Ex. 11.4 a. Total dividends paid in third year ……………………………………………………..

Dividends on 8% cumulative preferred stock:

Dividends ($50 x .08 x 40,000 x 2 years) ………….
Current year’s dividend ($50 x .08 x 40,000) ……………….
Total paid on 8% cumulative preferred stock …………………
Dividends on 12% noncumulative preferred stock:
Current year’s dividend ($100 x .12 x 8,000) …………………………….
Dividends on common stock in third year ……………………………………….

b. Dividends per share:

Preferred stock, 8% cum. ($480,000 ÷ 40,000 shares) ……………..
Preferred stock, 12% noncum. ($96,000 ÷ 8,000 shares) ……..
Common stock ($160,000 ÷ 400,000 shares) ……
c. The stockholders’ equity section of the balance sheet reports no additional paid-in capital. T
shares must have been issued at their respective par values ($50 per share for the 8% cumul
and $100 per share for the noncumulative preferred stock).

Ex. 11.9 a. Feb. 10 Treasury Stock …………………………

Cash ……………………...………………
Purchased 17,000 shares of treasury stock
at $25 per share.

June 4 Cash ………………………………………

Treasury Stock ………
Additional Paid-in Capital:
Treasury Stock…
Sold 6,000 shares of treasury stock, cost
$150,000, for $33 per share.

Dec. 22 Cash …………………………………………

Additional Paid-in Capital: Treasury
Stock …………………………………………
Treasury Stock ………
Sold 4,000 shares of treasury stock, cost
$100,000, for $22 per share.

b. Restriction of retained earnings for treasury stock owned at year-end:

$175,000 (7,000 shares still owned x $25 per share cost).

c. No, a restriction on retained earnings does not affect the total amount of retained earnings
reported in the balance sheet. A restriction of retained earnings is disclosed, but does not red
the total amount of retained earnings of a company. The restriction on retained earnings sim
limits the amount of dividends the corporation can pay as long as it holds treasury stock.
 No, a restriction on retained earnings does not affect the total amount of retained earnings
reported in the balance sheet. A restriction of retained earnings is disclosed, but does not red
the total amount of retained earnings of a company. The restriction on retained earnings sim
limits the amount of dividends the corporation can pay as long as it holds treasury stock.

Ex. 11.10 a. Had the stock been split 2-for-1, it would begin trading at approximately $40 per
share immediately after the split ($80 ÷ 2 = $40).

b. Had the stock been split 4-for-1, it would begin trading at approximately $20 per
share immediately after the split ($80 ÷ 4 = $20).

c. When the market price of a corporation’s common stock appreciates in value

significantly, as it had in the case of Fido Corporation, it may become too expensive
for many investors. Thus, the decision to split the company’s stock was probably
made with the intent of making it more affordable to investors.
………………………….. $736,000

……. $320,000
……………. 160,000
rred stock ………………… $480,000

………………………. 96,000 576,000

………………. $160,000

es) …………….. $ 12.00 per share

ares) …….. $ 12.00 per share
…… $ .40 per share
s no additional paid-in capital. Thus, the preferred
($50 per share for the 8% cumulative preferred stock,

425,000
………...……………… 425,000

198,000
150,000

48,000

88,000

12,000
100,000

year-end:

al amount of retained earnings

ings is disclosed, but does not reduce
triction on retained earnings simply
ong as it holds treasury stock.
pproximately $40 per

pproximately $20 per

preciates in value
ay become too expensive
s stock was probably
ors.
 PROBLEM 11.4A
SHARNES COMMUNICATIONS, INC.
a.
General Journal

20__
Jan 6 Cash 280,000
Common Stock 40,000
Additional Paid-in Capital: Common 240,000
Issued Stock
20,000 shares of $2 par value
common
at $14 perstock
share.

7 Organization Costs Expense 7,000

Common Stock 1,000
Additional Paid-in Capital: Common 6,000
Issued Stock
500 shares of common stock to
Barnes in for services relating to formation
exchange
of the
corporation. Implied issuance price
($7,000
shares) ÷= 500
$14 per share.

12 Cash 250,000
10% Cumulative Preferred Stock 250,000
Issued 2,500 shares of $100 par value,
10%,
cumulative preferred stock at par value.

June 4 Land 225,000

Common Stock 30,000
Additional Paid-in Capital: Common 195,000
Issued Stock
15,000 shares of common stock in
exchange
for land valued at $225,000 (15,000 shares
x $15).
Nov 15 Dividends (Preferred Stock) 25,000
Dividends Payable 25,000
To record declaration of annual dividends
of $10
per share on 2,500 preferred shares
outstanding.
Payable Dec. 20.

Dec 20 Dividends Payable 25,000

Cash 25,000
To record payment of dividend declared
Nov. 15.
31 Income Summary
Retained Earnings 147,200
To close the Income Summary account for 147,200
the
year.

31 Retained Earnings 25,000

Dividends (preferred stock) 25,000
To close the Dividends account.

b.
SHARNES COMMUNICATIONS, INC.
 Partial Balance Sheet
December 31, 20xx
Stockholders' equity
10% cumulative preferred stock, $100 par, authori
50,000 shares, issued and outstanding 2,50 $ 250,000
Common stock, $2 par, authorized 400,000 shares
issued and outstanding 35,500 shares 71,000
Additional paid-in capital: Common stock 441,000
Total paid-in capital $ 762,000
Retained earnings* 122,200
Total stockholders' equity $ 884,200

*Computation of retained earnings at December 31, 20xx:

Retained earnings at January 1, 20xx $ -
Add: Net income in 20xx 147,200
Less: Preferred dividends in 20xx (25,000)
Retained earnings at December 31, 20xx. $ 122,200
 PROBLEM 11.6A
PARSONS, INC. CORPORATION
In Thousands
(Except for Per
Share Amounts)
a. Par value of all common stock outstanding $ 6,819
Par value per share 0.50
Number of shares outstanding ($6,819/$0.50) 13,638

b. Dividend requirement per share of preferred stock $ 17.20

Numbers of shares of preferred stock outstanding 345
Annual dividends paid to preferred stockholders ($17.2 $ 5,934

c. Par value of preferred stock $ 86,250

Par value of common stock 6,819
Additional paid-in capital 87,260
Total paid-in capital $ 180,329

d. Total stockholders’ equity $ 237,592

Less: Preferred stock par value = ($250 x 345 shares) 86,250
Equity of common stockholders $ 151,342
Number of shares of common stock outstanding 13,638
Book value per share ($151,342/13,638 shares) $ 11.10

e. The basic advantage of being publicly owned is that the corporation has the
opportunity to raise large amounts of equity capital from many investors. Some
publicly owned corporations have millions of stockholders, including pension
funds, mutual funds, and other corporations. Closely held corporations are
usually unable to raise the large amounts of capital available to publicly owned
corporations.

A major advantage to the stockholders of a publicly owned corporation is that

their equity investments are highly liquid assets, immediately salable at quoted
market
prices.

The primary disadvantages of being publicly owned are the increased

governmental regulations and financial reporting requirements.

f. The term convertible means that at the option of the preferred stockholder, each
preferred share can be converted into a specified number of common shares. To
evaluate the value of this conversion feature, the stockholder must know into how
many shares of common each preferred share can be converted. This information
is disclosed in the notes accompanying the corporation’s financial statements.

g. At $248 per share, Parson's preferred has a dividend yield of 6.9% ($17.20 ÷
$248). In comparison, an 8%, $50 par preferred selling at $57 has a dividend
yield of 7% [(8% x $50 par) ÷ $57].
At $248 per share, Parson's preferred has a dividend yield of 6.9% ($17.20 ÷
$248). In comparison, an 8%, $50 par preferred selling at $57 has a dividend
yield of 7% [(8% x $50 par) ÷ $57].

The dividend yield on preferred stock indicates how much investors value certain
features of the stock. The lower the yield, the more investors favor the stock. A
higher yield means that investors demand a higher return to induce them to
purchase the stock.

The two principal factors that cause one preferred to yield less than another are:
(1) the appearance of greater ability to pay the preferred dividends each year,
and (2) special features that appeal to investors, such as Parson’s conversion
feature, cumulative dividends, or a high call price.
Thousands
cept for Per
re Amounts)
 PROBLEM 11.7A
TECHNO CORPORATION

a. Par value is the legal capital per share—the amount by which stockholders’
equity cannot be reduced except by losses. Thus, par value may be viewed as a
minimum cushion of equity capital existing for the protection of creditors.

Book value per share is equal to the net assets represented by each share of
common stock. Book value is a historical cost concept, representing the amounts
invested by the stockholders, plus the amounts earned and retained by the
corporation. By comparing book value with current market value, stockholders
may gain insight into whether management has increased or diminished the value
of the resources
entrusted to their care.

The market value of a share of stock is established in the marketplace. It

represents the per-share price at which willing sellers can and will sell shares of
the stock to willing buyers. Market value is related primarily to investors’ future
expectations of the company’s performance, rather than to historical amounts.

b. The company’s par value—one-tenth of a cent per share—is quite low. However,
the corporation can set par value at any level that it chooses; the amount of par
value has
no direct effect upon either book value or market value. It does mean, however,
that the amount of the company’s legal capital—serving as a cushion for creditors
—is quite low. Another reason for the small par value is the possibility of stock
splits in the past.

The fact that book value per share ($6.50) is far above par value indicates either
that (1) the stock initially was issued at a price far above par value, or (2) that the
company has retained substantial amounts of earnings. Even if there had been
stock splits in prior years, the total dollar amount of book value would not have
been affected.

The market value of $65 is 10 times book value. This implies that investors believe
that management and product lines make the company worth far more than the
amounts of capital historically invested.

The very low par value offers little protection to the company’s creditors. On the
other hand, a market value of many times book value implies that little cushion is
required for creditors’ claims to be secure. If the company performs as its market
price implies that it will, its earnings and cash flows should make the creditors’
positions quite secure. Earnings and cash flows are far more relevant to a
company’s debt-paying ability than is the cushion provided by par value.
 CASE 11.2
FACTORS AFFECTING THE MARKET
PRICES

a. The value of a share of common stock is based on investors’ expectations about future earnings
and cash flows of the business. The increase in the price of the shares of McDonnell Douglas
resulted from an increase in investors’ expectations about future earnings of the company
based on this large order by Saudia Airlines.

b. The fall in the price of Citicorp’s common stock probably is impacted by the increase in the
discount rate by the Federal Reserve Board which signaled a general increase in interest rates
which affected the required yield on all investments. Since investors demanded a higher yield
on their investments, stock and bond prices suffered an overall decline.

As a financial institution, this increase in the discount rate has additional significance to
Citicorp. An increase in the discount rate increases Citicorp’s cost of funds, which will reduce
its net income, at least in the short run. This reduction in expectations about future earnings
will further reduce the bank’s stock price.

c. The visit by the Federal Drug Administration signaled to the market that Ventitex may be
having problems with approval for one or more of its products. If approval were denied, the
company would not be able to sell the products. Therefore, investors reduced their expectations
of the company’s future earnings and increased their assessments of the risk of the business.
This caused the stock price to drop.
 CASE 11.2
G THE MARKET
PRICES OF
COMM
ON
ns about future earnings
STOCK
McDonnell Douglas
gs of the company
S

y the increase in the

crease in interest rates
manded a higher yield

al significance to
nds, which will reduce
bout future earnings

at Ventitex may be
oval were denied, the
duced their expectations
e risk of the business.