Chapter 10, Problem 10.6BP

Record equity transactions and prepare the stockholders’ equity section (LO10–2, 10–3, 10–4, 10–5, 10–7)

National League Gear has two classes of stock authorized: 4%, $20 par preferred, and $5 par value common. The following transactions affect stockholders’ equity during 2018, National League’s first war of operations:

February 2	Issue 1.5 million shares of common stock for $35 per share.
February 4	Issue 600,000 shares of preferred stock for $23 per share.
June 15	Repurchase 150,000 shares of its own common stock for $30 per share.
August 15	Reissue 112,500 shares of treasury stock for $45 per share.
November 1	Declare a cash dividend on its common stock of $1.50 per share and a $480,000 (4% of par value) cash dividend on its preferred stock payable to all stockholders of record on November 15. (Hint: Dividends are not paid on treasury stock.)
November 30	Pay the dividends declared on November 1.

  Required:

  1.    Record each of these transactions.

  2.    Prepare the stockholders’ equity section of the balance sheet as of December 31, 2018. Net income for the war was $4,900,000.

To determine

To record: The each transaction.

Explanation of Solution

Common stock: These are the ordinary shares that a corporation issues to the investors in order to raise funds. In return, the investors receive a share of profit from the profits earned by the corporation in the form of dividend.

Preferred stock: The stock that provides a fixed amount of return (dividend) to its stockholder before paying dividends to common stockholders is referred as preferred stock.

Par value: It refers to the value of a stock that is stated by the corporation’s charter. It is also known as face value of a stock.

Treasury Stock: It refers to the shares that are reacquired by the corporation that are already issued to the stockholders, but reacquisition does not signify retirement.

Cash dividends: The amount of cash provided by a corporation out of its distributable profits to its shareholders as a return for the amount invested by them is referred as cash dividends.

Prepare the journal entry to record each of the transactions as follows:

Date	Account Title and Explanation	Debit ($)	Credit($)
2018
February 2	Cash $\left(1,500,000\times \$35\right)$	52,500,000
	Common stock $\left(1,500,000\times \$5\right)$		7,500,000
	Additional paid in capital (difference)		45,000,000
	(To record issuance of 1.5 million shares of common stock for $35 per share)
February 4	Cash $\left(600,000\times \$23\right)$	13,800,000
	Preferred stock $\left(600,000\times \$20\right)$		12,000,000
	Additional paid in capital (difference)		1,800,000
	(To record issuance of 600,000 shares of preferred stock for $23 per share)
June 15	Treasury stock $\left(150,000\times \$30\right)$	4,500,000
	Cash		4,500,000
	(To record the purchase of 150,000 shares of treasury stock)
August 15	Cash $\left(112,500\times \$45\right)$	5,062,500
	Treasury stock $\left(112,500\times \$30\right)$		3,375,000
	Additional paid in capital(difference)		1,687,500
	(To record the reissue of treasury stock above the cost)
November 1	Dividends $\left(1,462,500\left(1\right)\times \$1.50\right)+\$480,000$	2,673,750
	Dividends Payable		2,673,750
	(To record the declaration of cash dividend)
November 30	Dividends Payable	2,673,750
	Cash		2,673,750
	(To record the payment of cash dividend)

Table (1)

Working note:

Compute the number of common share outstanding as of November 1:

Details	Number of shares
Common shares issued	1,500,000
Less: Number of common shares repurchased	-150,000
Add: Number of shares of treasury stock reissued	112,500
Number of shares outstanding as of November 1	1,462,500(1)

Table (2)

To determine

To prepare: The stockholders’ equity section of the balance sheet as of December 31, 2018.

Explanation of Solution

Stockholders’ Equity Section: It is refers to the section of the balance sheet that shows the available balance stockholders’ equity as on reported date at the end of the financial year.

Prepare the stockholders’ equity section of the balance sheet as of November 30, 2018 as follows:

NL Gear
Balance sheet (Stockholders’ Equity Section)
Paid-in Capital	Amount ($)	Amount ($)
Preferred stock, $20 par value, 600,000 shares issued	12,000,000
Common stock, $5 par value, 1,500,000 shares issued	7,500,000
Additional paid-in capital:
Paid-in capital – excess over par value, common stock	45,000,000
Paid-in capital – excess over par value, preferred stock	1,800,000
Paid-in capital – excess over par value, Treasury stock	1,687,500
Total paid-in capital		67,987,500
Retained earnings		2,226,250(2)
Less: Treasury stock, 37,500 shares		(1,125,000) (3)
Total stockholders’ equity		69,088,750

Working note:

Compute the amount of retained earnings as follows:

$\begin{array}{c}\text{Retained earnings }=\text{Net income}-\text{Dividend paid}\\ =\$4,900,000-\$2,673,750\\ =\$2,226,250\end{array}$ (2)

Compute the value of treasury stock held by NL Gear as of November 30 as follows:

$\begin{array}{c}\begin{array}{l}\text{Value of treasury stock}\\ \text{held by NL}\text{}\text{ Gear}\end{array}\}=\left[\begin{array}{l}\text{Number of treasury stock held as of}\\ \text{November 30}\times \text{Purchase price of treasury stock}\end{array}\right]\\ =\left[\begin{array}{l}\left(\begin{array}{l}\text{Number of treasury stock purchased on June 15}-\\ \text{Number of treasury stock issued on August 15}-\end{array}\right)\\ \times \text{Purchase price of treasury stock}\end{array}\right]\\ =\left[\left(150,000\text{ shares}-112,500\text{ shares}\right)\times \$30\text{ per share}\right]\\ =\$1,125,000\end{array}$ (3)