FFA_3e_Solutions_ch10.doc

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Department
Administrative Studies
Course
ADMS 2510
Professor
John Parkinson
Semester
Fall

Description
CHAPTER 10 Owners’ Equity EXERCISES E10-1. a. Dr. Cash 6,000,000 Cr. Common shares 6,000,000 To record the issue of 500,000 common shares (500,000 shares  $12 per share = $6,000,000) b. No journal entry is required for a stock split. c. June 7, 2015 Dr. Dividends (Retained Earnings) 27,500,000 Cr. Dividends payable 27,500,000 (250,000,000 shares  $0.11 per share = $27,500,000) July 4, 2015 Dr. Dividends payable 27,500,000 Cr. Cash 27,500,000 d. Dr. Cash (2,000,000 shares  $7.50 per share) 15,000,000 Cr. Common shares ($0.01  2,000,000) 20,000 Contributed surplus ($7.49  2,000,000) 14,980,000 Copyright © 2010 McGraw-Hill Ryerson Ltd. 1 e. Dr. Retained earnings 6,720,000 Cr. Common shares 6,720,000 Using the market value of the shares on April 21, 2015 ((20,000,000  8%)  $4.20). Dr. Retained earnings 6,960,000 Cr. Common shares 6,960,000 Using the average price paid for the shares by investors ((20,000,000  8%)  ($87,000,000 ÷ 20,000,000 shares)). f. December 4, 2015 Dr. Inventory 1,600,000 Cr. Gain on disposal of inventory 1,600,000 To recognize the gain on disposal of inventory. (Market value – Carrying amount = $3,700,000 – $2,100,000) December 4, 2015 Dr. Retained earnings 3,700,000 Cr. Property dividend distributable 3,700,000 To record the property dividend. December 21, 2015 Dr. Property dividend distributable 3,700,000 Cr. Inventory 3,700,000 To distribute the property dividend. E10-3. Copyright © 2010 McGraw-Hill Ryerson Ltd. 2 Owners' Equity Accumulate Preferred Common d Retained Date Asset Liability Shares Shares OCI Earnings $22,000,00 $360,000,00 $218,500,00 Beginning 31-Dec-13 0 0 $1,750,000 0 (60,000,000 i During ) (60,000,000) ii During 44,000,000 44,000,000 iii During 11,500,000 11,500,000 iv During 12,000,000 12,000,000 v During (4,500,000) (4,500,000) vi During 44,000,000 (44,000,000) ix During 71,400,000 (71,400,000) Net Income 31-Dec-14 (800,000) 42,000,000 $71,400,00 $33,500,00 $460,000,00 Ending 31-Dec-14 $3,000,000 0 0 0 $950,000 $80,600,000 Number of Shares Outstanding Preferred Common Shares Shares Number outstanding December 31, 2013 1,000,000 75,000,000 Issue of common shares 4,000,000 Issue of preferred shares 500,000 Issue of common for shares of another company 1,000,000 Share dividend 4,000,000 Number outstanding December 31, 2014 1,500,000 84,000,000 Copyright © 2010 McGraw-Hill Ryerson Ltd. 3 Shareholders' equity Preferred Shares (Authorized, 2,500,000; Outstanding, 1,500,000) $33,500,000 Common Shares (Authorized, 200,000,000; Outstanding, 84,000,000) 460,000,000 Accumulated OCI 950,000 Retained Earnings 80,600,000 $575,050,00 Total 0 E10-5. Dr. Retained earnings 1,875,000 Cr. Accumulated depreciation 1,875,000 ($5,000,000 ÷ 8 years  3 years) In 2013, retained earnings must be reduced by $1,875,000 to $15,925,000. Since the error was discovered during 2013 the deprecation expense of $625,000 for 2013 can be properly recorded for that year. The $1,875,000 adjustment has no bearing on 2013 and the error results in prior years’ statements being misstated so retroactive adjustment makes sense. E10-7. 2012 2013 2014 2015 2016 $95,00 $101,00 Net Income $ $75,000 $74,300 0 0 (10,000 OCI ) 3,700 20,000 (6,000) 115,00 Comprehensive income 65,000 78,000 0 95,000 Retained earnings (assuming after dividends) 250,00 315,000 377,300 457,30 538,300 Copyright © 2010 McGraw-Hill Ryerson Ltd. 4 0 0 (18,000 (14,300 Accumulated OCI (8,000) ) ) 5,700 (300) Dividends 10,000 12,000 15,000 20,000 E10-9. Basic Earnings per share = (Net income – preferred dividends) Weighted average common shares A B C D E $400,00 $1,525,00 $(2,000,000 $45,000,00 Net Income 0 0 ) $400,000 0 Number of preferred shares outstanding - 500,000 1,000,000 1,000,000 10,000,000 Preferred dividends paid per share $0 $2 $0 $1 $3 $1,000,00 $1,000,00 $30,000,00 Preferred dividends paid $0 0 $0 0 0 Net income available to common shareholders $400,00 ($2,000,000 $15,000,00 (Net income – preferred dividends) 0 525,000 ) ($600,000) 0 Common shares issued June 30, 2014 - 500,000 - - 20,000,000 Common shares repurchased June 30, 2014 - 1,000,000 700,000 - Percentage of year 50% 50% 50% 50% 50% Amount added to common shares for weighted average - 250,000 (500,000) (350,000) 10,000,000 100,000,00 Number of common shares outstanding on Dec. 31, 2013 500,000 2,500,000 10,000,000 5,000,000 0 110,000,00 Weighted average common shares 500,000 2,750,000 9,500,000 4,650,000 0 Basic EPS (Dec. 31, 2014) $0.80 $0.19 ($0.21) ($0.13) $0.14 Copyright © 2010 McGraw-Hill Ryerson Ltd. 5 E10-11 Owners' Equity # of Shares - Issued Preferred Common Retained Preferred Date Asset Liability Shares Shares Earnings Shares $7,500,00 i 1-Jul-14 0 $ $ $7,500,000 $ ii During 750,000 750,000 iii During 375,000 375,000 5,000 Net Income 30-Jun-15 (250,000) Ending 30-Jun-15 $- $375,000 $8,250,000 ($250,000) 5,000 30-Jun-15 Total common shareholders’ equity 8,000,000 Total shareholders’ equity 8,375,000 a. DR CR i Cash 7,500,000 Common shares 7,500,000 Distribution rights ii (asset) 750,000 Common shares 750,000 iii Cash 375,000 Preferred shares 375,000 b. Shareholders' equity Preferred Shares, no par value, non-cumulative, non- participating, redeemable @ $120 per share by 2019 (outstanding, 5,000) $375,000 Common Shares (outstanding, 600,000) 8,250,000 Retained Earnings (250,000) $8,375,00 Total 0 c. The ability to pay dividends depends on having adequate cash to do so. From the available information it isn’t possible to tell whether enough cash is on hand or whether it’s tied up in non-liquid assets. It would seem unlikely that a new business would be in a position to pay dividends. However, in principle it could. Positive retained earnings aren’t a requirement for the payment of dividends. If they did pay dividends, then the dividend could be considered a partial return of the common shareholders’ original investment or it would reduce negative (or deficit) retained earnings even more. As long as Kamsack can meet its current liabilities, they have no restrictive covenants preventing Copyright © 2010 McGraw-Hill Ryerson Ltd. 6 the payment of dividends, and they have the means to pay the dividends then they can pay dividends. E10-13. a. Number of Shares - Issued Weighted Preferred Common average shares shares Months % common 75,000 4,800,000 12 100% 4,800,000 500,000 8 67% 333,333 250,000 3 25% 62,500 75,000 6,750,000 5,195,833 Note: Cumulative preferred dividends are subtracted from net income whether they have been paid or not. Basic Earnings per share = Net income – preferred dividends Weighted average common shares 30-Sep-14 $1,278,00 Net Income 0 Preferred Dividend 75,000 Weighted average common shares 5,195,833 Basic EPS $0.23 b. Net income doesn’t give a strong clue about the amount of dividends investors should expect. There is no indication that dividends were paid on the common shares in 2013 and this might be the best indicator of the prospect for dividends in 2014. The ability to pay dividends depends on the availability of cash, the ability to generate cash, and the availability of investment opportunities. If an entity has opportunities to make money by investing rather than paying dividends that strategy can be more profitable in the long run. E10-15. a. The conversion is an exchange of shares and has no cash effect. It doesn’t appear in the cash flow statement. b. No cash is involved in this transaction so it’s presented as a non-cash transaction as additional information to the cash flow statement. c. The split has no cash effect and doesn’t appear on the cash flow statement. Copyright © 2010 McGraw-Hill Ryerson Ltd. 7 d. Payment of dividends is a distribution of cash to owners and is presented as an outflow in the financing section or an operating cash outflow (IFRS). e. Payment of dividends is a distribution of cash to owners and is presented as an outflow in the financing section or an operating cash outflow (IFRS). f. The declaration of dividends has no cash effect and doesn’t appear on the cash flow statement. The cash flow will occur when the dividend is paid. g. The issuance of shares is a financing cash inflow because cash is received from shareholders. h. The issuance of shares is a financing cash inflow because cash is received from shareholders. i. The stock dividend has no cash effect (shares, not cash, are distributed to shareholders) and doesn’t appear on the cash flow statement. j. Property, not cash, is distributed to shareholders so it’s presented as a non-cash transaction as additional information to the statement of cash flows. k. The repurchase is a financing activity outflow because it returns cash to shareholders. l. The cash inflow when the cash shares are issued is classified as a financing activity. E10-17. a. i. Dr. Retained Earnings 2,500,000 Cr. Cash/Dividend Payable 2,500,000 ii. Dr. Investment in Judson 1,500,000 Cr. Gain on disposal of investments 1,500,000 ($2.50 – $1.00)  (500,000 shares  2 shares per common share) Dr. Retained Earnings 2,500,000 Cr. Investment in Judson/Property Dividend Payable 2,500,000 iii. Dr. Retained Earnings 2,500,000 Cr. Common shares 2,500,000 (500,000 shares x 5%  $100) Copyright © 2010 McGraw-Hill Ryerson Ltd. 8 This entry assumes the company uses the market value method. b. # of Shares - Owners' Equity Issued Common Retained Common Weighted average number Date Asset Shares Earnings Shares of common shares i 31-Dec-14 7,500,000 12,500,000 500,000 (2,500,000 (2,500,000 ) ) Ending 7,500,000 10,000,000 500,000 500,000 ii 31-Dec-14 7,500,000 12,500,000 500,000 1,500,000 1,500,000 (2,500,000 (2,500,000 ) ) Ending 7,500,000 11,500,000 500,000 500,000 iii 31-Dec-14 7,500,000 12,500,000 500,000 (2,500,000 2,500,000 ) 50,000 10,000,00 Ending 0 10,000,000 550,000 500,000 Assuming dividends paid December 31, 2014 Cash Property Stock Dividend Dividend Dividend $10,000,00 Common shares $7,500,000 $7,500,000 0 Retained earnings 10,000,000 11,500,000 10,000,000 Shareholders’ equity 17,500,000 19,000,000 20,000,000 Copyright © 2010 McGraw-Hill Ryerson Ltd. 9 c. Net Income $1,750,000 Net Income $3,250,000 Net Income $1,750,000 Weighted average Weighted average Weighted average Number of Number of Number of common shares 500,000 common shares 500,000 common shares 500,000 Basic EPS 3.50 Basic EPS 6.50 Basic EPS 3.50 This answer assumes the dividend is issued Dec. 31. This answer will vary depending on when students assume the dividend is paid. The property dividend would probably create a capital gain and trigger an additional cash outflow for income taxes. This isn’t reflected in the answer d. There are significant differences among the alternatives. The property and stock dividends conserve cash, although issuing the property dividend probably will bring the gain into income and trigger an additional cash outflow for income taxes. If cash is scarce, the company may wish to avoid the cash dividend. The property dividend sacrifices an asset that could be valuable to the company. A stock dividend has bookkeeping implications only. e. Dr. Cash 2,500,000 Cr. Gain on disposal of investments 1,500,000 Cr. Investment in Judson 1,000,000 Dr. Retained Earnings 2,500,000 Cr. Cash 2,500,000 Economically there is no difference to the issuing company. There is a difference to the individual shareholders since they will incur transaction costs to sell the shares if they choose not to hold them. This is particularly burdensome for small shareholders. E10-19. a. Dr. Property, plant and equipment—Forklifts 380,000 Cr. Cash 380,000 To record the purchase of a forklifts Nov. 12, 2009 b. Since this is a change in an accounting estimate, changes are made prospectively and therefore no journal entries are required to adjust previously recorded transactions. c. Annual depreciation expense = ($380,000-$60,000)/10 = $32,000 Copyright © 2010 McGraw-Hill Ryerson Ltd. 10 Dr. Depreciation expense 32,000 Cr. Accumulated depreciation 32,000 To record the depreciation expense for fiscal 20010. d. Straight line Cost Accumulated Carrying Depreciation Year End depreciation amount expense Oct. 31 (AD) (DE) $380,00 $380,00 Purchase 0 $0 0 $0 31-Oct-10 380,000 32,000 348,000 32,000 31-Oct-11 380,000 64,000 316,000 32,000 31-Oct-12 380,000 96,000 284,000 32,000 31-Oct-13 380,000 128,000 252,000 32,000 31-Oct-14 380,000 160,000 220,000 32,000 31-Oct-15 380,000 192,000 188,000 32,000 31-Oct-16 380,000 210,111 169,889 18,111 31-Oct-17 380,000 228,222 151,778 18,111 31-Oct-18 380,000 246,333 133,667 18,111 31-Oct-19 380,000 264,444 115,556 18,111 31-Oct-20 380,000 282,556 97,444 18,111 31-Oct-21 380,000 300,667 79,333 18,111 31-Oct-22 380,000 318,778 61,222 18,111 31-Oct-23 380,000 336,889 43,111 18,111 31-Oct-24 380,000 355,000 25,000 18,111 Total $355,000 Original estimate Change in estimate Cost 380,000 Carrying amount 188,000 Residual value 60,000 Residual value 25,000 Useful life 10 years Useful life remaining 9 years Depreciation expense = Carrying amount – Residual value Useful life Depreciation expense = 32,000 Depreciation expense = 18,111 The depreciation expense for 2016 on is = ($188,000-25,000))/9 = $18,111 [Since management changed the estimated useful life during fiscal 2016, the effect of the change in estimate begins in 2016 and is applied prospectively from then.] Dr. Depreciation expense 18,111 Cr. Accumulated depreciation 18,111 To record depreciation expense for fiscal 2018 e. Copyright © 2010 McGraw-Hill Ryerson Ltd. 11 Straight line Cost Accumulated Carrying Depreciation Year End Depreciation amount expense Oct. 31 (DA) (DE) $380,00 Purchase $380,000 $0 0 $0 31-Oct-10 380,000 32,000 348,000 32,000 31-Oct-11 380,000 64,000 316,000 32,000 31-Oct-12 380,000 96,000 284,000 32,000 31-Oct-13 380,000 128,000 252,000 32,000 31-Oct-14 380,000 160,000 220,000 32,000 31-Oct-15 380,000 192,000 188,000 32,000 31-Oct-16 380,000 210,111 169,889 18,111 31-Oct-17 380,000 228,222 151,778 18,111 31-Oct-18 380,000 246,333 133,667 18,111 31-Oct-19 380,000 264,444 115,556 18,111 31-Oct-20 380,000 282,556 97,444 18,111 31-Jan-21 380,000 287,083 92,917 4,528 Total $287,083 Proceeds $25,000 carrying amount 92,917 Gain (loss) ($67,917) Dr. Depreciation expense 4,528 Cr. Accumulated depreciation 4,528 To record depreciation expense for three months (Nov., Dec, & Jan - fiscal 2021) Dr. Cash 25,000 Dr. Accumulated depreciation 287,084 Dr. Loss on disposal of Machinery 67,916 Cr. Machinery 380,000 To record the sale of the forklifts Jan. 31, 2021 E10-21. Current ratio = Current Assets = $210,000 = 1.24 Current liabilities $168,750 Debt-to-equity ratio = Total Liabilities = $417,500 = 1.14 Total Equity $367,500 Copyright © 2010 McGraw-Hill Ryerson Ltd. 12 Return on assets = Net Income + interest expense  (1- tax rate) Average total assets = $135,000 + $28,000  (1 – 0.155) = $158,660 ($785,000 + $742,500) ÷ 2 $768,875 = 20.77% Return on equity = Net Income – preferred dividends Average common share equity = $135,000 – $15,000 = $120,000 ($311,250 + $236,250) ÷ 2 $273,750 = 4.38% Basic earnings per share = Net income - preferred dividends Weighted average common shares = $135,000 – $15,000 = $120,000 50,000 shares 50,000 = $2.40 Price-to-book ratio = = $1,430,00 = 3.89 Market value of equity 0 Book value of equity $367,500 Market value of equity = Market value per common share  Common shares outstanding = $26  55,000 shares = $1,430,000 Book value of equity = Preferred shares + Common shares + Accumulated other comprehensive income + Retained earnings = $56,250 + $155,500 + $12,000 + $143,750 = $367,500 Copyright © 2010 McGraw-Hill Ryerson Ltd. 13 PROBLEMS P10-1 Debt/Equ Current Return Price-to- Return on ity Ratio on equity Basic EPS book ratio Assets Ratio Before transaction 0.9:1 1.3 11.5% $3.42 1.8 7.1% or event 1. Issue shares for Decreases Increases Decrease Decrease (a) Decrease Decrease cash (a) (b) (a) 2. Grant stock No effect No effect Decrease Decrease No effect Decrease options (b) 3. Stock dividend No effect No effect No effect Decreases No effect No effect 4. Issue shares for Decreases No effect Decrease Decrease (a) Decrease Decrease capital assets (a) (c) (a) 5. Declare cash Increases Decreases Increases No effect Increases No effect dividend 1. Dr. Cash (A+) Cr. Common Shares (OE+) (Increase in the number of common shares outstanding) Note a: The effect on this ratio depends on the change in earnings with the change in assets available. This answer assumes that earnings remain the same regardless of the new equity. This answer also assumes that issuance of new common shares took place prior to the end that they would increase in weighted average number of common shares outstanding during the period. Note b: This answer depends on the change in market value as a result of the issuance, which is unknown. The answer presented assumes that the market value isn’t affected by the issuance of new shares. Equity increases because the net assets have increased. 2. Dr. Compensation expense (OE-) (E+) Cr. Contributed Surplus (OE+) Overall, there is no effect on owners’ equity but net income would decrease. Note c: It’s unknown how the market will react to the issue of new stock options. If there is no effect then the ratio is unchanged since shareholders’ equity is not affected by the stock options. 3. Dr. Retained Earnings (OE-) Cr. Common Shares (OE+) Copyright © 2010 McGraw-Hill Ryerson Ltd. 14 (Increase in the number of common shares outstanding. Total equity is un
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