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Chapter 9
Stockholders’ Equity
Short Exercises
(5 min.) S 9-1
Corporation’s advantages:
Continuous life and transferability of ownership
Limited liability of the stockholders
Corporation’s disadvantages:
Corporate taxation
Government regulation
(5 min.) S 9-2
1. The stockholders hold ultimate power in a corporation.
2. The chairperson of the board of directors is usually the most
powerful person in a corporation. Title is CEO.
3. The president is in charge of day-to-day operations. Title is
COO.
4. The chief financial officer is in charge of accounting and
finance. Title is CFO.
Chapt er 9 Stockholders’ Equity 563
(5-10 min.) S 9-3
1. The common stockholders are the real owners of a
corporation
2. Preferred stockholders have priority over common
stockholders in (1) receipt of dividends and (2) receipt of
assets if the corporation liquidates.
3. Common stockholders benefit more from a successful
corporation because the preferred stockholders’ dividends
are limited to a specified amount. The common stockholders
take more risk so their potential for gains through an
increase in the company’s stock price is unlimited.
(5-10 min.) S 9-4
The $61,938,000 was paid-in capital. It was not a profit and
therefore had no effect on net income.
The par value of stock has no effect on total paid-in capital.
Total paid-in capital is the total amount that stockholders
have invested in (paid into) a corporation, including the par
value of stock issued plus any additional paid-in capital.
564 Financial Accounting 7/e Solutions Manual
(10 min.) S 9-5
Millions
Hewlett-Packard:
Cash……………………………………………. 17,993
Common Stock……………………………. 27
Additional Paid-in Capital……………….. 17,966
Krispy Kreme Doughnuts:
Cash……………………………………………. 298
Common Stock……………………………. 298
Chapt er 9 Stockholders’ Equity 565
(10 min.) S 9-6
Case A — Issue stock and buy the assets in separate
transactions:
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Cash……………………………………….. 200,000
Common Stock (10,000 × $5)……..... 50,000
Paid-in Capital in Excess of Par…… 150,000
Issued stock.
Building…………………………………… 160,000
Equipment………………………………… 40,000
Cash…………………………………….. 200,000
Purchased plant assets.
Case B — Issue stock to acquire the assets:
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Building…………………………………… 160,000
Equipment………………………………... 40,000
Common Stock (10,000 × $5)………. 50,000
Paid-in Capital in Excess of Par…... 150,000
Issued stock to acquire building and equipment.
The balances in all accounts are the same:
Building…………………………………… $160,000
Equipment……………………………….… 40,000
Common Stock…………………………... 50,000
Paid-in Capital in Excess of Par……… 150,000
566 Financial Accounting 7/e Solutions Manual
(5-10 min.) S 9-7
Thousands
Stockholders’ equity:
Common stock, $.01 par, 600 million shares
issued……………………………………………... $ 6
Paid-in capital in excess of par………………….. 198
Retained earnings………………………………….. 646
Other stockholders’ equity……………………….. (29)
Total stockholders’ equity………………………... $821
(10 min.) S 9-8
Thousands
a. Total revenues……………………………………….. $1,390
Total expenses……………………………………….. 805
Net income………………………………….………… $ 585
b. Accounts payable…………………………………… $ 420
Other current liabilities……………………………... 2,566
Long-term liabilities…………………………………. 25
Total liabilities………………………………………... $3,011
c. Total liabilities (from Req. b)………………………. $3,011
Total stockholders’ equity (from S 9-7)………….. 821
Total assets…………………………………………… $3,832
Chapt er 9 Stockholders’ Equity 567
(5 min.) S 9-9
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Millions
Treasury Stock……………………………... 28
Cash……………………………………….. 28
Cash………………………………………….. 7
Treasury Stock………………………….. 3
Paid-in Capital from Treasury Stock
Transactions………………………….. 4
Overall, stockholders’ equity decreased by $21 million ($28
million paid out minus $7 million received).
568 Financial Accounting 7/e Solutions Manual
(10 min.) S 9-10
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
20X6
Dec. 15 Retained Earnings
($100,000 × .05) + (25,000 × $.60)….. 20,000
Dividends Payable………………… 20,000
Declared a cash dividend……………
20X7
Jan. 4 Dividends Payable…………………… 20,000
Cash…………………………………. 20,000
Paid the cash dividend.
During 20X6, Retained Earnings increased by $50,000 (net
income of $70,000 − dividends of $20,000).
(5-10 min.) S 9-11
1. $150,000 (100,000 shares × $1.50 per share)
2. Preferred: $150,000
Common: $150,000
3. Cumulative, because it is not labeled noncumulative
4. Preferred: $450,000 ($150,000 × 3)
Common: $350,000 ($800,000 − $450,000)
Chapt er 9 Stockholders’ Equity 569
(5-10 min.) S 9-12
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
May 11 Retained Earnings (60,000 × .10 × $11.50)…… 69,000
Common Stock (60,000 × .10 × $1)………... 6,000
Paid-in Capital in Excess of Par-Common.. 63,000
Req. 2
No effect on total assets.
No effect on total liabilities.
No effect on total stockholders’ equity.
570 Financial Accounting 7/e Solutions Manual
(10 min.) S 9-13
Total stockholders’ equity…………………………….. $4,000,000
Less: Preferred stock…………………………………. (330,000)
Preferred dividends in arrears
(300,000 × .08 × 3)…………………………… (72,000)
Common equity…………………………………………. $3,598,000
Number of common shares outstanding
(60,000 − 1,400)……………………………………….. ÷ 58,600
Book value per share of common stock……………. $ 61.40
Chapt er 9 Stockholders’ Equity 571
(5-10 min.) S 9-14
(a) Rate of return
Net income + Interest expense
on total =
Average total asssets
assets
(b) Rate of return
on common Net income − Preferred dividends
=
stockholders' Average common stockholders’ equity
equity
1. Creditors have loaned money to the company and earn
interest. Stockholders have invested in the corporation’s
stock and thus own the company’s net income. The sum of
interest expense plus net income is the return to the two
groups that have financed the company’s assets.
2. Preferred stockholders have the first claim to the company’s
net income through preferred dividends. Therefore, preferred
dividends are subtracted from net income to compute ROE.
572 Financial Accounting 7/e Solutions Manual
(10-15 min.) S 9-15
Rate of return Net Interest
on total income + expense ¥124 + ¥29
= =
assets Average total assets (¥9,499 + ¥10,608) / 2
¥153
= = 1.5%
¥10,054
Note: 10% is considered good in most industries. Therefore,
Sony’s 1.5% return on assets is very weak.
Rate of return Net Preferred
on common income − dividends ¥124 − ¥0
= =
stockholders’ Average common (¥3,204 + ¥2,870) / 2
equity stockholders’ equity
¥124
= = 4.1%
¥3,037
Note: 15% is considered good in most industries, so Sony’s
return on equity is very weak.
Chapt er 9 Stockholders’ Equity 573
(5-10 min.) S 9-16
Billions
Cash flows from financing activities:
Paid off long-term notes payable……………………. $(2.7)
Issued common stock…………………………………. 1.2
Purchased treasury stock…………………………….. (3.0)
Paid cash dividends…………………………………… (1.9)
574 Financial Accounting 7/e Solutions Manual
Exercises
(5-10 min.) E 9-17
DATE: _____________
TO: Lance Brown and Monica Kobelsky
FROM: Student Name
RE: Steps in forming a corporation
The first step in organizing a corporation is to obtain a charter
from the state. The charter authorizes the corporation to issue
a certain number of shares of stock to the owners of the
business, who are called stockholders. The incorporators
(Brown and Kobelsky) will need a set of bylaws to determine
how the corporation is to be governed internally. The
stockholders will elect a board of directors who in turn appoint
officers to manage the corporation on a day-to-day basis.
Student responses may vary.
Chapt er 9 Stockholders’ Equity 575
(10-15 min.) E 9-18
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
July 19 Cash (10,000 × $6.50)………………… 65,000
Common Stock (10,000 × $2.50)... 25,000
Paid-in Capital in Excess of
Par - Common............................. 40,000
Oct. 3 Cash .................................................... 50,000
Preferred Stock ............................. 50,000
11 Inventory ............................................. 11,000
Equipment .......................................... 8,500
Common Stock (3,300 × $2.50)..... 8,250
Paid-in Capital in Excess of
Par - Common............................. 11,250
Req. 2
Stockholders’ equity:
Preferred stock, $1.50, no par
5,000 shares authorized, 500 shares issued……… $50,000
Common stock, $2.50 par,
100,000 shares authorized, 13,300 shares issued… 33,250
Paid-in capital in excess of par-common
($40,000 + $11,250)………………………………………. 51,250
Retained earnings (deficit)………………………….…… (42,000)
Total stockholders’ equity……………………….…… $92,500
576 Financial Accounting 7/e Solutions Manual
(10-15 min.) E 9-19
Stockholders’ Equity
Preferred stock, $4.50 no-par, 5,000 shares
authorized, 300 shares issued ................................. $ 20,000
Common stock, $1 par, 10,000 shares authorized,
4,000 shares issued .................................................. 4,000
Paid-in capital in excess of par - common .................. 70,000*
Retained earnings.......................................................... 49,000
Total stockholders’ equity ....................................... $143,000
_____
*Computation:
June 23: 1,000 shares × ($16 − $1) =……………………………. $15,000
July 12: $15,000 + $43,000 − (3,000 shares × $1.00) =………. 55,000
$70,000
Journal entries (not required):
June 23 Cash……………………………………... 16,000
Common Stock .............................. 1,000
Paid-in Capital in Excess of Par… 15,000
July 2 Cash .................................................... 20,000
Preferred Stock ............................. 20,000
12 Inventory ............................................. 15,000
Equipment .......................................... 43,000
Common Stock .............................. 3,000
Paid-in Capital in Excess of Par… 55,000
Chapt er 9 Stockholders’ Equity 577
(10 min.) E 9-20
Paid-in capital consists of:
Preferred equity:
Issued for cash (5,000 shares × $110) ........... $550,000
Common equity:
Issued for cash (20,000 shares × $15)…… ... 300,000
Issued for organizing the corporation 20,000
Issued for patent……………………………….. 80,000
Total paid-in capital…………………………………… $950,000
Unused data:
Net income
Dividends declared
Short-cut solution (also okay):
1. $ 20,000
2. 80,000
3. 550,000 (5,000 × $110)
4. 300,000 (20,000 × $15)
$950,000 = Total paid-in capital
578 Financial Accounting 7/e Solutions Manual
(10-15 min.) E 9-21
Stockholders’ Equity (Thousands)
Common stock, $0.25 par, 800 shares
authorized, 360 shares issued……………………… $ 90
Paid-in capital in excess of par………………………… 901
Retained earnings………………………………………… 2,202
Other stockholders’ equity……………………………… (729)
Less: Treasury stock, common, 120 shares at cost.. (1,380)
Total stockholders’ equity…………………………... $1,084
Sagebrush paid a higher price to acquire treasury stock than
the price Sagebrush received when it issued its stock. This
explains why Treasury Stock has a greater balance than the
sum of Common Stock plus Paid-in Capital in Excess of Par.
Chapt er 9 Stockholders’ Equity 579
(10-15 min.) E 9-22
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Apr. 19 Cash (2,000 × $5)…………………………. 10,000
Common Stock (2,000 × $1)……….... 2,000
Paid-in Capital in Excess of Par……. 8,000
To issue common stock.
July 22 Treasury Stock - Common (900 × $7).... 6,300
Cash……………………………………... 6,300
To purchase treasury stock.
Nov. 11 Cash (800 × $12)…………………………... 9,600
Treasury Stock - Common (800 × $7) 5,600
Paid-in Capital from Treasury
Stock Transactions……………….. 4,000
To sell treasury stock.
Overall effect on stockholders’ equity
($10,000 − $6,300 + $9,600)……………………………… $13,300
580 Financial Accounting 7/e Solutions Manual
(10 min.) E 9-23
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Millions
b. Cash (6 million × $12.50)……………………. 75
Common Stock (6 million × $1.50)……... 9
Capital in Excess of Par Value…………. 66
c. Treasury Stock……………………………….. 14
Cash…………………………………………. 14
d. Retained Earnings…………………………… 30
Dividends Payable………………………… 30
Dividends Payable…………………………… 30
Cash……………………………………….… 30
or one entry only:
Retained Earnings …………………………... 30
Cash……………………………………….… 30
Chapt er 9 Stockholders’ Equity 581
(10 min.) E 9-24
Dollars
in
Millions
Stockholders’ Equity:
Common stock, $1.50 par value,
1,806 million shares issued ($2,700 + $9)……….. $ 2,709
Capital in excess of par value ($8,100 + $66)………. 8,166
Retained earnings ($1,200 + $440 − $30)……………. 1,610
Treasury stock, 1 million shares at cost……………. (14)
Total stockholders’ equity………………………….. $12,471
582 Financial Accounting 7/e Solutions Manual
(20-30 min.) E 9-25
Req. 1
Conversion of preferred stock into common stock
Retirement of preferred stock
Req. 2
Issuance of common stock:
a. To preferred stockholders who converted their preferred
into common
b. For cash or other assets
c. Stock dividend
Req. 3
(Millions
of shares
of stock)
Dec. 31, 20X9
Common shares issued……………………………. 564
Less: Treasury stock, number of shares……… (49)
Common shares 515
outstanding……………………...
Chapt er 9 Stockholders’ Equity 583
(continued) E 9-25
Req. 4
Retained Earnings (Millions)
Dividends Dec. 31, 20X8 Bal. 5,006
during 20X9 136 Net income 20X9 1,410
Dec. 31, 20X9 Bal. 6,280
Req. 5 (All amounts in millions)
December 31, Purchases
20X9 20X8 During 20X9
Cost of treasury stock………………. $1,235 − $215 = $1,020
Treasury stock, number of shares… 49 − 9 = ÷ 40
Average price per share paid for
treasury stock purchased during 20X9. $25.50
584 Financial Accounting 7/e Solutions Manual
(15 min.) E 9-26
PREFERRED COMMON TOTAL
20X4 Total dividend……………. $ 50,000
Preferred dividends
in arrears:
20X2: $60,000 × .05 = $3,000
20X3: $60,000 × .05 = 3,000
Current year —
20X4: $60,000 × .05 = 3,000
Total to preferred………... $9,000
Remainder to common…. $41,000
20X5 Total dividend……………. $100,000
Preferred dividends:
Current year —
20X5: $60,000 × .06 = $3,000
Remainder to common…. $97,000
Chapt er 9 Stockholders’ Equity 585
(15-20 min.) E 9-27
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Apr. 15 Retained Earnings (500,000 × .10 × $17)… 850,000
Common Stock (500,000 × .10 × $0.10). 5,000
Paid-in Capital in Excess of
Par - Common………………………… 845,000
To distribute a common stock dividend.
Req. 2
Stockholders’ equity
Common stock, $0.10 par, 2,000,000 shares authorized,
550,000 issued ($50,000 + $5,000)…………… $ 55,000
Paid-in capital in excess of par - common
($962,000 + $845,000)…………………………... 1,807,000
Retained earnings ($7,122,000 − $850,000)……. 6,272,000
Other………………………………………………….. (195,000)
Total stockholders’ equity…………………….. $7,939,000
586 Financial Accounting 7/e Solutions Manual
(continued) E 9-27
Req. 3
The stock dividend did not change total stockholders’ equity
because the company gave its stockholders no assets. The
company merely transferred $850,000 from Retained Earnings
to Common Stock ($5,000) and Paid-in Capital in Excess of Par
($845,000).
Req. 4
DQ’s maximum cash dividend is limited to $540,000, the
balance of its cash account.
Chapt er 9 Stockholders’ Equity 587
(15-20 min.) E 9-28
a. Decrease stockholders’ equity by $80 million.
b. No effect.
c. No effect.
d. No effect.
e. Decrease stockholders’ equity by $8,500 (2,000 × $4.25).
f. Increase stockholders’ equity by $3,000 (600 × $5).
g. No effect.
588 Financial Accounting 7/e Solutions Manual
(10-15 min.) E 9-29
Stockholders’ equity:
Millions
Common stock, $0.05 par, 1 billion shares
(500 million × 2) authorized,
880 million shares (440 million × 2) issued…… $ 44
Additional paid-in capital……………………………. 318
Retained earnings…………………………………….. 2,393
Other…………………………………………………….. (149)
Total stockholders’ equity………………………. $2,606
Chapt er 9 Stockholders’ Equity 589
(10-15 min.) E 9-30
Req. 1
Common:
Total stockholders’ equity………………………….. $93,200
Less: Preferred equity — redemption value…….. (10,000)
Total common equity………………………………... $83,200
Book value per share ($83,200 / 8,000 shares)…. $ 10.40
Req. 2
Common:
Total stockholders’ equity…………………………... $ 93,200
Less: Preferred equity [$10,000 + ($6,000 × .06 × 3)]... (11,080)
Total common equity…………………………………. $ 82,120
Book value per share ($82,120 / 8,000 shares)……….. $ 10.27
Req. 3
Oriental Rug’s stock is not necessarily a good buy.
Investment decisions should be based on more than one ratio.
590 Financial Accounting 7/e Solutions Manual
(10-15 min.) E 9-31
Rate of Net income +
return Interest expense $1,486 + $219 $1,705
= = = = 0 .116
on assets Average total assets ($15,695 + $13,757) / 2 $14,726
Net income
Rate of return − Preferred
on common dividends $1,486 − $0 $1,486
= = = = 0.183
stockholders' Average common ($8,648* + $7,604**) / 2 $8,126
equity stockholders’
equity
*$ 43 + $11,519 − $2,914 = $8,648
**$388 + $16,510 − $9,294 = $7,604
These profitability measures suggest strength because (1)
Lexington’s 18.3% return on equity is very good and (2) it
exceeds return on assets by a wide margin.
Chapt er 9 Stockholders’ Equity 591
(10-15 min.) E 9-32
Net income +
Return Interest expense $1,882 + $1,437 $3,319
= = = = 0.062
on assets Average total assets ($55,798* + $52,071**) / 2 $53,935
*$32,320 + $23,478 = $55,798
**$38,023 + $14,048 = $52,071
Net income −
Return Preferred dividends $1,882 − $0 $1,882
= = = = 0.100
on equity Average common ($23,478 + $14,048) / 2 $18,763
equity
These rates of return are low — below the targets of most
companies — but not terribly weak. The company is profitable,
and return on equity exceeds return on assets. But both return
measures could stand to be improved.
(10 min.) E 9-33
Cash flows from financing activities:
Payment of long-term debt……………………….. $(17,055)
Proceeds from issuance of common stock……. 8,425
Borrowings…………………………………………... 6,582
Dividends paid………………………………………. (225)
592 Financial Accounting 7/e Solutions Manual
(20-25 min.) E 9-34
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
(a) 250,000
Cash (50,000* × $5) ....................................
Common Stock ..................................... 50,000
Additional Paid-in Capital ..................... 200,000
Issued stock.
(b) Treasury Stock (800 × $4)……………... 3,200
Cash……………………………………. 3,200
Purchased treasury stock.
(c) Cash……………………………………….. 1,800
Treasury Stock ($3,200 − $2,000)…. 1,200
Additional Paid-in Capital (or Paid-in
Capital from Treasury Stock Transactions)
($200,600 − $200,000)…………… 600
Resold treasury stock.
(d) Revenues…………………………………. 171,000
Expenses……………………………… 115,000
Retained Earnings…………………... 56,000
Closed net income to Retained Earnings.
(d) Retained Earnings ($56,000 − $38,000) 18,000
Cash……………………………………. 18,000
Declared and paid dividends.
_____
*$50,000 ÷ $1 par value per share = 50,000 shares issued.
Chapt er 9 Stockholders’ Equity 593
(20-25 min.) E 9-35
Statement of cash flows:
Cash Flows from Financing Activities:
Issuance of common stock………………………. $250,000
Purchase of treasury stock………………………. (3,200)
Sale of treasury stock…………………………….. 1,800
Payment fo dividends…………………………….. (18,000)
Journal entries are given in the solution to Exercise 9-34.
T-accounts of the stockholders’ equity accounts:
Common Stock
Issuance of stock 50,000
Balance 50,000
Additional Paid-in Capital
Issuance of
stock 200,000
Sale of treasury
stock 600
Balance 200,600
Retained Earnings
Dividends 18,000 Net income 56,000
Balance 38,000
Treasury Stock
Purchase 3,200 Sale 1,200
Balance 2,000
594 Financial Accounting 7/e Solutions Manual
(15 min.) E 9-36
Preferred stock:
Apollo retired preferred stock of $136 million ($740 − $604).
Common stock and Additional paid-in capital:
Apollo issued 9 million shares of common
stock for $31 million, computed as follows: Millions
Common stock ($900 − $891)……………………. $ 9
Additional paid-in capital ($1,490 − $1,468)…… 22
Total received for issuance of common stock.. $31
Retained earnings: Millions
Beginning balance……………………………………. $19,108
Add: Net income…………………………………….. 2,960
Less: Dividends……………………………………… (1,407*)
Ending balance………………………………………… $20,661
*$19,108 + $2,960 − $20,661 = $1,407
Treasury stock:
Apollo purchased treasury stock for $115 million ($2,758 −
$2,643).
Chapt er 9 Stockholders’ Equity 595
(15 min.) E 9-37
Additional
Common Paid-in Retained Treasury Total
Amounts in Millions Stock + Capital + Earnings − Stock = Equity
Balance, Dec. 31, 20X5… $ 81 $13 $40 $61
2 2
Issuance of stock………. 2 2 4
Stock dividend………….. 13 25 (3)4 —
Purchase of treasury
stock………………….. $(2) (2)
Net income………………. 26 26
Cash dividends…………. (17) (17)
Balance, Dec. 31, 20X6… $11 $17 $46 $(2) $72
Computations (not required):
1
8,000,000 × $1 par = $8,000,000
2
2,000,000 × $1 par = $2,000,000
2,000,000 × ($2 − $1) = $2,000,000
3
(8,000,000 + 2,000,000) × .10 × $1 par = $1,000,000
4
(8,000,000 + 2,000,000) × .10 × $3 market value = $3,000,000
5
$3,000,000 market value − $1,000,000 par value = $2,000,000
596 Financial Accounting 7/e Solutions Manual
Practice Quiz
Q9-38 c
Q9-39 c
Q9-40 d
Q9-41 c
Q9-42 b
Q9-43 e
Q9-44 a ($313,000 + $280,000 + $89,000 = $682,000
Q9-45 c ($682,000 + $71,800 − $5,000 = $748,800)
Q9-46 b {($119,600 − $8,900) / [($681,400 + $659,800*) /
2] = .165}
*$748,800 − $89,000 = $659,800
Q9-47 a
Q9-48 d
Q9-49 e
Q9-50 b
Q9-51 a
Q9-52 c 20,000 × $100 × .80 = $160,000
Q9-53 a ($365,000 − $160,000) / 20,000 = $9.50
Q9-54 a
Q9-55 d
Q9-56 b
Q9-57 c [($44,000 + $4,000) / $384,000 = .125]
Chapt er 9 Stockholders’ Equity 597
Problems
Group A
(20-30 min.) P 9-58A
1. Corporations report common stock and retained earnings
separately to comply with state laws. The laws require
corporations to report stockholders’ equity by source to
distinguish paid-in capital, which cannot be used for cash
dividends, from retained earnings.
2. We should first determine the market value of the land. Then
divide the land’s value by the market value of each share of
stock. The result will tell us how many shares of our stock to
issue for the land.
3. Investors buy common stock in the hope of earning higher
returns on their investment than are available on an
investment in preferred stock.
4. The redemption value of our preferred stock requires us to
pay the preferred stockholders this amount when we buy
back the preferred stock.
5. Book value
per share of Total stockholders’ equity − Preferred equity
=
common stock Number of shares of common stock outstanding
The stockholder can multiply book value per share by the
number of shares she owns. The result will be the book value
of her stock.
598 Financial Accounting 7/e Solutions Manual
(30-45 min.) P 9-59A
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Jan. 3 Organization Expense…………………… 10,000
Common Stock (1,000 × $5)………… 5,000
Paid-in Capital in Excess of
Par - Common………..................... 5,000
Issued stock to promoter for assisting
with issuance of stock.
6 Cash (8,800 × $11 per share)…………… 96,800
Common Stock (8,800 × $5)………… 44,000
Paid-in Capital in Excess of
Par - Common………..................... 52,800
Issued common stock for cash.
12 Patent………………………………………. 110,000
Preferred Stock……........................... 110,000
Issued preferred stock to acquire a patent.
22 Cash (1,500 × $12)………………………... 18,000
Common Stock (1,500 × $5)………… 7,500
Paid-in Capital in Excess of
Par - Common………..................... 10,500
Issued common stock for cash.
Chapt er 9 Stockholders’ Equity 599
(continued) P 9-59A
Req. 2
BFC Inc.
Balance Sheet (partial)
January 31, 20XX
Stockholders’ equity:
Preferred stock, $6, no-par, 10,000 shares authorized,
1,000 shares issued …………………………………… $110,000
Common stock, $5 par,
250,000 shared authorized, 11,300 shares issued*. 56,500
Paid-in capital in excess of par - common**…………... 68,300
Retained earnings………………………………………….. 89,000
Total stockholders’ equity……………………………. $323,800
_____
* 1,000 + 5,000 + 3,800 + 1,500 = 11,300 shares
**$5,000 + $52,800 + $10,500 = $68,300
600 Financial Accounting 7/e Solutions Manual
(10-15 min.) P 9-60A
Lima Corp.
Balance Sheet (partial)
December 31, 20X8
Stockholders’ equity:
Preferred stock, 5%, $100 par, 10,000 shares
authorized, 1,000 shares issued……………………. $100,000
Common stock, no-par, 400,000 shares
authorized, 100,000 shares issued…………………. 370,000
Retained earnings…………………………………………. 70,000
Total stockholders’ equity…………………………… $540,000
_____
Computations:
Preferred stock: 1,000 × $100 = $100,000
Common stock: Balance given as $370,000
Retained earnings: $40,000 + $90,000 − ($100,000 ×.05 × 2) −
(100,000 × $.50) = $70,000
Chapt er 9 Stockholders’ Equity 601
(15-20 min.) P 9-61A
Req. 1
MEMORANDUM
TO: Gary Swan Imports, Inc., Board of Directors
FROM: Student Name
RE: How the purchase of treasury stock will make it more
difficult for outsiders to take over the company
Purchasing treasury stock decreases the amount of stock
outstanding. If Swan Imports holds a sufficient quantity of
company stock in the treasury, outsiders, such as the Miami
investor group, may not be able to acquire a controlling interest
(50+ percent) of the outstanding stock from the remaining
stockholders. Because it takes cash to buy treasury stock, the
purchase decreases the size of the corporation. Reducing the
company’s cash position may make the company sufficiently
unattractive to cause the outside investors to abandon their
takeover plan.
Req. 2
Sales of treasury stock at prices above the purchase price
increase company assets because of the greater amount of
assets coming in from the sale than went out to buy the stock.
Treasury stock transactions do not affect liabilities, so the sale
of treasury stock also increases stockholders’ equity. These
sales of treasury stock will not affect net income because the
company is dealing with its owners. Transactions between the
corporation and its owners cannot generate a profit or a loss
that is reported on the income statement.
Student responses may vary.
602 Financial Accounting 7/e Solutions Manual
(20-30 min.) P 9-62A
Common stock [(200,000 + 100,000) × $1 + $14,000]. $ 314,000
Additional paid-in capital
200,000 × ($12 − $1.00)………………………………... 2,200,000
100,000 × ($14.50 − $1.00)……………………………. 1,350,000
20,000 × ($11 − $8)…………………………………… 60,000
From stock dividend………………………………….. 96,000
Retained earnings ($295,000 − $119,000 − $110,000). 66,000
Treasury stock [(30,000 − 20,000) × $8]………………. (80,000)
Total stockholders’ equity………………………………. $4,006,000
Total assets…………………………………………….. $7,030,000
− Total liabilities………………………………………….. (3,024,000)
= Total stockholders’ equity…………………………… $4,006,000
Chapt er 9 Stockholders’ Equity 603
(25-35 min.) P 9-63A
Req. 1
Teak has Class A cumulative preferred stock, Class B
cumulative preferred stock, and common stock outstanding.
Req. 2
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Cash…………………………………. 1,500,000
Class A Preferred Stock……… 1,500,000
Cash…………………………………. 1,840,000
Class B Preferred Stock……… 1,840,000
Cash ($1,400,000 + $5,540,000)… 6,940,000
Common Stock………………… 1,400,000
Additional Paid-in Capital -
Common…………………….. 5,540,000
Req. 3
Teak would have to pay all preferred dividends in arrears
before paying dividends to common stockholders because the
preferred stock is cumulative.
604 Financial Accounting 7/e Solutions Manual
(continued) P 9-63A
Req. 4
Teak must pay preferred dividends of $183,700 each year to
avoid having preferred dividends in arrears.
_____
Computation:
Class A Preferred: $1,500,000 × 0.055 = $ 82,500
Class B Preferred: $1,840,000 × 0.055 = 101,200
Total preferred dividends……………… $183,700
Req. 5
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
20X9
Feb. 28 Retained Earnings……………………….. 800,000
Dividends Payable, Class A
Preferred ($1,500,000 × .055 × 2).. 165,000
Dividends Payable, Class B
Preferred ($1,840,000 × .055 × 2).. 202,400
Dividends Payable, Common
($800,000 − $165,000 − $202,400). 432,600
Chapt er 9 Stockholders’ Equity 605
(15-20 min.) P 9-64A
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Feb. 22 Cash (1,000 × $16)………………………… 16,000
Common Stock (1,000 × $1)…………. 1,000
Paid-in Capital in Excess of Par -
Common……………………………… 15,000
May 4 Retained Earnings………………………… 900
Dividends Payable
(180 shares × $5)………………………. 900
24 Dividends Payable………………………... 900
Cash……………………………………… 900
July 9 Retained Earnings
(3,400 shares × 0.10 × $18)……………… 6,120
Common Stock (3,400 × 0.10 × $1)…. 340
Paid-in Capital in Excess of Par -
Common……………………………… 5,780
Nov. 19 Treasury Stock (800 × $14)……………… 11,200
Cash……………………………………… 11,200
Dec. 8 Cash (600 × $15)…………………………... 9,000
Treasury Stock, (600 × 14)…………… 8,400
Paid-in Capital from Treasury
Stock Transactions………………… 600
606 Financial Accounting 7/e Solutions Manual
(continued) P 9-64A
Req. 2
Stockholders’ equity:
$5 cumulative preferred stock, $10 par, 180 shares
issued……………………………………………............ $ 1,800
Common stock, $1 par, 3,740 shares issued
($2,400 + $1,000 + $340)……………………………… 3,740
Paid-in capital in excess of par - common
($23,500 + $15,000 + $5,780)…………………………. 44,280
Paid-in capital from treasury stock transactions…… 600
Retained earnings
($19,000 + $62,000 − $900 − $6,120)………………... 73,980
Less: Treasury stock, 200 shares at cost
($11,200 − $8,400)……………………………….. (2,800)
Total stockholders’ equity…………………………… $121,600
Chapt er 9 Stockholders’ Equity 607
(20-30 min.) P 9-65A
STOCKHOLDERS’
ASSETS = LIABILITIES + EQUITY
Feb. 2 + 250,000 = 0 + 250,000
Mar. 18 − 44,000 = 0 − 44,000
Apr. 22 + 18,200 = 0 + 18,200
Aug. 6 0 = + 6,000 − 6,000
Sept. 1 − 6,000 = − 6,000 + 0
Nov. 18 0 = 0 + 0
608 Financial Accounting 7/e Solutions Manual
(40-50 min.) P 9-66A
Req. 1
Bluebird Designers, Inc.
Balance Sheet
December 31, 20X8
ASSETS LIABILITIES
Current: Current:
Cash…………………... $ 41,000 Accounts payable………... $131,000
Accounts rec., net….. 24,000 Dividends payable……….. 9,000
Inventory……………... 99,000 Accrued liabilities………... 26,000
Prepaid expenses.….. 10,000 Total current
Total current liabilities….……………. 166,000
assets…………….. 174,000 Long-term note payable…… 98,000
Total liabilities………………. 264,000
Property, plant, and
equipment, net……… STOCKHOLDERS’
357,000
EQUITY
Intangible assets: Preferred stock, $.50,
Goodwill……………… 14,000 no-par, 10,000 shares
Trademark, net……… 9,000 authorized and issued…... $ 27,000
Common stock,
$1 par, 500,000 shares
authorized, 115,000
shares issued……………... 115,000
Paid-in capital in excess
of par — common………… 19,000
Retained earnings………….. 151,000*
Less: Treasury stock,
common, 18,000 shares
at cost………………………. (22,000)
Total stockholders’ equity... 290,000
Total liabilities and
Total assets……………. $554,000 stockholders’ equity…….. $554,000
*Retained earnings = Total assets − Total liabilities − Total paid-in capital =
$554,000 − $264,000 − $27,000 − $115,000 − $19,000 − (− $22,000) = $151,000
Chapt er 9 Stockholders’ Equity 609
(continued) P 9-66A
Req. 2
Rate of Net income
return + Interest expense $31,000 + $16,100 $47,100
= = = = 0.090
on assets Average total assets ($554,000 + $494,000) / 2 $524,000
Rate of return Net income
on common − Preferred dividends $31,000 − (10,000 × $.50) $26,000
= = = = 0.107
stockholders' Average common ($263,000* + $222,000) / 2 $242,500
equity stockholders' equity
*Total stockholders’ equity………………………... $290,000
Less: Preferred equity…………………………….. (27,000)
Common stockholders’ $263,000
equity…………………...
Req. 3
These rates of return suggest some weakness. Return on
common stockholders’ equity is well below 15%, mentioned in
the text as a good return on equity. Also return on equity barely
exceeds return on assets.
610 Financial Accounting 7/e Solutions Manual
(20-30 min.) P 9-67A
Journal
ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Millions
Retained Earnings……………………………….. 1,854
Dividends Payable……………………………. 1,854
Dividends Payable……………………………….. 1,854
Cash…………………………………………….. 1,854
OR
Retained Earnings……………………………….. 1,854
Cash…………………………………………….. 1,854
Cash………………………………………………… 1,194
Common Stock………………………………... 1,194
Cash………………………………………………… 51
Long-Term Notes Payable…………………... 51
Treasury Stock……………………………………. 3,010
Cash…………………………………………….. 3,010
Long-Term Notes Payable……………………… 157
Cash…………………………………………….. 157
Chapt er 9 Stockholders’ Equity 611
Problems
Group B
(20-30 min.) P 9-68B
1. One important reason businesses organize as corporations
is the limited personal liability of stockholders for the
obligations of the corporation. In a business organized as a
proprietorship or a partnership, the owners are personally
liable for the debts of the business. Another advantage of the
corporation is its continuous life and the ease of transferring
ownership from one stockholder to another. This feature
allows a corporation to raise more money from more people
than with a partnership or a proprietorship.
These advantages outweigh the disadvantage of paying
additional income tax.
2. Preferred stock is similar to common stock in that the
corporation is not obligated to pay the preferred or the
common stockholders for their stocks. Preferred stock is
similar to debt in that preferred stock specifies an annual
dividend rate that’s similar to the interest rate on debt.
612 Financial Accounting 7/e Solutions Manual
(continued) P 9-68B
3. A ―gain‖ on the sale of treasury stock is not profit to be
reported on the income statement because the company is
trading its stock back and forth with its stockholders. These
transactions create paid-in capital from the stockholders, not
profits from the sale of goods and services to customers.
The two categories of ―gains‖ are different. There can be no
gain or loss (for the income statement) from any sale or
repurchase by the company of its own stock.
4. Most stockholders prefer to receive cash dividends because
cash is an asset. By contrast, stock dividends transfer no
cash or other assets of the corporation to the stockholders.
In most cases the market price per share of common stock
decreases after a stock dividend and leaves the stockholder
with stock that has the same overall market value as before
the dividend.
Chapt er 9 Stockholders’ Equity 613
(30-45 min.) P 9-69B
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Oct. 6 Organization Expense…………………………… 1,500
Common Stock (300 × $1)…………………... 300
Paid-in Capital in Excess of
Par - Common……………………………... 1,200
Issued stock to lawyer for chartering the
corporation.
9 Cash (21,000 × $5)……………………………….. 105,000
Common Stock (21,000 × $1)………………. 21,000
Paid-in Capital in Excess of
Par - Common……………………………... 84,000
Issued common stock for cash.
10 Patent………………………………………………. 40,000
Preferred Stock (400 × $100)……………….. 40,000
Issued preferred stock to acquire a patent.
26 Cash………………………………………………… 12,000
Common Stock (2,000 × $1)………………… 2,000
Paid-in Capital in Excess of
Par - Common……………………………... 10,000
Issued common stock for cash.
614 Financial Accounting 7/e Solutions Manual
(continued) P 9-69B
Req. 2
Challenger Canoes, Inc.
Balance Sheet (partial)
October 31, 20XX
Stockholders’ equity:
Preferred stock, 6%, $100 par, 10,000 shares authorized,
400 shares issued……………………………………….. $ 40,000
Common stock, $1 par, 100,000 shares
authorized, 23,300 shares issued*…………............... 23,300
Paid-in capital in excess of par - common……………… 95,200**
Retained earnings…………………………………………… 49,000
Total stockholders’ equity……………………………... $207,500
_____
*300 + 9,000 + 12,000 + 2,000 = 23,300 shares
**$1,200 + $84,000 + $10,000 = $95,200
Chapt er 9 Stockholders’ Equity 615
(10-15 min.) P 9-70B
Samuells’ Sportswear, Inc.
Balance Sheet (partial)
December 31, 20X6
Stockholders’ equity:
Preferred stock, 5%, $100 par, 5,000 shares authorized,
1,000 shares issued……………………………………... $100,000
Common stock, no-par, 500,000 shares authorized,
100,000 shares issued………………………………….. 427,000
Retained earnings…………………………………………… 136,000
Total stockholders’ equity……………………………... $663,000
_____
Computations:
Preferred stock: 1,000 × $100 = $100,000
Common stock: Balance given as $427,000
Retained earnings: $61,000 + $80,000 − ($100,000 × 0.05) =
$136,000
616 Financial Accounting 7/e Solutions Manual
(30-40 min.) P 9-71B
MEMORANDUM
TO: Calpak Board of Directors
FROM: Student Name
RE: Proposal to fight off hostile takeover of the company
The company should buy back enough of its stock (as treasury
stock) that the outside investment group would find it difficult
to obtain 51% of the outstanding stock. We should also
announce to the stockholders that Calpak stands ready to
match the offer made by the outside investment group. That is,
the company would be willing to pay the stockholders as much
as the outsiders would pay.
Unfortunately, purchase of the treasury stock would decrease
company assets and stockholders’ equity. It would leave
liabilities unchanged.
Student responses may vary.
Chapt er 9 Stockholders’ Equity 617
(20-30 min.) P 9-72B
Common stock [(500,000 + 400,000) × $1 + $35,000]…. $ 935,000
Additional paid-in capital —
From issuance of stock:
500,000 × ($7.00 − $1.00)…………….. $3,000,000
400,000 × ($8.50 − $1.00)…………….. 3,000,000
From sale of treasury stock
[40,000 × ($8 − $7)]……………………. 40,000
From stock dividend…………………….. 245,000 6,285,000
Retained earnings ($620,000 − $140,000 − $280,000)…. 200,000
Treasury stock [(60,000 − 40,000) × $7]…………………. (140,000)
Total stockholders’ equity…………………………………. $ 7,280,000
Total assets……………………………………………….. $14,200,000
− Total liabilities…………………………………………….. (6,920,000)
= Total stockholders’ equity……………………………… $ 7,280,000
618 Financial Accounting 7/e Solutions Manual
(15-25 min.) P 9-73B
Req. 1
Steeltrap Security has these stocks outstanding:
$5.00 cumulative convertible preferred stock
$2.50 cumulative convertible preferred stock
common stock
Req. 2
Steeltrap Security issued the preferred stock at par value and
the common stock at a premium. This can be determined by
dividing the balance of the three stock accounts by the number
of shares issued, as follows:
$5.00 preferred: $125,000 / 2,500 shares = $50 par value.
$2.50 preferred: $100,000 / 4,000 shares = $25 par value.
Common: $96,000 + $288,000 / 48,000 shares = $8 which is
more than $2 par.
We see that Steeltrap Security issued its common stock at a
price above par.
Req. 3
Steeltrap would have to pay preferred dividends in arrears
before paying dividends to the common stockholders because
the preferred stock is cumulative.
Chapt er 9 Stockholders’ Equity 619
(continued) P 9-73B
Req. 4
Steeltrap must pay preferred dividends of $22,500 each year to
avoid having preferred dividends in arrears.
_____
Computation:
$5.00 Preferred: 2,500 shares × $5.00 = $12,500
$2.50 Preferred: 4,000 shares × $2.50 = 10,000
Total preferred dividends……………………... $22,500
Req. 5
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Retained Earnings……………………….. 50,000
Dividends Payable, $5.00 Preferred
(2,500 shares × $5.00 × 2)…......... 25,000
Dividends Payable, $2.50 Preferred
(4,000 × $2.50 × 2)………………… 20,000
Dividends Payable, Common
($50,000 − $25,000 − $20,000)…... 5,000
620 Financial Accounting 7/e Solutions Manual
(15-20 min.) P 9-74B
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Feb. 13 Cash (5,000 × $4)……………………………. 20,000
Common Stock (5,000 × $1)……………. 5,000
Paid-in Capital in Excess of Par -
Common………………………………... 15,000
June 7 Retained Earnings………………………….. 200
Dividends Payable
(400 shares × $0.50)……………………... 200
24 Dividends Payable………………………….. 200
Cash………………………………………... 200
Aug. 9 Retained Earnings
(11,000 shares × 0.10 × $5)………………… 5,500
Common Stock (11,000 × 0.10 × $1)….. 1,100
Paid-in Capital in Excess of Par -
Common………………………………... 4,400
Oct. 26 Treasury Stock, Common (500 × $6)......... 3,000
Cash………………………………………... 3,000
Nov. 20 Cash (200 × $8)………………………………. 1,600
Treasury Stock, Common (200 × $6)…. 1,200
Paid-in Capital from Treasury
Stock Transactions…………………... 400
Chapt er 9 Stockholders’ Equity 621
(continued) P 9-74B
Req. 2
Stockholders’ equity:
$0.50 cumulative preferred stock, $5 par,
400 shares issued………………………………………. $ 2,000
Common stock, $1 par, 12,100 shares issued
($6,000 + $5,000 + $1,100)……................................... 12,100
Paid-in capital in excess of par - common
($17,400 + $15,000 + $4,400)…………………………... 36,800
Paid-in capital from treasury stock transactions…….. 400
Retained earnings ($22,000 + $27,000 − $200 − $5,500).. 43,300
Less: Treasury stock, common, 300 shares
at cost ($3,000 − $1,200)…………………………. (1,800)
Total stockholders’ equity…………………………….. $92,800
622 Financial Accounting 7/e Solutions Manual
(20-30 min.) P 9-75B
STOCKHOLDERS’
ASSETS = LIABILITIES + EQUITY
Mar. 3 0 = 0 + 0
May 16 0 = + 25,000 − 25,000
30 − 25,000 = − 25,000 + 0
Oct. 26 − 36,000 = 0 − 36,000
Dec. 8 + 40,500 = 0 + 40,500
19 + 280,000 = 0 + $280,000
Chapt er 9 Stockholders’ Equity 623
(40-50 min.) P 9-76B
Req. 1
Kingston Appliances, Inc.
Balance Sheet
December 31, 20X7
ASSETS LIABILITIES
Current: Current:
Cash……………………. $ 44,000 Accounts payable............….. $ 31,000
Accounts receivable, Dividends payable...........….. 3,000
net……………………. 71,000 Accrued liabilities............….. 17,000
Inventory………………. 93,000 Total current liabilities.….. 51,000
Prepaid expenses……. 13,000 Long-term note payable.....….. 79,000
Total current assets. 221,000 Total liabilities....................…... 130,000
STOCKHOLDERS’
Property, plant, and EQUITY
equipment, net……….. 181,000 Preferred stock, 4%,
Intangible assets: $10 par, 25,000
Patent, net…………….. 31,000 shares authorized,
Goodwill……………….. 6,000 3,700 shares issued.........….. $ 37,000
Common stock, $1
par, 100,000 shares
authorized, 42,000
shares issued...................….. 42,000
Additional paid-in
capital — common...........….. 140,000
Retained earnings...............….. 101,000*
Less: Treasury stock, common
1,600 shares at cost..........….. (11,000)
Total stockholders’ equity....... 309,000
Total liabilities and
Total assets…………….. $439,000 stockholders’ equity........….. $439,000
_____
*Retained earnings = Total assets − Total liabilities − Total paid-in capital
= $439,000 −$130,000 − $37,000 − $42,000 − $140,000 −
(− $11,000)
= $101,000
624 Financial Accounting 7/e Solutions Manual
(continued) P 9-76B
Req. 2
Rate of Net income
return + Interest expense $36,200 + $3,800 $40,000
= = = = 0.089
on assets Average total assets ($439,000 + $461,000) / 2 $450,000
Rate of return Net income
on common − Preferred dividends $36,200 − ($37,000 × .04) $34,720
= = = = 0.125
stockholders' Average common ($272,000** + $283,000)/2 $277,500
equity stockholders' equity
**Total stockholders’ equity………………………. $309,000
Less: Preferred equity…………………………… (37,000)
Common stockholders’ $272,000
equity………………….
Req. 3
These rates of return suggest a mid range. Return on common
stockholders’ equity is below 15%, mentioned in the text as a
good rate of return, but it’s higher than return on assets — a
good sign.
Chapt er 9 Stockholders’ Equity 625
(20-30 min.) P 9-77B
Journal
ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Retained Earnings…………………………… 8,300
Dividends Payable……………………….. 8,300
Dividends Payable…………………………… 8,300
Cash………………………………………… 8,300
OR
Retained Earnings…………………………… 8,300
Cash………………………………………… 8,300
Cash……………………………………………. 14,100
Common Stock…………………………… 14,100
Short-Term Notes Payable…………………. 6,900
Cash…………………………………………. 6,900
Long-Term Notes Payable………………….. 1,300
Cash…………………………………………. 1,300
Cash……………………………………………. 2,100
Long-Term Notes Payable………………. 2,100
Treasury Stock……………………………….. 6,300
Cash…………………………………………. 6,300
626 Financial Accounting 7/e Solutions Manual
Decision Cases
(30-45 min.) Decision Case 1
Req. 1
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Smith, Capital………………………………. 25,000
Jones, Capital……………………………… 25,000
Common Stock………………………… 50,000
To incorporate the business, close the capital
accounts of Smith and Jones, and issue
common stock to them.
Req. 2
Journal
DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT
Plan 1:
Cash…………………………………………. 80,000
Preferred Stock (800 × $100)………… 80,000
To issue preferred stock to outside investors.
Plan 2:
Cash…………………………………………. 55,000
Preferred Stock………………………… 55,000
To issue preferred stock to outside investors.
Cash…………………………………………. 35,000
Common Stock………………………… 35,000
To issue common stock to outside investors.
Chapt er 9 Stockholders’ Equity 627
(continued) Decision Case 1
Req. 3
Plan 1:
Stockholders’ Equity
Preferred stock, 6%, $100 par, nonvoting,
10,000 shares authorized, 800 shares issued….. $ 80,000
Common stock, $1 par, 500,000 shares authorized,
50,000 shares issued……………………………….. 50,000
Retained earnings ($120,000 − $30,000)……………. 90,000
Total stockholders’ equity………………………… $220,000
Plan 2:
Stockholders’ Equity
Preferred stock, $5, no-par, 5,000 shares authorized,
500 shares issued…………………………………… $ 55,000
Common stock, $1 par, 500,000 shares authorized,
85,000 shares issued……………………………….. 85,000
Retained earnings ($120,000 − $30,000)……………. 90,000
Total stockholders’ equity………………………… $230,000
628 Financial Accounting 7/e Solutions Manual
(continued) Decision Case 1
Req. 4
Plan 1 appears to fit the plans of Smith and Jones better than
Plan 2 because:
Their primary goal is to raise as much capital as possible
without giving up control of the business. Under Plan 2,
the outside stockholders would have 60,000 votes [35,000
common votes + 25,000 preferred votes (500 shares × 50
votes per share)]. Smith and Jones would lose control of
the business because they would have only 50,000 votes.
Under Plan 1 preferred stockholders have no votes. Smith
and Jones would have complete control since they would
hold all the voting shares.
Plan 2 would raise only $10,000 more than Plan 1.
Chapt er 9 Stockholders’ Equity 629
(15-20 min.) Decision Case 2
Req. 1
The stock dividend does not affect your proportionate
ownership in the company because all the stockholders receive
10% new shares. All stockholders are in the same relative
position after the dividends as they were before.
Req. 2
Cash dividends received last year were $7,150 (10,000 shares ×
$0.715 per share). Cash dividends after the dividend will be
$7,150 (11,000 shares × $0.65 per share). Thus, there is no
change in cash dividends.
Req. 3
You incur no loss in value because the market value of your
investment after the stock dividend — $610,203 (11,000 shares
× $55.473) — is the same as it was before the dividend — 10,000
shares × $61.02. The increase in the number of shares you own
at $55.473 per share offsets the decrease in the market price
per share. Any difference here is due to rounding.
630 Financial Accounting 7/e Solutions Manual
(continued) Decision Case 2
Req. 4
If the company continues paying the $0.715 cash dividend per
share, after issuing the 10% stock dividend, total cash
dividends will increase. (Your annual dividends will rise to
$7,865 [11,000 shares × $0.715].) The increase in dividends
might attract new investors, who view the increased cash
dividends as an indication that the business is operating quite
well. This investor interest may result in an increase in the
market value of UPS stock, or at least keep the value higher
than it would be without the increase in cash dividends.
Chapt er 9 Stockholders’ Equity 631
(20-30 min.) Decision Case 3
Req. 1
Millions
a. Net income, as reported for 20X4…………………... $979
b. Net income after new developments
[$979 − $130 − ($2,000 × .12)]……………............. $609
c. The trend of net income is down. The reasons for the
downward trend are (a) inclusion of the money-losing
companies and (b) the interest expense on the new debt.
Req. 2 (amounts in millions)
Assets = Liabilities + Equity
As reported…………….. $65,503 = $54,033 + $11,470
Adjustments
for 20X5:
Inclusion of
companies……….. 5,700 = 5,600 + 100
Exchange of
notes payable
for stock………….. 0 = 2,000 – 2,000
Interest expense
on new debt……… 0 = 240 – 240
As adjusted……………. $71,203 = $61,873 + $9,330
632 Financial Accounting 7/e Solutions Manual
(continued) Decision Case 3
Req. 3
As Reported As Adjusted
Dollars in millions
Total
Debt liabilities $54,033 $61,873
= =
ratio Total $65,503 $71,203
assets
= 0.82 = 0.87
Req. 4
I would recommend downgrading Enron’s debt for two
reasons:
1. Downturn in net income due to (a) inclusion of the money-
losing companies, and (b) the added interest expense on
the new debt.
2. Increase in the debt ratio due to the same two factors.
Chapt er 9 Stockholders’ Equity 633
Ethical Issue 1
Req. 1
Campbell’s reporting a $50,000 franchise at $500,000 is
unethical. The franchise cost $50,000, not $500,000. The three
transactions are not independent. Campbell and the
corporation are effectively the same entity. The third party
serves no purpose other than as an accomplice to overvalue
the franchise.
Req. 2
Potential buyers of the individual-language franchises can be
harmed. Campbell’s balance sheet overstates his assets. If
outsiders believe his balance sheet, they may be induced to
pay Campbell more than the individual-language franchises are
worth.
Lenders can also be harmed by loaning money to Campbell
on more favorable terms than his financial position warrants.
The public is also defrauded if Campbell amortizes the cost
of the franchise for income tax purposes. Basing amortization
on $500,000 overstates tax deductions and understates
Campbell’s income. As a result, his tax payments are lower
than they should be.
Note: One of the authors experienced this actual situation in
his first job after college.
634 Financial Accounting 7/e Solutions Manual
Ethical Issue 2
Req. 1
The managers did not behave ethically. Managers defrauded
the stockholders by withholding important information prior to
buying company stock. Had the stockholders known of the oil
discovery, those stockholders who sold shares probably would
have held their St. Genevieve stock. Stockholders wanting to
sell company stock would have demanded a price based on all
relevant information about the company, including news of the
discovery.
Req. 2
The disclosure principle is relevant to this situation.
Req. 3
The managers purchased the stock at $6 and could sell it for
$27. Thus, the managers enriched themselves at the expense of
the stockholders who sold company stock at $6. Actions such
as these have been the basis for numerous stockholder
lawsuits.
Note: Students should be informed that the Securities
Exchange Act of 1934 prohibits insider trading. It
imposes stiff penalties for unethical conduct of this
type.
Chapt er 9 Stockholders’ Equity 635
Focus on Financials: YUM! Brands
(20-30 min.)
Req. 1
YUM’s common stock is no-par-value stock. Paid-in capital in
excess of par shows up only for par-value stock.
Req. 2
YUM’s balance sheet is stated in millions of dollars. YUM’s
common stock balance is less than $1 million, so the balance
of common stock rounds to $0.
Req. 3
Retained earnings decreased during 2006 because the sum of
dividends and the decrease due to treasury stock transactions
exceeded net income for the year.
636 Financial Accounting 7/e Solutions Manual
(continued) Focus on Financials: YUM! Brands
Req. 4
Return on $824
= = 57.1%
equity ($1,437 + $1,449) / 2
Return on $824 + $154
= = 16.1%
assets ($6,353 + $5,797) / 2
These rates of return indicate financial strength for two
reasons:
1. Both returns are high. Return on equity is outstanding!
2. Return on equity is much higher than return on assets.
Chapt er 9 Stockholders’ Equity 637
Focus on Analysis: Pier 1 Imports
(20-30 min.)
(All amounts in thousands, except per-share amounts)
Req. 1
Average price paid Cash paid $4,047
= = = $16.19
for treasury stock Number of shares 250
Average price received Cash received $12,041 − $3,640
= = = $11.26
for treasury stock Number of shares 746
Average price per share paid was higher by $4.93 ($16.19 −
$11.26)
Req. 2
Treasury Stock…………………………………. 4,047
Cash…………………………………………… 4,047
Purchase of treasury stock.
Cash………………………………………………. 8,401
Paid-in Capital………………………………….. 3,640
Treasury Stock………………………………. 12,041
Exercise of stock options and stock purchase plan.
Req. 3
Retained Earnings
Net loss for 2006 39,804 Bal., Feb. 26, 2005 656,692
Dividends for 2006 34,667
Bal., Feb. 25, 2006 582,221
638 Financial Accounting 7/e Solutions Manual
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