Chapter 13, Problem 5BPSB

To determine

Introduction:

Common Stock refers to securities which give its holders a share in the ownership of a corporation. Common stockholders have voting rights and they can elect the board of directors of a corporation.

Requirement 1:

To Calculate:

Current Market Value of Common Stock

Answer to Problem 5BPSB

Solution:

Current Market Value of common stock is $90 per share. Therefore, the total market value will be calculated as follows:

$\begin{array}{l}\text{Total Market Value = No}\text{. Of shares}\times \text{Market Value per share}\\ \text{= 18,000}\times \$90\\ \text{= \$1,620,000}\end{array}$

Explanation of Solution

Explanations:

Market Value is nothing but the current price prevailing in the stock exchange. So, the current market value would be $ 90 per share and the total market price of 18,000 shares would be $1,620,000.

To determine

Requirement 2:

To Calculate:

Par Value of Preferred Stock and Common Stock

Answer to Problem 5BPSB

Solution:

Par Value of Preferred Stock is $250 per share and par value of common stock would be $50 per share.

Explanation of Solution

Explanations:

Given:

Total Value of Preferred stock = $375,000

Number of Preferred Stock = 1,500

Therefore, $\begin{array}{l}\text{Par value per share = }\frac{\text{Total Value}}{\text{No}\text{. of Shares}}\\ \text{= }\frac{\$375,000}{1,500}\\ \text{= \$250}\end{array}$

Total value of Common Stock = $900,000

No. of Common Stock = 18,000

Therefore, $\begin{array}{l}\text{Par value per share = }\frac{\text{Total Value}}{\text{No}\text{. of Shares}}\\ \text{= }\frac{\$900,000}{18,000}\\ \text{= \$50}\end{array}$

To determine

Requirement 3:

To Calculate:

Book Value per share of Common Stock if no dividends are in arrears

Answer to Problem 5BPSB

Solution:

If no dividends are in arrears, the book value per share of common stock would be $112.5.

Explanation of Solution

Explanations:

Book Value per share is calculated as follows:

$\begin{array}{l}\text{Book Value per share = }\frac{\text{Stockholders' Equity - Preferred stock}}{\text{No}\text{. of Common Shares Outstanding}}\\ \text{= }\frac{\$2,400,000-\$375,000}{18,000}\\ \text{= }\frac{\$2,025,000}{18,000}\\ \text{= \$112}\text{.50}\end{array}$

To determine

Requirement 4:

To Calculate:

Book Value per share of Common Stock if two years preferred dividends are in arrears

Answer to Problem 5BPSB

Solution:

If two years preferred dividends are in arrears, the book value per share of common stock would be $109.17.

Explanation of Solution

Explanations:

Preferred dividends of two years would be calculated as follows:

$\begin{array}{l}\text{Preferred Dividends = Preferred Stock Value}\times \text{Rate of Dividend}\times \text{No}\text{. of Years}\\ \text{= \$375,000}\times 8\text{\%}\times \text{2}\\ \text{= \$30,000}\times \text{2}\\ \text{= \$60,000}\end{array}$

Therefore, Book Value per share is calculated as follows:

$\begin{array}{l}\text{Book Value per share = }\frac{\text{Stockholders' Equity - (Preferred stock+Preferred Dividends)}}{\text{No}\text{. of Common Shares Outstanding}}\\ \text{= }\frac{\$2,400,000-(\$375,000+\$60,000)}{18,000}\\ \text{= }\frac{\$2,400,000-\$435,000}{18,000}\\ \text{= }\frac{\$1,965,000}{18,000}\\ \text{= \$109}\text{.17}\end{array}$

To determine

Requirement 5:

To Calculate:

Total amount of dividend to be paid to the Preferred and Common shareholders and Dividend per share for Common Stock

Answer to Problem 5BPSB

Solution:

Total amount to be paid to the Preferred shareholders = $90,000

And, Total amount to be paid to the Common shareholders = $10,000

Dividend per share for Common Stock would be $0.56 per share.

Explanation of Solution

Explanations:

Two years arrear preferred dividend = $60,000 (as calculated above)

Current year preferred dividend = $30,000

Therefore, $\begin{array}{l}\text{Total Preferred Dividend = \$60,000+\$30,000}\\ \text{= \$90,000}\end{array}$

Since, Total Dividend declared is $100,000 (given). Therefore, total amount of dividend to be paid to common shareholders would be as follows:

$\begin{array}{l}\text{Common Stock Dividend = Total Dividend - Preferred Dividend}\\ \text{= \$100,000 - \$90,000}\\ \text{= \$10,000}\end{array}$

Therefore, dividend per share for common stock would be calculated as follows:

$\begin{array}{l}\text{Dividend per share = }\frac{\text{Total Common Stock Dividend}}{\text{No}\text{. of Common Shares Outstanding}}\\ \text{= }\frac{\$10,000}{18,000}\\ \text{= \$0}\text{.56}\end{array}$

To determine

Requirement 6:

To Determine:

Reasons for common stock not being always a good estimate of its market value

Answer to Problem 5BPSB

Solution:

Book Value is not always a good estimate of market value because market value is the price prevailing in the stock market whereas Book Value is the value appearing in the books of accounts of a company.

Explanation of Solution

Explanations:

Book Value represents the real net worth of the company. On the other hand, Market Value represents the net worth of company as per investors’ point of view. Book Value is generally the value appearing in company’s books of accounts whereas Market Value is the value appearing in stock market.

Book Value is calculated by dividing the stockholders’ equity by the total number of shares outstanding. On the other hand, market value is calculated by multiplying the total number of shares outstanding with the current market price per share.

Conclusion

Hence, by seeing the book value of common stock we cannot estimate the market value of it because both the values may be different from each other as they are calculated in a different way.