Problem 22 - Accounting

Question

Selected transactions completed by NuCraft Boating Supply Corporation during the current fiscal year are as follows: Mar. 5. Split the common stock 4 for 1 and reduced the par from \(\$ 100\) to \(\$ 25\) per share. After the split, there were 800,000 common shares outstanding. May 15. Declared semiannual dividends of \(\$ 2\) on 15,000 shares of preferred stock and \(\$ 0.12\) on the common stock to stockholders of record on June 14 , payable on July \(14 .\) July 14. Paid the cash dividends. Nov. 15. Declared semiannual dividends of \(\$ 2\) on the preferred stock and \(\$ 0.14\) on the common stock (before the stock dividend). In addition, a \(1 \%\) common stock dividend was declared on the common stock outstanding. The fair market value of the common stock is estimated at \(\$ 30\). Dec. 15. Paid the cash dividends and issued the certificates for the common stock dividend. Journalize the transactions.

Step-by-Step Solution

Answer

Record stock split, declare and pay dividends, and issue stock dividend as outlined.

Step 1: Adjust for Stock Split

The stock split changes the par value and the number of shares. Before the split, the par value of the stock was \\(100. Now, post-split, the par value is \\)25, and the number of shares has increased to 800,000. Record a memorandum entry since the stock split doesn't affect the financial accounts directly.

Step 2: Record Dividend Declaration (May)

For May 15, dividends on preferred and common stocks are declared. Preferred dividends: \(15,000 \times 2 = \\( 30,000\). Common dividends: \(800,000 \times 0.12 = \\) 96,000\). Record the entry by debiting 'Dividends' and crediting 'Dividends Payable':Debit Dividends \(\\( 126,000\)Credit Dividends Payable \(\\) 126,000\)

Step 3: Record Payment of Cash Dividends (July)

On July 14, the company pays the dividends declared. This requires debiting 'Dividends Payable' and crediting 'Cash'.Debit Dividends Payable \(\\( 126,000\)Credit Cash \(\\) 126,000\)

Step 4: Declare Semiannual Dividends and Stock Dividend (November)

On November 15, dividends are again declared. Preferred dividends remain the same at \(15,000 \times 2 = \\( 30,000\). Common dividends increase to \(800,000 \times 0.14 = \\) 112,000\). A 1% stock dividend on common stock equates to 8,000 shares (1% of 800,000). Record:Debit Dividends \(\\( 142,000\)Credit Dividends Payable \(\\) 142,000\)For the stock dividend:Debit Stock Dividends \(8,000 \times 30 = \\( 240,000\)Credit Common Stock Dividend Distributable \(8,000 \times 25 = \\) 200,000\)Credit Paid-in Capital in Excess of Par \(8,000 \times 5 = \$ 40,000\)

Step 5: Record Payment of Dividends and Stock Dividend Issuance (December)

On December 15, record the payment of cash dividends and issuance of stock certificates: For the cash dividends:Debit Dividends Payable \(\\( 142,000\)Credit Cash \(\\) 142,000\)For the stock dividends issuance:Debit Common Stock Dividend Distributable \(\\( 200,000\)Credit Common Stock \(\\) 200,000\)

Key Concepts

Stock Split

When a corporation like NuCraft Boating Supply decides to execute a stock split, it's done primarily to adjust the market price of its shares and make them more appealing to investors. In this particular case, the company executed a 4-for-1 stock split. This means each existing share was divided into four new shares. The par value, or nominal value, of the shares decreased from $100 to $25, but the overall market capitalization of the company remains unchanged. A stock split is a strategic move and does not directly affect the financial accounts, hence there is no impact on the balance sheet. Instead, a memorandum entry is usually made to reflect the new quantity of shares available for trade.

Dividend Declaration

Dividends are portions of a company’s earnings distributed to shareholders. NuCraft declared two types of dividends: cash dividends and stock dividends. A dividend declaration is the process whereby a company's board of directors authorizes the payment of these dividends. For cash dividends, the amount is specified per share. In May and November, NuCraft declared cash dividends for both preferred and common stock. Similar to cash dividends, stock dividends involve issuing new shares to shareholders as dividends. The issuance in November of a 1% stock dividend means additional shares were distributed equivalent to 1% of the shares already held. Both dividends reflect the company's profitability and its capacity to reward shareholders. They impact the company's financial statements by initially increasing the 'Dividends Payable' and later through actual dividend disbursement.

Journal Entries

Journal entries are key in accounting, providing a systematic way to record financial transactions. Each transaction declared by NuCraft needs to be recorded in the books with corresponding debits and credits:

• For the cash dividends declared, the entry involves debiting the 'Dividends' account and crediting 'Dividends Payable'.
• When the dividends are paid, the 'Dividends Payable' is debited and 'Cash' is credited.
• The same logic applies to stock dividends, where 'Stock Dividends' account is debited, and 'Common Stock Dividend Distributable' and 'Paid-in Capital in Excess of Par' are credited.

These entries ensure that the financial statements accurately reflect the firm's obligations and distributions to shareholders.

Preferred Stock

Preferred stock refers to a class of ownership in a corporation that has a higher claim on its assets and earnings than common stock. Dividends on preferred stock are usually fixed, as evidenced in NuCraft's case where dividends of $2 per share were declared. This means that preferred shareholders receive their dividends before common shareholders and are prioritized in the event of liquidation. However, preferred stock typically does not carry voting rights. For investors, preferred stock is often a blend of bond-like stability with the potential for equity upside, especially attractive during uncertain market conditions. In NuCraft’s transaction history, the preferred stock dividends are consistently accounted for separately from the common stock dividends.

Common Stock Dividend

Common stock dividends represent company earnings paid to shareholders, reflecting profitability and financial health. Unlike preferred stock dividends, common dividends can fluctuate, as seen with NuCraft where payments increased from $0.12 to $0.14 per share over the fiscal year. Additionally, common shareholders possess voting rights and capital appreciation potential. However, their dividends are typically paid out after the preferred shareholders. Common stock dividends declared must be recorded in financial statements, impacting both 'Dividends' accounts and, upon payment, 'Cash' accounts. The decision to issue a stock dividend also showcases the company’s growth strategy, distributing equity in lieu of cash, and providing existing shareholders with additional value.