FAR 1 Module 3

Stockholders’ Equity

The owners’ residual claim on a corporation’s assets after liabilities are subtracted.

Legal Capital

The amount of capital that must remain in the corporation to protect creditors; generally based on the par or stated value of issued stock.

Stated Value

An amount assigned to no-par stock that functions similarly to par value for legal-capital and accounting purposes.

Authorized Shares

The maximum number of shares a corporation is legally permitted to issue under its charter.

Authorized, Issued, and Outstanding Shares

Authorized shares are permitted by the charter; issued shares have been sold or distributed; outstanding shares are issued shares currently held by investors.

Preemptive Right

A common shareholder’s right to purchase a proportionate share of newly issued common stock to maintain the same ownership percentage.

Book Value per Common Share

The amount theoretically available to common shareholders for each outstanding common share if assets were sold at book value and liabilities were paid.

Book Value per Common Share Formula

Common shareholders’ equity ÷ Common shares outstanding.

Common Shareholders’ Equity

Total shareholders’ equity minus preferred stock claims and cumulative preferred dividends in arrears.

Common Shareholders’ Equity Formula

Total shareholders’ equity − Preferred stock outstanding at the greater of par or call price − Cumulative preferred dividends in arrears.

Noncumulative Preferred Stock

Preferred stock for which unpaid dividends do not accumulate; shareholders receive dividends only when declared.

Participating Preferred Stock

Preferred stock that allows holders to receive their stated preference and also share with common shareholders in additional dividends.

Fully Participating Preferred Stock

Preferred stock that shares in excess dividends with common stock without a stated limit.

Partially Participating Preferred Stock

Preferred stock that shares in excess dividends only up to a specified limit.

Nonparticipating Preferred Stock

Preferred stock limited to its stated dividend preference and not entitled to share in additional dividends.

Preference upon Liquidation

A preferred shareholder’s priority claim to corporate assets if the corporation is liquidated.

Convertible Preferred Stock

Preferred stock that may be exchanged for common stock at the holder’s option using a specified conversion rate.

Callable Preferred Stock

Preferred stock the issuing corporation may repurchase at a specified call price.

Call Price

The amount the corporation must pay to redeem callable preferred stock.

Mandatory Redeemable Preferred Stock

Preferred stock with a required redemption date; generally classified as a liability because the issuer must repurchase it.

Participating Preferred Dividend Allocation

Preferred shareholders first receive their preference, common shareholders receive an equivalent percentage, and any remaining dividends are allocated according to the participation terms.

Pro Rata Dividend Allocation

Distribution of remaining dividends in proportion to the par values or stated participation amounts of preferred and common stock.

Additional Paid-in Capital

Amounts contributed by shareholders above the par or stated value of stock and certain other equity transactions.

Paid-in Capital

Capital contributed by shareholders, including capital stock and additional paid-in capital.

Retained Earnings

Accumulated net income or losses over the corporation’s life, reduced by dividends and certain other adjustments.

Retained Earnings Formula

Beginning retained earnings + Net income or − Net loss − Dividends ± Prior-period adjustments ± Retrospective accounting changes = Ending retained earnings.

Retained Earnings Deficit

A negative balance in retained earnings caused by accumulated losses or distributions exceeding accumulated earnings.

Appropriated Retained Earnings

Retained earnings formally reserved for a stated purpose and not currently available for dividends.

Unappropriated Retained Earnings

Retained earnings not formally restricted or reserved for a specific purpose.

Retained Earnings Appropriation Entry

Debit unappropriated retained earnings and credit appropriated retained earnings for the designated purpose.

Cost Method for Treasury Stock

Treasury shares are recorded at their reacquisition cost; gains and losses are not recognized in net income.

Treasury Stock Cost Method—Repurchase

Debit treasury stock for the amount paid and credit cash.

Treasury Stock Cost Method—Reissue Above Cost

Debit cash, credit treasury stock at its cost, and credit additional paid-in capital—treasury stock for the excess.

Treasury Stock Cost Method—Reissue Below Cost

Debit cash and additional paid-in capital—treasury stock, credit treasury stock at cost, and debit retained earnings only if the APIC balance is insufficient.

Treasury Stock Cost Method Rule

Treasury-stock transactions never create gains or losses on the income statement.

Par Value Method for Treasury Stock

Treasury shares are recorded by reducing common stock at par and related additional paid-in capital as though the shares were retired.

Treasury Stock Par Value Method—Repurchase Above Original Issue Price

Debit treasury stock at par, debit related APIC, debit retained earnings for any remaining excess, and credit cash.

Treasury Stock Par Value Method—Repurchase Below Original Issue Price

Debit treasury stock at par and related APIC, credit cash, and credit APIC—treasury stock for the difference.

Reissue of Treasury Stock under the Par Value Method

Debit cash, credit treasury stock at par, and record the difference in additional paid-in capital rather than recognizing a gain or loss.

Retirement of Treasury Stock

Permanent cancellation of reacquired shares so they are no longer considered issued.

Retirement of Treasury Stock under the Cost Method

Remove common stock at par, remove related APIC from the original issuance, and charge any excess repurchase cost first to APIC—treasury stock and then retained earnings.

Retirement of Treasury Stock under the Par Value Method

Debit common stock at par and credit treasury stock at par because the original issuance accounts were already adjusted when the shares were repurchased.

Direct Retirement of Stock

A corporation repurchases shares and immediately cancels them rather than holding them as treasury stock.

Direct Retirement above Original Issue Price

Remove common stock and original APIC; charge the excess repurchase price first to APIC—retired stock and then to retained earnings.

Direct Retirement below Original Issue Price

Remove common stock and original APIC; credit the difference between original issue price and repurchase price to APIC—retired stock.

Additional Paid-in Capital—Retired Stock

An equity account used to record differences arising when shares are retired for less than their original issuance price or to absorb certain retirement losses.

Donated Stock

A corporation’s own shares received as a donation from a shareholder.

Accounting for Donated Stock Received

Debit donated treasury stock at fair market value and credit additional paid-in capital for the same amount.

Sale of Donated Stock

Debit cash for the proceeds, credit donated treasury stock at its recorded amount, and record the difference in additional paid-in capital.

Donated Stock Effect on Equity

The donation itself does not change total shareholders’ equity, although it reduces shares outstanding and increases book value per common share.

Treasury Stock and Outstanding Shares

Treasury shares are issued but are not outstanding and generally have no voting, dividend, or preemptive rights.

Treasury Stock Balance Sheet Presentation

Treasury stock is presented as a deduction from total shareholders’ equity.

Source-of-Capital Principle

Losses from treasury-stock transactions are charged against contributed-capital accounts related to those transactions before retained earnings is used.