Chapter 12, Problem 6BP

a.

To determine

Journalize the stockholders’ equity transactions in the books of Incorporation G.

Explanation of Solution

Journal entry: Journal entry is a set of economic events which can be measured in monetary terms. These are recorded chronologically and systematically.

Debit and credit rules:

• Debit an increase in asset account, increase in expense account, decrease in liability account, and decrease in stockholders’ equity accounts.
• Credit decrease in asset account, increase in revenue account, increase in liability account, and increase in stockholders’ equity accounts.

Journalize the stockholders’ equity transactions in the books of Incorporation G.

Transaction on January 5:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
January	5	Dividends			560,000
			Dividends Payable			560,000
		(Record declaration of dividends)

Table (1)

Description:

• Dividends is a stockholders’ equity account. Since the dividends are declared, stockholders’ equity is decreased, and a decrease in equity account is debited.
• Dividends Payable is a liability account. Since the liability to pay dividends increased, liability increased, and an increase in liability is credited.

Working Notes:

Compute the amount of cash dividends on common stock.

$\begin{array}{c}\text{Cash dividends}=\left\{\begin{array}{l}\text{Number of common shares outstanding }\times \\ \text{Dividend per share}\end{array}\right\}\\ =560,000\text{ shares}\times \$1\text{ per share}\\ =\$560,000\end{array}$

Transaction on February 18:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
February	18	Dividends Payable			560,000
			Cash			560,000
		(Record payment of cash dividends)

Table (2)

Description:

• Dividends Payable is a liability account. Since the liability to pay dividends has been paid off, liability decreased, and a decrease in liability is debited.
• Cash is an asset account. The amount is decreased because cash is paid as dividends, and a decrease in assets should be credited.

Transaction on April 20:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
April	20	Treasury Stock			10,000
			Cash			10,000
		(Record reacquisition of common stock as treasury stock)

Table (3)

Description:

• Treasury Stock is a stockholders’ equity account. Since the issued shares are bought back, the stockholders’ equity decreases, and a decrease in equity is debited.
• Cash is an asset account. The amount is decreased because cash is paid as dividends, and a decrease in assets should be credited.

Working Notes:

Compute cash paid.

$\begin{array}{c}\text{Cash paid= Number of shares reacquired}\times \text{ Purchase price per share}\\ \text{= 1,000 shares × \$10}\\ \text{= \$10,000}\end{array}$

Transaction on May 25:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
May	25	Cash			6,000
			Treasury Stock			5,000
			Additional Paid-in Capital–Treasury Stock			1,000
		(Record sale of treasury stock)

Table (4)

Description:

• Cash is an asset account. The amount is increased because cash is received on sale of reacquired shares, and an increase in assets should be debited.
• Treasury Stock is a stockholders’ equity account. Since reacquired shares of treasury stock are sold, the value of treasury stock is reduced. The treasury stock which was debited previously, is now credited to reduce its balance.
• Additional Paid-In Capital–Treasury Stock is a stockholders’ equity account. Since treasury stock is sold for a price more than its purchase price, equity value is increased. An increase in equity is credited.

Working Notes:

Compute cash received.

$\begin{array}{c}\text{Cash received= Number of shares }\times \text{ Selling price}\\ \text{= 500 shares × \$12}\\ \text{= \$6,000}\end{array}$

Compute treasury stock value.

$\begin{array}{c}\text{Treasury stock = Number of shares }\times \text{ Purchase price}\\ \text{= 500 shares × \$10}\\ \text{= \$5,000}\end{array}$

Compute additional paid-in capital value.

$\begin{array}{c}\text{Paid-in capital value= Number of shares }\times \left(\text{Selling price–Purchase price}\right)\\ \text{= 500 shares × }\left(\text{\$12–\$10}\right)\\ \text{= 500 shares × \$2}\\ \text{= \$1,000}\end{array}$

Transaction on June 15:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
June	15	Retained Earnings			307,725
			Stock Dividends to Be Distributed			27,975
			Additional Paid-in Capital: Stock Dividends			279,750
		(Record declaration of stock dividends)

Table (5)

Description:

• Retained Earnings is a stockholders’ equity account. Since the dividends are declared, stockholders’ equity is decreased, and a decrease in equity account is debited.
• Stock Dividends to Be Distributed is a stockholders’ equity account. Since common stock is declared to be distributed as stock dividends at par value, equity value is increased. An increase in equity is credited.
• Additional Paid-in Capital: Stock Dividends is a stockholders’ equity account. Since the stock is issued in excess of par value, equity value is increased. An increase in equity is credited.

Working Notes:

Compute the number of shares to be distributed as stock dividends.

$\begin{array}{c}\text{Stock dividends shares = }\left\{\begin{array}{l}\text{Number of shares outstanding }\times \\ \text{Stock dividend percentage}\end{array}\right\}\\ \text{= }\left(\text{560,000 shares –1,000 shares+500 shares}\right)\text{× 5\%}\\ \text{=559,500 shares× 5\%}\\ \text{= 27,975 shares}\end{array}$ (1)

Compute amount of retained earnings distributable for stock dividends (Refer to Equation (1) for stock dividend shares value).

$\begin{array}{c}\text{Retained earnings = Stock dividend shares }\times \text{ Market value per share}\\ \text{= 27,975 shares × \$11}\\ \text{= \$307,725}\end{array}$ (2)   

Compute the amount of stock dividends to be distributed (Refer to Equation (1) for stock dividend shares value).

$\begin{array}{c}\begin{array}{l}\text{Stock dividends to be }\\ \text{distributed value}\end{array}\}\text{ = Stock dividend shares }\times \text{ Par value of stock}\\ \text{= 27,975 shares × \$1}\\ \text{= \$27,975}\end{array}$ (3)

Compute additional paid-in capital (Refer to Equations (2) and (3) for retained earnings and stock dividends to be distributed value).

$\begin{array}{c}\text{Additional paid-in capital = Retained earnings –Stock dividends to be distributed}\\ \text{= \$307,725 – \$27,975}\\ \text{= \$279,750}\end{array}$

Transaction on June 30:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
June	30	Stock Dividends to Be Distributed			27,975
			Common Stock			27,975
		(Record distribution of stock dividends)

Table (6)

Description:

• Stock Dividends to Be Distributed is a stockholders’ equity account. Since common stock is issued due to declaration of stock dividends, the value is transferred to common stock, the equity value is decreased. A decrease in equity is debited.
• Common Stock is a stockholders’ equity account. Since common stock is issued, equity value is increased. An increase in equity is credited.

Note: Refer to Equation (3) for value and computation of stock dividends distributable value.

Transaction on August 12:

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
August	12	Cash			2,925
		Additional Paid-in Capital–Treasury Stock			75
			Treasury Stock			3,000
		(Record sale of treasury stock)

Table (7)

Description:

• Cash is an asset account. The amount is increased because cash is received on sale of reacquired shares, and an increase in assets should be debited.
• Additional Paid-In Capital–Treasury Stock is a stockholders’ equity account. Since treasury stock is sold for a price less than its purchase price, equity value is decreased. A decrease in equity is debited.
• Treasury Stock is a stockholders’ equity account. Since reacquired shares of treasury stock are sold, the value of treasury stock is reduced. The treasury stock which was debited previously, is now credited to reduce its balance.

Working Notes:

Compute cash received.

$\begin{array}{c}\text{Cash received= Number of shares }\times \text{ Selling price}\\ \text{= 300 shares × \$9}\text{.75}\\ \text{= \$2,925}\end{array}$

Compute treasury stock value.

$\begin{array}{c}\text{Treasury stock = Number of shares }\times \text{ Purchase price}\\ \text{= 300 shares × \$10}\\ \text{= \$3,000}\end{array}$

Compute additional paid-in capital value.

$\begin{array}{c}\text{Paid-in capital value= Number of shares }\times \left(\text{Selling price–Purchase price}\right)\\ \text{= 300 shares × }\left(\text{\$9}\text{.75–\$10}\right)\\ \text{= 300 shares × \$}\left(0.25\right)\\ \text{= \$}\left(75\right)\end{array}$

Transaction on December 31 (closing net income):

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
December	31	Income Summary			1,750,000
			Retained Earnings			1,750,000
		(Record net income being closed to Retained Earnings account)

Table (8)

Description:

• Income Summary is a temporary account used to close the net balance of revenue and expense accounts. Since the net income is closed to Retained Earnings account, the Retained Earnings is credited and Income Summary account is debited.
• Retained Earnings is a stockholders’ equity account. Since revenues are transferred to the account, the value increased, and an increase in equity is credited.

Transaction on December 31 (closing dividends):

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2018
December	31	Income Summary			560,000
			Retained Earnings			560,000
		(Record dividends being closed to Retained Earnings account)

Table (9)

Description:

• Retained Earnings is a stockholders’ equity account. Since dividends are transferred to the account, the value decreased, and a decrease in equity is debited.
• Income Summary is a temporary account used to close the net balance of revenue and expense accounts. Since the dividends (expense) are closed to Retained Earnings account, the Retained Earnings is debited and Income Summary account is credited.

b.

To determine

Prepare the stockholders’ equity section of the balance sheet for Incorporation G at December 31, 2018.

Explanation of Solution

Stockholders’ equity section: The section of balance sheet which reports the changes in stock, paid-in capital, retained earnings, and treasury stock, during the year is referred to as stockholders’ equity section.

Prepare the stockholders’ equity section of the balance sheet for Incorporation G at December 31, 2018.

Table (10)

Working Notes:

Compute the number of shares issued as at December 31, 2018.

$\begin{array}{c}\begin{array}{l}\text{Number of shares issued }\\ \text{at December 31, 2018}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Number of shares at January 1, 2018–}\\ \text{Number of shares distributed as stock dividend on June 1+}\end{array}\right\}\\ \text{=}\left(\text{560,000+27,975}\right)\text{shares}\\ \text{= 587,975 shares}\end{array}$

Compute number of shares in treasury stock.

$\begin{array}{c}\begin{array}{l}\text{Number of shares in }\\ \text{treasury stock }\\ \text{at December 31, 2018}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Number of shares purchased as treasury stock on April 20–}\\ \text{Number of shares reissued from treasury stock on May 25–}\\ \text{Number of shares reissued from treasury stock on August 12}\end{array}\right\}\\ \text{=}\left(\text{1,000–500–300}\right)\text{shares}\\ \text{= 200 shares}\end{array}$

Refer to transaction on June 1 for value of additional paid-in capital from stock dividend.

Compute additional paid-in capital from treasury stock.

$\begin{array}{c}\begin{array}{l}\text{Additional paid-in capital }\\ \text{from treasury stock}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Additional paid-in capital from treasury stock }\\ \text{from transaction on May 25– }\\ \text{Additional paid-in capital from treasury stock }\\ \text{from transaction on August 12}\end{array}\right\}\\ \text{= \$1,000–\$75}\\ \text{= \$925}\end{array}$

Note: Refer to the working notes of the transactions on May 25 and August 12 for both the values.

Compute amount of retained earnings (Refer to the working notes of transactions on February 18 and June 15 for value of cash and stock dividends).

Incorporation G
Statement of Retained Earnings
For the Year Ended December 31, 2018
Retained earnings, January 1, 2018		$3,000,000
Add: Net income		1,750,000
		4,750,000
Less:
Cash dividends	$560,000
Stock dividends	307,725	(867,725)
Retained earnings, December 31, 2018		$3,882,275

Table (11)

Conclusion

Thus, the total stockholders’ equity of Incorporation G is $9,228,925.

c.

To determine

Compute the amount of legal cash dividend per share according to the given condition.

Explanation of Solution

Cash dividends: This is the amount of cash distributed to stockholders by a company out of its earnings, according to their proportion of shares held in the company stock.

Compute the amount of legal cash dividend per share of Incorporation G in 2018.

Particulars	Amount ($)
Retained earnings, December 31, 2018	$3,882,275
Less: Restriction of retained earnings for treasury stock	2,000
Unrestricted retained earnings	3,880,275
Number of outstanding common shares	÷  5887,775 shares
Maximum legal cash dividend per common share	$6.60

Table (12)

Note: Refer to working notes of Part (b) for the value of retained earnings ending balance, and number of outstanding shares at the end of 2018.

Conclusion

Thus, the legal cash dividend per common share of Incorporation G for the year ended December 31, 2018 is $6.60.