ACTG 352 Final Quick Study

Debt Financing vs. Equity Financing

Debt financing involves raising funds through liabilities that must be repaid (e.g., notes, bonds, leases), causing Liabilities to increase (L ↑). Equity financing raises money by selling ownership interests, causing Shareholders' Equity to increase (SE ↑).

Paid-in Capital

Amounts invested by shareholders when they purchase shares of stock from the corporation, or amounts arising from share repurchases and share-based compensation activities. Accounting equation effect: Assets increase (A ↑) and Shareholders' Equity increases (SE ↑).

Retained Earnings

Earned capital accumulated on behalf of shareholders, calculated as Net Income minus Dividends since the corporation's inception. Accounting equation effect: Increases Shareholders' Equity (SE ↑).

Accumulated Other Comprehensive Income (AOCI)

The cumulative total of Other Comprehensive Income (OCI) collected over time and reported on the Balance Sheet. It includes nonowner changes in equity that are excluded from traditional net income.

Four Components of Other Comprehensive Income (OCI)

1. Net holding gains/losses on available-for-sale (AFS) debt securities.
   2. Gains/losses from amendments to pensions and postretirement benefit plans.
   3. Deferred gains/losses on derivatives (cash flow hedges).
   4. Adjustments from foreign currency translation.

Treasury Stock

Shares previously issued and outstanding that have been bought back by the corporation from shareholders with the intent of being resold later. It is recorded at cost as a negative (contra) shareholders' equity account, causing Shareholders' Equity to decrease (SE ↓).

Retiring Shares vs. Treasury Stock

Retiring shares permanently removes repurchased stock from service. Treasury stock temporarily holds repurchased shares in a contra-equity account with the intent to resell them later.

Share Issuance Market Value Equation

Market Value = Par Value + Additional Paid-in Capital (APIC). When par value shares are issued for cash, Common Stock is credited for par value and the remainder is credited to Paid-in Capital—Excess of Par.

Journal Entry: Issuance of Par Value Stock for Cash

Dr. Cash (Total Received) | Cr. Common Stock (Shares x Par Value) | Cr. Paid-in Capital—Excess of Par, Common (Remaining Balance). Accounting equation effect: Assets increase (A ↑ via Cash) and Shareholders' Equity increases (SE ↑ via Common Stock and APIC).

Journal Entry: Purchase of Treasury Stock (Cost Method)

Dr. Treasury Stock (Shares x Purchase Price)
Cr. Cash (Total Paid). Accounting equation effect: Assets decrease (A ↓ via Cash) and Shareholders' Equity decreases (SE ↓ because Treasury Stock is a contra-equity account).

Share-Based Compensation Plans

Employee or executive compensation plans where payments are dependent on the market value of the company's stock (e.g., restricted stock awards, stock options).

Two Main Goals of Accounting for Share-Based Plans

1. Determine the fair value of the compensation at the grant date.

2. Expense that compensation over the periods in which participants perform the related services (the service

Vesting Period (Service Period)

The time frame between the date share-based awards are granted and the date restrictions are lifted or the award becomes exercisable. This is considered the service period over which compensation expense is recognized.

Restricted Stock Award (RSA)

Shares of stock are physically issued in the name of the employee on the grant date, but are subject to restrictions, held in escrow by the company, and subject to forfeiture if employment terminates early.

Equation: Total RSA Compensation

Total Compensation = Market Value per Share at Grant Date x Number of Restricted Shares Issued. Subsequent stock price changes do not modify this total value.

Journal Entry: RSA Grant Date

Dr. Contra-equity—Deferred Compensation (Total Fair Value) | Cr. Common Stock (Shares x Par Value) | Cr. Paid-in Capital—Excess of Par (Remaining balance). Accounting equation effect: Zero net effect on Shareholders' Equity (SE ∅) because the credit to equity is exactly offset by the debit to contra-equity.

CeDC/CS,PICEOP

Journal Entry: RSA Annual Accrual

Dr. Compensation Expense (Total Compensation ÷ Vesting Years) | Cr. Contra-equity—Deferred Compensation. Accounting equation effect: Shareholders' Equity net decrease (SE ↓) because expense reduces net income, partially offset by clearing the contra-equity balance.

Restricted Stock Unit (RSU)

A right to receive a specified number of shares after satisfying vesting requirements. Unlike RSAs, no shares are physically issued on the grant date.

Journal Entries: RSU Plan Accrual

Grant Date: No entry required. Annual Accrual: Dr. Compensation Expense | Cr. Paid-in Capital—Restricted Stock. Accounting equation effect (Accrual): Zero net effect on total equity (SE ∅) because expense reduces equity (SE ↓) and Paid-in Capital increases equity (SE ↑).

Journal Entry: RSU Vesting

Settlement

Stock Option Plan

A plan giving the recipient the right to buy shares at a fixed exercise price within a specified future time period. Total compensation is measured as the fair value of the options at the grant date.

Six Variables of Option Pricing Models

Models (like Black-Scholes) require:
1. Exercise price of the option.
2. Expected term of the option.
3. Current market price of the stock.
4. Expected dividends.
5. Expected risk-free rate of return.
6. Expected volatility of the stock.

Journal Entry: Stock Option Annual Accrual

Dr. Compensation Expense (Total Option Fair Value ÷ Vesting Years) | Cr. Paid-in Capital—Stock Options. Accounting equation effect: Net decrease to equity (SE ↓) because expense reduces retained earnings (SE ↓) and PIC—Stock Options increases equity (SE ↑).

Option Forfeiture Accounting Approaches

1. Default (Estimated): Estimate expected forfeitures up front and adjust the grant-date expense baseline dynamically.

2. Alternative (As Incurred): Record expense based on full grants, then adjust cumulative expense and paid-in capital downward only when forfeitures actually occur.

Journal Entry: Exercising Stock Options

Dr. Cash (Shares x Exercise Price) | Dr. Paid-in Capital—Stock Options (Reverses the related option balance) | Cr. Common Stock (Shares x Par Value) | Cr. Paid-in Capital—Excess of Par (Remaining balance). Accounting equation effect: Assets increase (A ↑ via Cash) and Shareholders' Equity increases (SE ↑ via net additions to equity). Stock market price on exercise date is irrelevant.

Journal Entry: Expiration of Vested Options

Dr. Paid-in Capital—Stock Options (Reverses remaining balance) | Cr. Paid-in Capital—Expiration of Stock Options. Accounting equation effect: Reclassification within equity; zero net effect on Shareholders' Equity (SE ∅). Previously recognized compensation expense is never reversed.

PICSO/PICEOSO

Cliff Vesting vs. Graded Vesting

Cliff Vesting means the entire share or option award vests on a single specified date. Graded Vesting means the award vests gradually over multiple years in batches or tranches (e.g., 25% each year).

Basic EPS vs. Diluted EPS

Basic EPS ignores potential common shares and calculates returns strictly on currently outstanding common stock. Diluted EPS incorporates all potential common shares (options, warrants, convertible bonds) to show a worst-case scenario reduction in EPS.

Rule: Preferred Dividends and EPS

If a company has preferred shareholders entitled to an allocation of earnings (like preferred dividends), the company must subtract those amounts from Net Income (the numerator) before calculating basic earnings per share.

Treasury Stock Method

An assumption used in Diluted EPS that options or warrants are exercised at the beginning of the period. The hypothetical cash proceeds received are assumed to be used by the company to buy back treasury stock at the average market price.

Antidilutive Securities

Securities that, if converted or exercised, would increase EPS or decrease loss per share. These are entirely excluded from the calculation of Diluted EPS.

RSA Cycle: Grant Date

Dr. Contra-equity—Deferred Compensation, Cr. Common Stock, Cr. Paid-in Capital—Excess of Par. (Accounting Equation Effect: SE ∅. Total equity is unchanged because the credit to common stock

Conteq/Costock, PIC EOP

RSA Cycle: Annual Accrual Entry

Dr. Compensation Expense,
Cr. Contra-equity—Deferred Compensation.
(Accounting Equation Effect: SE ↓. Expense reduces retained earnings, while clearing the contra-equity account increases equity, resulting in a net decrease to equity.)

RSA Cycle: Vesting Date

No journal entry is recorded on the final vesting date (other than the final standard annual accrual entry). The shares are already issued and outstanding. (Accounting Equation Effect: SE ∅.)

RSU Cycle: Grant Date

No journal entry is required on the grant date because no actual shares are issued to the employee yet. (Accounting Equation Effect: SE ∅.)

RSU Cycle: Annual Accrual Entry

Dr. Compensation Expense,
Cr. Paid-in Capital—Restricted Stock.
(Accounting Equation Effect: SE ∅. Total equity is unchanged because the decrease from the expense is perfectly offset by the increase to Paid-in Capital.)

RSU Cycle: Vesting & Settlement Date

Dr. Paid-in Capital—Restricted Stock, Cr. Common Stock, Cr. Paid-in Capital—Excess of Par. (Accounting Equation Effect: SE ∅. This is a pure reclassification within equity, moving the value from temporary RSU equity into permanent common stock.)

Journal Entry RSA’s Vs. RSU’s

RSA's dabble in deferred, RSU’s don’t

Forfeiture: Estimated Approach (Default)

A method where companies estimate expected employee turnover up front, calculating annual compensation expense based only on the awards expected to vest. Adjustments are made dynamically if actual trends deviate from estimates.

Forfeiture: As-Incurred Approach (Alternative)

A practical expedient method where a company recognizes full compensation expense assuming 100% vesting, and then reverses the expense for specific awards only when an employee actually terminates and forfeits them.

Equation: Estimated Annual Compensation Expense

Annual Expense = [Total Awards Granted x Grant-Date Fair Value x (1 - Estimated Forfeiture Rate)] ÷ Total Years in Vesting Period.

Calculation: Adjusting Forfeiture Estimates Mid-Way

When an estimated forfeiture rate changes, the company must calculate the new required cumulative expense to date: (Total Value x New Vesting % x Elapsed Time Ratio). Previously recorded expense is subtracted to find the current year's catch-up adjustment.

Journal Entry: Forfeiture Adjustment (Estimated Approach - Turnover Higher Than Expected)

Dr. Paid-in Capital—Stock Options, Cr. Compensation Expense. (Accounting Equation Effect: SE ↑. This entry reverses a portion of previously recognized expense, which increases net income

Journal Entry: Actual Forfeiture Occurs (As-Incurred Approach)

Dr. Paid-in Capital—Stock Options (or Restricted Stock), Cr. Compensation Expense. (Accounting Equation Effect: SE ∅. Cumulative expense is wiped out for the specific employee on the date of termination, reducing temporary equity and decreasing overall expenses for the current period.)

Rule: Forfeitures After the Vesting Period

Trick question: Vested options that expire unexercised are never considered forfeitures. Previously recorded compensation expense is never reversed; it is simply reclassified into Paid-in Capital—Expiration of Stock Options.