Chapter 11, Problem 4AP

1.

To determine

Compute the amount of dividends, in total and per share, that would be payable to each class of stockholder’s for each case.

Explanation of Solution

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.

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.

Retained earnings:

Retained earnings are the portion of earnings kept by the business for the purpose of reinvestments, payment of debts, or for future growth.

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.

Compute the amount of dividends, in total and per share, that would be payable to each class of stockholder’s for each case:

Case A: Preferred is noncumulative and the total amount of all dividends is $25,000.

Particulars	Preferred Stock of 21,000 shares (Amount in $)	Common Stock of 500,000 shares (Amount in $)	Total (Amount in $)
Preferred shares $\left(\$210,000\times 8\%\right)$	16,800		16,800
Balance carried to common stock		(1)8,200	8,200
	16,800	8,200	25,000
Per share value	(2) 0.80	(3) 0.016

(Table 1)

Working Notes:

$\begin{array}{c}\text{Balance carried to common stock = }\left(\text{Total amount of all dividends }-\text{Preferred shares}\right)\\ =\$25,000-\$16,800\\ =\$8,200\end{array}$ (1)

$\begin{array}{c}\begin{array}{l}\text{Per share value of perferred}\\ \text{ stock of 21,000 shares}\end{array}\}\text{ = }\frac{\text{Dividend}}{\text{Perferredstock}}\\ =\frac{\$16,800}{21,000\text{ Shares}}\\ =0.80\end{array}$ (2)

$\begin{array}{c}\begin{array}{l}\text{Per share value of common}\\ \text{ stock of 500,000 shares}\end{array}\}\text{ = }\frac{\text{Dividend}}{\text{Common stock}}\\ =\frac{\$8,200}{500,000\text{ Shares}}\\ =0.016\end{array}$ (3)

Case B: Preferred is cumulative and the total amount of all dividends is $25,000.

Particulars	Preferred Stock of 21,000 shares (Amount in $)	Common Stock of 500,000 shares (Amount in $)	Total (Amount in $)
Preferred shares:
Arrears $\left(\text{\$210,000×8\%×2years=\$33,600}\right)$	25,000	0	25,000
Current year $\left(\text{\$210,000×8\%}\right)$	0	0	0
	25,000	0	25,000
Per share value	(4) 1.19	0

(Table 2)

Working Notes:

$\begin{array}{c}\begin{array}{l}\text{Per share value of perferred}\\ \text{ stock of 21,000 shares}\end{array}\}\text{ = }\frac{\text{Dividend}}{\text{Perferredstock}}\\ =\frac{\$25,000}{21,000\text{ Shares}}\\ =1.19\end{array}$ (4)

Case C: Preferred is cumulative and the total amount of all dividends is $75,000.

Particulars	Preferred Stock of 8,000 shares (Amount in $)	Common Stock of 35,000 shares (Amount in $)	Total (Amount in $)
Preferred shares:
Arrears $\left(\text{\$210,000×8\%×2years}\right)$	33,600	0	33,600
Current year $\left(\text{\$210,000×8\%}\right)$	16,800	0	16,800
Balance of common stock	0	24,600	24,600
	50,400	(5) 24,600	75,000
Per share value	(6) 2.40	(7)0.049

(Table 3)

Working Notes:

$\begin{array}{c}\text{Balance carried to common stock = }\left(\begin{array}{l}\text{Total amount of all dividends }-\text{Preferred shares arrears}\\ -\text{Preferred shares current year}\end{array}\right)\\ =\left(\$75,000-\$33,600-\$16,800\right)\\ =\$24,600\end{array}$ (5)

$\begin{array}{c}\begin{array}{l}\text{Per share value of preferred}\\ \text{ stock of 21,000 shares}\end{array}\}\text{ = }\frac{\text{Dividend}}{\text{Preferred stock}}\\ =\frac{\$50,400}{21,000\text{ Shares}}\\ =2.40\end{array}$ (6)

$\begin{array}{c}\begin{array}{l}\text{Per share value of common}\\ \text{ stock of 500,000 shares}\end{array}\}\text{ = }\frac{\text{Dividend}}{\text{common stock}}\\ =\frac{\$24,600}{500,000\text{ Shares}}\\ =0.049\end{array}$ (7)

2.

To determine

Explain the manner by which stock dividend will be compared to case C if company issues a 40% common stock dividend on the outstanding shares and if  the market value per share is $50.

Explanation of Solution

Schedule of Comparative Differences
Item	Amount of Dollar Increase (Decrease)
	Cash Dividend – Case C	Stock Dividend
Assets	There is a decrease in the value of cash by $75,000.	No change
Liabilities	The liabilities increase by $75,000 when cash dividend is declared and it decreases during the payment of cash dividend.	No change
Stockholders’ equity	Retained earnings of the company reduce by $75,000.	Stockholder’s equity will not change on declaration of stock dividend. The retained value gets reduced due to declaration of dividend and there will be equal increase in the value of common stock $\$200,000\left(500,000\times 40\%\times \$1\right)$.

(Table 4)