Chapter 11, Problem 11.1CP

Analyzing Accounting Equation Effects, Recording Journal Entries, and Preparing a Partial Balance Sheet Involving Stock Issuance, Purchase, and Reissuance Transactions

Worldwide Company obtained a charter from the state in January that authorized 200,000 shares of common stock, $10 par value. During the first year, the company earned $38,200 and the following selected transactions occurred in the order given:

1. a. Issued 60,000 shares of the common stock at $12 cash per share.
2. b. Reacquired 2,000 shares at $15 cash per share from stockholders; the shares are now held in treasury.
3. c. Reissued 1,000 of the shares in transaction (b) two months later at $18 cash per share.

Required:

1. 1. Indicate the effects of each transaction on the accounting equation.
2. 2. Prepare journal entries to record each transaction.
3. 3. Prepare the stockholders’ equity section of the balance sheet at December 31.

   TIP: Because this is the first year of operations, Retained Earnings has a zero balance at the beginning of the year.

To determine

To indicate: The effects of each transaction on the accounting equation.

Explanation of Solution

Accounting equation:

Accounting equation is an accounting tool expressed in the form of equation, by creating a relationship between the resources or assets of a company, and claims on the resources by the creditors and the owners. Accounting equation is expressed as shown below:

$\boxed{\text{Assets = Liabilities + Stockholders’ Equity}}$

The effects of each transaction:

1. a. Issued 60,000 shares of the common stock at $12 per share.

Calculate the cash:

$\begin{array}{c}\text{Cash}=60,000\text{Shares}\times \text{\$12 per share}\\ \text{=\$720,000(1)}\end{array}$

Calculate the amount for common stock:

$\begin{array}{c}\text{Common stock}=60,000\text{ Shares}\times \$10\text{Per share}\left(\text{Par value}\right)\\ =\$600,000(2)\end{array}$

Calculate the amount for additional paid in capital:

$\begin{array}{c}\text{Additional paid in capital}=60,000\text{Shares}\times \text{\$2 Per share}\left(\text{Additional amount}\right)\\ =\text{\$120,000(3)}\end{array}$

	Assets		Liabilities	Stockholders’ equity
a.	Cash	+720,000(1)	No effect	Common stock Additional paid-in capital common	+600,000(2) +120,000(3)

Table (1)

1. b. Required 2,000 shares at $15 cash per share from stockholders; the shares are now held in treasury.

	Assets		Liabilities	Stockholders’ equity
b.	Cash	-30,000	No effect	Treasury stock (+xSE)	-30,000

Table (2)

1. c. Reissued 1000 shares in transaction (b) two months; later at $18 cash per share.

Calculate the cash:

$\begin{array}{c}\text{Cash}=1000\text{Shares}\times \$18\text{Per share}\\ =\$18,000\left(4\right)\end{array}$

Calculate the treasury stock:

$\begin{array}{c}\text{Treasury stock}=1000\text{Shares}\times \text{\$15per share}\\ =\$15,000\left(5\right)\end{array}$

Calculate the additional paid in treasury:

$\begin{array}{c}\text{Additonal paid in treasury}=1000\text{Shares}\times \$3\text{Per share}\left(\text{additional amount}\right)\\ =\$13,000\left(6\right)\end{array}$

	Assets		Liabilities	Stockholders’ equity
c.	Cash	+18,000(4)	No effect	Treasury stock (-xSE) Additional paid-in capital treasury	+15,000(5) +3,000(6)

Table (3)

a.

• Common stock is issued for cash. Hence, the effect on the accounting equation is increase in cash (asset) and increase in stockholders’ equity (Common stock).

b.

• Reacquired shares from the stockholders that are kept in the treasury. Hence, the effect on the accounting equation is decrease in cash (asset) and increase in the contra-equity decreases the Stockholders’ equity).

c.

• Reissued the stocks. Hence, the effect on the accounting equation is increase in cash (asset) and decrease in contra equity increases the stockholders’ equity. And increase in the additional paid in capital-treasury increases the stockholders’ equity.

To determine

To prepare: The journal entry for each transaction.

Explanation of Solution

Journal:

Journal is the book of original entry. Journal consists of the day-to-day financial transactions in a chronological order. The journal has two aspects; they are debit aspect and the credit aspect.

Prepare the journal entries:

1. a. Journal entry for issuance of common stock:

Date		Account Title and Explanation	Debit ($)	Credit ($)
	a.	Cash $\left(60,000\text{Shares}\times \$12\right)$	720,000
		Common stock $\left(60,000\text{Shares}\times \$10\right)$		600,000
		Additional paid in capital, common stock $\left(60,000\text{shares}\times \$2\right)$		120,000
		(To record the issuance of common stock to investors at premium)

Table (4)

• Cash is an asset. There is an increase in the cash. Hence, debit cash account with $720,000.
• Common stock is a component of stockholders’ equity. There is an increase in the common stock which increases the stockholders’ equity. Hence, credit stockholders’ equity with $600,000.
• Additional paid in capital (common stock), there is an issue of stocks at premium of $2. There is an increase in the common stock which increases the stockholders’ equity. Hence, credit additional paid in capital with $120,000.

1. b. Journal entry for reacquiring of shares from stockholders:

Date		Account Title and Explanation	Debit ($)	Credit ($)
	b.	Treasury stock $\left(2,000\text{Shares}\times \$15\right)$	30,000
		Cash		30,000
		(To record the reacquiring of shares from the stockholders)

Table (5)

• Treasury stock is the contra-equity. There is an increase in the contra-equity which decreases the stockholders’ equity. Hence, debit the treasury stock with $30,000.
• Cash is an asset. There is a decrease in the asset. Hence, credit cash account with $30,000.

1. c. Journal entry for reissuance of treasury stock:

Date		Account Title and Explanation	Debit ($)	Credit ($)
	c.	Cash $\left(1,000\text{Shares}\times \$18\right)$	18,000
		Treasury stock $\left(1,000\text{Shares}\times \$15\right)$		15,000
		Additional paid in capital, common stock $\left[1,000\text{Shares}\times \left(\$18-\$15\right)\right]$		3,000
		(To record the issuance of common stock to investors at premium)

Table (6)

• Cash is an asset. There is an increase in the asset. Hence, credit cash account with $18,000.
• Treasury stock is a contra-equity. There is a decrease in the contra equity which increases stockholders’ equity. Hence, credit treasury stock with $15,000.
• Additional paid in capital (Common stock) there is an issuance of stock at higher than the purchased price. Hence, credit additional paid in capital with $3,000.

To determine

To prepare: The stockholders’ equity section of the balance sheet at 31^st December.

Explanation of Solution

Balance Sheet:

Balance Sheet summarizes the assets, the liabilities, and the Shareholder’s equity of a company at a given date. It is also known as the statement of financial status of the business.

Prepare the stockholders’ equity section of the balance sheet:

Balance sheet (Partial)
Stockholders' equity -December 31
Particulars	amount($)	Amount($)
Contributed capital:
Common stock $\left(60,000\text{ Shares}\times \$10\right)$	$600,000
Additional paid in capital, common stock $\left[60,000\text{ Shares}\times \$2\left(\text{Premium}\right)\right]$	$120,000
Additional paid in capital, Treasury stock	$3,000
Total contributed capital	723,000
Retained earnings	$38,200
Total contributed capital	$761,200
Less: Treasury stock at cost(7)	($15,000)
Total stockholders' equity		$746,200

Table (7)

Working note:

Calculate the amount of treasury stock at cost:

$\begin{array}{c}\text{Treasury stock at cost}=\text{Number of shares}\times \text{Reacquired price}\\ =1,000\times \$15\\ =\$15,000\end{array}$ (7)

Conclusion

Thus, the stockholders’ equity section of the balance sheet is prepared and it shows the total stock holders’ equity as $746,200.