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1
Corporations
Most large businesses and many small businesses are organized as corporations
...
The capital of a
company is divided into shares, which are allotted to the members either for cash or other assets
transferred by them to the company
...
A corporation is more difficult and more costly to form than the other two business
forms
...
Formation usually requires the service of an attorney
...
e
...
Stockholders elect a BOD
...
The directors make major policy decisions such as whether profits
should be distributed to stockholders
...
Characteristics of Forms of Organizations
Sole Proprietorship
1
...
Liability of owners Unlimited
personal Unlimited
personal No personal liability
for business debts
liability
liability
3
...
Tax status
Income
owner
taxable
to Income taxable
partners
5
...
Continuity
Cease with retirement New partnership with Indefinite existence
or death of owner
any change in partners
All partners
to Files corporation tax
return
and
pays
income
taxes
on
earnings
Professional managers
Capital Stock
Authorized Share Capital
This is the total number of stocks the corporation’s charter
(Memorandum of Association) authorizes the corporation to issue
...
Treasury Stock
Stocks bought back by a corporation
Outstanding Stock
The number of stocks in the hands of shareholders
...
2
Shareholders equity of a corporation shows two different sources of capital:
1
...
e
...
2
...
e
...
The stock of a corporation can either be common or preferred, and either par or no par
...
Most companies set par value
quite low to avoid legal difficulties from issuing their stock below par
...
Common stock
This is the most basic form of capital stock
...
Common stockholders:
Vote at stockholders meetings
Share in earnings distribution
Have preemptive right i
...
the right to purchase additional shares, if the corporation
issues more shares
...
Preferred Stock
These are stocks, which give the owner certain preferences or rights superior to those of the
common shareholder
...
Preference
shares can either be cumulative or non-cumulative
...
Cumulative preference shares carry the
right to receive arrears of preference dividends for earlier years before any dividend is
paid to the common shareholder
...
If for
one year no dividend is declared, there is no carry over of dividend to following years
...
2 million
shares at a par value
...
10 par value shares, issued 3
...
00 each
Dr Cash
$3,200,000
Cr Common Stock
$ 320,000
Cr Additional paid-in capital $2,880,000
The Additional Paid-in Capital (APC) Account is the same as Paid-in Capital in Excess of Par
or Share Premium Account
...
10 par value, authorized 40 million, issued
and outstanding 3
...
Example
Khan Corporation issued 15,000 shares of $1
...
Dr Machine $120,000
Cr Common stock
Cr APC (Share Premium)
$ 15,000
$105,000
Dividends
Investors who buy stock in a corporation expect to get a return on their investment
...
A dividend is the distribution of earnings by a corporation to its stockholders
...
Cash Dividends &
2
...
1
...
Three conditions must exist for payment of a cash dividend:
(i)
Unrestricted Retained Earnings
A company must have enough retained earnings to
cover the dividends declared
...
Three relevant dates for dividends are:
i)
Declaration Date i
...
the date on which the BOD announces the intention to pay the
dividends
...
Dr Retained Earnings
Cr Dividends Payable (Liability Account)
ii)
Date of Record i
...
usually two or three weeks after declaration and is the date on
which the names of shareholders entitled to receive dividends are determined
...
[No journal entry is
required on this date
...
e
...
This is usually
about four weeks after the record date
...
When a company has issued both preference stock and common stock, the preference stock
holders receive their dividends first
...
Retained Earnings
Retained earnings (RE) is the account that accumulates the income that has been retained in the
business i
...
the income that has not been distributed as dividends over the life of the business
...
A negative balance in RE is called a deficit
...
Name of Company
Statement of Retained Earnings
For the Year Ended----Retained earnings at 1/1/X6
$xxxxxxxx
Net income for X6
xxxxxxxx
xxxxxxxx
Less: Dividends
xxxxxxxx
Retained earnings at 31/12/X6
xxxxxxxx
2
...
A stock dividend is a
distribution by a corporation of its own stock to its shareholders
...
Declaration of a stock dividend does not create a liability as the company is not expected to pay
out assets
...
e
...
Stock dividends to be distributed to stockholders are proportionate to the number of shares they
already own
...
Suppose you own 300 shares of common stock
...
You would now receive 30 additional shares and would now have 330
shares but you would be in the same position as before in terms of percentage ownership
...
Recording Stock Dividends
Small stock dividends i
...
less than 20% - 25%
Dr Retained Earnings (with the MV of shares)
Cr Common Stock (Par value)
Cr Paid-in Capital in Excess of Par
Note that a stock dividend merely rearranges the Stockholders equity section of the BS and
therefore has no effect on total stockholders equity
...
Shareholders therefore get part of paid-in capital as well
...
Where this is the case, shareholders would be
notified by the corporation
...
A stock split increases the number of authorized,
issued and outstanding shares of stock
...
In the case of a stock dividend the par value of the stock remains
unchanged
...
Example
Common stock, $1
...
50 par, 1,000,000 shares authorized, 200,000 shares issued
$100,000
Stockholders equity does not change and no accounts would be affected
...
6
1
...
3
...
Event
Declaration of cash dividend
Payment of a cash dividend
Distribution of stock dividend
Stock split
Effect on Total Stockholder’s Equity
Decrease Total Shareholders Equity
No effect on equity
No effect on equity
No effect on equity
Income Taxes of a Corporation
A company records its IT expense on the IS and IT payable on the BS
...
Income Tax Expense
= Income before Taxes x Income Tax Rate
Income Tax Payable
= Taxable Income x Income Tax Rate
The most important difference between IT expense and IT payable occurs when a corporation
uses one method of depreciation for financial reporting and another method for IT return
...
IT expense, unlike other expenses
do not help to generate income, hence it is shown separately in the IS