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Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-1
11 STOCKHOLDERS’ EQUITY: PAID-IN CAPITAL
Chapter Summary
This, the first of two chapters on stockholders’ equity, treats topics concerned with the
paid-in capital of a corporation. Consideration of issues relative to retained earnings is deferred
to Chapter 12.
The advantages and disadvantages of the corporate form are reviewed in detail, and the
distinctions between public and closely held corporations are explained. An extensive discussion
of the formation of a corporation highlights the rights of stockholders and the roles of corporate
directors and officers.
The treatment of accounting procedures regarding paid-in capital concentrates on the
issuance of capital stock and the stockholders’ equity section of the balance sheet. The concept
of par value is explained in detail, as is additional paid-in capital. The introduction of preferred
stock leads to more complex illustrations of the stockholders’ equity section. Preferences with
respect to dividends and assets are explained and illustrated as is the distinction between
cumulative and noncumulative preferred stock.
The calculation of book value per common share is explained and illustrated before
attention turns to factors concerning market values. The significance of market price to the
issuing corporation is contrasted to its significance to the investor. We then explain the roles of
interest rates and investor expectations in the determination of market prices.
Since stock splits and treasury stock transactions impact the presentation of paid-in
capital on the balance sheet, they are also introduced in this chapter. Journal entries to record
both the purchase and reissuance of treasury shares are provided. We explain and emphasize that
gains and losses on treasury stock transactions are not recognized.
Learning Objectives
1. Explain the advantages and disadvantages of organizing a business as a corporation.
2. Distinguish between publicly owned and closely held corporations.
3. Explain the rights of stockholders and the roles of corporate directors and officers.
4. Account for paid-in capital and prepare the equity section of a corporate balance sheet.
5. Contrast the features of common stock with those of preferred stock.
6. Discuss the factors affecting the market price of preferred stock and common stock.
7. Explain the significance of book value and market value of capital stock.
8. Explain the purpose and the effects of a stock split.
9. Account for treasury stock transactions.
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-2 Instructor’s Resource Manual
Brief Topical Outline
A. Corporations
1. Why businesses incorporate—see Your Turn (page 487)
2. Publicly owned corporations
a. Publicly owned corporations face different rules
B. Formation of a corporation
1. Organization costs
2. Rights of stockholders
3. Functions of the board of directors
4. Functions of the corporate officers
5. Stockholder records in a corporation
a. Stockholders subsidiary ledger
b. Stock transfer agent and stock registrar
C. Paid-in capital of a corporation
1. Authorization and issuance of capital stock
a. State laws affect the balance sheet presentation of stockholders’ equity
b. Par value
c. Issuance of par value stock
d. No-par stock
2. Common stock and preferred stock
3. Characteristics of preferred stock—see International Case in Point (page 493)
a. Stock preferred as to dividends
b. Cumulative preferred stock
c. Other features of preferred stock
4. Book value per share of common stock
a. Book value when a company has both preferred and common stock
D. Market value
1. Accounting by the issuer
2. Accounting by the investor—see Case in Point (page 497)
3. Market price of preferred stock
4. Market price of common stock
5. Book value and market price
6. Stock splits
E. Treasury stock
1. Recording purchases of treasury stock
2. Reissuance of treasury stock
3. Stock buyback programs—see Pathways Connection and Your Turn (page
501); and Ethics, Fraud, & Corporate Governance (page 502)
F. Concluding remarks
Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-3
Topical Coverage and Suggested Assignment
Class
Meetings
on Chapter
Topical
Outline
Coverage
Discussion
Questions*
Brief
Exercises*
Exercises*
Problems*
Critical
Thinking
Cases*
1
A – B
1, 2
1
3
2
C – D
3, 4, 5, 8
3, 4, 6
4, 5, 6
6
3
E – F
12, 13, 14
8, 9, 10
7, 8, 9
6
*Homework assignment (to be completed prior to class)
Comments and Observations
Teaching Objectives for Chapter 11
In this chapter, we provide a comprehensive introduction to factors affecting paid-in capital and
its presentation on the balance sheet. Our teaching objectives are to:
1. Discuss the advantages and disadvantages of corporations.
2. Explain the nature of a publicly owned corporation.
3. Explain the roles of corporate directors and officers and the rights of stockholders.
4. Illustrate accounting for the issuance of capital stock in exchange for cash or other assets.
Explain the role of an underwriter in the issuance of capital stock.
5. Discuss the typical features of preferred stock and contrast these features with those of
common stock.
6. Illustrate the computation of book value per share (with preferred stock outstanding).
Distinguish among the concepts of book value, par value, and market value.
7. Explain the most important determinants of the market values of preferred and common
stock.
8. Explain the nature and purpose of stock splits.
9. Explain the rationale for treasury stock transactions, and illustrate the related accounting
entries.
General Comments
This chapter builds on the introduction to corporations earlier in the text. Because of the
new terminology introduced, we always assign Exercise 2 and also advise students to study the
list of key terms at the end of the chapter. We recommend assigning several exercises and
problems requiring students to prepare the stockholders’ equity section of a corporate balance
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-4 Instructor’s Resource Manual
sheet. The assignment material has been written to assist in this regard. Once students have a
basic understanding of stockholders’ equity, we find it helpful to review either Problem 5 or 6 in
class, calling on students to explain their answers to each part. Exercise 5 is a shortened version
of these problems and is suitable for use as a quiz.
In discussing preferred stock, we point out the similarities between preferred stock and
long-term debt. You may find the asides below useful in such discussions.
We emphasize the relationship (or lack thereof) among par value, book value, and market
value of a share of stock. Problem 7 is designed for this purpose and it can be covered quickly in
class. Discussion Question 10 makes the important point that secondary market activity does
not directly affect the financial position of the company that issued the securities. We have been
careful to make this point in the textbook and in our classrooms ever since the great stock market
crash of 1987.
An aside. In some respects, preferred stock more closely resembles debt than equity. For
example, preferred dividends are fixed in amount, rather than dependent upon the level of
earnings. Also, preferred stockholders usually have no voting power. The key criterion
distinguishing preferred stock from a liability is that liabilities mature⎯that is, they ultimately
must be paid off. The SEC has taken the position that the “redeemable” preferred stock issued
by several corporations should be classified in the balance sheet as debt rather than equity. The
redeemable shares could be redeemed at their par value for cash, at the option of the shareholder.
In making the decision, the SEC felt that the redemption option made the shares equivalent to
demand notes payable rather than equity securities.
Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-5
Supplemental Exercises
Group Exercise
BIP). This company recorded a 3-2 Stock Split on 09/15/2016. How did the split impact the
market price per share? What was the trading price directly before and after the split? What is the
trading price today? If an investor owned 100,000 shares prior to the split, how many shares
would they own after the split? If you were an investor, how would you react to a stock split?
Why?
Internet Exercise
consolidated balance sheet. How many shares of treasury stock does PepsiCo own as of
December 31? Did the balance increase or decrease from the prior year? What might explain the
change?
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-6 Instructor’s Resource Manual
CHAPTER 11 NAME #
10-MINUTE QUIZ A SECTION
Indicate the best answer for each question in the space provided.
1. Lewis Corporation issued 125,000 shares of $5 par value capital stock at date of incorporation for
cash at a price of $9 per share. During the first year of operations, the company earned $140,000
and declared a dividend of $100,000. At the end of this first year of operations, the balance of the
Capital Stock account is:
a $765,000.
b $1,000,000.
c $625,000.
d $665,000.
2. Perez Corporation has 100,000 shares of $1 par value common stock and 20,000 shares of 8%
cumulative preferred stock, $100 par value, outstanding. The balance in Retained Earnings at the
beginning of the year was $1,600,000, and one year’s dividends were in arrears. Net income for the
current year was $870,000. If Perez Corporation paid a dividend of $2 per share on its common
stock, what is the balance in Retained Earnings at the end of the year?
a $2,150,000.
b $2,270,000.
c $2,110,000.
d $1,950,000.
3. Pike Corporation has total stockholders’ equity of $8,690,000 as of December 31, 2017. The
company has 300,000 shares of $2 par value common stock and 20,000 shares of 8% cumulative
preferred stock, $100 par value, outstanding. Due to lower-than-expected net income, no dividends
were declared by Pike’s board of directors for 2017. The book value per share of common stock is:
a $25.00.
b $21.77.
c $23.00.
d $25.60.
4. Which of the following most likely explains why a corporation’s stock trades at a very high price-
earnings ratio?
a Investors expect the corporation to have higher earnings in the future.
b The corporation pays a very low dividend on its stock.
c The corporation has several classes of stock outstanding.
d The corporation is large with very low risk.
5. Which of the following is not a characteristic of most preferred stocks?
a Preference as to dividends.
b No voting power.
c Convertible into common stock.
d Preference as to assets in the event of liquidation of the company.
Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-7
CHAPTER 11 NAME #
10-MINUTE QUIZ B SECTION
Shown below is information relating to the stockholders’ equity of Revere Corporation at December 31,
2017.
8% cumulative preferred stock, $100 par,
50,000 shares authorized, 15,000 shares issued ......................................... $1,500,000
Common stock, $5 par, 1,500,000 shares authorized,
1,300,000 shares issued and outstanding .................................................... 6,500,000
Additional paid-in capital: preferred stock .................................................... 250,000
Additional paid-in capital: common stock ..................................................... 3,750,000
Retained earnings ........................................................................................... 3,260,000
Each account needs a $ sign.
Answer the following questions based on the stockholders’ equity section given above.
1. Refer to the above data. The average issue price per share of Revere’s preferred stock was:
a $117.
b $100.
c $110.
d $34.50.
2. Refer to the above data. The total amount of Revere’s paid-in capital at December 31, 2017, is:
a $ 8,000,000.
b $15,260,000.
c $12,000,000.
d $ 4,000,000.
3. Refer to the above data. Revere’s total legal capital at December 31, 2017, is:
a $12,000,000.
b $15,260,000.
c $11,260,000.
d $ 8,000,000.
4. Refer to the above data. The book value per share of common stock, assuming current-year
preferred dividends have been paid, is:
a $9.23.
b $10.39.
c $8.66.
d $6.15.
5. Refer to the above data. The balance in Retained Earnings at the beginning of the year was
$2,710,000, and there were no dividends in arrears. Net income for 2017 was $2,250,000. What was
the amount of dividend declared on each share of common stock during 2017?
a $1.30.
b $2.40.
c $1.21.
d $3.72.
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-8 Instructor’s Resource Manual
CHAPTER 11 NAME #
10-MINUTE QUIZ C SECTION
Shown below is information relating to the stockholders’ equity of Novake Corporation at December 31,
2018:
8% cumulative preferred stock, $100 par,
100,000 shares authorized, 7,000 shares issued ................................................... $ 700,000
Common stock, $3 par, 1,000,000 shares authorized,
500,000 shares issued and outstanding ................................................................. 1,500,000
Additional paid-in capital: preferred stock .............................................................. 400,000
Additional paid-in capital: common stock ............................................................... 500,000
Retained earnings ...................................................................................................... 800,000
From the above information, compute the following:
1. The total amount of legal capital: $__________
2. The total amount of paid-in capital: $__________
3. The average issue price per share of preferred stock: $_____ per share
4. The book value per share of common stock (assume current-year preferred dividends have been
paid) $_____ per share
5. The balance in Retained Earnings at the beginning of the year was $650,000, and there were no
dividends in arrears. Net income for 2018 was $475,000. What was the amount of dividend declared
on each share of common stock during 2018? $_____ per share
Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-9
CHAPTER 11 NAME #
10-MINUTE QUIZ D SECTION
Shown below is the stockholders’ equity section of Powell’s balance sheet at December 31, 2017:
Stockholders’ equity:
Common stock, $2 par value, 500,000 shares authorized,
? shares issued ....................................................................................... $ 500,000
Additional paid-in capital: common stock ............................................................ 1,750,000
Total paid-in capital ........................................................................................ $2,250,000
Retained earnings .................................................................................................. 2,400,000
Total stockholders’ equity ..................................................................................... $4,650,000
In 2018, the following events occurred:
Powell issued 2,500 shares of $2 par common stock as payment for legal services. Although
Powell’s stock is not traded on any exchange, the agreed-upon value of the legal services is
$80,000.
Powell issued 4,500 shares of 6% cumulative preferred stock, $100 par value, for $106 per share.
The board of directors declared a dividend of $1.25 per share on the common stock. Powell’s net
income for 2017 was $675,000.
Instructions
Complete in good form the stockholders’ equity section of a balance sheet prepared for Powell at
December 31, 2018.
Stockholders’ equity:
6% cumulative preferred stock, $100 par value,
10,000 shares authorized, 4,500 shares issued ............................................ $
_______
Total paid-in capital ............................................................................................ $
_______
Total stockholders’ equity ..................................................................................... $________
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-10 Instructor’s Resource Manual
SOLUTIONS TO CHAPTER 11 10-MINUTE QUIZZES
QUIZ A
1 C
QUIZ B
Learning Objective: 4,5, 7
QUIZ C
Learning Objective: 4,5
5
Retained earnings, beginning of year .............................................................................. $ 650,000
Chapter 11—Stockholders’ Equity: Paid-In Capital
Financial and Managerial Accounting, 18e 11-11
QUIZ D
Learning Objective: 4,5
Stockholders’ equity:
6% cumulative preferred stock, $100 par value,
Chapter 11—Stockholders’ Equity: Paid-In Capital
11-12 Instructor’s Resource Manual
Assignment Guide to Chapter 11
Brief
Exercises
Exercises
Problems
Cases
Net
Item Number
1-10
1-15
1
2
3
4
5
6
7
8
9
1
2
3
4
5
Time estimate (in minutes)
<15
<15
20
20
25
35
35
35
15
15
30
15
25
20
30
Difficulty rating
E
E
E
E
M
M
S
M
E
M
S
M
S
E
E
Learning Objectives:
1, 2
1. Explain the advantages and
disadvantages of organizing a
business as a corporation.
2. Distinguish between publicly owned
and closely held corporations.
