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Financial Accounting > Chapter 8 - Stock Transactions, Dividends, and EPS > Flashcards

Chapter 8 - Stock Transactions, Dividends, and EPS Flashcards

1
Q

Name & Define the Two Types of Stockholders’ Equity Accounts

A
  1. Contributed Capital: the net funding a company receives from issuing and reacquiring its shares
  2. Earned Capital:
    1. Retained earnings: the cumulative net income (loss) that a company has earned but not paid out to stockholders as dividends.
      1. Can included the effects of retiring common stock.
    2. Accumulated Other Comprehensive Income (AOCI): the cumulative net unrealized (holding) gains or losses related to key balance sheet accounts.
      1. Includes pensions, investment securities, derivatives, and foreign currencies.
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2
Q

Define Contributed Capital

A

The net funding a company receives from issuing and reacquiring its shares.

Contributed Capital = funds from issuing shares - funds paid to repurchase shares

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3
Q

Define Earned Capital

A
  1. Retained earnings
  2. AOCI1
  3. Accumulated Other Comprehensive Income
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4
Q

Define Retained Earnings

A

The cumulative net income (loss) that the company has earned but not paid out to stockholders as dividends.

It can include effects of retiring common stock

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5
Q

Define AOCI

A

Accumulated Other Comprehensive Income is the cumulative net unrealized (holding) gains or losses related to key balance sheet accounts

  • Primarily
    • Pensions
    • investment securities
    • derivatives
    • foreign currencies
  • These holding gains and losses will flow to the income statement, and be included in retained earnings when they are realized
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6
Q

Review examples of Contributed Capital

A

Preferred stock

Common stock

  • Par value
  • Authorized shares
  • Issued shares
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7
Q

Review examples of Earned Capital

A

Treasury stock

AOCI

Retained earnings

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8
Q

Define Book Value per Share

A

The quite (net book value) of the company that is available to common shareholders and is defined as:

Book value per share = BVPS

Stockholders’ equity = SE

Preferred stock = PS

Number of common shares outstanding = Ncso

BVPS = (SE - PS) / Ncso

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9
Q

Define Market-to-Book

A

Ratio of market price per share to book value per share

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10
Q

What does the Statement of Stockholders’ Equity do?

A

Reconciles the beginning and ending balances of the contributed and earned stockholders’ equity accounts

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11
Q

What does the Statement of Stockholders’ Equity highlight?

A
  • How net income and dividends impact retained earnings
  • Cash raised from new shares issued
  • Cash used to repurchase shares in the open market
  • Changes in key BS accounts not recorded in net income or not arising from transactions w/ shareholders.
    • These changes are called Other Comprehensive Income (OCI), and the cumulative sum of these are called Accumulated Other Comprehensive Income (AOCI)
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12
Q

What is Preferred Stock

A

A multi-use security with a number of desirable features

  1. Dividends
  2. Liquidation preferences
  3. Yield: Can be structured to provide a dividend similar to an interest rate
  4. Conversion privileges: Can contain an option allowing investors to convert their preferred shares into common shares at a predetermined number
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13
Q

What is Common Stock

A

Shares that allow holder to elect the company’s board of directors

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14
Q

What is a Par value

A

An arbitrary amount set for the stock when a company is formed. No impact on market value.

Only used to allocate proceeds from stock issuances b/t the two contributed capital accounts on the BS: common stock and additional paid-in capital

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15
Q

Define Treasury Stock

A

Shares currently held in the company’s treasury after repurchase. No voting rights

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16
Q

Define Market Capitalization

A

The number of outstanding common shares multiplied by the market price per share.

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17
Q

State the Impact of a Stock Issuance

A

Increase assets (cash) by the issue proceeds (by either the par or stated value)

Increase equity by the same amount

Note: There is no impact on the Income Statement

(Review BS and T-account in attachment)

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18
Q

What is a Stock Repurchase

A

An event in which a company repurchases its own stock for a gain (loss)

The gain (loss) from a repurchase is never reflected on the IS. GAAP prohibits companies from reporting gains (losses) from stock transactions with its own stockholders

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19
Q

What are 2 reasons a company might repurchase its stock

A
  1. It believes the market undervalues them
  2. To offset the dilutive effects of share-based compensation plans, including ESPP
20
Q

What is the impact of an employee exercising shares of stock-based compensation

A
  1. Number of outstanding shares goes up
  2. EPS goes down

Net income remains unchanged

21
Q

How is a stock repurchase recorded on the books

A

The size of the company is reduced

  1. Cash decreases by the price of the shares repurchased
  2. Stockholders’ equity decreases by the same amount.
  3. That equity decrease is recorded in a contra equity account called Treasury Stock
  4. Treasury stock has a negative balance, which reduces shareholders’ equity
  5. As treasure stock increases, equity decreases
  6. i.e., when treasury stock is sold, Treasury Stock decreases and equity increases
22
Q

What are the common features of stock-based compensation plans

A
  1. Create incentives for employees to think and act like shareholders
  2. Encourage employee retention and longevity
23
Q

What are the 5 types of stock-based compensation plans

A
  1. Restricted Stock (RS)
  2. Restricted Stock Units (RSUs)
  3. Employee Stock Options (Options)
  4. Stock Appreciation Rights (SARs)
  5. Employee Share Purchase Plans (ESPP)
24
Q

What two analysis issues arise as a result of stock-based compensation plans

A
  1. Expense Recognition: Company estimates the fair vale and recognizes it as a compensation expense on the IS over the period in which the employee provides service
  2. Potential Dilution: The increase in the number of outstanding shares (denominator) drives down EPS
25
Q

How do we account for stock-based compensation

A
  • Company estimates the fair value of the award
  • Recorded as an expense in the IS (typically CoGS), ratably over the vesting period
  • APIC is increased by the same amount
  • Common stock and APIC increase in the same manner as for cash-based stock issuances
  • Companies typically add this in the Statements of Cash Flows (b/c it is typically not a cash-based transaction)
26
Q

Interpretation of stock-based compensation

A

Stock-based compensation expense is a real cash cost. It can impact

  • EPS
  • Treasure Stock
  • Cash-flow to repurchase stock

The key is to remember that this is a form of compensation, which costs the company.

27
Q

Describe the Two Facets of the Footnote Disclosures for Stock-Based Compensation

A
  1. Plan Activity
    1. Number of shares granted to employees during the year
    2. Number of shares issued during the year to satisfy awards that vested
    3. Any shares forfeited
  2. Fair Value and Expense
    1. Fair value of the stock-based compensation awards
    2. How fair value is determined
    3. The expense on the IS
    4. Value of the shares issued to employees over and above the price the employee paid for the shares (This difference is called the intrinsic value)
28
Q

Define Stock Dividends

A

These are earned capital accounts that can be distributed in

  • Cash
  • Land
  • Other Property
  • Stock Dividends (additional shares of stock)
29
Q

Name the two common metrics that analysts use to assess a company’s dividends

A
  1. Dividend Payout
  2. Dividend Yield
30
Q

Define a Dividend Payout

A

The dividend payout ratio measures the proportion of the company’s earnings that is paid out as dividend

Dividend payout = Common stock dividends per share / EPS

31
Q

Define a Dividend Yield

A

This ratio measures the cash return to stockholders given the cash investment. A dividend yield is tied to the current market value of the company’s stock.

Dividend yield = Common stock dividends per share / Current share price

32
Q

What is the impact of Cash Dividends

A

Cash dividends reduce both cash and retained earnings by the amount of the cash dividends paid.

Dividends do not affect net income. They directly reduce retained earnings and bypass the IS

33
Q

What is a Stock Split

A

This is when a company issues additional common shares to its existing stockholders.

Usually prompted by a desire to reduce stock price to increase marketability

No impact to market cap, b/c there is no cash flow

No financial statement impacts

34
Q

What is recorded for a Stock Split in Form of Dividend

A
  • Company adds the par value of the stock distributed to the common stock account
  • Subtracts eh same amount from retained earnings
  • No net effect on total stockholders’ equity
35
Q

What are the 4 Components of
Accumulated Other Comprehensive Income (AOCI)

A
  1. Foreign currency translation adjustments
  2. Employee benefit plans
  3. Gains and losses on available-for-sale investments in debt securities
  4. Gains and losses on derivatives and hedges

(F.E.G.G.)

36
Q

Foreign currency translation adjustments applies to what

A

The the unrealized gain (loss) of a foreign subsidiary when translating financial statements to $US for the 10-K

37
Q

Gains and losses on available-for-sale investments in debt securities applies to what

A

Unrealized gains (losses) from certain types of marketable debt securities

Securities are reported at fair value on asset side of BS

IF fair value ≠ security’s cost, THEN there are unrealized gains (losses)

These are recorded in AOCI

New standards require these gains (losses) to flow to IS

38
Q

Employee benefit plans can affect what…

A

Unrealized gains (losses) on some pension investments and pension liabilities are reported in AOCI

39
Q

Gains (losses) on derivatives and hedges impact what…

A

Unrealized gains (losses) on certain financial securities (derivatives) that companies purchase to hedge exposures to interest rate, foreign exchange rate, and commodity price risks are included in AOCI

40
Q

Name 2 components negatively impacting AOCI for some companies over the past two years

A
  1. Foreign currency translation
  2. Employee benefit plans
41
Q

Remember, changes in unrealized gains (losses) do / do not flow to the IS

A

They do not.

They are aggregated and labeled other comprehensive income (OCI).

41
Q

Remember, changes in unrealized gains (losses) do / do not flow to the IS

A

They do not.

They are aggregated and labeled other comprehensive income (OCI).

42
Q

Define Convertible Securities

A

Additional means of generating capital for companies. There are two:

  1. Preferred stock (conversion option)
  2. Convertible bonds
43
Q

Review Convertible Securities Financial Effects

A

See Image

Note: no impact on the IS

44
Q

What is Earnings Per Share (EPS)

A

The only ratio defined by GAAP, it is a tool to communicate the potential impact of dilution in earnings available for the payment of dividends to shareholders.

GAAP requires 2 EPS statistics

  1. Basic EPS: Net income - Dividends on preferred stock / Weighted avg # of common shares outstanding during x yr
  2. Diluted EPS: Reflects the impact of additional shares that would be issued if all stock options and convertible securities are converted into common shares at the beginning of the year. Diluted EPS never exceeds basic EPS

Financial Accounting (10 decks)

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