CHAPTER 11 REPORTING AND INTERPRETING STOCKHOLDERS EQUITY

ORGANIZATION OF THE CHAPTER

Understand the Business y Corporate ownership y Equity versus debt financing Study the Accounting Methods y Common stock transactions y Stock dividends and stock splits y Preferred stock y Retained earnings Evaluate the Results y Earnings per share (EPS) y Return on equity (ROE) y Price/earnings ratio (P/E ratio) Review the Chapter y Demonstration case y Chapter summary y Key terms y Homework helper y Practice material

CHAPTER FOCUS SUGGESTIONS

Overview This chapter concludes the coverage of the liabilities and owners equity section of the balance sheet. As you know, a variety of business and accounting issues arise when managers need to obtain funds to finance the acquisition of assets and the operations of the business. The last two chapters addressed the reporting and interpretation of liabilities (one of the sources of funds). This chapter addresses the issues that relate to owners equity (the other source of funds). Emphasis is placed on the two basic sources of owners equity in a corporation: contributed capital and retained earnings. Types of Stock and Related Transactions You should be familiar with the process of incorporating a business, and the advantages and disadvantages of this form of business. Corporations issue two types of capital stock: common and preferred. You should be familiar with the characteristics, and advantages and disadvantages of each. You will need to know how to record transactions relating to the issuance (sale) of capital stock to investors and the purchase of treasury stock. Cash Dividends Corporate earnings that do not need to be retained in the business for growth and expansion are distributed to stockholders as dividends. Cash dividends reduce total assets and total stockholders equity. You should understand how current and cumulative dividend preferred stock preferences affect the declaration of dividends on common stock. You will be expected to know how to record dividend transactions. Stock Dividends and Stock Splits Stock dividends, pro rata distributions of the corporations stock to its stockholders, do not affect the total assets, liabilities, or stockholders equity of the corporation. Stock dividends only affect certain account balances within stockholders equity. Stock splits do not affect total assets, liabilities or stockholders equity, or any of the individual account balances within stockholders equity. Stock splits affect only the par value of the stock and the number of shares outstanding. You should be familiar with the characteristics of stock dividends and stock splits and will be expected to know how to report each.

Financial Statement Analysis Matters You will be expected to be able to prepare the stockholders equity section of the balance sheet. You will also need to know how to compute the earnings per share (EPS), return on equity (ROE), and price/earnings (P/E) ratios. You should understand what these ratios are measuring so that you will be able to interpret them.

LEARNING OBJECTIVES
After studying this chapter, you should be able to: LO1 Explain the role of stock in financing a corporation. LO2 Explain and analyze common stock transactions. LO3 Explain and analyze cash dividends, stock dividends, and stock split transactions. LO4 Describe the characteristics of preferred stock and analyze transactions affecting preferred stock. LO5 Analyze the earnings per share (EPS), return on equity (ROE), and price/earnings (P/E) ratios.

CHAPTER SUMMARY
LO 1 Explain the role of stock in financing a corporation. y The law recognizes corporations as separate legal entities. Owners invest in a corporation and receive capital stock that can be bought from and sold to other investors. Stock provides a number of rights, including the rights to vote, to receive dividends, and share in residual assets at liquidation.

LO 2 Explain and analyze common stock transactions. y A number of key transactions involve common stock: (1) initial issuance of stock, (2) repurchase of stock into treasury, and (3) reissuance of treasury stock. Each is illustrated in this chapter. Note that these transactions have only balance sheet effects; corporations do not report income arising from gains or losses on transactions involving their own stock.

LO 3 Explain and analyze cash dividends, stock dividends, and stock split transactions. y Cash dividends reduce stockholders equity (Retained Earnings) and create a liability (Dividends Payable) when they are declared by the board of directors (on the date of declaration). The liability is reduced when the dividends are paid (on the date of payment). Stock dividends are pro rata distributions of a companys stock to existing owners. The transaction typically is accounted for by transferring an amount out of Retained Earnings and into contributed capital accounts. A stock split also involves the distribution of additional shares to owners but no additional amount is transferred into the contributed capital accounts. Instead, the per-share par value of stock is reduced.

LO 4 Describe the characteristics of preferred stock and analyze transactions affecting preferred stock. y y Preferred stock provides investors certain advantages including current dividend preferences and a preference on asset distributions in the event the corporation is liquidated. If preferred stock carries cumulative dividend rights, any part of a current dividend that is not paid (called dividends in arrears) must be paid in full before any additional dividends can be paid.

LO 5 Analyze the earnings per share (EPS), return on equity (ROE), and price/earnings (P/E) ratios. y The earnings per share (EPS) ratio is calculated by dividing net income by the average number of shares of common stock outstanding during the year. This ratio makes it easy to compare a companys earnings over time but it does not allow reliable comparisons across companies because it does not adjust for likely differences in the number of shares that each company has outstanding. The return on equity (ROE) ratio relates earnings to each dollar contributed to and retained by the company. Because it is calculated using dollar amounts contributed to and retained by a company, it allows comparisons to be made across companies. The price-earnings (P/E) ratio relates the companys current stock price to its most recent annual earnings per share, indicating the value investors place on the companys stock.

Accounting Decision Tools

1. Earnings per share (EPS) = Net Income Average Number of Common Shares Outstanding y It tells you the amount of income generated for each share of common stock owned by stockholders. y A higher ratio means greater profitability. 2. Return on equity (ROE) = Net Income Average Stockholders Equity y It tells you the amount earned for each dollar invested by stockholders. y A higher ratio means stockholders are likely to enjoy greater returns. 3. Price/Earnings (P/E) ratio = Current Stock Price (per share) Earnings per Share (annual) y It tells you how many times more than the current years earnings investors are willing to pay for a companys common stock. y A higher number means investors anticipate an improvement in the companys future results.

Chapter Outline
I. Understand the Business LO 1 Explain the role of stock in financing a corporation. A. Corporate Ownership 1. Corporations can raise large amounts of money because investors can easily participate in a corporations ownership; this ease of participation is related to several factors: a. Shares of stock can be purchased in small amounts. b. Ownership interests are transferable. c. Stockholders are not liable for the corporations debts. 2. The law recognizes a corporation as a separate legal entity. 3. To protect everyones rights, the creation and oversight of corporations are tightly regulated by law. a. Corporations are created by submitting an application to a state government (not the federal government). b. Because laws vary from state to state, you might decide to create a corporation in a state other than the one in which it operates. 4. Common stock The basic voting stock issued by a corporation to stockholders; owners of common stock usually enjoy a number of benefits: a. Voting rightsFor each share you own, you get a set number of votes on major issues. b. DividendsStockholders receive a share of the corporations profits when distributed as dividends. c. Residual claimIf the company ceases operations, stockholders share in any assets remaining after creditors have been paid. d. Preemptive rightsExisting stockholders may be given the first chance to buy newly issued stock before it is offered to others. B. Equity versus Debt Financing 1. A company in need of a large amount of long-term financing can obtain it through: a. Equity financing Issuing new stock to investors. i. Equity does not have to be repaid. Debt must be repaid or refinanced. ii. Dividends are optional. Interest must be paid on debt. b. Debt financing Borrowing money from lenders. i. Interest on debt is tax deductible. Dividends on stock are not tax deductible. ii. Debt does not change stockholder control. A stock issue dilutes existing stockholders control.

Notes

Chapter Outline
II. Study the Accounting Methods LO 2 Explain and analyze common stock transactions. A. Common Stock Transactions 1. Items reported in the stockholders equity section of balance sheets: a. Contributed capital Reports the amount of capital the company received from investors contributions, in exchange for the companys stock. b. Retained earnings Reports the cumulative amount of net income earned by the company less the cumulative amount of dividends declared since the corporation was first organized. c. Treasury stock Reports shares that were previously owned by stockholders but have been bought back and are now held by the corporation. B. Authorization, Issuance, and Repurchase of Stock 1. A corporations charter indicates the maximum number of shares of stock that the corporation is allowed to issue. a. The authorized number of shares is the maximum number of shares of capital stock of a corporation that can be issued, as specified in the charter. b. Issued shares represent the total number of shares of stock that have been sold. c. Treasury stock consists of issued shares that have been bought back by the company. d. Outstanding shares consist of issued shares that are currently held by stockholders other than the corporation itself. 2. Stock Authorization a. Par value An insignificant value per share of capital stock specified in the charter; serves as the basis for legal capital. i. Par value is an old concept originally introduced to prevent stockholders from removing contributed capital of businesses that were about to go bankrupt. ii. Stronger laws and regulations exist today to prevent this from happening; yet, many states still require that corporations specify a par value. b. No-par value stock Capital stock that has no par value specified in the corporate charter.

Notes

Chapter Outline
3. Stock Issuance The sale of stock from the corporation to an investor. a. Involves providing shares of a corporations ownership, usually in exchange for cash. i. Initial public offering (or IPO) The very first sale of a companys stock to the public. ii. Seasoned new issue Additional issuances of new stock by the company if it has issued stock previously. b. Stock issuances for cash are recorded by: i. Debiting Cash, crediting Common Stock (for the number of shares sold times the par value per share), and crediting Additional Paid- in Capital account (for the cash received in excess of this amount). ii. If the corporate charter does not specify a par value for the stock, the total proceeds from the sale of stock will be credited to Common Stock. 4. Stock Sold Between Investors a. When a company sells stock to the public, the transaction is between the issuing corporation and the buyer. b. After this initial stock sale, investors can sell shares to other investors without directly affecting the corporation. 5. Stock used to Compensate Employees To encourage employees to work hard for a corporation, employee pay packages often include a combination of base pay, cash bonuses, and stock options. a. Stock options allow employees to buy the companys stock at a predetermined price during a specified time period. b. Accounting rules require that, at the time the company grants stock options, an expense must be reported for the estimated cost associated with stock options. 6. Repurchase of Stock a. A corporation may want to repurchase its stock from existing stockholders to: i. Distribute excess cash to stockholders. ii. Send a signal to investors that the company itself believes its own stock is worth purchasing. iii. Obtain shares that can be reissued as payment for purchases of other companies. iv. Obtain shares to reissue to employees as part of employee stock option plans.

Notes

Chapter Outline

Notes

b. Cost method Most companies record the purchase of treasury stock based on the cost of the shares that were purchased. i. Stock repurchases are recorded by debiting Treasury Stock and crediting Cash. ii. Treasury Stock is not an asset. ii. Treasury Stock is a contra-equity account that is subtracted from total stockholders equity; treasury stock is stock that is not outstanding and therefore should be removed from total stockholders equity. 7. Reissuance of Treasury Stock a. When a company resells shares of its treasury stock, it does not report a gain or loss on sale, even if it sells the shares for more or less than they cost when the company reacquired them. b. The reissuance of treasury stock at a price above its repurchase price is recorded by debiting Cash, crediting Treasury Stock (for its original cost), and crediting Additional Paid-In Capital (for the excess). c. If treasury stock were reissued at a price below its repurchase price, the difference between the repurchase price and the reissue price is recorded as a reduction in Additional Paid-in Capital. LO 3 Explain and analyze cash dividends, stock dividends, and stock split transactions. C. Dividends on Common Stock 1. Investors acquire common stock because they expect a return on their investment. Return can come in two forms dividends and increases in stock price. a. Growth investment Stocks that pay little or no dividends. b. Income investments Stocks that consistently pay dividends. 2. A corporation does not have a legal obligation to pay dividends. It is a decision made by the board of directors. 3. The declaration of dividends includes three important dates: a. The declaration date is the date on which the board of directors officially approves a dividend. b. The record date is the date on which the corporation prepares the list of current stockholders as shown on its records; dividends can be paid only to the stockholders who own stock on that date. c. The payment date is the date on which a cash dividend is paid to the stockholders of record.

Chapter Outline
4. The declaration of a dividend is recorded on the declaration date by debiting Dividends Declared and crediting Dividends Payable. 5. The payment of a dividend is recorded on the payment date by debiting Dividends Payable and crediting Cash. 6. Directors must consider two key financial requirements when declaring a cash dividend: a. The corporation must have accumulated a sufficient amount of retained earnings to cover the amount of the dividend. State incorporation laws often restrict cash dividends to the balance in the Retained Earnings account. b. A company might be further restricted if it has a lending agreement with a bank containing loan covenants that require an even larger minimum balance in Retained Earnings. c. Because this restriction can severely limit the ability to pay dividends, accounting rules require that companies disclose it in their financial statement notes. d. Sufficient cashThe corporation must have sufficient cash to pay the dividend and meet the operating needs of the business. D. Stock Dividends 1. Stock dividend A distribution of additional shares of a corporations own stock to its stockholders. 2. Pro rata basis Each stockholder receives additional shares equal to the percentage of shares held 3. A stock dividend by itself provides no economic value; each stockholder owns exactly the same proportion of the company after a stock dividend as he or she did before the dividend. 4. When a stock dividend is issued, the stock market reacts immediately with a proportional decline in the stock price. 5. Two types of stock dividends: a. Large stock dividend Involves the distribution of additional shares that amount to more than 2025 percent of currently outstanding shares. b. Small stock dividend involves the distribution of shares that amount to less than 2025 percent of the outstanding shares.

Notes

Chapter Outline

Notes

6. When a stock dividend occurs, the company must transfer an additional amount from either Retained Earnings or Additional Paid-in Capital into the Common Stock account to show that additional shares were issued. 7. The amount transferred depends on whether the stock dividend is classified as large or small. a. Large stock dividend The amount transferred to the Common Stock account is based on the par value of the additional shares issued. b. Small stock dividend The amount transferred should be the total market value of the shares issued, with the par value of the stock transferred to the Common Stock account and the excess transferred to the Additional Paid-in capital account. E. Stock Splits 1. Stock split An increase in the total number of authorized shares by a specified ratio. 2. Stock splits do not decrease retained earnings. 3. Cash is not affected when the company splits its stock, so the total resources of the company do not change. 4. Typically, a stock split involves revising the corporate charter to reduce the per-share par value of all authorized shares, so that the total par value across all shares is unchanged. LO 4 Describe the characteristics of preferred stock and analyze transactions affecting preferred stock. F. Preferred Stock Stock that has specified rights over common stock. 1. Preferred stock differs from common stock: a. Preferred stock generally does not grant voting rights. b. Dividends on preferred stock, if any, may be paid at a fixed rate, specified as either a dollar amount or a percentage per share. c. Preferred stock carries priority over common stock. i. Any dividends the corporation declares must be paid to preferred stockholders before they can be paid to common stockholders. ii. If the corporation goes out of business, its assets will be sold and used to pay creditors and then preferred stockholders; common stockholders are paid last from whatever assets remain after paying preferred stockholders.

Chapter Outline
2. Preferred stock issuances for cash are recorded by debiting Cash, crediting Preferred Stock (for the number of shares sold times the par value per share), and crediting Additional Paid- in Capital Preferred account (for the cash received in excess of this amount). 3. Preferred Stock Dividends a. Because investors who purchase preferred stock give up voting rights that are available to investors in common stock, preferred stock offers dividend preferences. i. Current dividend preference The feature of preferred stock that grants priority on preferred dividends over common dividends. y After the current dividend preference has been met and if no other preference exists, dividends can be paid to the common stockholders. y The current dividend preference does not carry over to later years unless the preferred stock is designated as cumulative. ii. Cumulative dividend preference Requires current dividends not paid in full to accumulate for every year in which they are not paid. y Dividends in arrears Cumulative unpaid amounts that must be paid before any common dividends are paid. y Because dividends are not a liability until declared, dividends in arrears are not reported on the balance sheet. y Instead, dividends in arrears are disclosed in the notes to the financial statements. G. Retained Earnings 1. Retained earnings represents the companys total earnings that have been retained in the business (rather than being distributed to stockholders). 2. Account balance increases when the company reports net income on the income statement and decreases when the company reports a net loss (expenses greater than revenues) or declares cash or stock dividends to stockholders. 3. Should a company ever accumulate more net losses than net income, it will report a negative (debit) balance in the Retained Earnings account; this amount is: a. Shown in parentheses in the stockholders equity section of the balance sheet, b. Deducted when computing total stockholders equity. c. Typically called an Accumulated Deficit.

Notes

Chapter Outline
III. Evaluate the Results

Notes

LO 5 Analyze the earnings per share (EPS), return on equity (ROE), and price/earnings (P/E) ratios. A. Earnings per Share (EPS) 1. The amount of income generated for each share of common stock owned by stockholders 2. EPS = Net Income divided by Average Number of Common Shares Outstanding 3. A higher ratio means greater profitability B. Return on Equity (ROE) Ratio 1. The amount of income earned for each dollar of stockholders equity 2. ROE = Net Income divided by Average Stockholders Equity 3. A higher ratio means stockholders are likely to enjoy greater returns C. Price/Earnings (P/E) Ratio 1. Measures how many times more than the current years earnings investors are willing to pay for a companys common stock 2. P/E ratio = Current Stock Price (per share) divided by Earnings per Share (annual) 3. A higher number means investors anticipate an improvement in the companys future results.

Chapter Outline
IV. Supplement 11A: Owners Equity for Other Forms of Business (Determine whether you are responsible for this supplement.) A. Sole Proprietorship 1. Sole proprietorship Unincorporated business owned by one person. 2. Capital account Like all the stockholders equity accounts for a corporation combined into a single account. 3. Drawing account Like the dividends declared account for a corporation. 4. Financial statements of a sole proprietorship do not report Income Tax Expense or Income Taxes Payable; instead, the net income of a sole proprietorship is taxed when it is included on the owners personal income tax return. 5. The owners salary is not recognized as an expense. a. An employer/employee contractual relationship cannot exist with only one party involved. b. The owners salary is therefore accounted for as a distribution of profitsa withdrawalinstead of salary expense, as it would be in a corporation. B. Owners Equity for a Partnership 1. Partnership Defined by the Uniform Partnership Act as an association of two or more persons to carry on as co-owners of a business for profit. 2. A partnership is formed by two or more persons reaching mutual agreement about the terms of the relationship. 3. Agreement should specify a. Division of income b. Management responsibilities c. Transfer or sale of partnership interests d. Disposition of assets upon liquidation e. Procedures to be followed in case of the death of a partner 4. If the partnership agreement does not specify these matters, the laws of the resident state are binding. 5. Primary advantages of a partnership versus a corporation: a. Ease of formation b. Complete control by the partners c. Lack of income taxes on the business itself 6. The primary disadvantage is the unlimited liability of each partner for the partnerships debts.

Teaching Notes

Chapter Outline
7. Accounting for partners equity follows the same pattern as for a sole proprietorship, except that separate capital and drawings accounts must be established for each partner. a. Investments by each partner are credited to that partners Capital account and withdrawals are debited to the respective Drawings account. b. The net income of a partnership is divided among the partners in accordance with the partnership agreement and credited to each account. c. The respective Drawings accounts are closed to the partner Capital accounts. d. After the closing process, each partners Capital account reflects the cumulative total of all that partners investments plus that partners share of the partnership earnings less all that partners withdrawals. C. Other Business Forms 1. Other forms of business blend features of the pure organizational forms described to create hybrid business. a. S Corporations b. Limited Liability Partnerships (LLPs c. Limited Liability Companies (LLCs). 2. LLC, an increasingly common form of business, combines legal characteristics of corporations with the tax treatment of partnerships. 3. Accounting for these hybrid entities generally follows the methods shown earlier in this chapter.

Teaching Notes

HOMEWORK HELPER
Keep the following in mind as you complete your homework assignments: Alternative terms y Stockholders are also called shareholders. y Additional Paid-In Capital is also called Capital in Excess of Par. Helpful reminders y Large stock dividends are recorded at par value; small stock dividends are recorded at the stock market price, with the excess of market over par accounted for as Additional Paid-In Capital. Frequent mistakes y Do not record a liability for dividends in arrears at the end of the year. They are recorded as a liability only when dividends are declared on the cumulative preferred stock.

SELF-TEST QUESTIONS AND EXERCISES MATCHING Match each of the key terms listed below with the appropriate definition found in the glossary:
Authorized Number of Shares Common Stock Cumulative Dividend Preference Current Dividend Preference Declaration Date Dividends in Arrears Issued Shares No-Par Value Stock Outstanding Shares Par Value Payment Date Preferred Stock Record Date Stock Dividend Stock Split Treasury Stock

A. B. C. D.

E. F. G. H. I. J. K.

L. M. N. O. P.

The date on which cash dividends are paid to the stockholders of record. Capital stock that has no specified par value. Total number of shares of stock that are owned by stockholders on any particular date. Preferred stock feature that requires specified current dividends not paid in full to accumulate for every year in which they are not paid; such dividends must be paid before any common dividends can be paid. The basic voting stock issued by a corporation. Stock that has specific rights over common stock. Declared by the board of directors to distribute to existing stockholders additional shares of a corporations own stock. The feature of preferred stock that grants priority on preferred dividends over common dividends. The maximum number of shares of corporations capital stock that can be issued. Dividends on cumulative preferred stock that have not been declared in prior years. A legal amount per share established by the board of directors; it establishes the minimum amount a stockholder must contribute and has no relationship to the market price of the stock. An increase in the total number of authorized shares by a specified ratio; does not decrease retained earnings. The date on which the board of directors officially approves a dividend. Total number of shares of stock that have been sold; equals shares outstanding plus treasury shares held. The date on which the corporation prepares the list of current stockholders as shown on its records; dividends are paid only to the stockholders who own stock on that date. A corporations own stock that has been issued but was subsequently reacquired by and is still being held by the corporation.

TRUE-FALSE QUESTIONS Enter a T or F in the blank to indicate whether each statement is true or false.
__1. __2. __3. __4. __5. __6. __7. __8. __9. __10. __11. __12. __13. __14. __15. __16. __17. __18. (LO1) Corporations can raise large amounts of money because investors can easily participate in a corporations ownership. (LO1) A corporation is created by submitting an application to the federal government. (LO1) Issued shares represent the maximum number of shares of capital stock of a corporation that can be sold, as specified in the charter. (LO1) Treasury stock is outstanding stock. (LO2) A seasoned new issue is the term used to describe the first sale of a companys stock to the public. (LO2) Stock options motivate employees to work hard and meet the corporations goals. (LO2) Treasury stock is an asset account that has a normal debit balance. (LO2) An investor may want an immediate return on stock (through dividends) or they might prefer long-term returns (through higher stock prices). (LO2) Because treasury stock is a companys own investment in its stock, a gain or loss on sale of investment must be recorded upon the reissuance of treasury stock. (LO3) Corporations do not have a legal obligation to pay dividends. (LO3) A legal liability to pay dividends is recorded on the date of record. (LO3) In order to declare dividends a corporation must have sufficient common stock and sufficient cash. (LO3) Since the purpose it to reduce the market price, large stock dividends issued to reduce the market price of the stock are recorded at the market value of the stock issued. (LO3) A 100% stock dividend, which requires the issuance of two shares of stock for each one held by a stockholder, is the same thing as a 2-for-1 stock split. (LO4) Dividends on preferred stock, if any, may be paid at a fixed rate, specified as either a dollar amount or a percentage per share. (LO4) When a current dividend preference is not paid in full, the unpaid amount is referred to as dividends in arrears and must be reported in the notes to the financial statements. (LO5) Earnings per share (EPS) should not be compared across companies. (LO5) If a company has preferred stock outstanding, the ROE ratio is adjusted by deducting any preferred dividends from net income and excluding any preferred stock accounts from the calculation of average stockholders equity. (LO5) ROE can be appropriately compared across companies. (LO5) The Price/Earnings Ratio measures how many times more than current years earnings investors are willing to pay for a companys stock.

__19. __20.

MULTIPLE CHOICE QUESTIONS Choose the best answer or response by placing the identifying letter in the space provided.
_____1. (LO1) Which of the following is not a reason for the popularity of the corporate form? a. Stockholders are liable for the corporations debt. b. Ownership interests are transferable. c. Shares of stock can be purchased in small amounts. d. All of these are reasons for the popularity of the corporate form. _____2. (LO5) Which of the following is an advantage of equity financing? a. Dividends are optional. b. New shares create a dilution of existing stockholders control. c. Equity has to be repaid. d. Dividends are tax deductible. _____3. (LO1) Which of the following accounts is not found in the stockholders equity section of the balance sheet? a. Treasury Stock b. Additional Paid-In Capital c. Dividends in Arrears d. Preferred Stock _____4. (LO1) Which of the following is not a benefit of stock ownership? a. Dividends b. Residual claim c. Voting rights d. Legal capital _____5. (LO1) Which of the following is not used on the balance sheet to describe shares of stock? a. Outstanding b. Split c. Authorized d. Issued _____6. (LO2) Which of the following statements regarding common stock is not correct? a. Common stockholders have the right to vote on important decisions of the corporation and to share in its profitability. b. Par value is closely related to market value of the stock. c. Companies account for initial public offerings and seasoned new issues in the same way. d. A company does not account for the sale of stock from one stockholder to another. _____7. (LO2) A corporation issues 20,000 shares of $5 par value common stock for $15 per share. How much will be credited to the Common Stock account for this transaction? a. $100,000 b. $200,000 c. $300,000 d. The Common Stock account should be debited rather than credited. _____8. (LO2) Assume that treasury stock costing $55,000 is reissued for $60,000. The journal entry to record this transaction includes a: a. debit to Treasury Stock for $55,000.

b. credit to Gain on Sale of Investment for $5,000. c. credit to Cash for $60,000. d. credit to Additional Paid-in Capital for $5,000. _____9. (LO3) Which of the following dates is not related to cash dividends? a. Date of payment b. Date of issuance c. Declaration date d. Date of record _____10. (LO3) Assume the following: the number of issued and outstanding shares is 200,000, the market price is $100 per share, the par value is $10 per share, and a dividend of $0.10 per common share is declared. What is the total dividend that will be paid to stockholders? a. $0 b. $20,000 c. $200,000 d. $2,000,000 _____11. (LO3) Which of the statements regarding stock dividends is not correct? a. Small stock dividends are accounted for at the market value of the stock. b. A company must have positive balances in both retained earnings and cash to declare a stock dividend. c. A stock dividend by itself has no economic value. d. Each stockholder receives additional shares of stock equal to the percentage of shares held. _____12. (LO3) A stock split causes: a. the market value per share to increase. b. a change in the par value per share. c. a decrease in the number of shares outstanding. d. a journal entry is made to record the changes made to stockholders equity. _____13. (LO4) Dividends on preferred stock: a. cannot be paid until common shareholders are paid. b. are based on the percentage of shares owned; a 6% dividend is paid to the owner of 6% of the preferred stock. c. are a legal liability if not currently paid in full on a cumulative dividend preference. d. can contain a current dividend preference or a cumulative dividend preference. _____14. (LO4) The journal entry to record the issuance of preferred stock for an amount over par value contains: a. a debit to Treasury Stock. b. a credit to Cash. c. a credit to Additional Paid-in Capital. d. none of the above are part of the journal entry to record the issuance of preferred stock. _____15. (LO4) The annual dividend of the preferred stock, if declared, amounts to $100,000. Dividends of $80,000 are declared during year 1 and dividends of $300,000 are declared in year 2. Assuming the preferred stock has a current dividend preference, how much will be paid to common stockholders in year 2? a. $0 b. $20,000

c. $180,000 d. $200,000 _____16. (LO4) Refer to the information provided in the question above. Assuming the preferred stock has a cumulative dividend preference, how much will be paid to the common shareholders in year 2? a. $0 b. $20,000 c. $180,000 d. $280,000 Use the following to answer the next three questions. Traner, Inc. reported the following on its financial statements for the current year: Average common shares outstanding 200,000 Average Stockholders Equity $810,000 Market price per share $22.00 Net Income $215,000 _____17. (LO5) What is the amount of earnings per share for the current year? a. $1.075 b. $2.654 c. $37.674 d. $93.023 _____18. (LO5) What is the return on equity for the current year? a. 10.75 % b. 26.54 % c. 37.67 % d. 93.02 % _____19. (LO5) What is the price/earnings ratio at the end of the current year? a. 9.77 b. 20.5 c. 36.8 d. 48.9 _____20. (Supplement 11A) The trial balance of a sole proprietorship would include all of the following except: a. a Retained Earnings account. b. a Drawings account for the proprietor. c. a Capital account for the proprietor. d. All of these are equity accounts that would be used by a sole proprietorship.