Download Chapter 8 - Fisher College of Business

Liabilities and Stockholders
Equity
Chapter 8
Financing Operations
Businesses must finance operations
through one of two ways:
• Debt Financing – includes all liabilities
owed by a business.
• Equity Financing – investments from
owners of the business. Stock is issued to
represent ownership interest.
Liabilities
Debts owed to others
Current liabilities – due within a short time,
usually 1 year
Long-term liabilities – due beyond 1 year
Payroll
The amount paid to employees for services
they provide during a period
• Salary – payment for managerial, administrative,
or similar services
• Wages – payment for manual labor, both skilled
and unskilled
Payroll and related taxes significantly impact
the net income of most businesses
Payroll Taxes
Employer
Taxes
• FICA
• Federal and
State
Unemployment
Taxes
Employee
Taxes
• FICA
• Federal and
State Income
Taxes
Payroll taxes become a liability when the related
payroll is paid to employees. The liability is
relieved when the taxes are paid to the appropriate
agencies.
Bonds
 A form of interest-bearing note.
 Bonds include interest (paid annually, semi-annually,
or quarterly), and the face value must be repaid at
maturity.
 Bond indenture – contract between the company
issuing the bonds and the bondholders.
 A bond issue is normally divided into several
individual bonds. The most common face value is
$1,000 per bond.
 Quoted as % of face amount.
Calculating the
Bond Issue Price
 Based on the price buyers are willing to pay. Depends on
three factors:
1. The face amount of the bonds due at the maturity
date.
2. The periodic interest to be paid on the bonds – stated
in the bond indenture. Is called the contract or coupon
rate.
3. The market (effective) rate of interest.
Note that if the effective rate of interest is the same as
the coupon rate, bonds will sell at the face amount.
Bonds Issued at Face Value
Coupon and effective interest rates will be the same.
Assume that, on January 1 2008, a business issues
$1,000,000 of 10%, 5-year bonds, with interest payable
semiannually.
What are the accounting entries required during the life of
the bond?
Bonds Not Issued
at Face Value
Discount on Bonds Payable
• Market rate of interest > contract rate.
• Buyers are not willing to pay face value for
the bonds.
Premium on Bonds Payable
• Market rate of interest < contract rate.
• Buyers are willing to pay more than face
value for the bonds.
Stock
 Major means of equity financing.
 Money obtained is called Paid-in-Capital or
Contributed Capital
 Shares
• Authorized – total number allowed to issue.
• Issued – shares issued to shareholders.
• After issue, a corporation may buy back some of
its shares (Treasury Stock)
• Outstanding – shares currently in the hands of
stockholders.
Shares of Stock
 Can be issued with or without a monetary
amount:
• Par – monetary value stated on stock certificate.
• No-par – some states might require a stated
value.
 Legal Capital – Par value times issued stock
• Dividends cannot be paid if the event reduces S/E
below the legal capital
Common Stock Rights
1. Right to vote in matters concerning the
corporation.
2. Right to share in distributions of
earnings.
3. Right to share in assets on liquidation.
4. Pre-emptive right
Common and
Preferred Stock
 If only one class of stock, it is called common
stock – each share has equal rights.
 Corporations can offer one or more classes of
stock with various preference rights
 Most prevalent is one that is preferred as to
dividends - called Preferred Stock.
 Preferred dividend rights are usually stated in
monetary terms or a percentage of par.
Demonstration Problem –
Distributing Dividends
Belson Corporation has declared an
annual dividend of $40,000 for the year.
The outstanding stock was composed of
25,000 shares of 6% preferred stock,
$20 par, and 40,000 shares of common
stock, $1 par. Calculate the dividends to
be paid to the preferred and common
shareholders.
Stock Issuance
Assume that a corporation issues 50,000 shares
of $1 par value common stock for $10 per share
and 1,000 shares of $100 par value preferred
stock at par.
Prepare the accounting entries associated with
this issuance.
Reacquired Stock
Treasury Stock
• Stock that a corporation has issued and
then reacquires.
• Balance at year-end is reported as a
reduction of stockholders’ equity.
Cash Dividends
Cash distribution of earnings by a
corporation to its shareholders.
Most common form of dividends.
Usually three conditions:
• Sufficient retained earnings
• Sufficient cash
• Formal action by the board of directors
Dividend Announcement Dates
Demonstration Problem –
Cash Dividends
On January 15, the board of directors of Barns
Incorporated declared a $0.25-per-share dividend on its
common stock to shareholders of record on January 31,
payable on February 15. Barns has 25,000 shares of
stock authorized, 10,000 shares issued and 8,000
outstanding. Determine the following dates along with the
accounting entries for each (if any).
 Date of declaration
 Date of record
 Date of payment
Stock Dividends
 Distribution of additional stock to stockholders
(usually common shares).
 No distribution of cash or other assets.
 In proportion to the number of shares held (pro-rata
distribution)
 Issuing stock dividends has no impact on total
assets, liabilities and S/E.
 However, it does change the composition of S/E by
transferring a portion of Retained Earnings to Paid-inCapital at the market price of the stock.
Demonstration Problem –
Stock Dividends
On January 15, Maple Corporation declares a 10% stock
dividend on its $1 par common stock. On that date,
Maple has 10,000 common shares outstanding and the
market price of the shares is $50.
What are the accounting entries required for this
issuance?
Stock Splits
 Increase the number of shares outstanding.
 Major objective is to reduce the stock’s
market price per share in order to attract
more investors.
 A “2 for 1” split doubles the number of shares
outstanding and drops the price in half.
 A stock split reduce the par value per share.
The balances in the accounts are not affected
by a stock split.