Chapter 14: Corporations: Dividends, Retained Earnings, and Income Reporting Flashcards
Memorandum entry
An entry in the journal that notes a significant event but has no debit or credit amount. (Stock splits)
Appropriation of retained earnings
Restriction of a portion of retained earnings that is recorded by a journal entry
Stock Dividends
Pro Rata (proportional) distribution of the corporations own stock - % increase on current qty of shares of stock.
NUMBER of shares increases
PERCENTAGE of company owned by each shareholder stays the same
- No effect on assets or liabilities, only stockholders’ equity.
Reasons to issue:
- satisfy dividend expectations without spending cash
- increase marketability of stock (reduce price)
- to “emphasize that a portion of stockholders’ equity has been permanently reinvested in the business”
Dividends in Arrears
Accrued by cumulative preferred stockholders every year declared dividends are less than preferred dividend amount. MUST be paid before common shareholders receive dividends.
NOT a liability. Only becomes a liability after the board declares a dividend. Noted in financial statement.
Cumulative vs Non-Cumulative preferred stock
Cumulative: any unpaid prior year’s dividends (aka dividends in arrears) must be paid before common stockholders receive dividends.
- Cumulative preferred stock is the most common type - to the point that preferred stock is assumed to be cumulative unless designated otherwise.
Non-Cumulative: only current years dividends must be paid to preferred shareholders before common stockholders
- If declared dividends are less than preferred dividends non-cumulative preferred stockholders get only the declared amount
Dividends: Important Dates
- Declaration date: Board authorizes dividends (record dividends payable journal entry)
- Record date: registered shareholders as of that date are eligible to receive dividends
- Payment date: dividend checks issued (record cash out journal entry)
Requirements for Cash Dividends
1) Retained earnings
2) Adequate cash
3) A declaration of dividends by the board of directors
Dividends
A distribution of cash or stock to stockholders proportionate to stock held.
Expressed as a percentage of the par stated value or as a dollar amount per share
Cash dividends, property dividends, Promissory note for cash (scrip) dividends, stock dividends
Pro Rata
Proportional
Retained Earnings Restrictions
Portion of retained earnings unavailable for dividends.
Restrictions from:
- Legal restrictions / State requirements
(some states require RE restrictions for cost of treasury stock)
- Contractual restrictions
- voluntary restrictions (savings for future projects)
All disclose in financial statements
Retained Earnings
Net income a company retains for business use.
Net income increases
Net loss decreases
A part of stockholders’ equity
Normal balance = credit
If debit balance = have deficit
Stock Split
Issuance of additional shares to stockholders according to their ownership percentage.
- Changes the Par-Value per share!!
- Does not change overall stockholder’s equity
- increases marketability by lowering market value per share (if the price is too high it might be less attractive to investors)
(vs. using treasury share buyback to increase share price) - Percentage of company owned stays the same.
Journal Entries for Cash Dividends
On Declaration date:
Debit Retained Earnings
Credit Dividends Payable
On Payment Date:
Debit Dividends Payable
Credit Cash
(no entry on date of record)
Journal Entry for income tax
income tax expense = income before taxes * tax rate
To accrue:
Debit Income Tax Expense
Credit Income Tax Payable
Correcting Prior Period Error
Making a prior period adjustment: direct increase or decrease of retained earnings
Net prior period adjustment = Error amt * (1-tax rate)
If prior period income overstated
Debit Retained Earnings
Credit Correction Account
If prior period income understated
Debit Correction Account
Credit Retained Earnings
Deficit
Debit balance in retained earnings
Essentially a small sustained loss not balanced by previous earnings
Journaling stock split
No journal entry. Only the total qty of oustanding stock changes
Stock Dividends- amount to transfer
Per GAAP the value stock dividends recorded at depends on size.
Less than 20-25% of issued stock = small stock dividend. Recorded at fair market value
Over 20-25% of issued stock = large stock dividend. Recorded at Par Value
Stock Dividends
Move value from retained earnings to paid-in capital
1) Debit Retained Earnings (full amount)
Credit Common Stock Dividends Distributable
Credit APIC - Common Stock 9if a small dividend and FMV is over par)
2) Debit Common stock dividends distritbutable
Credit Common stock
This has the same effect on retained earnings as cash dividends
Corporate Income Statement
Continuing Operations
Income from Continuing Operations
Discontinued Operations
Net Income
Earnings per share of common stock outstanding
Income from continuing operations
Income from discontinued operations
NET Income
Dividends on Fiancial statements
Dividends are not deducted as an expense on the income statement
Stock dividends distributable is shown as an addition to capital stock
Retained earnings statement
Details changes in retained earnings over period
- prepares using retained Earnings account
Shows: Cash and stock dividends
net income and loss
SOME disposal of treasury stock below cost (if no balance available in paid-in capital from treasury stock)
Statement of stockholder’s equity
- Used instead of a detained stockholders equity section on BS and RE statement
Shows change in each SE Account throughout the year.
Columns: list SE accounts
Rows: shows beginning balance, transactions throughout the period, and ending balance
Prior period adjustment on current year retained earnings statement
Shown as adjustment to beginning balance of retained earnings (not on tax)
Effect of stock dividend on balance sheet
Total shareholders equity is unchanged (moves from retained earnings to common or preferred stock and APIC)
Number of shares outstanding and book value do change
Cash dividends DO decrease stockholders equity
Income tax on income statement
Sales (less COGS) = Gross Profit (less operating expenses) = income from operations \+/- other revenue or loss = income before income taxes (less Income Tax Expense) = Net Income
Earnings per share
EPS Net income (minus preferred dividends) / weighted average common shares outstanding (if number of shares has changed during year)
Shows net income earned by each share outstanding of common stock
FASB requires that this is on the income statement
Same under IFRS and GAAP
Return on Common Stockholder’s Equity
(ROE)
= Net income available (net income less preferred dividends) / Average common stock holders Equity ((beg+end)/2)
Measures profitability: shows how many dollars of net income the company earned for each dollar invested by shareholders
Net of Tax
Full amount * (1-tax rate) = net of tax amount
Price/Earnings Ration
Market Price common stock / Earnings per share
Ratio of the market price of a share of common stock to the company’s earnings per share (aka the value the market places on $1.00 of company earnings)
Higher ratio = higher return on investment
IFRS Comprehensive Income Statement
Must include income tax expense
Cash and Stock Dividends IFRS vs GAAP
Basically the same
Previously issued financial statements with errors are required to be restated under
Both GAAP and IFRS.
