CHAPTER 11
Corporations: Organization, Stock Transactions,
Dividends, and Retained Earnings
LEARNING OBJECTIVES
1. IDENTIFY THE MAJOR CHARACTERISTICS OF A
CORPORATION.
2. RECORD THE ISSUANCE OF COMMON STOCK.
3. EXPLAIN THE ACCOUNTING FOR TREASURY STOCK.
4. DIFFERENTIATE PREFERRED STOCK FROM COM-
MON STOCK.
5. PREPARE THE ENTRIES FOR CASH DIVIDENDS AND
STOCK DIVIDENDS.
6. IDENTIFY THE ITEMS REPORTED IN A RETAINED
EARNINGS STATEMENT.
7. PREPARE AND ANALYZE A COMPREHENSIVE
STOCKHOLDERS’ EQUITY SECTION.
*8. DESCRIBE THE USE AND CONTENT OF THE
STOCKHOLDERS’ EQUITY STATEMENT.
*9. COMPUTE BOOK VALUE PER SHARE.
CHAPTER REVIEW
The Corporate Form of Organization
1. (L.O. 1) A corporation is an entity created by law that is separate and distinct from its owners
incorporated.
2. The characteristics that distinguish a corporation from proprietorships and partnerships are:
a. The corporation has separate legal existence from its owners.
b. The stockholders have limited liability.
of directors who are elected by the stockholders.
g. The corporation is subject to numerous government regulations.
Forming a Corporation
3. A corporation is formed by grant of a state charter. Upon receipt of its charter from the state of
conducting the affairs of the corporation.
a. Costs incurred in forming a corporation are called organization costs.
Ownership Rights of Stockholders
4. When chartered, the corporation may begin selling ownership rights in the form of shares of stock.
Each share of common stock gives the stockholder the following ownership rights:
issued (preemptive right).
d. To share in assets upon liquidation (residual claim).
Stock Issue Considerations
5. Authorized stock is the amount of stock a corporation is allowed to sell as indicated by its charter.
6. A corporation has the choice of issuing common stock directly to investors or indirectly through an
7. Par value stock is capital stock that has been assigned a value per share in the corporate charter.
corporate creditors.
8. No-par stock is capital stock that has not been assigned a value in the corporate charter. In
ered to be legal capital.
Corporate Capital
9. Owner’s equity in a corporation is identified as stockholders’ equity, shareholders’ equity, or
10. Paid-in capital is the total amount of cash and other assets paid in to the corporation by
stockholders in exchange for capital stock.
11. Retained earnings is net income retained in a corporation.
and a credit to Retained Earnings.
b. Retained earnings (earned capital) is part of the stockholders’ equity section of a corporation.
Accounting for Stock Transactions
12. (L.O. 2) The primary objectives in accounting for the issuance of common stock are to (a) identify
retained earnings.
13. When par value common stock is issued for cash, the par value of the shares is credited to Common
paid-in capital account.
14. When no-par common stock has a stated value, the stated value is credited to Common Stock.
credited to Common Stock.
15. When common stock is issued for services or noncash assets, cost is either the fair value of the
Treasury Stock
16. (L.O. 3) Treasury stock is a corporation’s own stock that has been issued, fully paid for, and
reacquired but not retired.
c. When the selling price is less than cost, the excess of cost over selling price is usually debited
to Paid-in Capital from Treasury Stock. When there is no remaining balance in Paid-in Capital
Preferred Stock
17. (L.O. 4) Preferred stock has contractual claims that give it priority over common stock. Preferred
18. Preferred stock should be identified separately from other stock (e.g., Preferred Stock, Paid-in
section.
Dividend Preferences
19. A cumulative dividend provides that preferred stockholders must be paid both current and prior
year dividends before common stockholders receive any dividends.
Dividends
21. A cash dividend is a pro rata distribution of cash to stockholders. For a corporation to pay a cash
22. Three dates are important in connection with dividends:
and the liability is recorded.
b. Record date—the date that marks the time when ownership of outstanding shares is deter-
the dividend is recorded.
23. Preferred stockholders must be paid any unpaid prior year dividends before common stockholders
receive dividends.
preferred stockholders before paying any dividends to common stockholders.
Stock Dividends
24. A stock dividend is a pro rata distribution to stockholders of the corporation’s own stock. A stock
however, fair value is used.
25. When the fair value of the stock is used, the following entry is made at the declaration date:
Stock Dividends ………………………………………………………. XXX
Common Stock Dividends Distributable ……………….. XXX
a. Common Stock Dividends Distributable is reported in paid-in capital as an addition to common
stock issued.
when the dividend shares are issued.
26. Stock dividends change the composition of stockholders’ equity because a portion of retained
value per share remain the same.
Stock Splits
27. A stock split involves the issuance of additional shares of stock to stockholders according to their
percentage ownership.
value per share is decreased.
b. A stock split has no effect on total paid-in capital, retained earnings, or total stockholders’
equity.
Retained Earnings
28. (L.O. 6) Retained earnings is net income that is retained in the business. The balance in retained
debited and Income Summary is credited.
b. A debit balance in Retained Earnings is identified as a deficit and is reported as a deduction
in the stockholders’ equity section.
29. In some cases there may be retained earnings restrictions that make a portion of the balance
currently unavailable for dividends. Restrictions result from one or more of the following causes:
legal, contractual or voluntary. Retained earnings restrictions are generally disclosed in the notes
to the financial statements.
30. A prior period adjustment is the correction of a material error in reporting net income in previously
issued financial statements. The correction is:
a. made directly to Retained Earnings.
b. reported in the current year’s retained earnings statement as an adjustment of the beginning
balance of Retained Earnings.
31. Many corporations prepare a retained earnings statement to explain the changes in retained
earnings during the year.
Stockholders’ Equity Presentation
32. (L.O. 7) In the stockholders’ equity section, paid-in capital and retained earnings are reported and
the specific sources of paid-in capital are identified. Within paid-in capital, two classifications are
recognized.
a. Capital stock, which consists of preferred and common stock. Preferred stock is shown before
common stock because of its preferential rights. Information as to the par value, shares
authorized, shares issued, and shares outstanding is reported for each class of stock.
b. Additional paid-in capital, which includes the excess of amounts paid in over par or stated
value and paid-in capital from treasury stock.
33. A widely used ratio that measures profitability from the common stockholder’s viewpoint is return
on common stockholders’ equity. It is computed by dividing net income available to common
stockholders (which is net income – preferred stock dividends) by average common stockholders’
equity.
*Stockholders’ Equity Statement
*Book Value Per Share
*35. (L.O. 9) Book value per share represents the equity a common stockholder has in the net
assets of the corporation from owning one share of stock.
stock outstanding is:
Total Stock–
holders’ Equity
÷
Number of Common
Shares Outstanding
=
Book Value
per Share
LECTURE OUTLINE
A. The Corporate Form of Organization.
and distinct from its owners.
2. A corporation may be organized for the purpose of making a profit, or it
may be nonprofit.
3. Classification by ownership differentiates publicly held and privately held
corporations.
for sale to the general public.
B. Characteristics of a Corporation.
1. Separate legal existence. As an entity separate and distinct from its
owners, the corporation acts under its own name rather than in the name
of its stockholders.
claims.
3. Transferable ownership rights. Shares of capital stock, which are trans-
ferable units, give ownership in a corporation.
4. Ability to acquire capital. Obtaining capital is relatively easy for a corpo–
ration because stockholders have limited liability and shares of stock are
readily transferable.
Copyright © 2014 John Wiley & Sons, Inc. Weygandt, Financial Accounting, 9/e, Instructor’s Manual (For Instructor Use Only) 11-9
5. Continuous life. The life of a corporation is stated in its charter. It may be
perpetual or it may be limited to a specific number of years.
6. Corporation management. Stockholders legally own the corporation,
but they manage the corporation indirectly through a board of directors they
elect. The board, in turn, formulates operating policies and also selects
officers to execute policy and to perform daily management functions.
7. Government regulations. A corporation is subject to numerous state
and federal regulations that are designed to protect the owners of the
corporation.
to more than 40% of taxable income.
C. Forming a Corporation.
1. A corporation is formed by grant of a state charter which describes the
name and purpose of the corporation, the types and number of shares of
stock that are authorized to be issued, and the names of the individuals
that formed the company.
involved in the organization of the business and are expensed as incurred.
D. Ownership Rights of Stockholders.
1. Each share of common stock gives the stockholder the following ownership
rights:
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a. Each share of stock entitles the owner to vote in the election of the
board of directors and in corporate actions that require stockholder
approval.
b. Stockholders share in corporate earnings through the receipt of
dividends.
c. Common stockholders are granted the right (preemptive right) to
keep the same ownership percentage when new shares of stock
are issued.
certificate.
E. Stock Issue Considerations.
1. Authorized stock. The charter indicates the amount of stock that a corpo–
ration is authorized to sell.
2. Issuance of stock. A corporation can issue common stock directly to
investors.
3. Market price of stock. The stock of publicly held companies is traded
on organized exchanges. The interaction between buyers and sellers
determines the dollar prices per share.
4. Par and no-par value stocks. Par value stock is capital stock to which
shares.