Fundamental Accounting Principles

Chapter 13
Accounting for Corporations

QUESTIONS
1.
Organization expenses (costs) are incurred in creating a corporation. Examples include:

legal fees, promoter fees, accountant fees, costs of printing stock certificates, and fees paid
to obtain a state charter.
2.
Organization expenses (costs) are reported as expenses when incurredas part of operating
expensesbecause the amount and timing of their future benefit is difficult to determine.
(Instructor note: Prior to SOP 98-5, organization costs were classified as part of intangible
assets and then allocated to amortization expense.)
3.
The board of directors of a corporation is responsible for directing the corporation's affairs.
The directors are elected by the corporations stockholders.
4.
The preemptive right of common stockholders is the right to maintain their relative
ownership interests in the corporation by having the first opportunity to purchase their
proportionate share of any additional common shares issued by the corporation.
5.
The general rights of common stockholders include: (1) the right to vote in stockholders
meetings, (2) the right to sell or otherwise dispose of stock, (3) the preemptive right, (4) the
right to share proportionately in dividends, and (5) the right to share proportionately in assets
remaining after the creditors are paid when, and if, the corporation is liquidated. In addition,
stockholders have the general right to receive timely and useful financial reports that
describe the corporations financial position and the results of its activities.
6.
Authorized shares represent the maximum number of shares that a corporations charter
allows it to sell. Outstanding shares are the number of issued shares that are held by
stockholders. The number of authorized shares usually exceeds the number of issued
shares, often by a large amount.
7.
Convertible preferred stock is potentially attractive because it offers the safety of a regular
return as well as the opportunity to share in the increased value of the issuers common
stock through conversion (or potential conversion).
8.
The market value per share of stock is the price at which a share of stock is bought or sold.
Many factorsincluding expected future earnings, dividends, growth, and other company
and economic factorsaffect market value. Par value per share is an arbitrary value
assigned by the corporation in its charter.
9.
The par value is an arbitrary value placed on a share of stock when it is authorized. The call
price is an amount that a corporation must pay if it exercises the option to buy back and
retire a share of callable preferred stock.
McGraw-Hill Companies, 2009

Solutions Manual, Chapter 13
187
10. The three important dates governing dividends are:

a. date of declaration
the date the directors vote to pay a dividend.
b. date of record a future date specified by the directors to identify the particular
shareholders that are to receive the dividend.
c. date of payment
the date when shareholders receive the dividend payment.
11. Cash dividends debited against paid-in capital accounts are called liquidating dividends
because they represent a return of amounts originally invested in the corporation by the
stockholders. (They are a return of, not a return on, capital contributions.)
12. Declaring a stock dividend has no effect on assets, liabilities, or total equity. Also, the
subsequent distribution of the stock dividend has no effect on these items. Instead, the stock
dividend simply increases the number of shares outstanding and results in a transfer of
equity from retained earnings to paid-in capital.
13. A stock dividend results in a distribution of additional shares to stockholders and the
capitalization of retained earnings. A stock split calls in the old shares and replaces them
with a different number of new shares with a new par value. Also, no entry is made to any of
the equity accounts with a stock split. In spite of these technical differences, there is no
practical difference in most cases between a stock split and a large stock dividend.
14. A stock dividend should not be considered income because it does not transfer any assets
from the corporation to the stockholders.
15. A treasury stock purchase reduces total assets and total equity by equal amounts.
16. Treasury stock purchases affect the corporate assets and stockholders equity just like a
cash dividend. To keep a company from dissipating its assets by paying an inordinate
amount of dividends to its stockholders, state laws protect the companys creditors by
imposing limits on treasury stock purchases.
17. With a simple capital structure, earnings per share is calculated by first subtracting any
declared and cumulative preferred dividends from net income, and then dividing the
difference by the weighted-average number of shares of outstanding common stock. The
resulting figure is called the basic earnings per share.
18. A stock option is the right to purchase common stock at a fixed price over a specified period.
19. When a corporation has no preferred stock, book value per share is calculated by dividing
total stockholders equity by the number of common shares outstanding. The main limitation
of using book value per share to value a corporation is the potential difference between
recorded value and market value for assets and liabilities.
20. Best Buy has preferred stock and common stock listed on its balance sheet. As of March 3,
2007, however, Best Buy has not issued any of the preferred stock.
21. The par value for Circuit Citys common stock is $0.50 per share (as reported on its balance
sheet). The company has likely set the par value to minimize the amount of legal capital the
company must maintain (and that stockholders would be liable for).
22. At December 31, 2006, RadioShack had 650,000,000 shares of common stock authorized and
191,033,000 shares of common stock issued.
23. Apple received $318,000,000 from the issue of common stock, and paid $355,000,000 to
repurchase common stock for the year ended September 30, 2006.

188
Fundamental Accounting Principles, 19th Edition
QUICK STUDIES
Quick Study 13-1 (10 minutes)
True statements: 1, 2, 5 and 6
a. Cash
Common Stock, $1 Par Value.............................
50,000
50,000
Issued par value stock for cash. (50,000 x $1)
b. Cash*
150,000
Paid-In Capital in Excess of Par Value,
Common Stock.................................................
50,000
100,000
Issued par value stock for cash. *(50,000 x $3)

a. Cash*
900,000
Common Stock, $5 Par Value**..........................
Common Stock***.............................................
375,000
525,000
Issued par value stock for cash.

*75,000 x $12 = $900,000
**75,000 x $5 = $375,000
***$900,000 - $375,000 = $525,000
b. Cash*
900,000
Common Stock, $5 Stated Value**.....................
Paid-In Capital in Excess of Stated Value,
Common Stock***.............................................
375,000
525,000
Issued stated value stock for cash.

*75,000 x $12 = $900,000
**75,000 x $5 = $375,000
***$900,000 - $375,000 = $525,000

189

a. Cash
1,560,000
Common Stock, No-Par Value.....................................
1,560,000
Issued no-par value stock for cash. (52,000 x $30)
b. Land
1,560,000
Common Stock, No-Par Value.....................................
1,560,000
Issued no-par value stock for land.

(a) Mar. 1 Cash
300,000
Common Stock.................................................
187,500
112,500
(b) Apr. 1 Cash...........................................................................90,000
Common Stock, No-Par Value............................
90,000
Issued no-par value stock for cash.
(c) Apr. 6
Inventory...................................................................20,000
Machinery..................................................................
130,000
Note Payable........................................................
Common Stock, $10 Par Value...........................
Common Stock.................................................
75,000
35,000
40,000
Issued stock for inventory, machinery, and note.

1. Cash*
612,000
Preferred Stock, $100 Par Value**...............................
Preferred Stock***......................................................
600,000
12,000

*6,000 x $102 = $612,000
**6,000 x $100 = $600,000
***$612,000 - $600,000 = $12,000
2. Preferred dividend =
$100 par value/share x 6% x 6,000 shares = $36,000
190

May 15 Retained Earnings..........................................................
32,000
Common Dividend Payable.....................................
32,000
Declared cash dividend on common.
June 30 Common Dividend Payable...........................................

32,000
Cash...........................................................................
32,000
Paid cash dividend to common.

Atari Company
Stockholders Equity
April 2 (after stock dividend)
Common stock $5 par value, 375,000 shares
authorized, 220,000 shares issued and outstanding ................ $1,100,000
Paid-in capital in excess of par value, common stock.................
860,000
Total paid-in capital ......................................................................... 1,960,000
Retained earnings ...........................................................................
473,000
Total stockholders' equity .............................................................. $2,433,000
Supporting work
Apr.
Retained Earnings...........................................................360,000
Common Stock*.........................................................
Common Stock**.....................................................
100,000
260,000
To record declaration and distribution

of a 10% common stock dividend.
* 200,000 shares x 10% x $5 par value = $100,000
**200,000 shares x 10% x ($18 market value
$5 par value) = $260,000

Total cash dividend............................................................................
To preferred shareholders.................................................................
Remainder to common shareholders..............................................
$ 92,000
32,000*
$ 60,000
*10,000 shares x $20 par x .08 x 2 years = $32,000.

191

May 3
Treasury Stock (3,000 shares).......................................

45,000
Cash...........................................................................
45,000
Purchased treasury stock

($45,000 / 3,000 shares = $15 per share cost).
Nov. 4
Cash.................................................................................
14,450
Treasury Stock..........................................................
Paid-In Capital, Treasury Stock...............................
12,750
1,700
Reissued treasury stock at a price

greater than its cost.
($15 per share x 850 shares = $12,750)

1. This material error should be reported on the statement of retained
earnings (and/or the statement of stockholders equity) as a prior
period adjustment to the beginning retained earnings balance. Also, if
prior years financial numbers are reported, they should be revised to
show the correct numbers.
2. This change in the expected useful life is a change in an accounting
estimateaffecting current and future accounting periods. Therefore,
the current year depreciation should be modified to reflect the change
and the revised depreciation expense reported on the income
statement as a regular part of income from continuing operations. The
remaining years depreciation also should reflect this new estimate of
useful life.

Basic earnings per share:
Net income - Preferred dividends

= Weighted-average common shares outstanding
= ($840,000 - $0) / 300,000 shares
= $2.80 per share

192

Basic earnings per share:
Net income - Preferred dividends

= Weighted-average common shares outstanding
= ($950,000 - $40,000) / 400,000 shares
= $2.275 per share

Price-earnings ratio = Market value per share
Earnings per share
= $31.50
$3.75
= 8.4
Analysis: Many analysts consider stocks with a PE less than 5 to 8 as

potentially underpriced. This stock with a PE of 8.4 would exceed this
criterion. (Instructor note: This is a good point at which to emphasize that
PE is based on expectationsexpectations can prove to be higher or lower
than actual results.)

Dividend yield =
Annual cash dividends per share

Market value per share
$1.62
$22.50
= 7.2%
Analysis: The companys dividend yield of 7.2% indicates that it should be

classified as an income stock. That is, the company annually pays out
cash dividends to its shareholders in an amount that equals 7.2% of the
companys market value.

Total stockholders' equity..................................................................$1,839,500
Less equity attributable to preferred shares
Call price (20,000 shares x $25)...................................................... 500,000
Equity applicable to common shares................................................$1,339,500
Book value of common shares ($1,339,500/150,000 shares)..........$
8.93

193
EXERCISES
Exercise 13-1 (15 minutes)
Characteristic
Corporations
1. Owner authority and control......................One vote per share
2. Ease of formation........................................Requires government approval
3. Transferability of ownership.......................Readily transferred
4. Ability to raise large amounts of capital......High ability
5. Duration of life.............................................Unlimited
6. Owner liability..............................................Limited
7. Legal status..................................................Separate legal entity
8. Tax status of income...................................Corporate income is taxed and
its cash dividends are usually
taxed at the 15% rate (some
cases at a lower rate)
1.
Feb. 20
Cash...........................................................................182,700
Common Stock, No-Par Value...........................
182,700
Issued common stock for cash.
2.
Feb. 20
Cash...........................................................................182,700
Common Stock, $12 Par Value*........................
144,000
Common Stock**.............................................
38,700
*12,000 shares x $12 per share = $144,000
**$182,700 - $144,000 = $38,700
3.
Feb. 20
Cash...........................................................................182,700
Common Stock, $6 Stated Value*.....................
Common Stock**.............................................
72,000
110,700

**$182,700 - $72,000 = $110,700
194

1.
Organization Expenses.................................................... 43,500

Common Stock, No-Par Value...................................
43,500
Issued stock to promoters.
2.
Organization Expenses.................................................... 43,500

Common Stock, $2 Stated Value...............................
Common Stock........................................................
5,000
38,500
Issued stock to promoters.
3.
Cash
180,000
Common Stock, $30 Par Value*.................................
150,000
Common Stock**.....................................................
30,000
**$180,000 - $150,000 = $30,000
4.
Cash
168,500
Preferred Stock, $100 Par Value*...............................
125,000
Preferred Stock**......................................................
43,500
Issued preferred stock for cash.
**$168,500 - $125,000 = $43,500

Land..................................................................................
Building............................................................................
Common Stock, $9 Par Value*...................................
Common Stock........................................................
75,000
120,000
108,000
87,000
Issued stock for land and building.

**($75,000 + $120,000) $108,000 = $87,000

1.
2.
3.
4.
5.
6.

195

1.
a.
b.
c.
Retained earnings
Before dividend........................................................................
$8 par value of 32,000 dividend shares.................................
After dividend...........................................................................
$ 356,000
(256,000)
$ 100,000
Total stockholders equity

authorized, 64,000 shares issued and outstanding...........
Paid-in capital in excess of par value....................................
Retained earnings....................................................................
Total stockholders equity.......................................................
$ 512,000
100,000
100,000
$ 712,000
Number of outstanding shares

Outstanding shares before the dividend..............................
Dividend shares......................................................................
Outstanding shares after the dividend.................................
32,000
32,000
64,000
2.
a.
b.
c.
3.
Retained earnings (no change)

Before and after stock split.....................................................
$ 356,000
Total stockholders equity

authorized, 64,000 shares issued and outstanding...........
Paid-in capital in excess of par value....................................
Retained earnings....................................................................
Total stockholders equity.......................................................
$ 256,000
100,000
356,000
$ 712,000

Outstanding shares before the split.......................................
Additional split shares (2-for-1)..............................................
Outstanding shares after the split..........................................
32,000
32,000
64,000
From a stockholders point of view, there is no practical difference

between the stock dividend and the stock split. The number of
shares will be increased equivalently under either approach, and the
market value change, if any, should be approximately the same.

196

1.
Feb. 5 Retained Earnings*........................................................
480,000
Common Stock Dividend Distributable**...............
240,000
Common Stock***..................................................
240,000
Declared 15% common stock dividend
Shares to be issued: 64,000 shares x 15% = 9,600 shares
**9,600 shares x $25 per share = $240,000
***$480,000 - $240,000 = $240,000
Feb.28
Common Stock Dividend Distributable........................

240,000
Common Stock, $25 Par Value................................
240,000
Distributed common stock dividend.
2.
Before
After
Total stockholders equity......................... $2,796,800
$2,796,800
64,000
73,600
Issued and distributable shares...............
Book value per share................................. $
43.70
Shares owned............................................. x
900
Total book value of shares........................ $ 39,330
38.00
x 1,035*
$ 39,330
* 900 shares x 115% = 1,035 shares.
3.
February 5
Market value per share.............................. $
February 28
50.00
43.60
900
1,035
Total market value of shares owned........ $
45,000
45,126
Shares owned.............................................
Note: The total market value of the investors holdings is approximately the same
for February 5 and February 28. Assuming that the stock dividend is the only
value-relevant information/event between February 5th and February 28th, these
per share values highlight the lack of value distributed in a stock dividend.

197

Preferred
Common
2009 ($8,000 paid)

Preferred*....................................................... $ 8,000
Common remainder.................................... _______
Total for the year........................................... $ 8,000
$
$
2010 ($24,000 paid)

Preferred*....................................................... $ 10,400
$ 13,600
$ 13,600
2011 ($120,000 paid)

Preferred*....................................................... $ 10,400
$109,600
$109,600
2012 ($197,000 paid)

Preferred*....................................................... $ 10,400
$186,600
$186,600
2009-2012 ($349,000 paid)

_______
Total for four years....................................... $ 39,200
_______
$309,800
0
0
* The holders of the noncumulative preferred stock are entitled to no more than
$10,400 of dividends in any one year (8% x $10 x 13,000 shares).

198

Preferred
2009 ($8,000 paid)
Preferred*....................................................... $ 8,000
Common
$
$
0
0
(Note: $2,400 in preferred stock dividends in arrears.)
2010 ($24,000 paid)

Preferred arrears from 2009...................... $ 2,400
Preferred*....................................................... 10,400
$ 11,200
$ 11,200
(Note: $0 in preferred stock dividends in arrears.)
2011 ($120,000 paid)

Preferred*....................................................... $ 10,400
$109,600
$109,600
2012 ($197,000 paid)

Preferred*....................................................... $ 10,400
$186,600
$186,600
2009-2012 ($349,000 paid)

_______
Total for four years....................................... $ 41,600
_______
$307,400
* The holders of the cumulative preferred stock are entitled to no more than
$10,400 of dividends declared in any year (8% x $10 x 13,000 shares) plus any
dividends skipped in prior years.

199

1. (a)
Oct. 11 Treasury Stock (5,000 x $22).........................................
110,000
Cash...........................................................................
110,000
Purchased treasury stock.
(b)
Nov. 1
Cash (1,000 x $28)..........................................................

28,000
Treasury Stock (1,000 x $22)...................................
Paid-In Capital, Treasury Stock...............................
22,000
6,000
Reissued treasury stock at a price exceeding cost.
(c)
Nov. 25 Cash (4,000 x $17)..........................................................
68,000
Paid-In Capital, Treasury Stock.....................................
6,000
Retained Earnings..........................................................
14,000
Treasury Stock (4,000 x $22)...................................
88,000
Reissued treasury stock at a price less than cost.
2. Changes to the equity section include the following

(i) The common stock account description line will change. After the
treasury stock purchase, it should read:
Common stock $10 par value; 72,000 shares
$720,000
authorized and issued; 5,000 shares in treasury.................
The dollar balance of this account does not change with a treasury
stock purchase.
(ii) The descriptions and dollar amounts for Paid-In Capital in Excess of
Par Value, Common Stock will not change.
(iii) The retained earnings dollar balance will not change but its
description should change to read:
Retained earnings ($110,000 restricted for treasury stock)..............
$864,000
(iv) After the purchase, a deduction for the cost of treasury stock is
reported immediately before the total line for stockholders equity as :
Less cost of treasury stock.........................................................
$(110,000)
(v) Total stockholders equity will change from $1,800,000 to $1,690,000.

200
Exercise 13-10 (concluded)

Revised equity section appears as follows
Common stock $10 par value; 72,000 shares authorized
$ 720,000
and issued; 5,000 shares in treasury..........................................
Paid-in capital in excess of par value, common stock................ 216,000
Retained earnings, $110,000 restricted by treasury stock.......... 864,000
Total..................................................................................................
1,800,000
Less cost of treasury stock............................................................(110,000)
Total stockholders equity..............................................................
$1,690,000
Arturo Company
Statement of Retained Earnings
For Year Ended December 31, 2009
Retained earnings, December 31, 2008, as previously reported.... $1,375,000
Prior period adjustment
Depreciation expense not recorded in 2007 (net of $4,500
in income taxes)..........................................................................
(55,500)
Retained Earnings, December 31, 2008, as adjusted..................... 1,319,500
Plus net income..................................................................................
126,000
Less dividends...................................................................................
(43,000)
Retained earnings, December 31, 2009............................................ $1,402,500

1.
Net income.....................................................................................
$1,375,500
Less preferred dividends............................................................. (192,500)
Net income available to common stockholders........................
$1,183,000
2.
Net income available to common stockholders........................$1,183,000

Divided by weighted-average outstanding shares................... 350,000
Basic earnings per share.............................................................
$
3.38

201

1.
Net income......................................................................................
$1,875,000
Less preferred dividends............................................................. (262,500)
Net income available to common stockholders........................
$1,612,500
2.
Net income available to common stockholders..................... $1,612,500

Divided by weighted-average outstanding shares................... 250,000
Basic earnings per share.............................................................
$
6.45

Market Value
per Share
Divided
by
Earnings
per Share
1.............
$145.20
$12.00
12.1
2.............
116.60
11.00
10.6
3.............
74.10
7.80
9.5
4.............
60.48
43.20
1.4
Stock
Price-Earnings
Ratio
Analysis: Stocks with PE ratios less than about 5 to 8 are likely viewed
as potentially undervalued by the market. Of the stocks above, an
analyst would likely investigate stock #4 as possibly undervalued with
a PE ratio of 1.4.
Dividend yield
1. $14.00 / $229.51 =
6.1%
2. $11.00 / $110.00 = 10.0%

3. $ 5.52 / $ 60.00 =
9.2%
4. $ 1.90 / $118.75 =
1.6%
Analysis: The yield of 1.6% on stock #4 is sufficiently low that it probably

would be classified as a growth stock, and not an income stock. Note that
classification involves expectations (not necessarily realizations).

202

1.
Total stockholders equity..............................................
$ 917,500
Less equity applicable to preferred shares

Call price ($35 x 10,000)............................................... $350,000
Cumulative dividends in arrears (none).....................
(350,000)
Equity applicable to common shares...........................
$ 567,500
Book value of preferred stock ($350,000/10,000).........
35.00
Book value of common stock ($567,500/35,000).........
16.21
Total stockholders equity..............................................
$ 917,500
2.
Less equity applicable to preferred shares
Call price ($35 x 10,000)............................................... $350,000
Cumulative dividends in arrears (3 x 6% x $300,000)...
54,000
(404,000)
Equity applicable to common shares...........................
$ 513,500
Book value of preferred stock ($404,000/10,000).........
40.40
Book value of common stock ($513,500/35,000).........
14.67

203
PROBLEM SET A
Problem 13-1A (30 minutes)
Part 1
a.
To record sale of 10,000 ($250,000/$25 per share) shares of $25 par

value common stock for $32 ($320,000/10,000 shares) per share.
b.
To record issuance of 5,000 ($125,000/$25 per share) shares of $25

par value common stock to the companys promoters for their efforts
in organizing the company when the market value is $32
($160,000/5,000 shares) per share.
c.
To record acquisition of assets and liabilities by issuing 2,000

($50,000/$25) shares of $25 par value common stock at $42 per share.
d.
To record sale of 3,000 ($75,000/$25 per share) shares of $25 par

value common stock for $41 ($123,000/3,000 shares) per share.
Part 2
Issued in (a)........................................
Issued in (b)........................................
Issued in (c)........................................
Issued in (d)........................................
Total.....................................................
10,000
5,000
2,000
3,000
20,000
Part 3
Minimum legal capital = Outstanding shares x Par value per share
= 20,000 x $25 = $500,000
Part 4
Total paid-in capital from common stockholders
From transaction (a)......................... $320,000
From transaction (b)........................
160,000
From transaction (c).........................
84,000
From transaction (d)........................
123,000
Total paid-in capital.......................... $687,000
Part 5
Book value per common share
Total stockholders equity (given)....
$785,000
Outstanding shares (from Part 2).....
20,000
Book value per common share........
39.25 ($785,000 / 20,000 shares)

204

Part 1
Jan. 1
Treasury Stock, Common..............................................

112,500
Cash...........................................................................
112,500
Purchased treasury stock (4,500 x $25).
Jan. 5
121,500
121,500
Declared $3 dividend on 40,500 outstanding shares.
Feb. 28
Common Dividend Payable...........................................

121,500
Cash...........................................................................
121,500
Paid cash dividend.
July 6
Cash*...............................................................................
48,952
Treasury Stock, Common**.....................................
Paid-In Capital, Treasury Stock***..........................
42,200
6,752
Reissued treasury stock.

*(1,688 x $29) **(1,688 x $25) ***(1,688 x $4)
Aug. 22
Cash*...............................................................................
61,864
6,752
1,684
70,300

*(2,812 x $22) **(2,812 x $25)
Sept. 5
135,000
135,000
Declared $3 dividend on 45,000 outstanding shares.
Oct. 28

135,000
Cash...........................................................................
135,000
Paid cash dividend.
Dec. 31
Income Summary...........................................................
388,000
Retained Earnings....................................................
388,000
Closed Income Summary account.

205
Problem 13-2A (Concluded)

Part 2
ROCKLIN CORPORATION
Retained earnings, December 31, 2009............................ $ 460,000
Plus net income..................................................................
388,000
848,000
Less:Cash dividends declared......................................... (256,500)

Treasury stock reissuances....................................
(1,684)
Retained earnings, December 31, 2010............................ $ 589,816
Part 3
ROCKLIN CORPORATION
Stockholders Equity Section of the Balance Sheet
December 31, 2010
authorized, 45,000 shares issued and outstanding...... $1,125,000
Paid-in capital in excess of par value, common stock....
60,000
Retained earnings (from part 2).............................................
589,816
Total stockholders equity................................................. $1,774,816

206

Part 1
Explanations for each of the journal entries
Oct.
2 Declared a cash dividend of $1.50 per share of common stock.

($63,000 / 42,000 shares)
Oct. 25 Paid the cash dividend on common stock.

Oct. 31 Declared a 10% stock dividend when the market value is $22 per
share. ($42,000/$10 par = 4,200 shares = 10% of 42,000 shares;
$92,400/4,200 shares = $22 per share)
Nov.
5 Distributed the common stock dividend.
Dec.
1 Executed a 2-for-1 stock split. ($10 par / $5 par = 2-for-1 ratio)
Dec. 31 Closed the Income Summary account to Retained Earnings.

Part 2
Oct. 2
Oct. 25
Oct. 31
Nov. 5
Dec. 1
Common stock..............
$420,000 $420,000 $420,000 $462,000
Common stock
dividend distributable. . .
Dec. 31
$462,00
0 $ 462,000
42,000
Paid-in capital in
excess of par............... 100,000
100,000
150,400
150,400
150,400
150,400
244,600
244,60
0
474,600
Retained earnings..........
337,000
337,000
244,600
Total equity....................
$857,000 $857,000 $857,000 $857,000
$857,00
0 $1,087,000

207

Part 1
Outstanding common shares
Jan. 5
Beginning balance..........................45,000
Less treasury stock (Mar. 20).........
Plus dividend shares (July 31)*....... ______
Outstanding shares........................45,000
Apr. 5
45,000
(4,000)
July 5
45,000
(4,000)
______
______
41,000
41,000
Oct. 5
45,000
(4,000)
8,200
49,200
Apr. 5
41,000
$ 0.50
$20,500
July 5
41,000
$ 0.50
$20,500
Oct. 5
49,200
$ 0.50
$24,600
*(20% x 41,000)
Part 2
Cash dividend amounts
Jan. 5
Outstanding shares...................... 45,000
Dividend per share....................... $ 0.50
Total dividend................................ $22,500
Part 3
Capitalization of retained earnings for small stock dividend
Number of shares.........................................................................
8,200
Market value per share................................................................
x $10
Total capitalized............................................................................ $ 82,000
Part 4
Cost per share of treasury stock
Total amount paid......................................................................... $ 60,000
Shares purchased........................................................................
4,000
Cost per share.............................................................................. $
15
Part 5
Net income
Retained earnings, beginning balance......................................$340,000
Less dividends: Jan. 5............................................................... (22,500)
Apr. 5............................................................... (20,500)
July 5............................................................... (20,500)
July 31.............................................................. (82,000)
Oct. 5............................................................... (24,600)
Total before net income...............................................................$169,900
Plus net income............................................................................
?
Retained earnings, ending balance............................................$400,000
Therefore, net income = $230,100
208

1. Market price = $183 per share (current stock exchange price given)
2. Computation of par values of stock
Preferred: Paid-in amount / Number of shares = $ 85,000 / 1,000 = $85
Common: Paid-in amount / Number of shares = $200,000 / 4,000 = $50
3. Book values with no dividends in arrears
Book value per preferred share = par value (when not callable) = $85
Common stock
Total equity................................................ $635,000
Less equity for preferred..........................
(85,000)
Common stock equity............................... $550,000
Number of outstanding shares................
Book value per common share................
4,000
$ 137.50 ($550,000 / 4,000 shares)
4. Book values with two years dividends in arrears

Preferred stock
Preferred stock par value........................... $ 85,000
Plus two years dividends in arrears*........
8,500
Preferred equity........................................... $ 93,500
*2 years dividends = 2 x ($85,000 x 5%) = $8,500
Number of outstanding shares..................
1,000
Book value per preferred share................. $
93.50 ($93,500 / 1,000 shares)
Common stock
Total equity................................................... $635,000
Less equity for preferred............................ (93,500)
Common stock equity................................. $541,500
Number of outstanding shares..................
4,000
Book value per common share.................. $ 135.38 ($541,500/4,000 shares)

209
Problem 13-5A (Concluded)

5. Book values with call price and two years dividends in arrears
Preferred stock
Preferred stock call price (1,000 x $95).......
Plus two years dividends in arrears*..........
Preferred equity.............................................
$ 95,000
8,500
$103,500
Number of outstanding shares.....................
1,000
Book value per preferred share....................
$ 103.50 ($103,500 / 1,000 sh.)
Common stock
Total equity.....................................................
Less equity for preferred..............................
Common stock equity...................................
$635,000
(103,500)
$531,500

Book value per common share....................
4,000
$ 132.88 ($531,500 / 4,000 sh.)
6. Dividend allocation in total

Preferred
2 years dividends in arrears............
$ 8,500
Current year dividends..................... 4,250
Remainder to common......................
.
Totals..................................................
$12,750
Common
$
0
12,000
$12,000
Total
$ 8,500
4,250
12,000
$24,750
Dividends per share for the common stock

$12,000 / 4,000 shares = $3.00
7. Equity represents the residual interest of owners in the assets of the
business after subtracting claims of creditors. With few exceptions,
these assets and liabilities are reported at historical cost, not market
value. Therefore, the book value of common stock does not normally
match its market value. Also, the book value of common stock is based
on past transactions and events, whereas the market value takes into
account expected future earnings, growth, dividends, and other
industry and economic factors.

210
PROBLEM SET B
Problem 13-1B (30 minutes)
Part 1
a. To record sale of 1,500 ($1,500/$1 per share) shares of $1 par value
common stock for $40 ($60,000/1,500) per share.
b. To record issuance of 500 ($500/$1 per share) shares of $1 par value
common stock to the companys promoters for their efforts in
organizing the company when the market value is $40 per share.
c. To record acquisition of assets and liabilities by issuing 400 ($400/$1
per share) shares of $1 par value common stock at $50 per share and
issuing a note for $9,150.
d. To record sale of 600 shares of $1 par value common stock for $50 per
share.
Part 2
Issued in (a)..........................................
Issued in (b)..........................................
Issued in (c)..........................................
Issued in (d)..........................................
Total.......................................................
1,500
500
400
600
3,000
Part 3
Minimum legal capital = Outstanding shares x Par value per share
= 3,000 x $1 = $3,000
Part 4
Total paid-in capital from common stockholders
From transaction (a)............................$ 60,000
From transaction (b)............................ 20,000
From transaction (c)............................ 20,000
From transaction (d)............................ 30,000
Total paid-in capital.............................$130,000
Part 5
Book value per common share
Total stockholders equity (given)......$141,500
Outstanding shares (from 2)...............
3,000
Book value per common share..........$
47.17 ($141,500 / 3,000 shares)

211

Part 1
Jan. 10 Treasury Stock, Common..............................................
240,000
Cash...........................................................................
240,000
Purchased treasury stock (20,000 x $12).
Mar. 2
120,000
120,000
Declared $1.50 dividend on 80,000 outstanding shares.
Mar. 31

120,000
Cash...........................................................................
120,000
Paid cash dividend.
Nov. 11
Cash*
156,000
Paid-In Capital, Treasury Stock***..........................
144,000
12,000

*(12,000 x $13) **(12,000 x $12) ***(12,000 x $1)
Nov. 25
Cash*...............................................................................
76,000
12,000
8,000
96,000

*(8,000 x $9.50) **(8,000 x $12)
Dec. 1
250,000
250,000
Declared $2.50 dividend on 100,000 outstanding shares.
Dec. 31
Income Summary...........................................................
536,000
Retained Earnings....................................................
536,000
Closed Income Summary account.

212
Problem 13-2B (Concluded)

Part 2
SAN MARCO CORP.
Retained earnings, December 31, 2009............................ $1,080,000
Plus: Net income...............................................................
536,000
1,616,000
Less: Cash dividends declared........................................
(370,000)
Treasury stock reissuances...................................
(8,000)
Retained earnings, December 31, 2010............................ $1,238,000

Part 3
SAN MARCO CORP.
Stockholders Equity Section of the Balance Sheet
December 31, 2010
authorized, 100,000 shares issued and outstanding.... $ 100,000
Paid in capital in excess of par value, common stock...
700,000
Retained earnings (from part 2).............................................
1,238,000
Total stockholders equity................................................. $2,038,000

213

Part 1
Explanations for each of the journal entries
Jan. 17 Declared a cash dividend of $1 per share of common stock.
($48,000 / 48,000 shares)
Feb.
5 Paid the cash dividend on common stock.
Feb. 28
Declared a 12.5% stock dividend when the market value is $21 per
share. ($60,000 / $10 par = 6,000 shares = 12.5% of 48,000 shares;
$126,000 / 6,000 shares = $21 per share)
Mar. 14 Distributed the common stock dividend.

Mar. 25 Executed a 2-for-1 stock split. ($10 par / $5 par = 2-for-1 ratio)
Mar. 31 Closed the Income Summary account to Retained Earnings.
Part 2
Jan. 17
Feb. 5
Feb. 28
Mar. 14
Mar. 25
Mar. 31
Common stock......... $ 480,000 $ 480,000 $ 480,000 $ 540,000 $ 540,000 $ 540,000

Common stock
dividend distributable.
60,000
Paid-in capital in
excess of par..........
192,000
192,000
258,000
258,000
258,000
258,000
Retained earnings.....
752,000
752,000
626,000
626,000
626,000
986,000
Total equity............... $1,424,000 $1,424,000 $1,424,000 $1,424,000 $1,424,000 $1,784,000

214

Part 1
Outstanding common shares
Feb. 15
Beginning balance........................... 8,500
Less treasury stock (Mar. 2)............
Plus dividend shares (Oct. 4)*......... _____
Outstanding shares.......................... 8,500
May 15
8,500
(500)
Aug. 15
8,500
(500)
_____
_____
8,000
8,000
Nov. 15
8,500
(500)
1,000
9,000
*(12.5% x 8,000)
Part 2
Cash dividend amounts
Feb. 15
Outstanding shares.......................... 8,500
Dividend per share...........................$ 0.40
Total dividend...................................$3,400
May 15
8,000
$ 0.40
$3,200
Aug. 15
8,000
$ 0.40
$3,200
Nov. 15
9,000
$ 0.40
$3,600
Part 3
Capitalization of retained earnings for small stock dividend
Number of shares...............................................................................
1,000
Market value per share......................................................................
$
42
Total capitalized..................................................................................
$ 42,000
Part 4
Cost per share of treasury stock
Total amount paid...............................................................................
$ 20,000
Shares purchased..............................................................................
500
Cost per share....................................................................................
$
40
Part 5
Net income
Retained earnings, beginning balance............................................
$135,000
Less dividends: Feb. 15...................................................................
(3,400)
May 15....................................................................
(3,200)
Aug. 15...................................................................
(3,200)
Oct. 4
(42,000)
Nov. 15...................................................................
(3,600)
Total before net income.....................................................................
$ 79,600
Plus net income..................................................................................
?
Retained earnings, ending balance..................................................
$147,600
Therefore, net income = $68,000

215

1. Market price = $90 per share (current stock exchange price given)
2. Computation of stock par values
Preferred: Paid-in amount / Number of shares = $187,500 / 1,500 = $125
Common: Paid-in amount / Number of shares = $450,000 /18,000 = $ 25
3. Book values with no dividends in arrears
Book value per preferred share = par value (when not callable)
= $125
Common stock
Total equity................................................ $1,200,000
Less equity for preferred......................... (187,500)
Common stock equity.............................. $1,012,500
Number of outstanding shares...............
Book value per common share............... $
4.
18,000
56.25 ($1,012,500 / 18,000)
Book values with two years dividends in arrears

Preferred stock
Preferred stock par value........................ $ 187,500
Plus two years dividends in arrears*.....
30,000
Preferred equity........................................ $ 217,500

Book value per preferred share.............. $
1,500
145.00 ($217,500 / 1,500)
Common stock
Total equity................................................ $1,200,000
Less equity for preferred......................... (217,500)
Common stock equity.............................. $ 982,500
Book value per common share............... $
18,000
54.58 ($982,500 / 18,000)

216
Problem 13-5B (Concluded)

5. Book values with call price and two years dividends in arrears
Preferred stock
Preferred stock call price (1,500 x $140)
Plus two years dividends in arrears*...........
Preferred equity..............................................
$ 210,000
30,000
$ 240,000

Book value per preferred share....................
Common stock
Total equity......................................................
Less equity for preferred...............................
Common stock equity....................................
1,500
$
$1,200,000
(240,000)
$ 960,000

Book value per common share.....................
160.00 ($240,000 / 1,500)
18,000
$
53.33 ($960,000 / 18,000)
6. Dividend allocation in total

2 years dividends in arrears....
Current year dividends..............
Remainder to common..............
Totals...........................................
Preferred
$ 30,000
15,000
$ 45,000
Common
$
0
5,000
$ 5,000
Total
$ 30,000
15,000
5,000
$ 50,000
Dividends per share for the common stock

$5,000 / 18,000 shares = $0.28
7.
Equity represents the residual interest of owners in the assets of the

business after subtracting claims of creditors. With few exceptions,
these assets and liabilities are valued at historical cost, not market
value. Therefore, the book value of common stock does not normally
match its market value. Also, the book value of common stock is based
on past transactions and events, whereas the market value takes into
account expected future earnings, growth, dividends, and other
industry and economic factors.

217
SERIAL PROBLEM SP 13
Serial Problem SP 13, Success Systems (25 minutes)
1a. Journal entry for issuance of common stock to Cicely
Cash.................................................................................
86,000
Common Stock.........................................................
86,000
Issuance of common stock.
1b. Journal entry for issuance of preferred stock to Uncle Marcello

Cash.................................................................................
86,000
Preferred Stock.........................................................
86,000
Issuance of $100 par 7% preferred stock.
1c. Journal entry to record $86,000 borrowed from the bank

Cash.................................................................................
86,000
Notes Payable...........................................................
86,000
Borrowed $86,000 on a 10-year, 7% note payable
2.
Evaluation of the three proposals

a. Cicelys investment as a common shareholder would mean that
Adriana would have a second person who would be an owner.
Adriana has been working on her own for about 15 months, and
may not wish to have a second person who may have authority to
make decisions. If Cicely and Adriana do not agree completely on
policies and procedures, this may create some difficulties for
Adriana. On the other hand, Cicely may have skills that could
complement Adrianas skills, and the two may make a great
success.
As Cicely is an owner there is no need to repay the $86,000, nor is
there any requirement that dividends be paid. If Success Systems
gets into cash flow difficulties, any dividends can be postponed
until a later time.

218
Serial Problem (concluded)

b. Having a preferred shareholder means that Adrianas Uncle Marcello
will not have the same voting rights as Adriana. Uncle Marcello may
be expecting regular dividend, however, so Adriana should be
prepared to pay $6,020 ($86,000 x 7%) in dividends each year. This
is not a requirement, however, even if the preferred stock is
cumulative.
The preferred stock does not require repayment, and technically,
Adriana would have the use of the $86,000 for as long as Uncle
Marcello wishes to be a preferred shareholder.
c. The loan requires regular monthly payments, so Adriana will need to
budget the $1,000 each month as a cash outflow. The loan may be
riskier because it does require regular payments. Interest on the
loan balance is a tax-deductible expense to Success Systems, while
any dividends (whether to the common or preferred shareholders)
are not a tax-deductible expense to Success Systems.
In addition, Adriana does not have an additional owner that could
exert some control over her business.
3.
There is no correct answer to the question of which proposal Adriana

should adopt. Class discussion may indicate which proposal the class
prefers.

219
Reporting in Action
BTN 13-1
1. As of March 3, 2007, the shares of common stock issued and

outstanding are 480,655,000 (see balance sheet). As of February 25,
2006, the number of shares of common stock issued and outstanding is
485,098,000.
The weighted-average common shares used in calculating earnings per
share are disclosed within Best Buys income statement. At March 3,
2007, the basic weighted-average shares were 482,100,000. At February
25, 2006, the basic weighted-average shares were 490,300,000.
Therefore, for both years, the shares outstanding at year-end were
slightly lower than the basic weighted-average shares outstanding
during the year. (Differences between the year-end and weightedaverage share amounts are likely the result of timing differences with
share repurchases, issuances, and retirements.)
2. Total stockholders equity as of March 3, 2007................ $6,201,000,000
Book value of equity applicable to common stock*........ $6,201,000,000
* Given that there is only one class of stock, all the equity items listed can be considered to
represent the book value of the common stock.
3. Best Buy paid cash dividends of $174,000,000 for the year ended March
3, 2007, and $151,000,000 for the year ended February 25, 2006.
4. Best Buys income statement reports the following
2007
Basic earnings per common share.................. $2.86
2006
$2.33
2005
$2.01
Its basic earnings per common share figure has consistently grown over
this 3-year period.
5. Best Buys consolidated balance sheet does not list any shares of
treasury stock in 2007 or 2006.
6. Answer depends on the financial statement information obtained.

220
Comparative Analysis
BTN 13-2
1. Book value per common share =

Best Buys book value per common share
= $6,201 / 481
= $12.89
Circuit Citys book value per common share

= $1,791 / 171
= $10.47
RadioShacks book value per common share

= $654 / 136
= $ 4.81
2. Earnings per share =

Best Buys earnings per share:
$1,377/ 482
= $ 2.86
Circuit Citys earnings per share: $ (8) / 170
= $(0.05)
RadioShacks earnings per share: $73 / 136
= $ 0.54
3. Dividend Yield =
Best Buy dividend yield
Circuit City dividend yield
RadioShack dividend yield
= $0.36 / $46.35= 0.78%

= $0.12 / $19.00= 0.63%
= $0.25 / $16.78= 1.49%
Analysis: The low dividend yield for all three companies suggests that
they are growth stocks.
4. Price-earnings ratio =
Best Buy price-earnings ratio:
Circuit City price-earnings ratio:
RadioShack price-earnings ratio:
$46.35 / $2.86 = 16
$19.00 / $(0.05) = (380)
$16.78 / $0.54 = 31
Interpretation:
The price-earnings ratios of the companies are
considerably different. In Best Buys case, the market appears willing to
pay a multiple of 16 times its earnings. For RadioShack, that multiple is
considerably greater at 31 times its earnings. Circuit Citys priceearnings ratio is difficult to interpret because Circuit City had a net
loss. In the case of net losses, users commonly adjust earnings per
share to the usual, expected earnings, often times using an average
from recent periods.

221
Ethics Challenge
BTN 13-3
During the course of her duties, Brianna has learned information that
others might not know. If she uses this information to trade in New World
Pharmaceuticals stock, Brianna may be violating securities laws, so she
should be careful if she buys or sells any New World stock.
It is possible that the new drug will not be as profitable as expected, and
the stock might not increase as much as Brianna expects. Nevertheless,
Brianna might be accused of insider trading in the future if she buys the
stock.
Communicating in Practice
BTN 13-4
There is no set solution to this activity. Solutions will vary based on the
industry and the companies selected.
Taking It to the Net
BTN 13-5
1. The balance sheet of McDonalds shows that they have both preferred
and common stock authorized, but it has only issued common stock.
2. The preferred stock has no par value. There are 165.0 million preferred
shares authorized, and none issued. The common stock has a $0.01 par
value. There are 3.5 billion shares authorized and 1,660.6 million shares
issued.
3. In 2006, the financing section of the statement of cash flows shows that
McDonalds paid $2,959.4 million to purchase treasury stock.
4. In 2006, the financing section of the statement of cash flows shows that
McDonalds paid common stock cash dividends of $1,216.5 million.

222
Teamwork in Action
BTN 13-6
1. The team statement should include the following:

a. When a corporation buys back its stock (engages in a treasury
stock acquisition), the effect on financial position is a decrease in
both assets (cash) and equity (treasury stock). Also, treasury stock
is a contra equity account that decreases equity.
b. Reasons for buybacks:
to use shares to acquire another corporation.
to avoid a hostile takeover by an investor seeking to take control
of the company.
to reissue shares to employees as compensation.
to maintain a strong or stable market for the stock.
2. The team should establish the acquisition entry as follows
Treasury Stock, Common......................................... 13,400
Cash.....................................................................
13,400
Reacquired 100 shares of $100 par value

common stock at a cost of $134 per share.
Each member should prepare one of the following reissue entries:

a. Cash...........................................................................................
13,400
Treasury Stock, Common..................................................
13,400
Received $134 per share for 100 treasury

shares costing $134 per share.
b. Cash...........................................................................................
15,000
Paid-In Capital, Treasury Stock.........................................
1,600
13,400

c. Cash...........................................................................................
12,000
Paid-In Capital, Treasury Stock...............................................
1,400
13,400


223
Teamwork in Action (Continued)

d. Cash...........................................................................................
12,000
Paid-In Capital, Treasury Stock...............................................
1,000
Retained Earnings....................................................................
400
13,400

e. Cash...........................................................................................
12,000
Retained Earnings....................................................................
1,400
13,400

3. When presenting and explaining the above entries to the team, the
following points should be made by the team members:
The similarities in all reissue entries a through e are:
The net affect of the transaction is to increase assets and equity by
the amount received on reissue.
Cash (assets) is always increased by the amount received.
Treasury Stock is always decreased by the full cost regardless of
whether the reissue is at cost, above cost, or below cost.
The differences in reissue entries b through e are:
(b) Reissuing above cost creates additional Paid-In Capital.*
(c) Reissuing below cost reduces existing Paid-In Capital.*
(d) Reissuing below cost reduces existing Paid-In Capital,*
but after this accounts balance has been eliminated, then Retained
Earnings must be reduced by the additional amount below cost.
(e) Reissuing below cost reduces Retained Earnings when Paid-In
Capital* does not exist.
*Refers to the Paid-In Capital, Treasury Stock account.

224
Entrepreneurial Decision
BTN 13-7
1.
Net income..............................................................
Less preferred dividends.......................................
Net income for common stockholders.................
Plan A
$ 72,000
0
$ 72,000
Plan B
$ 72,000
(10,000)
$ 62,000
Groups share of common equity.........................

Groups share of income after any preferred
stock dividends.......................................................
80%
100%
$ 57,600
$ 62,000
Groups initial equity..............................................
$375,000
$375,000
Groups return on equity.......................................
15.4%
16.5%
Net income..............................................................
Less preferred dividends.......................................
Net income for common stockholders.................
Plan A
$ 16,800
0
$ 16,800
2.
Plan B
$ 16,800
(10,000)
$ 6,800
Groups share of common equity.........................

Groups share of income after any preferred
stock dividends.......................................................
80%
100%
$ 13,440
Groups initial equity..............................................
$375,000
$375,000
Groups return on equity.......................................
3.6%
1.8%
6,800
3. The difference between the answers for parts 1 and 2 arises from the
percent of return generated with the assets invested in the corporation.
In part 1, the groups return on equity is 15.4% for Plan A, which is less
than the 16.5% for Plan B. However, the return on equity is only 3.6% in
part 2 for Plan A, BUT this is more than the 1.8% for Plan B.
These results indicate that the 8% dividend rate on the preferred stock
is advantageous to the group as long as the rate of return on the assets
is greater than 8% (this is the same as saying net income is over
$40,000). This means Plan B is preferred. Net income over $40,000
yields a return on assets greater than 8% (i.e., 8% equals
$40,000/$500,000). If net income falls below $40,000 (or less than 8%
return on assets), then Plan A is preferred.
225
Hitting the Road
BTN 13-8
There is no formal solution for this field activity. Students often find this
assignment interesting as it highlights the relevance of their accounting
studies. Instructors also sometimes assign a particular financial news
show to watch on a certain day for the entire classthis can help
encourage a general class discussion on the topics raised.
Global Decision
BTN 13-9
1. Book value per common share =

DSGs book value per common share
= 1,304 / 1,843
= 0.71
= 207 / 1,843
= 0.11
2. Earnings per share =

DSGs earnings per share
(Instructors note: At the date this problem was written, 1 was equal to about
$2.05. This means that DSGs BVPS is about $1.46, and its EPS is about $0.23)
3. DSGs EPS is 0.11, and its paid dividends of 0.07 It appears that DSG
is paying out about 64% of its income as dividends. In comparison with
most companies, this is a large proportion of income in the form of
cash dividends.

226

Fundamental Accounting Principles

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Fundamental Accounting Principles

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Chapter 13

Accounting for Corporations

Organization expenses (costs) are incurred in creating a corporation. Examples include:

McGraw-Hill Companies, 2009

10. The three important dates governing dividends are:

the date the directors vote to pay a dividend.

the date when shareholders receive the dividend payment.

McGraw-Hill Companies, 2009