Problem 15 - Accounting

Question

The following accounts and their balances appear in the ledger of Heart and Saul Inc. on April 30 of the current year: \(\begin{array}{lr}\text { Common Stock, } \$ 50 \text { par } & \$ 900,000 \\\ \text { Paid-In Capital in Excess of Par } & 110,000 \\ \text { Paid-In Capital from Sale of Treasury Stock } & 42,000 \\ \text { Retained Earnings } & 3,178,000 \\ \text { Treasury Stock } & 210,000\end{array}\) Prepare the Stockholders' Equity section of the balance sheet as of April 30 . Twenty-five thousand shares of common stock are authorized, and 3,500 shares have been reacquired.

Step-by-Step Solution

Answer

Stockholders' equity is $4,020,000 on April 30.

Step 1: Identify Components of Stockholders' Equity

Stockholders' equity includes several components derived from the ledger. These components are Common Stock, Paid-In Capital in Excess of Par, Paid-In Capital from Sale of Treasury Stock, Retained Earnings, and Treasury Stock.

Step 2: Calculate Common Stock Value Issued

Calculate the value of the common stock issued. With a par value of $50 and 18,000 shares outstanding, calculate as follows: 18,000 shares * $50 = $900,000, verifying it matches the ledger.

Step 3: Determine Total Paid-In Capital

Add Paid-In Capital in Excess of Par ($110,000) and Paid-In Capital from Sale of Treasury Stock ($42,000) to get a total paid-in capital: $110,000 + $42,000 = $152,000.

Step 4: Combine Common Stock and Total Paid-In Capital

Calculate total paid-in capital and common stock by adding the values from Steps 2 and 3: $900,000 (Common Stock) + $152,000 (Total Paid-In Capital) = $1,052,000.

Step 5: Calculate Total Stockholders' Equity

Stockholders' Equity is calculated as Common Stock and Paid-In Capital (\(1,052,000) plus Retained Earnings (\)3,178,000), minus Treasury Stock ($210,000): \[1,052,000 + 3,178,000 - 210,000 = 4,020,000\]

Step 6: Present the Stockholders' Equity Section

List the components in the stockholders' equity section of the balance sheet: - Common Stock: $900,000 - Paid-In Capital in Excess of Par: $110,000 - Paid-In Capital from Sale of Treasury Stock: $42,000 - Total Paid-In Capital and Common Stock: $1,052,000 - Retained Earnings: $3,178,000 - Less: Treasury Stock: $(210,000) - Total Stockholders' Equity: $4,020,000

Key Concepts

Common Stock

Common stock is a type of security that represents ownership in a corporation. Investors who hold common stock typically have voting rights in company matters and may receive dividends as a share of the company's profits. In our example exercise, Heart and Saul Inc. has authorized a total of 25,000 shares. Of these, 18,000 shares are currently outstanding, each with a par value of $50. This means the common stock accounts for a total value of \( 18,000 \times 50 = 900,000 \) dollars. The concept of par value is important here. It is the minimum price, set by the company, at which shares can be sold initially. While common stockholders usually do not have a fixed dividend, dividends may increase as the company becomes more profitable, making it an attractive option for long-term investors.

Paid-In Capital

Paid-in capital refers to the amount of money shareholders have invested in the company through the purchase of its stock. It can be seen as the difference between the par value of the stock and the price investors actually paid. Paid-in capital is split into two categories: paid-in capital in excess of par and paid-in capital from the sale of treasury stock. For Heart and Saul Inc., the paid-in capital in excess of par is $110,000, representing the amount above par received for shares sold. Additionally, they have $42,000 from the sale of treasury stock. These amounts together total $152,000 as paid-in capital. This capital serves the corporation as additional funds raised from shareholders, beyond what was expected if the shares were sold at par value.

Retained Earnings

Retained earnings are the portion of a company's profits not paid out as dividends, but instead reinvested into the business or used to pay down debt. For Heart and Saul Inc., these accumulated profits amount to $3,178,000. Retained earnings are essential for a company's growth and long-term financial health. They can be used to finance new projects, expand operations, or increase reserves. Retained earnings reflect the company's historical profitability and often indicates its capacity to reinvest and expand without needing external funding. However, it's also a measure that shareholders look at to understand the potential dividends they might receive in the future. Healthy retained earnings typically signal a strong, profit-generating business.

Treasury Stock

Treasury stock is the portion of shares that a company keeps in its own treasury after being repurchased from shareholders. These shares have been bought back by the corporation and can be either retired or reissued. In the case of Heart and Saul Inc., they have reacquired 3,500 shares, holding a total value of $210,000. Treasury stock is often bought back to reduce the number of shares available on the market, potentially increasing the value of remaining shares or to prevent other shareholders from taking a controlling stake. These shares do not pay dividends, have no voting rights, and are not included in earnings per share calculations. Managing treasury stock allows a company flexibility in its capital strategy and can often be a sign of financial strength, assuming the company has enough cash reserves to make the buyback.