Chapter 11 – Contributed Capital
TRUE/FALSE
1. The price/earnings (P/E) ratio is a measure of investors’ confidence in a company’s future.
2. The dividends yield is measured in terms of “times.”
3. Return on equity equals average stockholders’ equity divided by net income.
4. The board of directors carries out the day–to-day operations of the business.
5. Stockholders elect the board of directors which appoints the officers of a corporation.
6. The limited liability of a stockholder can be viewed as both an advantage and a disadvantage.
7. Corporate earnings are subject to double taxation.
8. The par value of stock refers to its value on the open market.
9. A corporation often uses an underwriter for an initial public offering (IPO).
10. Corporations are subject to less government control and regulation than are other forms of business.
11. A corporation is a separate entity for legal purposes.
12. The liability of a stockholder is usually limited to the stockholder’s investment in the corporation.
13. One disadvantage of a corporation is the lack of mutual agency.
14. The sale of shares in a corporation by one stockholder to another affects the total capital of the
corporation.
15. The death of a stockholder results in the dissolution of the corporation.
16. An advantage of the corporate form is the ability of the board to hire professional managers to attend
to the corporation’s affairs.
17. Financing a business with common stock is less risky than financing it with bonds.
18. The par value of stock constitutes the legal capital of a corporation.
19. Compensation expense related to employee stock options is recorded on a corporation’s books only
when the option price exceeds the current market price at the date the options are granted.
20. Stock options often are granted by a corporation to management personnel as a means of additional
compensation to and motivation of these employees.
21. If a corporation grants a stock option to an employee on July 1, 2010, that allows the employee to
purchase stock at a price substantially below the stock’s fair value at July 1, 2010, an element of
compensation expense should be recorded on the corporation’s books.
22. Underwriters typically charge 5 percent of the selling price to guarantee the sale of initial public
offerings of stock.
23. A dividend that represents a return to the stockholders of a part of their paid-in capital rather than a
distribution out of retained earnings is called a liquidating dividend.
24. Cash dividends become a liability of a corporation when the stock goes ex-dividend.
25. The declaration of a cash dividend causes an increase in a corporation’s liabilities at the date of record.
26. A liquidating dividend is usually paid when a company is going out of business or reducing its
operations.
27. No entry is required on the date of record for a cash dividend.
28. Dividends Payable is closed by transferring to Retained Earnings at the end of the period.
29. Start-up and organization costs should be amortized over ten years or more.
30. To form a corporation, most states require persons called incorporators to sign and file it with proper
state official. This application contains the articles of incorporation.
31. The entry required to record start-up and organization costs will cause a decrease in net income for the
period.
32. The stockholders’ equity in a corporation consists of capital contributed by stockholders and retained
earnings.
33. The number of authorized shares should always equal or exceed the number of outstanding shares.
34. Stockholders who own preferred stock usually have voting rights, whereas stockholders who own
common stock usually do not have voting rights.
35. Preferred stock is considered the residual equity of a corporation.
36. No rights or privileges are associated with unissued stock.
37. Treasury shares are shares that are issued but not outstanding.
38. Retained earnings are a component of contributed capital.
39. Retained earnings consist of a pool of funds to be distributed to stockholders.
40. The word preferred in the phrase preferred stock means that an owner of preferred stock has some
advantages over a bondholder.
41. Dividends in arrears are disclosed as liabilities of a corporation.
42. Dividends in arrears pertain to noncumulative preferred stock.
43. Dividends on cumulative preferred stock do not become a liability of the corporation until they are
declared by the board of directors.
44. Callable preferred stock is preferred stock that may be redeemed or retired at the option of the
stockholder.
45. Dividends in arrears are forfeited when a corporation calls in its preferred stock.
46. Once an owner of convertible preferred stock has converted to common, he or she cannot convert back
to preferred.
47. For accounting purposes, stated value is treated the same way as par value.
48. When common stock with a par value is sold for a price that exceeds par value, the Common Stock
account is credited only for the par value of the shares sold.
49. When no-par common stock without a stated value is issued for cash, the Common Stock account is
credited for an amount equal to the cash proceeds.
50. When no-par common stock has a stated value, the stated value of the shares issued normally is
considered the legal capital of the corporation.
51. The balance in the Additional Paid-in Capital account must be added to the balance of the Common
Stock account to compute the amount of legal capital for a corporation with a par value common stock.
52. The concept of legal capital exists to protect the corporation’s assets for the stockholders of the
corporation.
53. Treasury stock may be either common or preferred stock.
54. Treasury stock usually is recorded at par value when purchased.
55. The cost of treasury stock is deducted from total Contributed Capital and Retained Earnings in
determining total stockholders’ equity.
56. The sale of treasury stock at an amount greater than cost results in a gain to be reported on the income
statement.
57. The entry to record the purchase of treasury stock will cause total stockholders’ equity to decrease by
the amount of the cost of the treasury shares.
58. Treasury stock is reported as an asset on the balance sheet because treasury shares may be sold later.
59. When treasury stock is sold at a price below its cost, the entry to record the sale has the effect of
reducing total stockholders’ equity.
60. The entry to record the retirement of treasury stock will include a debit to Common Stock for the
amount of the cost to retire the shares.
MULTIPLE CHOICE
1. The price/earnings (P/E) ratio is measured in terms of
a.
dollars.
b.
a percentage.
c.
times.
d.
days.
2. Dividends yield equals
a.
market price per share divided by dividends per share.
b.
net income divided by dividends per share.
c.
dividends per share divided by net income.
d.
dividends per share divided by market price per share.
3. Return on equity is measured in terms of
a.
days.
b.
times.
c.
a percentage.
d.
dollars.
4. A disadvantage of the corporate form of business is
a.
lack of mutual agency.
b.
professional management.
c.
ease of transfer of ownership.
d.
tax treatment.
5. A disadvantage of the corporate form of business is
a.
centralized authority and responsibility.
b.
its status as a separate legal entity.
c.
government regulation.
d.
continuous existence.
6. An advantage of the corporate form of business is
a.
possible lack of control by owners.
b.
tax treatment.
c.
lack of mutual agency.
d.
government regulation.
7. Which of the following is a correct statement relating to the concept of mutual agency and the
corporate form of business?
a.
There is no mutual agency with the corporate form of business.
b.
Mutual agency may or may not exist in a corporation, depending on the individual state
law.
c.
Mutual agency always exists in the corporate form of business.
d.
Mutual agency may or may not exist in a corporation, depending on a vote by the
shareholders.
8. Which of the following phrases is not descriptive of the corporate form of business?
a.
Professional management
b.
Continuous existence
c.
Double taxation
d.
Unlimited liability
9. Which of the following statements is not descriptive of common stock?
a.
Stockholders are considered owners, not creditors, of a corporation.
b.
The payment of dividends is never required.
c.
Dividends paid are an expense for the issuing corporation.
d.
Issuing stock is less risky than issuing bonds.
10. Which of the following could be described as both an advantage and a disadvantage of incorporation?
a.
Continuous existence
b.
Limited liability
c.
Double taxation
d.
Lack of mutual agency
11. A corporation has
a.
government regulations.
b.
a limited existence.
c.
unlimited liability.
d.
no tax liability.
12. Par value
a.
is established for a share of stock after it is issued.
b.
is the legal capital established for a share of stock.
c.
represents what a share of stock is worth.
d.
represents the original selling price for a share of stock.
13. A good measure of confidence in a corporation’s future is
a.
par value.
b.
price/earnings ratio.
c.
dividends yield.
d.
return on equity.
14. Compensation expense related to employee stock option plans is to be measured by the excess of the
a.
option price over the fair value of the stock at the date the options are granted.
b.
fair value of the stock over the option price at the date the options are exercised.
c.
option price over the fair value of the stock at the date the options are exercised.
d.
fair value of the stock over the option price at the date the options are granted.
15. Which of the following statements is true of stock option plans?
a.
Compensation expense is recorded only if the option price is less than the stock’s fair
value on the grant date.
b.
Compensation is measured on the date the stock is issued.
c.
The issued stock is recorded at the market price, not the option price.
d.
They all serve to compensate employees.
16. Which of the following is the appropriate entry to record the declaration of cash dividends?
a.
Dividends Payable – Debit; Cash – Credit
b.
Additional Paid-in Capital – Debit; Dividends Payable – Credit
c.
Dividends– Debit; Dividends Payable – Credit
d.
Retained Earnings– Debit; Cash – Credit
17. The board of directors of Berweck Corporation declared a cash dividend on January 18, 2010, to be
paid on February 18, 2010, to shareholders holding the stock on February 2, 2010. Given these facts,
the date February 2, 2010, is referred to as the
a.
date of declaration.
b.
date of payment.
c.
ex-dividend date.
d.
date of record.
18. The board of directors of Irondale Corporation declared a cash dividend of $2.50 per share on 57,000
shares of common stock on June 14, 2010. The dividend is to be paid on July 15, 2010, to shareholders
of record on July 1, 2010. The proper entry to be recorded on June 14, 2010, will be:
a.
Dividends 142,500
Dividends Payable 142,500
b.
Dividends payable 142,500
Cash 142,500
c.
Dividends 142,500
Retained Earnings 142,500
d.
Dividends payable 142,500
Dividends 142,500
19. The board of directors of Irondale Corporation declared a cash dividend of $2.50 per share on 57,000
shares of common stock on June 14, 2010. The dividend is to be paid on July 15, 2010, to shareholders
of record on July 1, 2010. The effects of the entry to record the declaration of the dividend on June 14,
2010, are to
a.
decrease stockholders’ equity and increase liabilities.
b.
increase stockholders’ equity and increase liabilities.
c.
decrease stockholders’ equity and decrease assets.
d.
increase stockholders’ equity and decrease assets.
20. The board of directors of Irondale Corporation declared a cash dividend of $2.50 per share on 57,000
shares of common stock on June 14, 2010. The dividend is to be paid on July 15, 2010, to shareholders
of record on July 1, 2010. The proper entry to be recorded on July 15, 2010, will be:
a.
Cash 142,500
Dividends Payable 142,500
b.
Dividends Payable 142,500
Cash 142,500
c.
Cash 142,500
Dividends 142,500
d.
Dividends 142,500
Cash 142,500
21. The board of directors of Irondale Corporation declared a cash dividend of $2.50 per share on 57,000
shares of common stock on June 14, 2010. The dividend is to be paid on July 15, 2010, to shareholders
of record on July 1, 2010. The effects of the entry to record the payment of the dividend on July 15,
2010, are to
a.
increase assets and decrease stockholders’ equity.
b.
decrease stockholders’ equity and decrease liabilities.
c.
decrease liabilities and decrease assets.
d.
increase stockholders’ equity and decrease liabilities.
22. The entry to close the Dividends account which has a balance of $10,000, at the end of an accounting
period will be:
a.
Dividends 10,000
Cash 10,000
b.
Retained Earnings 10,000
Cash 10,000
c.
Dividends 10,000
Retained Earnings 10,000
d.
Retained Earnings 10,000
Dividends 10,000
23. The entry to record the declaration of a cash dividend will
a.
not affect working capital.
b.
reduce working capital.
c.
not affect total stockholders’ equity.
d.
increase total stockholders’ equity.
24. The net effects on a corporation of the declaration and payment of a cash dividend are to
a.
increase assets and increase stockholders’ equity.
b.
decrease liabilities and decrease stockholders’ equity.
c.
decrease assets and decrease stockholders’ equity.
d.
increase stockholders’ equity and decrease liabilities.
25. A corporation records a dividend-related liability
a.
on the payment date.
b.
on the record date.
c.
on the declaration date.
d.
when the stock sells ex-dividend.
26. A liquidating dividend is
a.
a dividend that exceeds current retained earnings.
b.
normally declared when a corporation is experiencing large profits.
c.
a dividend that exceeds current profits.
d.
legal in most states.
27. Start-up and organization costs for a corporation that is to operate a retail store would include the costs
of
a.
promoters’ fees and printing stock certificates.
b.
advertising for a grand opening sale.
c.
the initial purchase of inventory.
d.
counters and racks to display merchandise.
28. Start-up and organization costs include all of the following except
a.
goodwill.
b.
cost of printing stock certificates.
c.
attorney’s fees.
d.
state incorporation fees.
29. Start-up and organization costs
a.
are capitalized, but never amortized.
b.
are capitalized and amortized, usually over five years.
c.
are expensed in the year incurred.
d.
appear on the balance sheet as a current asset.
30. All of the following are stockholders’ equity accounts except
a.
Treasury Stock.
b.
Preferred Stock.
c.
Retained Earnings.
d.
Dividends Payable.
31. The number of shares of issued stock equals
a.
unissued shares minus authorized shares.
b.
outstanding shares plus treasury shares.
c.
subscribed shares plus outstanding shares.
d.
authorized shares minus treasury shares.
32. Treasury shares plus outstanding shares equal
a.
unissued shares.
b.
subscribed shares.
c.
authorized shares.
d.
issued shares.
33. The contributed capital of a corporation does not include
a.
additional paid-in capital.
b.
preferred stock.
c.
the stated value of common stock issued.
d.
retained earnings.
34. A corporation’s residual equity is its
a.
preferred stock.
b.
retained earnings.
c.
common stock.
d.
cash.
35. The maximum number of shares of common stock that may be issued according to the corporation’s
charter is referred to as
a.
authorized shares.
b.
outstanding shares.
c.
unissued shares.
d.
issued shares.
36. All of the following normally are found in a corporation’s stockholders’ equity section except
a.
Common Stock.
b.
Additional Paid-in Capital.
c.
Retained Earnings.
d.
Dividends in Arrears.
37. Which of the following classifications represents the fewest shares of common stock?
a.
Outstanding shares
b.
Issued shares
c.
Treasury shares
d.
Impossible to determine
38. Holders of preferred stock normally do not have
a.
preference as to dividends.
b.
preference as to assets in liquidations.
c.
full voting rights.
d.
ownership interests in the corporation.
39. Use the following information to answer the question below.
The following accounts appear in the ledger of Sayre Corporation on December 31, 20xx:
Preferred Stock
$30,000
Common Stock
56,000
Additional Paid-in Capital, Preferred
7,000
Additional Paid-in Capital, Common
18,000
Retained Earnings
40,000
A balance sheet prepared on December 31, 20xx, would report total contributed capital of
a.
$86,000.
b.
$93,000.
c.
$111,000.
d.
$151,000.
40. Use the following information to answer the question below.
The following accounts appear in the ledger of Sayre Corporation on December 31, 20xx:
Preferred Stock
$30,000
Common Stock
47,000
Additional Paid-in Capital, Preferred
7,000
Additional Paid-in Capital, Common
18,000
Retained Earnings
40,000
A balance sheet prepared on December 31, 20xx, would report total stockholders’ equity of
a.
$77,000.
b.
$84,000.
c.
$102,000.
d.
$142,000.
41. If Willis Corporation has 80,000 shares of common stock authorized, 50,000 shares of common stock
issued, and holds 12,000 shares of common stock as treasury stock, the total number of outstanding
shares of Willis Corporation amounts to
a.
22,000.
b.
68,000.
c.
38,000.
d.
26,000.
42. Outstanding shares of stock are
a.
authorized shares that have not yet been issued.
b.
also called treasury shares.
c.
shares of stock owned by unknown individuals.
d.
issued shares that are still in circulation.
43. Shares of treasury stock are
a.
issued shares that have been bought back by the corporation and are being held by the
corporation.
b.
shares held by the U.S. Treasury Department.
c.
part of the total outstanding shares but not part of the total issued shares of a corporation.
d.
unissued shares that are held by the treasurer of the corporation.
44. To evaluate the amount of dividends they receive, investors use the ratio called
a.
Price Earning ratio
b.
Dividend yield ratio
c.
Return on Equity
d.
Current ratio
45. Legal capital is a descriptive phrase for
a.
stockholders’ equity.
b.
residual equity.
c.
market value.
d.
par value.
46. How should dividends in arrears be shown on a corporation’s balance sheet?
a.
As an increase in liabilities
b.
In a note or in the body of the financial statements
c.
As a decrease in assets
d.
As an increase in stockholders’ equity
47. Holders of common stock must be made aware of possible restrictions on common dividends when the
preferred stock is
a.
convertible.
b.
cumulative.
c.
callable.
d.
noncumulative.
48. When shares of preferred stock may be redeemed by the corporation at a certain price, the shares are
said to be
a.
cumulative.
b.
nonconvertible.
c.
convertible.
d.
callable.
49. Convertible preferred stock is preferred stock that may be exchanged for
a.
cash at the option of the corporation.
b.
common stock at the option of the corporation.
c.
cash at the option of the stockholder.
d.
common stock at the option of the stockholder.
50. Most preferred stocks are callable preferred stocks, which means that the callable feature may be
exercised by
a.
the state that issued the corporation’s charter.
b.
a preferred stockholder.
c.
the issuing corporation.
d.
either the issuing corporation or a preferred stockholder.
51. Dividends in arrears are dividends on
a.
noncumulative preferred stock that have not been declared for some specified period of
time.
b.
common stock that may never be declared.
c.
cumulative preferred stock that have been declared but not yet paid.
d.
cumulative preferred stock that have not been declared for some specified period of time.
52. Honig Corporation had the following shares of stock outstanding on December 31, 2010:
Common stock, $50 par value, 100,000 shares outstanding
Preferred stock, 8 percent, $100 par value, cumulative, 10,000 shares outstanding
Dividends were in arrears for 2008 and 2009. On December 31, 2010, total cash dividends of $400,000
were declared. The total amounts payable to preferred stockholders and common stockholders,
respectively, are
a.
$200,000 and $200,000.
b.
$160,000 and $240,000.
c.
$240,000 and $160,000.
d.
$80,000 and $320,000.
53. Gault Corporation had the following shares of stock outstanding on December 31, 2010:
Common stock, $50 par value, 200,000 shares outstanding
Preferred stock, 8 percent, $100 par value, cumulative, 20,000 shares outstanding
Dividends were in arrears for 2008 and 2009. On December 31, 2010, total cash dividends of $800,000
were declared. The total amounts payable to preferred stockholders and common stockholders,
respectively, are
a.
$160,000 and $640,000.
b.
$480,000 and $320,000.
c.
$320,000 and $480,000.
d.
$400,000 and $400,000.
54. Beckham Corporation has 3,000 shares of $100 par value, 7 percent cumulative preferred stock, and
10,000 shares of $10 par value common stock outstanding during its first five years of operation.
Beckham Corporation paid cash dividends as follows: 2006, $16,500; 2007, $0; 2008, $65,000; 2009,
$30,000; 2010, $15,000. The amount of dividends the common stockholders received during 2006 was
a.
$0.
b.
$8,250.
c.
$16,500.
d.
$24,750.
55. Beckham Corporation has 3,000 shares of $100 par value, 7 percent cumulative preferred stock, and
10,000 shares of $10 par value common stock outstanding during its first five years of operation.
Beckham Corporation paid cash dividends as follows: 2006, $9,000; 2007, $0; 2008, $65,000; 2009,
$30,000; 2010, $15,000. The amount of dividends in arrears at the end of 2007 was
a.
$0.
b.
$12,000.
c.
$19,000.
d.
$33,000.
56. Beckham Corporation has 3,000 shares of $100 par value, 7 percent cumulative preferred stock, and
10,000 shares of $10 par value common stock outstanding during its first five years of operation.
Beckham Corporation paid cash dividends as follows: 2006, $17,000; 2007, $0; 2008, $65,000; 2009,
$30,000; 2010, $15,000. The amount of dividends received by the preferred stockholders during 2008
was
a.
$65,000.
b.
$46,000.
c.
$25,000.
d.
$18,000.
57. Beckham Corporation has 3,000 shares of $100 par value, 7 percent cumulative preferred stock, and
10,000 shares of $10 par value common stock outstanding during its first five years of operation.
Beckham Corporation paid cash dividends as follows: 2006, $30,000; 2007, $0; 2008, $65,000; 2009,
$30,000; 2010, $15,000. The amount of dividends received by the common stockholders during 2009
was
a.
$11,000.
b.
$13,000.
c.
$9,000.
d.
$15,000.
58. Beckham Corporation has 3,000 shares of $100 par value, 7 percent cumulative preferred stock, and
10,000 shares of $10 par value common stock outstanding during its first five years of operation.
Beckham Corporation paid cash dividends as follows: 2006, $14,000; 2007, $18,000; 2008, $65,000;
2009, $30,000; 2010, $15,000. The amount of dividends received by the preferred stockholders during
2010 was
a.
$17,500.
b.
$15,000.
c.
$16,500.
d.
$17,000.
59. A corporation has 10,000 shares of 8 percent cumulative preferred stock and 20,000 shares of common
stock outstanding. Par value for each is $100. No dividends were paid last year, but this year a
$200,000 dividend is paid. How much of this $200,000 goes to the holders of common stock?
a.
$40,000
b.
$80,000
c.
$160,000
d.
$180,000
60. A corporation has 5,000 shares of 8 percent noncumulative preferred stock and 10,000 shares of
common stock outstanding. Par value for each is $100. No dividends were paid last year, but this year
a $93,000 dividend is paid. How much of this $93,000 goes to the holders of common stock?
a.
$53,000
b.
$63,000
c.
$73,000
d.
$83,000