to sell some or all of their shares to other investors who want to become owners. Since there are many stockbrokers who can make such stock sales possible, it is often quite easy for corporate owners to change. This ease of changing ownership makes the financial commitment and the length of the commitment depend primarily on the investors. It is possible, of course, investors will not be able to sell their stock shares at prices high enough to recover the amounts they originally invested in the corporation. This is one of the risks of investing in corporations.

In exchange for rights accompanying separate legal existence, corporations have increased responsibilities, two important ones of which relate to regulation and taxes. Corporations are regulated by the states in which they are formed (incorporated) as well as the states and countries in which they operate. This means corporations must be familiar with the legal requirements of various states and countries and must comply with these requirements. Furthermore, corporations must fulfill the regulations and reporting requirements of the Securities and Exchange Commission (SEC) and the stock exchanges on which the corporations' shares of stock are traded. These requirements can be very expensive to meet. For example, one SEC requirement that affects corporations and has been instrumental in the growth of the accounting profession is the requirement corporations submit audited financial statements to the SEC. Audited financial statements are those that have been examined by Certified Public Accountants. Due to the size of many corporations, the accounting fees for auditing their financial statements can be quite large, even in excess of several million dollars a year.

As explained in previous chapters, corporations pay income taxes. In 2007, in the United States, the effective income tax rate for corporations with taxable income of $18,333,333 or more was 35%. For example, a corporation with taxable income of $200,000,000 would have been responsible for income taxes of $70,000,000 ($200,000,000 x .35). Additionally, if the corporation's $130,000,000 net income ($200,000,000 income before taxes - $70,000,000 income taxes expense) were distributed in the form of dividends, owners would have been responsible for income taxes on the portion of the $130,000,000 they received. In total, assuming owners' effective federal income taxes rate was 30%, owners would have paid $39,000,000 ($130,000,000 x .30) of income taxes on dividends. Thus, the total income taxes on the corporation's income before taxes would have been $109,000,000 ($70,000,000 taxed to the corporation + $39,000,000 taxed to owners). The fact that both the corporation and its owners pay income taxes on corporate income is sometimes referred to as double taxation of corporations. Whatever it is called, corporations and owners paying taxes on corporate income are evidence that the right to operate as a corporation can be expensive.

Corporate Structure

A corporation is created through the legal process of filing articles of incorporation in a state in which the company's owners want it to be incorporated. Quite often, a company will be incorporated in the state in which its founders live. However, because of favorable treatment in Delaware, many U.S. corporations were incorporated there even though they conduct all or the vast majority of their business elsewhere. Wal-Mart, for example, is incorporated in Delaware even though less than 1% of its stores are there. Recently, due to favorable treatment, many new companies are incorporating in Nevada. Regardless of the state of incorporation, once the articles of incorporation are properly filed and approved by the state, they are often referred to as the corporation's charter and the company has the right to conduct business.

There are several important groups involved in the operation of corporations, three of which will be briefly discussed in the following paragraphs, namely, owners, board of directors, and managers.

Owners As stated earlier, ownership interests in corporations are represented by shares of stock. Although there can be many different types of stock, the primary owners of corporations are those who own shares of common stock. Thus, corporate owners are often referred to as common stockholders. An owner's percentage ownership of a corporation is a function of the number of shares of common stock owned. For example, if a person owns 2,000 shares of common stock of a corporation in which the total number of common shares owned by all owners is 100,000, the owner of the 2,000 shares owns 2% of the corporation (2,000 / 100,000).

By owning common stock, stockholders can have many rights, as specified in the corporation's charter. One right usually given to common stockholders is the right to elect the corporation's board of directors, which in turn usually has a significant influence over the operation of the corporation, as discussed below. The number of votes a stockholder has is based on the number of shares of common stock owned. A stockholder who owns 10,000 shares has the right to 10,000 votes.

A second right of common stockholders is the right to the corporation's income. Remember, as mentioned numerous times in previous chapters, owners have a right to company income. Corporate income is distributed to owners through dividends. For example, if a corporation declares a $.50 per share dividend on common stock, a stockholder with 2,000 shares of the corporation's common stock would receive a dividend of $1,000 ($.50 x 2,000 shares).

A third right of common stockholders is the right to the corporation's resources (assets) if the company goes out of business. The common stockholders would receive the corporation's remaining assets once all its obligations are paid. Similar to the right to vote and the right to receive corporate income through dividends, a common stockholder's right to corporate resources is based on the number of common shares owned by the stockholder. For example, consider what would happen if the Lawrence Corporation, whose simplified balance sheet is presented below, stopped doing business on December 31.

|Total assets |$80,000,000 |

|Total liabilities |$60,000,000 |

|Total stockholders' equity |$20,000,000 |

In general, when a company goes out of business, it (1) sells its assets, (2) pays its liabilities (creditors), and (3) distributes any remaining assets to owners. If the Lawrence Company first sells its $80,000 of assets for $75,000,000 cash and uses $60,000,000 of this cash to pay its creditors in full, there would be $15,000,000 left to be distributed to owners ($75,000,000 - $60,000,000). The $15,000,000 cash would be distributed to owners based on the number of shares of common stock they own. For example, if all stockholders combined own a total of 5,000,000 shares of common stock, stockholders would receive $3 for each share of common stock they own ($15,000,000 / 5,000,000 shares). Thus, a stockholder who owns 2,000 shares of the Lawrence Company's common stock would receive $6,000 ($3 x 2,000 shares).

Of the common stockholders' three rights described above, the right to income through dividends is by far the most important to most stockholders. Due to the large number of investors who own common shares of corporations, most investors do not own enough shares of any individual company's common stock to make the right to vote for directors very important to the individual owner. For example, on January 31, 2007, there were 4.2 billion shares of Wal-Mart's common stock in the possession of its owners. A stockholder who owned 20,000 shares of Wal-Mart's common stock would own .0005% of Wal-Mart (20,000 / 4,200,000,000). Such a small ownership interest in Wal-Mart would give a stockholder very little influence over the company. However, if enough stockholders become organized and vote the same way, they can have a significant influence on a corporation by electing board of directors members whose interests in the corporation are similar to those of the stockholders. Similar to the right to vote for directors, although common stockholders do have a right to resources when a corporation ceases to exist, this right is not very important to most stockholders. Most stockholders do not invest in corporations they expect to go out of business!

Board of Directors A corporation's board of directors is a group of individuals elected by common stockholders to represent them in making some important decisions regarding the corporation. Corporations hold annual meetings to elect boards of directors, as well as to conduct other business. Common stockholders elect directors by voting based on the number of shares owned. A board of directors is necessary simply because there are often too many individual stockholders for efficient decision-making. For example, on January 31, 2007, Wal-Mart had approximately 312,000 common stockholders. Such a large group would find it virtually impossible to make decisions. One of the more important decisions made by a board of directors is the dollar amount of dividends to be distributed to owners. While management is responsible for the company's generation of income through operations, the board of directors is responsible for determining the amount of income to be distributed to owners through dividends. Other important activities in which the board of directors is involved are determining the long-term goals and objectives of the corporation, selecting the corporation's major managers (often called executives) and the dollar amounts of their salaries, and determining terms for bonds and stock issues.

Managers Managers are responsible for operating corporations. For example, managers hire and evaluate performance of employees (including other managers), oversee purchase and sale of products, arrange for company loans, buy and sell property, plant, and equipment, and approve major advertising campaigns. In short, management is responsible for generating resources through operation of the company.

One way to view the relationship between owners, the board of directors, and managers is presented in Exhibit 12-3, which shows each group's major responsibilities.

|Exhibit 12-3 |

|Corporate Structure and Major Responsibilities |

| |

| |Common Stockholders | |

| |(Responsible for electing board of directors) | |

| | | |

| |Board of Directors | |

| |(Responsible for dividends and hiring major managers) | |

| | | |

| |Managers | |

| |(Responsible for day-to-day activities to generate | |

| |resources through business operations: net income) | |

| | | |

Common Stock

Common stockholders are the primary owners of corporations. They invest resources in corporations and receive rights to vote for the boards of directors. They receive dividends declared by the boards of directors and paid by the corporations. They receive corporate resources when the corporations go out of business. Even more importantly for most common stockholders, they have the right to sell their shares of common stock at any time and at any price for which they can find a buyer. From the viewpoint of corporations, owners are one major source of resources. Remember, there are three major sources of resources for corporations: borrowing (creditors), owners (stockholders), and management (net income).

When owners invest in a corporation and receive common stock as evidence of their investment, the corporation's resources and sources of resources both increase by the same amount. For example, on May 25, if owners invest $4,000,000 cash in the Lowell Merchandising Corporation in return for 500,000 shares of common stock, the effects on the corporation's accounting equation would be as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|+ $4,000,000 |= | |

|Total liabilities | |$24,000,000 |

|Stockholders' equity | | |

|Common stock |$22,000,000 | |

|Retained earnings |$4,000,000 | |

|Total stockholders' equity | |$26,000,000 |

Based on its balance sheet, 48% of the Lynn Corporation's resources was obtained through borrowing ($24,000,000 liabilities / $50,000,000 total assets), 44% was obtained from owners ($22,000,000 common stock / $50,000,000 total assets), and 8% was generated by management and kept in the business ($4,000,000 retained earnings / $50,000,000 total assets). Since 48% of the corporation's resources came through borrowing, it could be said the company's creditors currently bear 48% of the risk of the company. If the company were to suffer a disaster, it would have to lose over $26,000,000 before its creditors would be unable to receive the $24,000,000 the company owes them.

Consider what would happen to creditors' risk if the company were to take $21,000,000 and give it to owners in return for most of their common stock. After the $21,000,000 were paid to owners, the Lynn Corporation's balance sheet would appear as follows.

|Total assets | |$29,000,000 |($50,000,000 - $21,000,000) |

|Total liabilities | |$24,000,000 | |

|Stockholders' equity | | | |

|Common stock |$1,000,000 | |($22,000,000 - $21,000,000) |

|Retained earnings |$4,000,000 | | |

|Total stockholders' equity | |$5,000,000 | |

Based on its new balance sheet, 83% of the Lynn Corporation's resources was obtained through borrowing ($24,000,000 liabilities / $29,000,000 total assets), while only 3% was obtained from owners ($1,000,000 common stock / $29,000,000 total assets), and 14% was generated by management and kept in the business ($4,000,000 retained earnings / $29,000,000 total assets). Since 83% of the corporation's resources came through borrowing, the company's creditors now bear 83% of the risk of the company. If the company were to suffer a disaster, it would only have to lose over $5,000,000 before its creditors would be unable to receive the $24,000,000 the company owes them. Thus, by paying $21,000,000 to its owners, the Lynn Corporation decreased owners' risk from 44% to 3% and increased creditors' risk from 48% to 83%.

To prevent the shifting of risk from owners to creditors, some states require corporations to maintain a certain amount of legal capital in the business. In many such states, legal capital is the par value of the common stock. For example, if the total par value of the Lynn Corporation's common stock was $22,000,000, the company could not have paid its owners $21,000,000 as described above and the business risk could not have been transferred from owners to creditors.

As corporations have grown in size, the importance of legal capital as a means of protecting creditors has declined significantly. For example, as of January 31, 2007 the combined legal capital of Federated Department Stores, Target, and Wal-Mart was less than 1% of their total assets. Obviously, for these companies, legal capital provides very little protection for creditors. Although legal capital is currently not significant for protecting creditors, for financial reporting purposes its effects continue to be felt. Basically, corporations report in their common stock accounts the par value of stock issued to owners. Remember, in states requiring legal capital, legal capital is often defined as the par value of common stock. When corporations receive more than par value from owners, the difference between par value and the amount received is reported in an additional paid-in capital account. For example, return to the Lowell Merchandising Corporation's $4,000,000 cash receipt for which owners received 500,000 shares of common stock. If the common stock par value were $2 per share, the effects on the corporation's accounting equation would be as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|+ $4,000,000|= | | |+ $1,000,000 |

|May 25 |Cash |111 |4,000,000 | |

| |Common Stock |321 | |1,000,000 |

| |Additional Paid-in Capital, Common Stock | | | |

| | |322 | |3,000,000 |

| |Common stock issued. | | | |

Although the above journal entry may appear to be a bit confusing, the use of par value makes accounting for common stock quite simple. All that must be remembered is the par value of the total number of shares of stock issued to common stockholders is reported in the common stock account. All other amounts received are reported in the additional paid-in capital, common stock account. As will be seen later in this chapter, this use of par value makes it quite easy to account for the issuance of stock other than common stock, as well.

Par value versus market value It is important to understand the difference between the par value of a corporation's common stock and the market value of such stock. Par value is a relatively arbitrary dollar amount, originally established by the corporation's founders when they were considering its state of incorporation's legal capital requirement. On the other hand, investors who want to own part of a company determine the market value of common stock. Such investors are much more concerned about the value of their investment than with the corporation's legal capital. Investors are interested in such things as potential growth in the price of stock shares and potential dividends to be received. As a result, the par value of a corporation's common stock usually differs significantly from its market value. For example, the par value of Wal-Mart's common stock is $.10 per share, while the market value per share when it was issued averaged approximately $.80. Furthermore, both the par value and the market value when the shares were issued usually differ significantly from the market value at the date for which the balance sheet is prepared. For example, the market value per share of Wal-Mart's common stock was $48 on January 31, 2007. These differences are to be expected because a great amount of time could pass between the time a corporation issues its common stock and the financial statements are prepared. Continuing the Wal-Mart example, the company incorporated in 1969. Thus, almost 40 years passed between its incorporation and its January 31, 2007 balance sheet. Over this period of time, a significant change in the market value of its stock could be expected.

Stated value and no par common stock. The legal requirements for incorporation depend upon the state in which a company incorporates. While some states require common stock to have a par value, others do not. Some companies that incorporate in states which do not require par value for common stock, authorize and issue common stock with a stated value or without a par value (called no-par common stock). From the standpoint of increasing resources, par value common stock, stock with a stated value, and no-par stock serve the same purpose: they are issued to bring resources into the company. From an accounting standpoint, the differences are relatively minor, as summarized below.

1. par value common stock: when issued, the par value of all issued shares is recorded in the common stock account. The difference between the total dollar amount received and the total par value of shares issued is recorded in the additional paid-in capital, common stock account.

2. stated value common stock: when issued, the stated value of all issued shares is recorded in the common stock account. The difference between the total dollar amount received and the total stated value of shares issued is recorded in the additional paid-in capital, common stock account. In effect, for accounting purposes, a common stock's stated value is treated the same as if it were its par value.

3. no-par common stock: when issued, the total dollar amount received for all issued shares is recorded in the common stock account. When corporations issue no-par stock, the additional paid-in capital, common stock account is not used.

** You now have the background to do exercises 12.1, 12.2, 12.3, 12.4, 12.5, and 12.6.

Preferred Stock

The second major class of corporate owners are called preferred stockholders because they own preferred stock. Preferred stock gets its name from the fact that it has rights or preferences over some rights of common stock. Recall the common stockholders' three rights discussed earlier: the right to vote for the board of directors, the right to receive corporate income through dividends, and the right to assets when the company is liquidated. Preferred stock usually has preferences (or first rights) over common stock to dividends and assets upon liquidation. This means when dividends are declared, preferred stockholders get their dividends first and when the company goes out of business, the preferred stockholders get their share of the assets before any assets are made available to common stockholders. In most cases, although preferred stockholders have first claim on dividends and assets upon liquidation, they do not have a right to vote on corporate matters, such as for the board of directors.

From the standpoint of the corporation and its common stockholders, preferred stock is important for two primary reasons. First, preferred stock is a source of resources for the corporation. When preferred stock is issued, the company's resources increase. Second, from the standpoint of common stockholders, since preferred stockholders usually do not have voting rights, the corporation increases its resources without common stockholders having to reduce their control over the corporation by giving up any of their voting influence over the board of directors.

In order for corporations to increase resources by issuing preferred stock, they must make the preferred stock attractive to investors. To make preferred stock attractive, given the fact that preferred stockholders usually do not have the right to vote on corporate matters, corporations not only often give preferred stockholders first claim on dividends and assets upon liquidation, but they also clearly state the dividend amount or dividend rate to be paid to preferred stockholders. In summary, preferred stock exists in order to increase corporate resources without reducing common stockholders' control. Preferred stock is attractive to investors because of dividends and protection provided by the preferred stock preferences.

The effects of issuing preferred stock are very similar to the effects of issuing common stock. For example, assume in the Lowell Merchandising Corporation's articles of incorporation the company authorized 100,000 shares of $100 par, 9% preferred stock. The 100,000 authorized shares means the company is allowed to issue a maximum of 100,000 shares of the preferred stock. The company does not have to issue any shares, but it may issue from 1 share to 100,000 shares, at the discretion of the board of directors. The $100 par, 9% terms mean the company will pay a dividend of $9 per share ($100 x .09) each year the company declares a dividend. If the Lowell Merchandising Corporation issues 4,000 shares of its preferred stock on June 3, and receives $420,000, the effects on the corporation's accounting equation would be as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|+ $420,000 |= | | |+ $400,000 |

|June 3 |Cash |111 |420,000 | |

| |Preferred Stock |311 | |400,000 |

| |Additional Paid-in Capital, Preferred Stock | | | |

| | |312 | |20,000 |

| |Preferred stock issued. | | | |

Making use of the concept of par value, the above journal entry is quite simple. The par value of the total number of shares of stock issued to preferred stockholders is reported in the preferred stock account. All other amounts received are reported in the additional paid-in capital, preferred stock account. As was the case with common stock, preferred stockholders are often willing to pay more for preferred stock than its par value because they find the investment attractive. In the case of Lowell Merchandising Corporation, investors found the $9 per share dividend attractive enough to pay the company $20,000 more than the stock's par value.

Cash Dividends

Corporations obtain resources by borrowing, through owners' investments, and through management's operation of the company. The source of resources generated through management's efforts is called net income. One of the advantages of owning a company is owners have a right to the company's net income. The primary way in which owners receive their part of a corporation's net income is through cash dividends. A second way owners may receive part of the company's net income is when the company goes out of business and distributes its remaining resources to owners.

Cash dividends are declared by the board of directors and result in resources flowing out of the corporation to owners. The company's resources and sources of resources both decrease. This result does not occur instantaneously, however. While the board of directors is responsible for declaring dividends, management is responsible for arranging for or making the actual payments. Since the corporation may have many different owners, some of whom could change on a daily basis, it takes time to identify the owners who should receive the dividends.

To illustrate the cash dividends process, consider the Lowell Merchandising Corporation, whose board of directors, after reviewing the company's cash needs for the next several months, determines the company currently has enough cash to pay $126,000 dividends. In order to allow the company to easily identify the owners to whom the dividends checks are to be sent, a date of record is established when dividends are declared. The stockholders who own the stock on the date of record are those to whom the dividends checks will be sent. Since it takes time to actually prepare the checks and mail them to owners, a date of payment is also established. The date of payment is the date on which the dividends will actually be paid to stockholders. After considering these issues, on March 1, the Lowell Merchandising Corporation's board of directors declared $126,000 cash dividends for stockholders of record on March 15, with the dividends to be paid on March 29.

On March 1, when the board of directors declares the $126,000 cash dividends, the company's resources do not change because it does not pay the dividends until March 29. However, when the dividends are declared, the company must recognize a $126,000 liability for the dividends. As a result, the effects on the company's accounting equation would be as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | |+ $126,000 | | |

|March 1 |Dividends |315 |126,000 | |

| |Dividends Payable |218 | |126,000 |

| |Cash dividends declared | | | |

On March 15, the date of record of the cash dividends, the Lowell Merchandising Corporation's resources and sources of resources are unaffected. The company simply updates its stockholders' records and identifies the owners to whom the dividends checks are to be mailed.

On March 29, when the cash dividends are paid, the company's resources and sources of resources both decrease by $126,000, as shown below.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|- $126,000 |= |- $126,000 | | |

|Mar. 29 |Dividends Payable |218 |126,000 | |

| |Cash |111 | |126,000 |

| |Cash dividends paid | | | |

As a result of the three-step process shown above, the Lowell Merchandising Corporation's resources and sources of resources both decreased by $126,000 for the cash dividends. The effects of cash dividends are important because they result in resources flowing out of the corporation. When a corporation's resources decrease, management has fewer resources with which to work. Management needs resources to acquire other resources, pay liabilities, and generate additional resources through net income. On the other hand, quite often dividends must be paid to stockholders in order to keep them satisfied. Remember, stockholders vote on important corporate matters, such as the board of directors. Unsatisfied owners could present difficulties for the corporation.

Distributing cash dividends Whether a corporation has only common stockholders or both preferred stockholders and common stockholders, the effects of cash dividends are the same as those shown above: resources and sources of resources decrease. The only additional issue that must be considered is who receives the dividends. Remember, one of the rights of preferred stockholders is the right to receive dividends before common stockholders. To illustrate the distribution of cash dividends to preferred stockholders and common stockholders, consider the Lowell Merchandising Corporation's declaration of a $126,000 cash dividend on March 1, when its stockholders' equity is as follows.

|Stockholders' Equity | |

|Contributed Capital | |

|9% Preferred Stock, $100 par, 100,000 shares authorized, 4,000 shares issued | |

| |$400,000 |

|Common Stock, $2 par, 3,000,000 shares authorized, 500,000 shares issued | |

| |$1,000,000 |

|Additional Paid-in Capital, Preferred Stock |$20,000 |

|Additional Paid-in Capital, Common Stock |$3,000,000 |

|Total Contributed Capital |$4,420,000 |

|Retained Earnings |$3,500,000 |

|Total Stockholders' Equity |$7,920,000 |

As shown above, the Lowell Merchandising Corporation has 4,000 shares of 9%, $100 par value preferred stock and 500,000 shares of common stock outstanding. Outstanding shares are those shares issued to investors and still being held by them. The dividend on each share of preferred stock is $9 (9% x $100 par value per share). Since there were 4,000 shares of preferred stock outstanding, the Lowell Merchandising Corporation's preferred stockholders have a right to the first $36,000 of cash dividends declared by the company (4,000 shares x $9 per share). Of the total $126,000 cash dividends, since the first $36,000 would go to the preferred stockholders, the common stockholders would have a right to the remaining $90,000 ($126,000 - $36,000). On a per share basis, the owner of each common share would receive $.18 ($90,000 / 500,000 shares). Based on these calculations, a stockholder who owns 100 shares of Lowell Merchandising Corporation preferred stock and 100 shares of its common stock would receive the following cash dividends.

|Stock |Number of Shares |Dividends Per Share |Dividends |

|Preferred |100 |$9.00 |$900 |

|Common |100 |$.18 |$18 |

|Total | | |$918 |

** You now have the background to do exercises 12.7, 12.8, and 12.9.

Cumulative Preferred Stock As stated earlier, in order to obtain resources from preferred stockholders, corporations must make their preferred stock attractive. One way this is accomplished is to give preferred stockholders the first claim on dividends, as illustrated in the previous paragraphs. A second way corporations make their preferred stock attractive is to provide preferred stockholders additional dividends protection over common stockholders. This is accomplished by making the preferred stock cumulative. When preferred stock is cumulative, before common stockholders can receive any dividends, preferred stockholders must receive dividends for all years they owned the stock, even if the board of directors did not declare dividends in some of those prior years. Remember, the board of directors must declare dividends before stockholders can receive them. There are times in the lives of corporations, however, when directors may want to use the company's cash for reasons other than dividends. For example, if a corporation is undergoing a large expansion, directors may prefer to use the cash to acquire property, plant, and equipment rather than pay dividends. If the board of directors does not declare a dividend and the preferred stock is not cumulative (called noncumulative preferred stock), the preferred stockholders lose their rights to dividends for that year. On the other hand, by making preferred stock cumulative, preferred stockholders' rights to dividends are protected for those years in which the board of directors does not declare dividends.

To illustrate the distribution of cash dividends to preferred stockholders and common stockholders, consider the Lowell Merchandising Corporation's decision to declare $126,000 cash dividends on March 1, when its stockholders' equity was as shown earlier. Assume (1) the company's contributed capital did not change during the year and (2) the company did not declare cash dividends for its previous fiscal year because it used its cash to expand operations.

If the company had declared dividends in its previous fiscal year, preferred stockholders would have received $36,000 dividends (9% x $100 par value x 4,000 shares). However, since the company did not declare dividends for that year, the preferred stockholders would have lost their rights to the $36,000 unless the preferred stock was cumulative. If the preferred stock were cumulative, the preferred stockholders' rights to the $36,000 dividends would continue until the company declares dividends. In business terminology, any undeclared dividends on cumulative preferred stock are said to be in arrears. Thus, the $36,000 undeclared dividends would be in arrears. When the company declares $126,000 cash dividends on March 1, the owners of the cumulative preferred stock have rights to $36,000 dividends from the previous year (in arrears) and $36,000 dividends from the current year, for a total of $72,000. The remaining $54,000 ($126,000 - $72,000) dividends would belong to the common stockholders.

Viewed over the Lowell Merchandising Corporation's two-year period, if the preferred stock were noncumulative, the preferred stockholders would receive only $36,000. On the other hand, if the preferred stock were cumulative, the preferred stockholders would receive $72,000. This additional dividend protection provided to preferred stockholders often makes the stock more attractive to them. As a result, investors are often willing to pay higher prices for cumulative preferred stock than for noncumulative preferred stock. The higher the price of the preferred stock, the more resources flowing into the corporation issuing the stock.

Other Preferred Stock Preferences

As corporations try to obtain resources, they can offer investors several preferred stock preferences in addition to rights to dividends and assets on liquidation. The preferences offered are determined by the corporations. The dollar amounts invested are determined by the investors.

Participating Preferred Stock One additional preferred stock preference sometimes offered is the right to receive dividends that exceed the amount or rate stated on the preferred stock certificates. This preference is referred to as the right to participate (or share) in corporate earnings and such preferred stock is known as participating preferred stock. Consider again the Lowell Merchandising Corporation's noncumulative preferred stock described earlier. The preferred stock has a par value of $100 per share and a dividend rate of 9%. Based on these conditions, the preferred stock's annual dividend per share is $9 (.09 x $100). As a result, the maximum dividend per share a preferred stockholder could receive would be $9. If, however, the preferred stock is participating preferred stock, the preferred stockholder could receive more than $9 per share.

For participating preferred stock, the amount of dividends to be received by the preferred stockholders is determined by the corporation. For example, the preferred stock can be fully participating, which means the preferred stockholders can receive the same percentage return on par value as common stockholders, as long as it exceeds the dividend rate specified on the preferred stock certificates (9% for Lowell Merchandising Corporation). On the other hand, preferred stock can be partially participating, which means under certain conditions the preferred stockholders can receive a dividend up to a certain dollar amount, $12 per share, for example.

When you enroll in more advanced accounting courses or finance courses, hopefully you will be exposed to the issues relating to participating preferred stock. At this point in your education, you should be aware of the fact that rights are offered to preferred stockholders in order to get them to invest resources in corporations. Participating preferred stock is just one source of resources for corporations. The vast majority of preferred stock issued to investors is not participating preferred stock.

Convertible Preferred Stock An additional right sometimes offered to preferred stockholders is a right to convert (or exchange) their shares of preferred stock for shares of common stock. Preferred stock that may be converted into common stock is called convertible preferred stock. The conditions under which shares of convertible preferred stock can be exchanged into shares of common stock are determined by the corporation.

Convertible preferred stock may be attractive to investors because it allows them to take advantage of increases in the market price of the company's common stock, without having to risk the effects of price decreases. Remember, as long as the Lowell Merchandising Corporation's preferred stockholders own their preferred stock, they know they can receive a dividend of $9 per share each year. Whether the common stock market price increases or decreases, as long as enough dividends are declared and distributed, the preferred stockholders will receive their $9 per share. On the other hand, if the market price of the common stock increases significantly, owners of convertible preferred stock can take advantage of the increases by exchanging their preferred stock for common stock.

When you enroll in other courses, hopefully you will be exposed to the issues relating to convertible preferred stock. Again, at this point in your education, you should be aware of the fact that rights are offered to preferred stockholders in order to get them to invest their resources in corporations. Convertible preferred stock is just one source of resources for corporations. The vast majority of preferred stock issued to investors is not convertible preferred stock.

The Process of Issuing Stock

Common and preferred stock are important sources of resources for U.S. corporations. To issue stock to obtain resources, corporations must comply with Securities and Exchange Commission regulations designed to provide some protection to individuals and companies who buy the shares. Similar to the discussion of bonds in Chapter 11, it is common for companies issuing stock to use the services of accountants, financial consultants, and lawyers to assist in the reporting required to meet SEC regulations. Additionally, companies issuing stock often use an underwriter who buys the shares from the issuing company and then sells them at a higher price to other interested parties. By using an underwriter, the company issuing the stock receives cash faster and does not have to find individual buyers for the shares.

** You now have the background to do exercises 12.10, 12.11, and 12.12.

Reacquiring Shares of Stock

As business opportunities and conditions change, companies may decide to acquire some of their own stock. For example, if interest rates fall significantly, companies may find it easy and inexpensive to borrow. If interest rates fall below the dividends rate on preferred stock, companies may decide to acquire and retire their preferred stock. Additionally, companies may want to purchase their own common stock to eliminate some troublesome owners, to obtain shares to use in upcoming mergers with other companies, or to make shares available to employees through employee compensation plans. Regardless of the reasons for reacquiring stock, the effects depend upon the stock purchased and the intent of management when the stock is purchased.

Reacquiring Common Stock When a company reacquires it own common stock, it has two primary options. First, the shares can be retired. Retired shares become part of the authorized but unissued shares and are available to be issued again at some time in the future. The second option a company can take with regard to reacquired shares is to hold them for uses such as mergers or employee compensation plans. Such shares of a company's own stock that have been issued to owners, reacquired from them, and are being held by the company are called treasury stock. The following paragraphs examine accounting for common stock reacquired and retired and shares reacquired and held (treasury stock).

Retiring common stock It is fairly common for U.S. corporations to purchase and retire their own common stock. For example, during the three years ended January 31, 2007, Federated Department Stores paid approximately $3.6 billion to purchase approximately 99.1 million shares of its common stock. (It may be worth noting that the market value of the stock averaged approximately $36 per share, even though its par value was $.01 per share.) When a company reacquires and retires its common stock, the company's resources and sources of resources both decrease by the dollar amount the company pays for the stock. For example, if on August 12, the Lowell Merchandising Corporation paid $80,000 cash for 10,000 shares of its $2 par value common stock, which it intends to retire, the company's resources and sources of resources would be affected as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|- $80,000 |= |

|Contributed Capital | |

|9% Preferred Stock, $100 par, 100,000 shares authorized, 4,000 shares issued | |

| |$400,000 |

|Common Stock, $2 par, 3,000,000 shares authorized, 500,000 shares issued | |

| |$1,000,000 |

|Additional Paid-in Capital, Preferred Stock |$20,000 |

|Additional Paid-in Capital, Common Stock |$3,000,000 |

|Total Contributed Capital |$4,420,000 |

|Retained Earnings |$3,500,000 |

|Total Stockholders' Equity |$7,920,000 |

Based on the Lowell Merchandising Corporation's balance sheet, when the company issued its common stock it received a total of $4,000,000 from its owners. Remember, when common stock is issued, the total par value of the shares issued is reported in the common stock account and the difference between the cash received and the total par value is reported in an additional paid-in capital account. Since the Lowell Merchandising Corporation's balance sheet reports $1,000,000 in the common stock account and $3,000,000 in the additional-paid in capital, common stock account, the company must have received $4,000,000 when it issued the shares ($1,000,000 + $3,000,000). Since the balance sheet also shows the company issued a total of 500,000 shares of common stock, the shares must have been issued at an average price of $8 ($4,000,000 / 500,000 shares). Thus, when the shares were originally issued, they brought in $6 per share more than their par value ($8 - $2 par). Since the company increased contributed capital by a total of $8 per share when it issued the common shares, it should reduce contributed capital by $8 per share when it retires them. The company's common stock account should be reduced by $20,000, which is the total par value of the 10,000 shares retired (10,000 shares x $2 par). Its additional paid-in capital, common stock account should be reduced by $60,000, which is the dollar amount received in excess of par value when the shares were originally issued (10,000 shares x $6). By acquiring its own stock at the same price ($80,000) as when the stock was originally issued to owners, the company's resources and sources of resources would be affected as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|- $80,000 |= | | |- $80,000 |

|Aug. 12 |Common Stock |321 |20,000 | |

| |Additional Paid-in Capital, Com. St. |322 |60,000 | |

| |Cash |111 | |80,000 |

| |Common stock retired | | | |

After the Lowell Merchandising Corporation retires the 10,000 shares of common stock, its August 12 stockholders' equity would be as follows.

|Stockholders' Equity | |

|Contributed Capital | |

|9% Preferred Stock, $100 par, 100,000 shares authorized, 4,000 shares issued | |

| |$400,000 |

|Common Stock, $2 par, 3,000,000 shares authorized, 490,000 shares issued | |

| |$980,000 |

|Additional Paid-in Capital, Preferred Stock |$20,000 |

|Additional Paid-in Capital, Common Stock |$2,940,000 |

|Total Contributed Capital |$4,340,000 |

|Retained Earnings |$3,500,000 |

|Total Stockholders' Equity |$7,840,000 |

When compared with the company's stockholders' equity shown earlier, the company's common stock account reflects the $20,000 reduction and its additional paid-in capital, common stock reflects the $60,000 reduction. In addition, the company's authorized common stock remained at 3,000,000 shares but its issued shares fell from 500,000 to 490,000. This is logical since the company retired 10,000 shares and, thus, took them out of the hands of owners.

Finally, with regard to the retirement of common stock, if to acquire its own stock the Lowell Merchandising Corporation had to pay a higher price than it received when the stock was issued, the difference between the price paid and the issued price would be reported as a reduction of retained earnings. For example, if the company had to pay $98,000 to retire common stock it issued for $80,000, the $18,000 difference ($98,000 - $80,000) would be recorded as a reduction of retained earnings. If to acquire its own stock the Lowell Merchandising Corporation had to pay a lower price than it received when the stock was issued, the difference between the price paid and the issued price would be reported as an increase in contributed capital (not retained earnings). In the vast majority of cases in which company's acquire their own shares and retire them, the prices paid to reacquire the shares greatly exceed the prices at which the shares were originally issued to owners. As a result, stock retirement can significantly reduce companies' retained earnings. Hopefully, these complications will be examined more fully when you enroll in more advanced accounting or finance courses.

** You now have the background to do exercise 12.13.

Treasury Stock As stated earlier, treasury stock is a company's own stock issued to owners, reacquired from them, and being held by the company for future use. Such shares of stock held by the corporation do not have any rights associated with them. That is, the corporation does not have a right to vote for the board of directors, receive dividends, or receive resources when the company goes out of business.

Similar to when a corporation retires its stock, when a corporation acquires treasury stock its resources are reduced and its stockholders' equity is reduced. For example, if instead of retiring 10,000 shares of its common stock, as discussed in the previous section, the Lowell Merchandising Corporation paid $80,000 to purchase 10,000 shares with the intent to hold them for future use, its accounting equation would be affected as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|- $80,000 |= | | | |

|Aug. 12 |Treasury Stock |321 |80,000 | |

| |Cash |111 | |80,000 |

| |Treasury stock purchased | | | |

After the Lowell Merchandising Corporation acquires the 10,000 shares of common stock and holds the shares rather than retiring them, its August 12 stockholders' equity would be as follows.

|Stockholders' Equity | |

|Contributed Capital | |

|9% Preferred Stock, $100 par, 100,000 shares authorized, 4,000 shares issued | |

| |$400,000 |

|Common Stock, $2 par, 3,000,000 shares authorized, 500,000 shares issued | |

| |$1,000,000 |

|Additional Paid-in Capital, Preferred Stock |$20,000 |

|Additional Paid-in Capital, Common Stock |$3,000,000 |

|Total Contributed Capital |$4,420,000 |

|Retained Earnings |$3,500,000 |

|Less: Treasury Stock, 10,000 common shares |($80,000) |

|Total Stockholders' Equity |$7,840,000 |

A comparison of the company's stockholders' equity after the retirement of common stock, as shown in the previous section, with the stockholders' equity section shown above, reveals both result in $80,000 reductions of stockholders' equity. The only significant difference is where the reduction is reported. If common stock is retired, the company's common stock account and its additional paid-in capital account are reduced. Retained earnings may be decreased if the price paid to reacquire the stock is higher than the price at which the stock was originally issued to owners. If, on the other hand, reacquired stock is held as treasury stock, common stock, additional paid-in capital, and retained earnings remain unchanged and the stockholders' equity reduction is reported in the treasury stock account. Note that since the treasury stock account has a debit balance, it is a contra stockholders' equity account.

In addition, in both instances the company's authorized common stock remained unchanged at 3,000,000 shares while its shares in the hands of owners (outstanding shares) were reduced to 490,000. If the 10,000 shares were retired, the 490,000 outstanding shares were reported in the common stock account simply as issued shares. However, if the 10,000 shares purchased were reported as treasury stock, the 500,000 shares continued to be reported in the common stock account as issued, and the outstanding shares had to be calculated by subtracting the 10,000 treasury shares from the 500,000 issued shares. The 10,000 treasury shares are not considered outstanding because when a corporation holds its own shares, it is not entitled to vote those shares, receive dividends, or receive assets on liquidation.

Finally, with regard to treasury stock, if the Lowell Merchandising Corporation eventually sells its treasury shares at a price different from the price paid when the treasury stock was purchased, the difference between the price received and the price paid would affect contributed capital and possibly retained earnings, depending upon the relationship between the prices. Hopefully, these complications will also be examined more fully when you enroll in more advanced accounting or finance courses.

** You now have the background to do exercises 12.14 and 12.15.

Reacquiring Preferred Stock Similar to the reacquisition of common stock, companies can purchase their own preferred stock to retire it or to hold as treasury stock. From a business standpoint, the effects of reacquiring preferred stock are similar to the effects of reacquiring common stock, as described above: resources and sources of resources (stockholders' equity) are both reduced by the dollar amount paid to reacquire the preferred stock. Since, historically, very few companies acquire their own preferred stock and hold it as treasury stock, the following paragraphs describe only the reacquisition and retirement of preferred stock.

Retiring preferred stock Investors purchase preferred stock for its dividends, which may be cumulative or noncumulative, for rights to resources on liquidation, and, in some cases, for the right to participate in income or to convert preferred shares into common shares. In order to provide such investors with some additional protection, one of the features of preferred stock is its reacquisition price may be specified at the time the company issues the stock to investors. This reacquisition price is referred to as the call price. The call price of preferred stock is usually stated as a percentage of par value and is set slightly higher than the price at which the preferred stock is originally issued. This call feature allows companies to quickly retire their preferred stock should their business situations change, while at the same time providing investors with an incentive to sell their preferred shares.

To illustrate the effects of the call price on the retirement of preferred stock, recall the Lowell Merchandising Corporation's 9%, $100 par, preferred stock discussed earlier. When the stock was issued, its market price was $105 per share. Remember, the company issued 4,000 shares and received $420,000 ($420,000 / 4,000 shares = $105). Assume, also, the preferred stock was issued with a call price of 108, meaning the Lowell Merchandising Corporation can reacquire its preferred stock at a price of $108 per share. The call price is usually stated as a percentage of par value. Since the company's preferred stock has a par value of $100, 108% of $100 is $108 ($100 par value x 1.08). If on September 11, the Lowell Merchandising Corporation recalls its 4,000 preferred shares, the company would have to pay investors $432,000 (4,000 shares x $108 per share call price), which would affect the company's accounting equation as follows.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

|- $432,000 |= | | |- $400,000 |

|Sept. 11 |Preferred Stock |311 |400,000 | |

| |Additional Paid-in Capital, Pref. St. |312 |20,000 | |

| |Retained Earnings |389 |12,000 | |

| |Cash |111 | |432,000 |

| |Preferred stock retired | | | |

The $12,000 reduction of retained earnings in the above entry is worth noting. This extra $12,000 paid to owners may be viewed as an additional dividend paid to get them to retire their ownership interests. Technically, it is not a dividend, but it may be thought of that way. This $12,000 should not be accounted for as an expense because, in business, revenues and expenses result primarily from transactions between a company and its customers, not between a company and its owners. Furthermore, a second reason for not treating the $12,000 extra payment as an expense is that the decision to retire preferred stock is the responsibility of the board of directors, not management.

** You now have the background to do exercise 12.16.

Controlling Contributed Capital

Contributed capital is controlled in business in many ways, two of which will be briefly described in this chapter: (1) authority and (2) ratios.

Authority As discussed in previous chapters, companies frequently establish policies defining the limits of managers' authority. In fact, the control of contributed capital is so important to corporations that the authority for contributed capital decision making rests in the hands of the board of directors, not managers. The board of directors is responsible for determining the number of shares of preferred stock and common stock to be issued, dividends declaration, stock retirement, and treasury stock purchases and sales. Decisions about all these items directly impact corporate owners. Since owners elect the members of the board of directors, decisions about these items carefully take into consideration the best interests of owners.

Ratios Ratios are often used to assist decision-makers. With regard to contributed capital, two ratios frequently calculated are the debt to equity ratio and return on common stockholders' equity.

Debt to equity ratio Companies can obtain resources through borrowing, owners' investments, and management operations. Companies are concerned about the relationships among these sources. For example, if a company previously obtained most of its resources through borrowing, it may be quite costly for it to obtain additional resources that way. On the other hand, if most resources were obtained from owners, borrowing additional resources could be relatively inexpensive. The debt to equity ratio is one measure of the relationship between sources of resources and is calculated as follows.

Debt to equity ratio = total liabilities / total stockholders' equity

The debt to equity ratio measures the amount of resources obtained through borrowing in relation to the amount obtained from owners and generated by management. In general, because borrowing resources requires interest payments and repayment of principal, the larger the debt to equity ratio, the larger the risk for the company and its creditors. To manage this risk, companies monitor their debt to equity ratios, trying to keep within a range they believe is desirable. Exhibit 12-4 presents the debt to equity ratios of three merchandising companies. As the data show, all three companies had quite similar debt to equity ratios. The data suggest that the three companies are comparable in their reliance on borrowing as a source of resources.

|Exhibit 12-4 |

|Debt to Equity Ratios |

|January 31, 2007 |

|Company |Debt to Equity |

|Federated Department Stores |1.41 |

|Target |1.39 |

|Wal-Mart |1.46 |

Return on common stockholders' equity Since common stockholders are the primary owners of corporations, it is important their interests be considered in decision making. One measure of how decisions affect common stockholders is the return on common stockholders' equity, which is calculated as follows.

|Return on common stockholders' | |Net income available to common | |Average common stockholders' equity |

|equity |= |stockholders |/ | |

The return on common stockholders' equity attempts to relate a company's resources generated by management during a period (net income) to the dollar amount of resources used by management and provided by common stockholders. If the company's owners are all common stockholders, the net income available to common stockholders is simply the company's net income. If, however, the company has both preferred and common stockholders, the net income available to common stockholders equals the company's net income less any preferred stock dividends. This reduction is necessary because the common stockholders do not have a right to all net income. Remember, preferred stockholders have rights to their dividends. The formula's denominator is average common stockholders' equity in order to make the amount in the denominator comparable to the numerator. Remember, net income is generated over a time period, usually twelve months. Thus, the measure of common stockholders' equity must also be for the same twelve month time period, not just for one day of that period. Common stockholders' equity is calculated by subtracting the dollar amount of preferred stock from total stockholders' equity. Thus, average common stockholders' equity is simply the total of common stockholders' equity at the beginning of the period plus common stockholders' equity at the end of the period divided by two.

As was the case with the debt to equity ratio discussed above, companies monitor their return on common stockholders' equity, trying to keep within a range they believe is desirable. Most companies attempt to increase their return on common stockholders' by increasing net income. Some companies also try to increase their return on stockholders' equity by retiring common stock and thereby reducing stockholders' equity. Exhibit 12-5 presents the return on common stockholders' equity of three merchandising companies. As the data show, the returns differed among the companies. For example, Wal-Mart reported a high of 19.7% while Federated Department Stores reported a low of 7.7%. The data suggest Wal-Mart's management did a better job of using resources provided by owners than Federated Department Stores'.

|Exhibit 12-5 |

|Return on Common Stockholders' Equity |

|January 31, 2007 |

| |Return on Common |

|Company |Stockholders' Equity |

|Federated Department Stores |7.7% |

|Target |18.7% |

|Wal-Mart |19.7% |

** You now have the background to do exercise 12.17.

Financial Statement Reporting of Contributed Capital

Contributed capital is reported in stockholders' equity on the balance sheet. Reported in the contributed capital section are par values of total preferred stock and common stock shares issued and amounts received in excess of par (additional paid-in capital accounts). Cash received when preferred stock or common stock is issued is reported as an asset. Finally, the cost of those shares of the company's own stock issued, reacquired by the company, and still being held is reported in the treasury stock account.

|Assets | | |

|Current Assets | | |

|Cash | |$18,380 |

|Accounts Receivable |$75,000 | |

|Less: Allowance for Uncollectible Accounts |$1,500 |$73,500 |

|Merchandise Inventory | |$210,000 |

|Total Current Assets | |$301,880 |

|Property, Plant, and Equipment | | |

|Land | |$30,000 |

|Buildings |$120,000 | |

|Less: Accumulated Depreciation |$40,000 |$80,000 |

|Machinery & Equipment |$150,000 | |

|Less: Accumulated Depreciation |$50,000 |$100,000 |

|Autos & Trucks |$95,000 | |

|Less: Accumulated Depreciation |$55,000 |$40,000 |

|Total Property, Plant, & Equipment | |$250,000 |

|Total Assets | |$551,880 |

| | | |

|Liabilities and Stockholders' Equity | | |

|Liabilities | | |

|Current Liabilities | | |

|Notes Payable | |$34,500 |

|Accounts Payable | |$84,490 |

|Taxes Payable | |$11,900 |

|Current Portion of Long-term Debt | |$28,000 |

|Total Current Liabilities | |$158,890 |

|Long-term Liabilities | | |

|Long-term Debt | |$146,400 |

|Deferred Taxes | |$10,500 |

|Obligations Under Capital Leases | |$27,100 |

|Total Long-term Liabilities | |$184,000 |

|Total Liabilities | |$342,890 |

|Stockholders' Equity | | |

|Contributed Capital | | |

|7% Preferred Stock, $100 par, noncumulative, 1,000 authorized, 100 shares issued | | |

| | |$10,000 |

|Common Stock, $1 par, 10,000 shares authorized, 5,000 issued | | |

| | |$5,000 |

|Additional Paid-in Capital, Preferred Stock | |$700 |

|Additional Paid-in Capital, Common Stock | |$23,100 |

|Total Contributed Capital | |$38,800 |

|Retained Earnings | |$170,365 |

|Less: Treasury Stock, 25 common shares | |($175) |

|Total Stockholders' Equity | |$208,990 |

|Total Liabilities and Stockholders' Equity | |$551,880 |

The various activities that gave rise to contributed capital result from transactions between a company and its owners, not between a company and its customers. The results of such events do not affect the company's income statement.

|Sales | |$400,000 |

|Cost of Goods Sold | |$160,000 |

|Gross Profit | |$240,000 |

|Operating Expenses | | |

|Salaries and Wages Expense |$103,000 | |

|Depreciation Expense |$10,000 | |

|Supplies Expense |$3,000 | |

|Utilities Expense |$9,000 | |

|Rent and Insurance Expense |$14,000 | |

|Uncollectible Accounts Expense |$1,000 | |

|Total Operating Expenses | |$140,000 |

|Income from Operations | |$100,000 |

|Other Revenues and (Expenses) | |($1,000) |

|Income Before Taxes | |$99,000 |

|Income Taxes Expense | |$34,650 |

|Income Before Extraordinary Items | |$64,350 |

|Extraordinary Item: Loss on Early Retirement | | |

|of Long-term Debt (net of taxes of $140) | |($260) |

|Net Income | |$64,090 |

** You now have the background to do exercises 12.18 and problems 12.1 and 12.2.

Chapter 12 Critical Points

• Owners are important sources of resources for companies.

• The source of resources invested by owners of corporations is reported as contributed capital.

• Corporations are businesses whose legal existence is separate from their owners.

• Corporations have rights to enter into contracts.

• Three important parts of corporations are owners, boards of directors, and managers.

• Corporate owners have limited liability. They are liable only for the dollar amounts they invest.

• Boards of directors represent owners and are responsible for corporate major decisions, such as dividends.

• Preferred stockholders often have first rights (preferences) to dividends and assets on liquidation.

• Cumulative preferred stock provides some dividends protection to preferred stockholders.

• Common stockholders have rights to their investments plus those resources generated by management to which preferred stockholders do not have rights.

• The par values of preferred stock shares and common stock shares issued are reported in the preferred stock and common stock accounts.

• Any amount received in excess of a stock's par value is reported in an additional paid-in capital account.

• When a company retires shares of its stock, assets, contributed capital, and, in some cases retained earnings are reduced.

• The cost of shares of a corporation's own stock that were issued, reacquired, and are being held is reported as treasury stock.

• Two ratios used to help control contributed capital are the debt to equity ratio and the return on common stockholders' equity.

• The following major topics have been examined so far.

|Assets |= |Liabilities |+ |Stockholders' Equity |

|Current Assets | |Current Liabilities | |Contributed Capital |

|Cash and Cash Equivalents (6) | |Notes Payable (10) | |Preferred Stock (12) |

|Accts. Receivable (7) | |Accounts Payable (10) | |Common Stock (12) |

|Allowance for Uncollectible Accounts (7) | |Taxes Payable (10) | |Additional Paid-in |

|Merchandise | |Current Portion of Long-term Debt (10) | |Capital (12) |

|Inventory (8) | |Long-term Liabilities | |Retained Earnings (13) |

|Property, Plant, & Equipment | |Bonds Payable (11) | |Treasury Stock (12) |

|Land (9) | |Deferred Taxes (11) | |Dividends (12) |

|Buildings (9) | |Obligations Under Capital Leases (11) | |Revenues |

|Accum. Depr., Buildings (9) | | | |Sales (7) |

|Equipment (9) | | | |Sales Returns & Allowances (7) |

|Accum. Depr., Equipment (9) | | | |Cost of Goods Sold (8) |

|Autos & Trucks (9) | | | |Operating Expenses |

|Accum. Depr., Autos & Trucks (9) | | | |Uncollectible Accts. Expense (7) |

| | | | |Depreciation |

| | | | |Expense (9) & (11) |

| | | | |Salary & Wages Expense (10) |

| | | | |Payroll Taxes |

| | | | |Expense (10) |

| | | | |Bank Service Exp. (6) |

| | | | |Other Revenues & Expenses |

| | | | |Interest Revenue (6) |

| | | | |Interest |

| | | | |Expense (6) & (11) |

| | | | |Gain or Loss on Disposal of Prop., Plt., &|

| | | | |Eq. (9) |

| | | | |Income Taxes |

| | | | |Expense (10) |

| | | | |Extraordinary Items |

| | | | |Gain or Loss on Early Retirement of |

| | | | |Bonds (11) |

Chapter Twelve Questions

1. Define the term contributed capital.

2. Identify three basic forms of business.

3. Define the term corporation.

4. Why is limited liability important to owners of corporations?

5. List two responsibilities that increase when companies incorporate.

6. Identify three major rights of stockholders.

7. Identify two important responsibilities of corporate boards of directors.

8. Identify the major responsibility of managers.

9. Define the term authorized shares.

10. Define the term issued shares.

11. How is par value used to record the issuance of stock?

12. List two preferences preferred stockholders have over common stockholders.

13. What effects do cash dividends have on resources and sources of resources?

14. What right does the cumulative feature give preferred stockholders?

15. What two primary options does a corporation have when it reacquires its stock?

16. What effects does the retirement of stock have on resources and sources of resources?

17. What is treasury stock and where is it reported in the financial statements?

18. What is the purpose of a preferred stock call price?

19. State the formula for calculating the debt to equity ratio.

20. State the formula for calculating the return on common stockholders' equity.

21. Identify three major components of contributed capital.

Chapter Twelve Exercises

Exercise 12.1: Common Stock Cash Receipts

The creators of the Lamirande Corporation are considering various alternatives as they prepare the corporation's charter. For each of the three alternatives below, calculate the total cash the Lamirande Corporation would receive if it issues all the authorized common stock.

1. 5,000,000 shares authorized, $1 par value per share, $4 expected market price per share.

2. 8,000,000 shares authorized, $.50 par value per share, $2.50 expected market price per share.

3. 10,000,000 shares authorized, $.10 par value per share, $2 expected market price per share.

Exercise 12.2: Authorized and Issued Common Stock

The founders of the Capozzi Corporation estimate the corporation will need $25,000,000 in order for it to have a reasonable chance to succeed once it begins operations. The founders intend to contribute a total of $5,000,000 and hope to raise the other $20,000,000 by having the corporation issue $1 par common stock. The corporation is authorized to issue a total of 4,000,000 common shares. For their $5,000,000 investment, the founders will receive 2,100,000 common shares.

1. Calculate the price per share the corporation must receive in order to raise $20,000,000 by issuing 800,000 common shares to the public.

2. Calculate the price per share the corporation must receive in order to raise $20,000,000 by issuing 1,000,000 common shares to the public.

3. Calculate the price per share the corporation must receive in order to raise $20,000,000 by issuing 1,250,000 common shares to the public.

Exercise 12.3: Par value and Legal Capital

The Bailey Corporation's December 31 balance sheet included the following information.

|Total assets |$100,000,000 |

|Total liabilities |$60,000,000 |

|Stockholders' equity | |

|Contributed Capital | |

|Common stock, $1 par, 30,000,000 shares issued |$30,000,000 |

|Retained earnings |$10,000,000 |

|Total stockholders' equity |$40,000,000 |

1. Calculate the percentage of the Bailey Corporation's assets obtained from creditors (borrowed).

2. Calculate the percentage of the Bailey Corporation's assets obtained from owners.

3. Calculate the percentage of the Bailey Corporation's assets generated by management and kept in the company.

Assume on January 2, the Bailey Corporation used $25,000,000 cash to buy back and retire (eliminate) 25,000,000 shares of its common stock.

4. Calculate the percentage of the Bailey Corporation's $75,000,000 assets obtained from creditors (borrowed).

5. Calculate the percentage of the Bailey Corporation's $75,000,000 assets obtained from owners.

6. Calculate the percentage of the Bailey Corporation's assets generated by management and kept in the company.

7. As a result of its January 2 stock purchase, has the risk to creditors changed?

Exercise 12.4: Ownership Interests: Common Stock

The Anderson Investment Corporation manages financial investments for over 4,000 different investors. As part of its operations, the Anderson Investment Corporation acquired 300,000 shares of Gehring Corporation common stock, 500,000 shares of Philbin Corporation common stock, and 800,000 shares of Wyman Corporation common stock. The Gehring Corporation has a total of 15,000,000 common shares outstanding, Philbin Corporation has 12,500,000 common shares outstanding, and Wyman Corporation has 10,000,000 common shares outstanding.

1. Calculate the percentage of the Gehring Corporation owned by the Anderson Investment Corporation.

2. Calculate the percentage of the Philbin Corporation owned by the Anderson Investment Corporation.

3. Calculate the percentage of the Wyman Corporation owned by the Anderson Investment Corporation.

4. Calculate the dollar amount of dividends the Anderson Investment Corporation will receive if the Gehring Corporation pays total cash dividends of $20,000,000 to common stockholders, the Philbin Corporation pays total cash dividends of $30,000,000 to common stockholders, and the Wyman Corporation pays total cash dividends of $25,000,000 to common stockholders.

Exercise 12.5: Common Stock: Cash Payments for Dividends

Over the last several years, the Hathaway Corporation maintained a policy of paying annual cash dividends of $.50 per share. For each of the last three years, calculate the Hathaway Corporation's cash payments for dividends on common stock.

Year one: 20,000,000 shares authorized, $.01 par value per share, 6,000,000 shares outstanding.

Year two: 20,000,000 shares authorized, $.01 par value per share, 6,500,000 shares outstanding.

Year three: 20,000,000 shares authorized, $.01 par value per share, 7,000,000 shares outstanding.

Exercise 12.6: Common Stock: Cash Payments at Liquidation

As a result of experiencing extreme financial difficulty for the past six years, the Grundy Corporation decided to cease operating on September 30. The company's September 30 balance sheet included the following information.

|Total assets |$150,000,000 |

|Total liabilities |$100,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|Common stock, $1 par, 20,000,000 shares issued |$20,000,000 |

|Additional paid-in capital, common stock |$40,000,000 |

|Total contributed capital |$60,000,000 |

|Retained earnings (deficit) |($10,000,000) |

|Total stockholders' equity |$50,000,000 |

The company estimates it can sell all its assets for $135,000,000 cash. The company intends to pay its creditors in full.

1. Calculate the total dollar amount of cash the company will have available to distribute to owners after it sells its assets and pays it creditors.

2. Calculate the cash per share the company will have available to distribute to owners.

3. Calculate the amount of cash you would receive if you own 100,000 shares of Grundy Corporation common stock.

4. Using the results of part 3, calculate the change in your resources if you had originally purchased the shares for $2 each.

Exercise 12.7: Common Stock and Cash Dividends Journal Entries

The LeBlanc Corporation's April 30 balance sheet included the following information.

|Total assets |$2,000,000,000 |

|Total liabilities |$1,200,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|Common stock, $.50 par, 40,000,000 shares issued |$20,000,000 |

|Additional paid-in capital, common stock |$630,000,000 |

|Total contributed capital |$650,000,000 |

|Retained earnings |$150,000,000 |

|Total stockholders' equity |$800,000,000 |

Prepare journal entries to record the corporation's following transactions. Before you prepare each journal entry, determine the transaction's effects on the company's resources and sources of resources.

May 1: 750,000 shares of common stock issued at an average price of $22 per share.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|May 1 | | | | |

| | | | | |

| | | | | |

| | | | | |

June 30: Cash dividends of $.10 per share declared. Dividends will be paid on July 15.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|June 30 | | | | |

| | | | | |

| | | | | |

July 15: Cash dividends paid.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|July 15 | | | | |

| | | | | |

| | | | | |

Exercise 12.8: Preferred Stock: Cash Receipts and Dividends Requirements

The Parson's Corporation's June 30 balance sheet included the following information.

|Total assets |$500,000,000 |

|Total liabilities |$300,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|Common stock, $.05 par, 200,000,000 shares issued |$10,000,000 |

|Additional paid-in capital, common stock |$140,000,000 |

|Total contributed capital, common stock |$150,000,000 |

|Retained earnings |$50,000,000 |

|Total stockholders' equity |$200,000,000 |

The company intends to raise $100,000,000 by issuing $100 par value, 8% preferred stock. The company predicts the preferred stock will sell at par value.

1. Calculate the number of preferred shares the company must issue in order to raise $100,000,000.

2. Calculate the total dollar amount of cash the company must have available if it intends to pay preferred stockholders the full amount of their cash dividends.

3. Calculate the total amount of cash dividends you would receive if you owned 30 shares of the Parsons Corporation's preferred stock.

Exercise 12.9: Preferred Stock and Cash Dividends Journal Entries

The Thomas Corporation's February 28 balance sheet included the following information.

|Total assets |$4,000,000,000 |

|Total liabilities |$2,900,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|8% Preferred Stock, $100 par, 6,000,000 shares issued |$600,000,000 |

|Common stock, $1 par, 50,000,000 shares issued |$50,000,000 |

|Additional paid-in capital, common stock |$200,000,000 |

|Total contributed capital |$850,000,000 |

|Retained earnings |$250,000,000 |

|Total stockholders' equity |$1,100,000,000 |

Prepare journal entries to record the corporation's following transactions. Before you prepare each journal entry, determine the transaction's effects on the company's resources and sources of resources.

June 1: 100,000 additional shares of 8%, $100 par preferred stock issued at a price of $105 per share.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|June 1 | | | | |

| | | | | |

| | | | | |

| | | | | |

February 15: Cash dividends were declared and will be paid on March 1. Dividends per common share were $.20.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|Feb. 15 | | | | |

| | | | | |

| | | | | |

March 1: Cash dividends paid.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|March 1 | | | | |

| | | | | |

| | | | | |

Exercise 12.10: Common Stock and Preferred Stock: Cash Payments at Liquidation

The Simpson Corporation decided to cease operating on January 31. The company's January 31 balance sheet included the following information.

|Total assets |$180,000,000 |

|Total liabilities |$110,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|7% preferred stock, $100 par, 200,000 shares issued |$20,000,000 |

|Common stock, $1 par, 12,000,000 shares issued |$12,000,000 |

|Additional paid-in capital, common stock |$46,000,000 |

|Total contributed capital |$78,000,000 |

|Retained earnings (deficit) |($8,000,000) |

|Total stockholders' equity |$70,000,000 |

One of the features of the preferred stock requires each share receive $110 if the firm is liquidated. The company estimates it can sell all its assets for $162,000,000 cash. The company intends to pay its creditors in full.

1. Calculate the total dollar amount of cash the company will have available to distribute to owners (preferred stockholders and common stockholders) after its creditors are paid.

2. Calculate the total dollar amount of cash the company will pay to preferred stockholders.

3. Calculate the total dollar amount of cash the company will have available to distribute to common stockholders.

4. Calculate the cash per share the company will have available to distribute to common stockholders.

5. Calculate the amount of cash you would receive if you own 50,000 shares of Simpson Corporation common stock.

6. Using the results of part 5, calculate the change in your resources if you had originally purchased the common shares for $7 each.

Exercise 12.11: Common Stock and Cumulative Preferred Stock: Cash Dividends

The Bosch Corporation's March 31 balance sheet included the following information.

|Total assets |$325,000,000 |

|Total liabilities |$200,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|9%, cumulative preferred stock, $100 par, 300,000 shares issued | |

| |$30,000,000 |

|Common stock, $1 par, 20,000,000 shares issued |$20,000,000 |

|Additional paid-in capital, common stock |$46,000,000 |

|Total contributed capital |$96,000,000 |

|Retained earnings |$29,000,000 |

|Total stockholders' equity |$125,000,000 |

All preferred stock was issued five years ago. All dividends on preferred stock for prior years have been paid. Total dividends declared and paid in the year ended March 31 were $6,000,000.

1. Calculate the total dollar amount of dividends paid to preferred stockholders in the year ended March 31.

2. Calculate the total dollar amount of dividends paid to common stockholders in the year ended March 31.

3. Calculate the common stock cash dividends per share paid in the year ended March 31.

4. Calculate the total amount of cash dividends you would have received if you owned 500 shares of Bosch Corporation preferred stock.

5. Calculate the total amount of cash dividends you would have received if you owned 2,500 shares of Bosch Corporation common stock.

6. Assume that the company neither declared nor paid any cash dividends in the previous year. Calculate the total dollar amount of cash dividends paid to preferred stockholders in the current year ended March 31.

7. Assume that the company neither declared nor paid any cash dividends in the previous year. Calculate the total dollar amount of cash dividends paid to common stockholders in the current year ended March 31.

8. Assume that the company neither declared nor paid any cash dividends in the previous year. Calculate the common stock cash dividends per share paid in the current year ended March 31.

9. Assume that the company neither declared nor paid any cash dividends in the previous year. Calculate the total amount of cash dividends you would have received in the current year if you owned 500 shares of Bosch Corporation preferred stock.

10. Assume that the company neither declared nor paid any cash dividends in the previous year. Calculate the total amount of cash dividends you would have received in the current year if you owned 2,500 shares of Bosch Corporation common stock.

Exercise 12.12: Preferred Stock Preferences

The Cuellar Corporation is attempting to raise approximately $50,000,000 by issuing preferred stock. With the aid of an underwriter, the company is exploring the three different options listed below. Assuming it is the company's intention to declare and pay all preferred stock dividends each year, calculate the total cash dividends the company will pay each year under each of the three options.

Option 1: 9%, noncumulative preferred stock, $100 par. 500,000 shares will be issued at a price of $100 per share.

Option 2: 10% noncumulative preferred stock, $100 par. 450,000 shares will be issued at a price of $111.11 per share.

Option 3: 10% cumulative preferred stock, $100 par. 440,000 shares will be issued at a price of $113.64 per share.

Exercise 12.13: Common Stock Retirement

Over the past few years, the Luciano Corporation's cash balance increased significantly. As a result, the company decided to purchase and retire 5,000,000 shares of its common stock. The company's December 31 balance sheet included the following information.

|Total assets |$1,180,000,000 |

|Total liabilities |$610,000,000 |

|Stockholders' equity | |

|Contributed capital | |

|Common stock, $2 par, 50,000,000 shares authorized, 32,000,000 shares issued | |

| |$64,000,000 |

|Additional paid-in capital, common stock |$96,000,000 |

|Total contributed capital |$160,000,000 |

|Retained earnings |$410,000,000 |

|Total stockholders' equity |$570,000,000 |

1. Calculate the average price per share the Luciano Corporation received when it issued its 32,000,000 shares of common stock.

2. Calculate the total amount of cash the Luciano Corporation must pay if it can reacquire the 5,000,000 shares of its common stock at the same price per share it received when they were issued.

3. Calculate the total number of common shares issued and outstanding after the 5,000,000 shares are retired.

4. Prepare the Luciano Corporation's balance sheet stockholders' equity section after the 5,000,000 shares are retired.

5. Assume that the Luciano Corporation had to pay $9 per share to retire the 5,000,000 common shares. Prepare the Luciano Corporation's balance sheet stockholders' equity section after the 5,000,000 shares are retired.

Exercise 12.14: Treasury Stock Effects on Stockholders' Equity

The stockholders' equity section of the Callahan Corporation's June 30 balance sheet is as follows.

|Stockholders' Equity | |

|Contributed Capital | |

|8% Preferred stock, $100 par, 200,000 shares authorized, 75,000 shares issued | |

| |$7,500,000 |

|Common stock, $1 par, 3,000,000 shares authorized, 1,200,000 shares issued | |

| |$1,200,000 |

|Additional paid-in capital, common stock |$6,000,000 |

|Total contributed capital |$14,700,000 |

|Retained earnings |$9,300,000 |

|Total Stockholders' Equity |$24,000,000 |

1. The Callahan Corporation intends to purchase 50,000 shares of its own common stock on July 15 and hold the shares for future use. Calculate the total amount of cash the company will need to purchase the stock if the market price is $14 per share.

2. Prepare the journal entry required to record the company's July 15 purchase of its own stock. Before you prepare the journal entry, determine the transaction's effects on the company's resources and sources of resources.

| | |Sources of Borrowed | |Sources of Owner Invested | |Sources of Management Generated |

|Total Resources |= |Resources |+ |Resources |+ |Resources |

|Assets |= |Liabilities |+ |Stockholders' Equity |

| | | | | | | |

| | |Posting Ref. | | |

|Date |Description | |Debits |Credits |

|July 15 | | | | |

| | | | | |

| | | | | |

| | | | | |

3. Determine the company's number of authorized shares of common stock after the July 15 stock purchase.

4. Determine the company's number of issued shares of common stock after the July 15 stock purchase.

5. Determine the company's number of outstanding shares of common stock after the July 15 stock purchase.

6. Prepare the stockholders' equity section of the Callahan Corporation's balance sheet after the July 15 stock purchase.

Exercise 12.15: Treasury Stock Effects on Dividends

The stockholders' equity section of the Desrosiers Corporation's September 30 balance sheet is as follows.

|Stockholders' Equity | |

|Contributed capital | |

|11% Preferred stock, $100 par, 500,000 shares authorized, 300,000 shares issued | |

| |$30,000,000 |

|Common stock, $.50 par, 10,000,000 shares authorized, 6,200,000 shares issued | |

| |$3,100,000 |

|Additional paid-in capital, common stock |$43,400,000 |

|Total contributed capital |$76,500,000 |

|Retained earnings |$15,900,000 |

|Less: Treasury stock, 200,000 shares |$1,800,000 |

|Total Stockholders' Equity |$90,600,000 |

1. Determine the company's number of outstanding shares of common stock on September 30.

2. Calculate the average price at which the treasury stock was acquired.

3. Calculate the dividends per share to be paid to common stockholders if the company declares total cash dividends of $5,700,000.

4. Calculate the total cash dividends you would receive if you owned 1,000 shares of the Desrosiers Corporation's preferred stock and 3,000 shares of its common stock.

Exercise 12.16: Preferred Stock Retirement

On February 4, the Peatfield Corporation called and retired 10,000 shares of its $100 par, 7% preferred stock. The preferred stock call price was $106. Prior to the recall, the stockholders' equity section of the company's balance sheet was as follows.

|Stockholders' equity | |

|Contributed capital | |

|7% preferred stock, $100 par, 100,000 shares authorized, 80,000 shares issued | |

| |$8,000,000 |

|Common stock, $1 par, 5,000,000 million shares authorized, 4,000,000 shares issued | |

| |$4,000,000 |

|Additional paid-in capital, common stock |$10,000,000 |

|Total contributed capital |$22,000,000 |

|Retained earnings |$64,000,000 |

|Total stockholders' equity |$86,000,000 |

1. Calculate the total dollar amount of cash paid by the Peatfield Corporation to retire the 10,000 shares of its preferred stock.

2. Prepare the stockholders' equity section of the Peatfield Corporation's balance sheet after the 10,000 shares of preferred stock are retired.

Exercise 12.17: Debt to Equity Ratio and Return on Common Stockholders' Equity

For the year ended December 31, Year 6 the Cronin Corporation reported net income of $6,940,000. During the year, the company declared and paid cash dividends of $2,440,000. On December 31, Year 6 and Year 5, the company's balance sheets were as follows.

| |12/31/Year 6 |12/31/Year 5 |

|Total Assets |$140,000,000 |$126,000,000 |

|Total Liabilities |100,000,000 |91,000,000 |

|Stockholders' equity | | |

|Contributed capital | | |

|6% preferred stock, $100 par, 50,000 shares authorized, 40,000 shares issued | | |

| |4,000,000 |4,000,000 |

|Common stock, $.10 par, 10,000,000 shares authorized, 7,000,000 shares issued as of 12/31/Year | | |

|6, 6,000,000 shares issued as of 12/31/Year 5 | | |

| | | |

| |700,000 |600,000 |

|Additional paid-in capital, common stock |6,800,000 |5,400,000 |

|Total contributed capital |$11,500,000 |$10,000,000 |

|Retained earnings |28,500,000 |25,000,000 |

|Total stockholders' equity |$40,000,000 |$35,000,000 |

1. Calculate the Cronin Corporation's Year 5 debt to equity ratio.

2. Calculate the Cronin Corporation's Year 6 debt to equity ratio.

3. Calculate the Cronin Corporation's Year 6 net income available to common stockholders.

4. Calculate the Cronin Corporation's Year 6 average common stockholders' equity.

5. Calculate the Cronin Corporation's Year 6 return on common stockholders' equity.

Exercise 12.18: Contributed Capital Section of Balance Sheet

The following information was obtained from the Robinton Corporation's December 31 accounting records.

|Additional paid-in capital, common stock |$3,600,000 |

|Additional paid-in capital, preferred stock |300,000 |

|Common stock, $.01 par, 100,000,000 shares authorized, 60,000,000 shares issued | |

| |600,000 |

|9% preferred stock, $100 par, 100,000 shares authorized, 75,000 shares issued | |

| |7,500,000 |

|Retained earnings |35,000,000 |

|Treasury stock, 5,000 common shares |50,000 |

Prepare the December 31 stockholders' equity section of the Robinton Corporation's balance sheet.

Chapter Twelve Problems

Problem 12.1: Stockholders' Equity: Comprehensive Review

Sandy Silva opened Silva's Home Furnishings on June 1. The company engaged in the following activities in June.

1. By addition and subtraction, show the effects of the following transactions on Silva's Home Furnishings' resources and sources of resources.

June 1 Started business by issuing 6,500 shares of $1 par value per share common stock for $52,000.

June 3 Purchased $32,000 of merchandise on account.

June 5 Paid $900 to rent store space for the month of June.

June 9 Paid $3,900 to advertise the business for June.

June 11 Purchased $7,800 of display equipment by paying $2,900 cash and promising to pay the balance due by July 11.

June 14 Received $15,600 for an issue of 156 shares of 10%, $100 par value preferred stock.

June 17 Sales on credit for the first half of June were $19,500.

June 21 Declared and paid a cash dividend of $2,600.

June 23 Paid $780 for store supplies.

June 26 Paid June telephone bill of $117.

June 29 Paid $20,800 as partial payment for the merchandise purchased on June 3.

June 30 Sales on credit for the second half of June were $22,100.

June 30 Store supplies on hand were $260.

June 30 Cash collections on credit sales for June were $24,700.

June 30 Wages paid to employees in June were $7,900.

June 30 Depreciation on display equipment was $165 in June.

June 30 Merchandise inventory on hand was $11,500.

June 30 Federal income taxes for June were estimated to be $2,100. Taxes will be paid in July.

| | | |Sources of Owner Invested |Sources of Management |

| | |Sources of Borrowed |Resources |Generated Resources |

| | |Resources | | |

| |Resources | | | |

| |Assets |Liabilities |Stockholders' Equity |

|June 1 |_________ |_______ |_________ |_______ |

|June 3 |_________ |_______ |_________ |_______ |

|June 5 |_________ |_______ |_________ |_______ |

|June 9 |_________ |_______ |_________ |_______ |

|Subtotals |__$79,200 |$32,000 |__$52,000 |-$4,800 |

|June 11 |_________ |_______ |_________ |_______ |

|June 14 |_________ |_______ |_________ |_______ |

|June 17 |_________ |_______ |_________ |_______ |

|June 21 |_________ |_______ |_________ |_______ |

|Subtotals |_$116,600 |$36,900 |__$67,600 |$12,100 |

|June 23 |_________ |_______ |_________ |_______ |

|June 26 |_________ |_______ |_________ |_______ |

|June 29 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|Subtotals |_$117,263 |$16,100 |__$67,600 |$33,563 |

|June 30 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|June 30 |_________ |_______ |_________ |_______ |

|Totals |__$88,698 |$18,200 | $67,600 | $2,898 |

2. Record the Silva's Home Furnishings transactions in its general journal. Remember, the company's accounting system used only those accounts included in its trial balance shown in part 4.

|Date |Description |Debits |Credits |

|June 1 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 3 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 5 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 9 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 11 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |____________________ | |$__________ |

| |______________________________ | | |

|Date |Description |Debits |Credits |

|June 14 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 17 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 21 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 23 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 26 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 29 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|June 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

3. Post the Silva's Home Furnishings' journal entries to its general ledger. Calculate the ending balance for each general ledger account.

|Cash | |Accounts Receivable | |Merchandise Inventory |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | |Store Supplies | |Display Equipment |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Accum. Depr., Dis. Eq. | |Accounts Payable | |Income Taxes Payable |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Preferred Stock | |Common Stock | |Add. PiC., Com. St. |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Retained Earnings | |Dividends | |Sales |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Cost of Goods Sold | |Wages Expense | |Advertising Expense |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Rent Expense | |Store Supplies Expense | |Depr. Exp, Display Eq. |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Telephone Expense | |Income Taxes Expense | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

4. Prepare the Silva's Home Furnishings' trial balance and statement of stockholders' equity as of June 30.

|Silva's Home Furnishings |

|Trial Balance |

|June 30 |

|Account Name |Debits |Credits |

|Cash |$_________ | |

|Accounts Receivable |$ 16,900 | |

|Merchandise Inventory |$_________ | |

|Store Supplies |$_________ | |

|Display Equipment |$_________ | |

|Accum. Depr., Display Equipment | |$ 165 |

|Accounts Payable | |$_________ |

|Income Taxes Payable | |$_________ |

|Preferred Stock | |$_________ |

|Common Stock | |$_________ |

|Additional Paid-in Capital, Common Stock | |$_________ |

|Retained Earnings | |$ 0 |

|Dividends |$_________ | |

|Sales | |$_________ |

|Cost of Goods Sold |$ 20,500 | |

|Wages Expense |$_________ | |

|Advertising Expense |$_________ | |

|Rent Expense |$_________ | |

|Store Supplies Expense |$_________ | |

|Depr. Expense, Display Equipment |$_________ | |

|Telephone Expense |$_________ | |

|Income Taxes Expense |$_________ | |

| Totals |$_________ |$ 127,565 |

|Silva's Home Furnishings |

|Stockholders' Equity |

|June 30 |

|Contributed Capital | |

| 10%, $100 Preferred Stock |$___________ |

| Common Stock, $1 par |$___________ |

| Additional Paid-in Capital, Common Stock |$___________ |

|Total Contributed Capital |$___________ |

|Retained Earnings |$___________ |

|Total Stockholders' Equity |$ 70,498 |

5. Determine the following.

A. Silva's Home Furnishings' net income for June was $__________.

B. Silva's Home Furnishings' total assets on June 30 was $__________.

C. Silva's Home Furnishings' total liabilities on June 30 was $__________.

D. The dollar amount of the dividend distributed to preferred stockholders was $__________.

E. The dollar amount of the dividend distributed to common stockholders was $__________.

F. The dollar amount of the Silva's Home Furnishings total resources on June 30 was $__________.

G. The dollar amount of resources Silva's Home Furnishings obtained from owners was $__________.

H. The dollar amount of resources Silva's Home Furnishings management generated through operations since its formation and kept in the company was $__________.

Problem 12.2: Stockholders' Equity: Comprehensive Review

Richard Hamel opened Hamel's Merchandising Corporation on April 1. The company engaged in the following activities in April.

1. By addition and subtraction, show the effects of the following transactions on Hamel's Merchandising Corporation's resources and sources of resources.

April 1 Started business by issuing 7,500 shares of $2 par value per share common stock for $45,000.

April 3 Paid $2,000 to advertise the business for April.

April 5 Paid $400 to rent store space for the month of April.

April 9 Purchased $4,000 of display equipment by paying $1,000 cash and promising to pay the balance due by May 8.

April 11 Purchased $18,000 of merchandise on account.

April 14 Received $6,000 for an issue of 60 shares of 10%, $100 par value preferred stock.

April 17 Sales on credit for the first half of April were $8,000.

April 21 Paid $4,000 as partial payment for the merchandise purchased on April 11.

April 23 Declared and paid a cash dividend of $700.

April 26 Paid $350 for store supplies.

April 29 Paid April telephone bill of $50.

April 30 Sales on credit for the second half of April were $7,000.

April 30 Cash collections on credit sales for April were $9,000.

April 30 Wages paid to employees in April were $3,000.

April 30 Merchandise inventory on hand was $10,500.

April 30 Store supplies on hand were $225.

April 30 Depreciation on display equipment was $75 in April.

April 30 Federal income taxes for April were estimated to be $600. Taxes will be paid in May.

| | | |Sources of Owner Invested |Sources of Management |

| | |Sources of Borrowed |Resources |Generated Resources |

| | |Resources | | |

| |Resources | | | |

| |Assets |Liabilities |Stockholders' Equity |

|April 1 |_________ |_______ |_________ |_______ |

|April 3 |_________ |_______ |_________ |_______ |

|April 5 |_________ |_______ |_________ |_______ |

|April 9 |_________ |_______ |_________ |_______ |

|Subtotals |__$45,600 | $3,000 |__$45,000 |-$2,400 |

|April 11 |_________ |_______ |_________ |_______ |

|April 14 |_________ |_______ |_________ |_______ |

|April 17 |_________ |_______ |_________ |_______ |

|April 21 |_________ |_______ |_________ |_______ |

|Subtotals |_ $73,600 |$17,000 |__$51,000 | $5,600 |

|April 23 |_________ |_______ |_________ |_______ |

|April 26 |_________ |_______ |_________ |_______ |

|April 29 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|Subtotals |__$79,850 |$17,000 |__$51,000 |$11,850 |

|April 30 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|April 30 |_________ |_______ |_________ |_______ |

|Totals |__$69,150 |$17,600 | $51,000 | $550 |

2. Record the Hamel's Merchandising Corporation transactions in its general journal. Remember, the company's accounting system used only those accounts included in its trial balance shown in part 4.

|Date |Description |Debits |Credits |

|April 1 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 3 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 5 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 9 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |____________________ | |$__________ |

| |______________________________ | | |

|Date |Description |Debits |Credits |

|April 11 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 14 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 17 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 21 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 23 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 26 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 29 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

| | | | |

|April 30 |____________________ |$__________ | |

| |____________________ | |$__________ |

| |______________________________ | | |

3. Post the Hamel's Merchandising Corporation's journal entries to its general ledger. Calculate the ending balance for each general ledger account.

|Cash | |Accounts Receivable | |Merchandise Inventory |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | |Store Supplies | |Display Equipment |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Accum. Depr., Dis. Eq. | |Accounts Payable | |Income Taxes Payable |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Preferred Stock | |Common Stock | |Add. PiC., Com. St. |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Retained Earnings | |Dividends | |Sales |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Cost of Goods Sold | |Wages Expense | |Advertising Expense |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Rent Expense | |Store Supplies Expense | |Depr. Exp, Display Eq. |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

|Telephone Expense | |Income Taxes Expense | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

| | | | | | | | |

4. Prepare the Hamel's Merchandising Corporation's trial balance and statement of stockholders' equity as of April 30.

|Hamel's Merchandising Corporation |

|Trial Balance |

|April 30 |

|Account Name |Debits |Credits |

|Cash |$_________ | |

|Accounts Receivable |$ 6,000 | |

|Merchandise Inventory |$_________ | |

|Store Supplies |$_________ | |

|Display Equipment |$_________ | |

|Accum. Depr., Display Equipment | |$ 75 |

|Accounts Payable | |$_________ |

|Income Taxes Payable | |$_________ |

|Preferred Stock | |$_________ |

|Common Stock | |$_________ |

|Additional Paid-in Capital, Common Stock | |$_________ |

|Retained Earnings | |$ 0 |

|Dividends |$_________ | |

|Sales | |$_________ |

|Cost of Goods Sold |$ 7,500 | |

|Wages Expense |$_________ | |

|Advertising Expense |$_________ | |

|Rent Expense |$_________ | |

|Store Supplies Expense |$_________ | |

|Depr. Expense, Display Equipment |$_________ | |

|Telephone Expense |$_________ | |

|Income Taxes Expense |$_________ | |

| Totals |$_________ |$ 83,675 |

|Hamel's Merchandising Corporation |

|Stockholders' Equity |

|April 30 |

|Contributed Capital | |

| 10%, $100 Preferred Stock |$___________ |

| Common Stock, $2 par |$___________ |

| Additional Paid-in Capital, Common Stock |$___________ |

|Total Contributed Capital |$___________ |

|Retained Earnings |$___________ |

|Total Stockholders' Equity |$ 51,550 |

5. Determine the following.

A. Hamel's Merchandising Corporation's net income for April was $__________.

B. Hamel's Merchandising Corporation's total assets on April 30 was $__________.

C. Hamel's Merchandising Corporation's total liabilities on April 30 was $__________.

D. The dollar amount of the dividend distributed to preferred stockholders was $__________.

E. The dollar amount of the dividend distributed to common stockholders was $__________.

F. The dollar amount of the Hamel's Merchandising Corporation's total resources on April 30 was $__________.

G. The dollar amount of resources Hamel's Merchandising Corporation obtained from owners was $__________.

H. The dollar amount of resources Hamel's Merchandising Corporation's management generated through operations since its formation and kept in the company was $__________.

Problem 12.3: Financial Analysis

For the year ended December 31, Year 12 the Homen Corporation reported net income of $3,240,000. During the year, the company declared and paid cash dividends of $240,000. On December 31, Year 12 and Year 11, the company's balance sheets were as follows.

| |12/31/Year 12 |12/31/Year 11 |

|Total Assets |$175,000,000 |$120,000,000 |

|Total Liabilities |$105,000,000 |$90,000,000 |

|Stockholders' equity | | |

|Contributed capital | | |

|5% preferred stock, $100 par, 20,000 shares authorized, 20,000 shares issued | | |

| |$2,000,000 |$2,000,000 |

|Common stock, $.10 par, 40,000,000 shares authorized, 12,000,000 shares issued as of 12/31/Year| | |

|12, 8,000,000 shares issued as of 12/31/Year 11 | | |

| | | |

| |$1,200,000 |$800,000 |

|Additional paid-in capital, common stock |$44,800,000 |$7,200,000 |

|Total contributed capital |$47,000,000 |$10,000,000 |

|Retained earnings |$23,000,000 |$20,000,000 |

|Total stockholders' equity |$70,000,000 |$30,000,000 |

1. Calculate the following statistics for year 12. Round all final answers to two decimal places.

|Debt to equity ratio | |

|Return on common stockholders' equity | |

2. Determine the dollar amount by which the company would have had to reduce its total liabilities in order to achieve a debt to equity ratio of 1.2 in Year 12 $_______________.

3. Determine the dollar amount of net income the company would have had to report in Year 12 in order to achieve a return on common stockholders' equity of 7% $_______________

Problem 12.4: Financial Analysis

For the year ended December 31, Year 9 the Ninteau Corporation reported net income of $2,200,000. During the year, the company declared and paid cash dividends of $200,000. On December 31, Year 9 and Year 8, the company's balance sheets were as follows.

| |12/31/Year 9 |12/31/Year 8 |

|Total Assets |$75,000,000 |$64,000,000 |

|Total Liabilities |$50,000,000 |$45,000,000 |

|Stockholders' equity | | |

|Contributed capital | | |

|6% preferred stock, $100 par, 30,000 shares authorized, 30,000 shares issued | | |

| |$3,000,000 |$3,000,000 |

|Common stock, $.10 par, 50,000,000 shares authorized, 10,000,000 shares issued as of 12/31/Year| | |

|9, 8,000,000 shares issued as of 12/31/Year 8 | | |

| | | |

| |$1,000,000 |$800,000 |

|Additional paid-in capital, common stock |$10,000,000 |$6,200,000 |

|Total contributed capital |$14,000,000 |$10,000,000 |

|Retained earnings |$11,000,000 |$9,000,000 |

|Total stockholders' equity |$25,000,000 |$19,000,000 |

1. Calculate the following statistics for Year 9. Round all final answers to two decimal places.

|Debt to equity ratio | |

|Return on common stockholders' equity | |

2. Determine the dollar amount by which the company would have had to reduce its total liabilities in order to achieve a debt to equity ratio of 1.8 in Year 9 $_______________.

3. Determine the dollar amount of net income the company would have had to report in Year 9 in order to achieve a return on common stockholders' equity of 12% $_______________

................
................

In order to avoid copyright disputes, this page is only a partial summary.

Google Online Preview   Download