Reporting and Analyzing Stockholders Equity Advantages mostly of

Reporting and Analyzing Stockholders’ Equity

Advantages (mostly) of Corporate Form • Corp has separate legal existence • Shareholders have limited liability • Transferable ownership rights—secondary markets • Continuous life • Professional management • Easier to raise large amounts of capital • Disadvantages—double taxation • Additional government regulation • Potential for managers to enrich themselves at the expense of some of the owners • See Illus. 11 -2 p. 541 for summary

Why issue C/S instead of debt? • Dividends to stockholders are discretionary; some companies never pay a dividend • May need to use both equity and debt • Publicly traded stock is easily transferable • The downside of stock—dividends are not deductible, control of corporation may be diluted, and EPS may be lower • See Illus. 11 -20 p. 562 for advantages of debt financing

Components of SE-see p. 548 • • • Paid-in Capital +Add’l Paid-in Capital Total Paid-in Capital + R/E Total Paid-in Capital and Retained Earnings -Treasury Stock TSE

Number of shares of stock • Authorized—number contained in Articles of Incorporation, maximum number of shares that can be issued • Issued—number of shares that have been transferred to shareholders at one time or another • Outstanding—number that are still in the hands of shareholders (does not include TS)

Par or Stated Value • Minimum amount that the shares will be issued for —with common stock, set very low • Has nothing to do with market value • If stock sold for price above par, the excess will be credited to Add’l PIC, PICIEOPV, or Premium account (credit) • Modern trend—no par or stated value—board of directors determines consideration for shares

Issuance of Common Stock • Issue 1000 shares of no-par common stock for $10 per share Cash 10000 Common Stock 10000 • Issue 1000 shares of $1 par common stock for $10 per share Cash 10000 Common Stock (1000 x 1) 1000 Paid-in Capital in Excess of Par-CS 9000

Common Stock v. Preferred Stock • Has voting rights • Greater risk • Right to share in dividends and proceeds on liquidation • See Illus. 11 -3 p. 542 for graphic of common stockholder rights • Does not vote • Has preference on dividends and rights on any liquidation • “near-debt”

Features of Pfd Stock • Dividends may be cumulative or non-cumulative. Cumulative—if preferred dividend not declared by board of directors, it must be “made up” before common gets a dividend. • Dividends in arrears—cumulative dividends not declared, not a liability, but requires note disclosure. • Other features, pfd stock can be participating, callable and/or convertible

Dividends • Cash Dividends • 3 dates—declaration date, record date and payment date (see p. 550 -551) • When declared, dividends reduce R/E (not an expense) and are a liability of the company • Stock Dividends— corporation issues add’l shares to shareholders. • Contrast with Stock Splits, e. g. a 2 -for-1 stock split—everyone owns twice as many shares after split

Cash Dividends - Entries • Cash dividends or R/E Dividends payable Declaration date • NER Record date • Dividends payable Cash Payment date

Stock splits/dividends Why? • • • Don’t use cash Increases the number of shares Should reduce the market price per share Make the stock more accessible/widely held Non-taxable

Treasury Stock • Company purchases its own stock, does not retire it • May do so for various reasons—pension plan, to reduce the number of shares outstanding, etc. • Entry Treas Stock xx Cash xx • Treasury Stock is not an asset-reduces SE, does not receive a dividend • Resales of TS—may involve Add’l PIC-TS

Ratios • Payout ratio—Cash Dividends/Net Income—What percentage of earnings goes to shareholders in the form of dividends? Why would a company prefer a low payout ratio? • Return on common equity (Net income – preferred dividends)/Avg. Common Stockholders’ Equity. Shows return on the stockholders’ total investment in the company. Prefer higher.