Owner's Equity

Key Things To Know

Corporation: A separate legal entity that owns assets and incurs liabilities.  

The business applies for a charter from the state it will incorporate in.
“Articles of Incorporation” are issued that specify the general rules for conducting the business of the corporation.

The corporation acquires capital through issuing shares to stockholders who then become owners of the company.

Common Stock is Shares of Ownership  

Authorized

Maximum number of shares the corporation can issue

Issued

Total number of shares the corporation has issued

Outstanding

Shares currently held by investors outside the corporation. Issued shares less treasury shares.

Par Value:  a value per share that is assigned in the corporate charter

1) It is the legal capital that must be retained in the business
2) Company’s set par value very low – $0.01 per share
3) It has no relationship to fair market value
4) Some states allow for a par value of 0 – “no-par value stock”

Common Stockholders:

Do not participate in the day to day operations of the business
Elect the Board of Directors (BOD) and vote on important issues of the Company
BOD – makes major decisions, hires the management of the Company

Common Stockholder rights:

Attend all stockholder meetings; vote in board members
Share in dividends declared by the board
Share in the proceeds of any liquidation
Can sell their investment in shares at any time

Preferred stock may also be issued to raise capital.  

Preferred stockholders give capital in return for income and are not seeking voting ownership.   

Preferred stock typically has a stated fixed dividend rate.  

Preferred Stockholders get:

Preference for receiving dividends (before common)
No voting rights

Preferred Dividends are computed as:  
Number of shares x Par Value x Stated %

Dividends paid to preferred shareholders must be declared by the board of directors before they are paid

Cumulative:

If not declared this year, the board may declare this year’s dividend at some point in the future

Non-cumulative:

If not declared this year, the board may not declare in the future   

Dividends in Arrears:

Cumulative dividends not paid to preferred shareholders must be paid before common shareholders are paid 

      

When a company issues stock to raise capital:

CASH  $FMV x # shares
       Common Stock   (par) $Par x # shares
       Paid in Capital – CS   Plug to balance

The total value received by the company is CS + Paid in Capital (PIC)

When one investor sell stock to another investor, there is no impact on the corporation and no entry is recorded.

For preferred shares issued, use the same journal entry and replace CS with PS

Purpose of buying Treasury Stock: 

1)  reissue the shares to employees as compensation

2)  reduce the number of shares outstanding to increase earnings per share

3)  show other investors they have confidence in the value of the company  

The “treasury stock” account is a contra owner’s equity. It is subtracted from owner’s equity.  

When treasury stock is sold back to investors there is no gain or loss. The gain or loss is reported as an addition or subtraction of paid in capital

Purchase Treasury Stock:

Treasury Stock               $XXX
       Cash                                    $XXX (at cost)

Sell treasury stock back to investors:

Cash                      $(FMV – amount received)
Treasury Stock    $(at original cost x # shares)
       PIC – TS                         $plug to balance**

** When a debit is needed to balance you may debit PIC – TS for up to the amount you have in the account and then the rest is a debit to R.E.

Dividends:  Distribution’s to shareholders, can be cash or additional shares of stock

Declaration date:

The date the board of directors officially declares the dividend

The date the liability to pay occurs  

Retained Earnings               $XXX
       Dividend Payable                      $XXX

Record Date:

The date the corporation prepares the list of owners that will be paid the dividend – if you own on this date you get paid

No entry – no exchange

Payment Date:

The date the payment is made to stockholders on record

Dividends Payable               $XXX
       Cash                                           $XXX

Stock Dividend:  
The corporation issues to current shareholders additional shares – issued as a percentage of what is already held

Example:  
20% stock dividend when there are 1,000,000 shares issued means that 200,000 additional shares will be issued

Declaration Date:

Retained Earnings                $XXX
       Dividend Payable                      $XXX

Record Date:

No J/E

Payment Date- stock dividend

Dividends Payable               $XXX
       Common stock                        $XXX
       PIC – CS                                   $XXX

Common stock is at par x # shares issued
PIC – CS is the difference, a plug

The question is – what amount is recorded to retained earnings?
Is the company giving stock for fair market value or for par value

Large > 20-25% Debit R.E. for Par value of stock x # shares 
Small < 20-25 % Debit R.E. for Fair MV of stock x # shares

The result of a stock dividend is no change to total owner’s equity.  
The amounts in the owner’s equity accounts are moved from one account to another

Stock Split

Does not change total owner’s equity. 
Nothing is issued or received by the company.

The par value is divided and the number of shares increases by the ratio determined by the board of directors.

Example:   
2:1 split declared by a company with 100,000 shares at par value of $1

Par value is now half the amount at $0.50
Issued shares are doubled to a total of 200,000
Shareholders exchange 1 share for 2.
Total par remains at $100,000 (200,000 x $0.50)