Chapter 10
Stockholders’ Equity
REVIEW QUESTIONS
Question 10-1 (LO 10-1)
Most corporations first raise money by selling stock to the founders of the business and their
friends and family. As the equity financing needs of the corporation grow, companies prepare a
Question 10-2 (LO 10-1)
The stock of a publicly held corporation trades on the New York Stock Exchange (NYSE),
Question 10-3 (LO 10-1)
The basic ownership rights of common stockholders are (1) the right to vote, (2) the right to
receive dividends, and (3) the right to share in the distribution of assets.
Question 10-4 (LO 10-1)
Sole proprietorships are the most common form of business. However, corporations are larger in
terms of total sales, total assets, earnings, or number of employees.
Question 10-5 (LO 10-1)
A corporation offers two primary advantages over sole proprietorships and partnerships. These
are (1) limited liability and (2) ability to raise capital and transfer ownership. Because of limited
3-2 Financial Accounting, 5e
Question 10-6 (LO 10-1)
An LLC or an S Corporation allows a company to enjoy limited liability as a corporation, but
avoid the double taxation of traditional corporations.
Question 10-7 (LO 10-2)
Authorized stock is the total number of shares available to sell, stated in the company’s articles
Question 10-8 (LO 10-2)
One million shares are authorized, 100,000 shares are issued, and 90,000 shares are outstanding.
Question 10-9 (LO 10-2)
Par value is the legal capital per share of stock that’s assigned when the corporation is first
Question 10–10 (LO 10-3)
The three potential features of preferred stock are convertible, redeemable, and cumulative.
it appear more like long-term liabilities.
Question 10–11 (LO 10-3)
Investors in common stock are the owners of the corporation. Investors in bonds are creditors
Question 10–12 (LO 10-4)
A company may buy back its own stock to boost under-priced stock. When a company’s
Question 10–13 (LO 10-4)
When a corporation purchases its own stock, it increases, or debits treasury stock reported in the
balance sheet as a reduction in stockholders’ equity. When a corporation purchases stock in another
Question 10-14 (LO 10-5)
Many companies that are unprofitable choose not to pay dividends. Management of these
companies may instead need to use that cash for strategic purposes to keep the company from
Question 10-15 (LO 10-5)
The declaration date is the date the board of directors announces the next dividend to be paid.
Question 10–16 (LO 10-6)
Total assets, total liabilities, and total stockholders’ equity do not change as a result of a 100%
stock dividend or a 2-for-1 stock split.
Question 10–17 (LO 10-6)
Question 10-18 (LO 10-6)
In a 2-for-1 stock split the number of shares outstanding doubles, while the par value and share
price drop by one-half.
Question 10-19 (LO 10-7)
Question 10–20 (LO 10-7)
Question 10–21 (LO 10-7)
Total stockholders’ equity is equal to assets minus liabilities. An asset usually equals its market
value on the date it’s purchased. However, the two aren’t necessarily the same after that. For
3-4 Financial Accounting, 5e
Question 10–22 (LO 10-8)
Earnings per share is not comparable between companies because companies do not have the
Question 10-23 (LO 10-8)
PE stands for price-earnings. Investors use the PE ratio to evaluate the price of a stock in relation
BRIEF EXERCISES
Brief Exercise 10-1 (LO 10-1)
ADVANTAGES OF A CORPORATION
• Limited Liability—Even in the event of bankruptcy, stockholders in a
DISADVANTAGES OF A CORPORATION
• Additional Taxes—Owners of sole-proprietorships and partnerships are taxed
Brief Exercise 10-2 (LO 10-1)
An S Corporation allows a company to enjoy limited liability as a corporation, but
tax treatment as a partnership. Because of these benefits, many companies that
Brief Exercise 10-3 (LO 10-2)
Cash (3,000 shares x $11)
33,000
Common Stock (3,000 shares x $0.01)
30
Additional Paid-in Capital (difference)
32,970
(Issue common stock above par)
3-6 Financial Accounting, 5e
Brief Exercise 10-4 (LO 10-2)
30,000
Cash (1,000 shares x $30)
Brief Exercise 10-5 (LO 10-3)
32,000
31,990
Brief Exercise 10-6 (LO 10-3)
Preferred Stock Features
Description
__c___ 1. Convertible
a. Prior unpaid dividends receive
priority.
__b___ 2. Redeemable
predetermined price.
Brief Exercise 10-7 (LO 10-3)
Preferred dividends in arrears for 2019 and 2020 ($7,000 x 2 years)
$14,000
Preferred dividends for 2021 (2,000 shares x 7% x $50 par value)
Remaining dividends to common stockholders
Brief Exercise 10-8 (LO 10-4)
Treasury Stock (100 shares x $38)
3,800
Cash
3,800
(Purchase treasury stock)
Brief Exercise 10-9 (LO 10-4)
Cash (100 shares x $40)
Brief Exercise 10-10 (LO 10-5)
October 1
Dividends (4,000 shares x $0.75)
3,000
Dividends Payable
3,000
(Declare cash dividends)
October 15
October 31
Dividends Payable (4,000 shares x $0.75)
3,000
(Pay cash dividends)
3-8 Financial Accounting, 5e
Brief Exercise 10-11 (LO 10-6)
June 30
Brief Exercise 10-12 (LO 10-6)
• No entry is recorded for a 2-for-1 stock split, because the balance in all of the
Brief Exercise 10-13 (LO 10-7)
Transaction
Total
Assets
Total
Liabilities
Total
Stockholders’ Equity
Issue common stock
+
NE
+
Issue preferred stock
NE
Resell treasury stock
NE
Brief Exercise 10-14 (LO 10-7)
Summit Apparel
Balance Sheet
(Stockholders’ Equity Section)
December 31
Stockholders’ equity:
Brief Exercise 10-15 (LO 10-8)
($ in millions)
Net
Income
÷
Average
Stockholders’
Equity
=
Return on
Equity
EXERCISES
Exercise 10-1 (LO 10-1)
Terms
__f___ 1. Publicly held corporation.
__d___ 2. Organization chart.
__h___ 3. Articles of incorporation.
__g___ 5. Initial public offering.
__b___ 6. Double taxation.
__e___ 7. S corporation.
__c___ 8. Limited liability company.
Definitions
a. Shareholders can lose no more than the amount they invested in the company.
b. Corporate earnings are taxed twice – at the corporate level and individual
shareholder level.
Exercise 10-2 (LO 10-2, 10-3, 10-4)
Authorized stock is the total number of shares available to sell, stated in the
company’s articles of incorporation.
3-12 Financial Accounting, 5e
Exercise 10-3 (LO 10-2)
Requirement 1
January 1
Cash (700 shares x $50)
35,000
April 1
Cash (110 shares x $54)
Requirement 2
January 1
Cash (700 shares x $50)
35,000
Common Stock (700 shares x $1.00)
700
April 1
Cash (110 shares x $54)
Additional Paid-in Capital (difference)
Exercise 10-4 (LO 10-3)
Requirement 1
Preferred dividends in arrears for 2020
$10,000
Preferred dividends for 2021 (2,000 shares x 5% x $100 par value)
Remaining dividends to common stockholders
$22,000
Requirement 2
Preferred dividends in arrears for 2020
$ 0
Preferred dividends for 2021 (2,000 shares x 5% x $100 par value)
Remaining dividends to common stockholders
$22,000
Exercise 10-5 (LO 10-2, 10-3, 10-5)
February 1
Debit
Credit
Cash (6,000 x $16)
96,000
Common Stock (6,000 x $16)
96,000
(Issue common stock no-par value))
May 15
Cash (700 x $13)
9,100
Preferred Stock (700 x $10)
(Issue preferred stock above par)
(Declare cash dividends)
No Entry
October 31
Exercise 10-6 (LO 10-2, 10-3, 10-4)
January 2, 2021
Debit
Credit
Cash (100,000 x $35)
3,500,000
Common Stock (100,000 x $1)
100,000
Additional Paid-in Capital (difference)
3,400,000
(Issue common stock above par)
February 6, 2021
Cash (3,000 x $11)
Preferred Stock (3,000 x $10)
Additional Paid-in Capital (difference)
(Issue preferred stock above par)
September 10, 2021
Treasury Stock (11,000 shares x $40)
440,000
Cash
440,000
(Purchase treasury stock)
December 15, 2021
Cash (5,500 shares x $45)
Treasury Stock (5,500 shares x $40)
220,000
(Resell treasury stock above cost)
3-16 Financial Accounting, 5e
Exercise 10-7 (LO 10-7)
Finishing Touches
Balance Sheet
(Stockholders’ Equity Section)
December 31, 2021
Stockholders’ equity:
Preferred stock, $10 par value
$ 30,000
Common stock, $1.00 par value
100,000
Additional paid-in capital
Retained earnings
Treasury stock, 5,500 shares
Exercise 10-8 (LO 10-5)
March 15
Debit
Credit
Dividends (210 million shares x $0.125)
26,250,000
Dividends Payable
26,250,000
April 13
Dividends Payable (210 million shares x $0.125)
26,250,000
Exercise 10-9 (LO 10-2, 10-4, 10-5)
March 1, 2021
Debit
Credit
Cash (65,000 x $62)
4,030,000
Common Stock (65,000 x $1)
65,000
Additional Paid-in Capital (difference)
3,965,000
(Issue common stock above par)
May 10, 2021
Treasury Stock (6,000 shares x $65)
390,000
(Purchase treasury stock)
June 1, 2021
Dividends (159,000 shares x $2.00)
318,000
Dividends Payable
318,000
(Declare cash dividends)
July 1, 2021
Dividends Payable (159,000 shares x $2.00)
318,000
Cash
318,000
(Pay cash dividends)
October 21, 2021
Cash (3,000 shares x $70)
210,000
Treasury Stock (3,000 shares x $65)
Exercise 10-10 (LO 10-6)
Requirement 1
September 1
Stock Dividends (10,000 x 10% x $30)
30,000
Requirement 2
September 1
Stock Dividends (10,000 shares x $1)
10,000
Requirement 3
• No entry is recorded for a 2-for-1 stock split, because the balance in all of the
Exercise 10-11 (LO 10-7)
Power Drive Corporation
Balance Sheet
(Stockholders’ Equity Section)
December 31, 2021
Stockholders’ equity:
Common stock, $1.00 par value
$ 165,000
Additional paid-in capital
Retained earnings
Treasury stock, 3,000 shares
Exercise 10-12 (LO 10-7)
Power Drive Corporation
Statement of Stockholders’ Equity
For the Year Ended December 31, 2021
Common
Stock
Additional
Paid-in
Capital
Retained
Earnings
Treasury
Stock
Total
Stockholders’
Equity
Balance, January 1
$100,000
5,500,000
3,000,000
-0-
$ 8,600,000
Issue common stock
3,965,000
Purchase treasury stock
Resell treasury stock
Net income
Balance, December 31
3-20 Financial Accounting, 5e
Exercise 10-13 (LO 10-7)
Transaction
Total
Assets
Total
Liabilities
Total
Stockholders’
Equity
Issue common stock
+
NE
+
Issue preferred stock
NE
Purchase treasury stock
NE
Declare cash dividend
Pay cash dividend
100% stock dividend
NE
2-for-1 stock split
NE
Exercise 10-14 (LO 10-7)
United Apparel
Balance Sheet
(Stockholders’ Equity Section)
December 31, 2021
Stockholders’ equity:
Preferred stock
$ 3,600,000
Common stock
Retained earnings
Treasury stock