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CHAPTER 11
Contributed Capital

PLANNING MATRIX
Enhancing Your
Building Your Basic Knowledge Knowledge, Skills, and
Learning Objective and Skills Critical Thinking
1. Identify and explain the SE 1, 2, 4, E 1, 3, 7, 8 P 1, 2, 3, 4, C1
management issues related to 6 5, 6, 7, 8, C6
contributed capital. 9, 10 C7
C8
C9
C 10
C 11
2. Identify the components of SE 3, 5 E 1, 4, 5, 6 P 1, 3, 4, 6, C6
stockholders’ equity. 8, 9 C9

3. Identify the characteristics of SE 7 E 2, 5, 9, 10 P 2, 3, 4, 7, C2

preferred stock. 8,9 C5
C9
4. Account for the issuance of stock SE 8, 9 E 2, 6, 11, P 1, 3, 4, 6, C4
for cash and other assets. 12 8, 9 C9
5. Account for treasury stock. SE 10, 11 E 2, 8, 13, P 1, 3, 4, 5, C3
14 6, 8, 9, 10 C7
C8
C9
C 10
MEMORANDA:
SE: Short Exercises
E: Exercises
P: Problems (Each problem has a User Insight question.)
All questions are in the text with related Learning Objectives (Stop, Think, and Apply).

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148 Chapter 11: Contributed Capital

SUGGESTED INSTRUCTIONAL STRATEGY

Output Skills Developed:
Technical, Communication

Related Learning Objectives:

1, 2

Instructional Strategy
Learning activity: Case study analysis, simulation, group work
Learning environment: Active, in-class and out-of-class
Learning tool: Textbook assignment Case 4

Steps to Implement
1. Form small groups.
2. Assign one financing alternative to each group.
3. Ask groups to meet between classes to analyze the financial impact of their assigned alternative
on the company and to consider its pros and cons. Instruct each group to prepare a board of
directors’ report that presents its analysis with the pros and cons.
4. In class, select representatives of the various groups to act as management, presenting and
defending their group’s alternative to the board. The “board” is played by the rest of the class. The
instructor may want to meet with the presenters to assist them in preparing their presentations.
Presenters should be encouraged to develop visuals to illustrate the financial effects of the
alternatives.
5. Have the class (board) vote on the best alternative. Discuss the results.
6. The following list summarizes an effective means of managing the groups for this class project:
a. Allow time in class for students to get acquainted and set a future meeting(s) schedule.
b. Tell group members to establish operating ground rules up front (e.g., all group members are
expected to show up at scheduled meetings on time). Sign a contract agreeing to rules.
c. Provide guidelines for conflict resolution.
d. Since the learning activity occurs over more than one week, provide a suggested timetable
for planning purposes.
e. Be clear on evaluation criteria.
f. Give students a brief handout on preparation of visuals and effective presentation skills.
g. Monitor and obtain feedback from students about the group experience.

Assessment
Technical skills: Grade the group written assignments for computational and technical accuracy and for
the strength of the arguments.
Communication skills: Grade the written group assignments for form and style as a good business
communication. Award bonus points to the students who presented the alternatives to the board.

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 Chapter 11: Contributed Capital 149

RESOURCE MATERIALS AND OUTLINES

OBJECTIVE 1: Identify and explain the management issues related to contributed capital.
Summary Statement
As previously discussed, a corporation is a business organization authorized by the state (through a
corporate charter) to conduct business and is a separate legal entity from its owners. It is the dominant
form of American business because it makes possible the accumulation of large quantities of capital.
An initial public offering (IPO) is a corporation's first-time issuance of stock to the public. A share of
stock represents ownership in the corporation.
Contributed capital is an integral part of the financing of a corporation. The major features of managing
contributed capital are management under the corporate form of business, using equity financing,
determining dividend policies, evaluating business performance based on return on equity, and using
stock options as compensation.
The corporate form of business has several advantages over the sole proprietorship and the partnership:
separate legal entity, limited liability of owners, ease of capital generation, ease of transfer of
ownership, lack of mutual agency, continuous existence, centralized authority and responsibility, and
professional management.
The corporate form of business also has several distinct disadvantages compared with the sole
proprietorship and the partnership: government regulation, double taxation, difficulty in raising funds
because of limited liability of owners, and separation of ownership and control.
Ownership in a corporation is shown by documents called stock certificates. The owners are the firm’s
stockholders. A stockholder sells stock by endorsing the stock certificate and sending it to the
corporation’s secretary or transfer agent. The secretary or transfer agent is responsible for transferring
the corporation’s stock, maintaining stockholders’ records, preparing a list of stockholders for
stockholders’ meetings, and paying dividends.
Par value is an arbitrary amount assigned to each share and is the legal value of a share of stock. Legal
capital equals the number of shares issued times the par value; it is the minimum amount that can be
reported as contributed capital.
Corporations often hire an underwriter, an intermediary between the corporation and the investing
public, to help in the initial issue of stock.
The costs of forming a corporation (such as attorneys’ fees and incorporation fees) are called start-up
and organization costs. These costs typically are expensed when incurred.
A dividend is a distribution among stockholders of the assets that a corporation’s earnings have
generated. These assets are normally distributed in cash.
Dividends can be paid quarterly, semiannually, annually, or at other times as declared by the board of
directors. A dividend that exceeds retained earnings is not allowed in most states. When such a
dividend is declared, it is called a liquidating dividend and is usually paid when a company is going out
of business or reducing its operations.
Dividends are declared on the declaration date, specifying that the owners of the stock on the record
date will receive the dividends on the date of payment.
When cash dividends are declared, the Cash Dividends Declared account is debited and Cash Dividends
Payable is credited; when they are paid, Cash Dividends Payable is debited and Cash is credited. The
Cash Dividends Declared account is closed to Retained Earnings at the end of the period. No journal

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150 Chapter 11: Contributed Capital

entry is made on the record date. After the record date, stock is sold ex-dividend (without dividend
rights).
The current return to stockholders in the form of dividends is measured with the ratio dividends yield. It
is computed by dividing the dividends per share by the market price per share.
The return on equity is a ratio that measures management performance by dividing net income by
average stockholders’ equity. It is used to evaluate companies and even to determine top executives’
compensation.
Management can reduce the number of shares in public hands by buying back shares on the open
market. The cost of these shares, which are known as treasury stock, reduces stockholders' equity and
increases return on equity.
The price/earnings (P/E) ratio, a measure of investors’ confidence in a company’s future, is calculated
by dividing the market price per share by the earnings per share.
Stock option plans are agreements whereby employees may purchase a specified quantity of the
company’s stock at a fixed price for a stated period. If only certain employees (usually management)
are eligible for this benefit, the plan is said to be compensatory. The amount of compensation equals the
market price on the date the option is granted minus the option price. The amount in excess of the
exercise price must be either recorded as compensation expense over the grant period or reported in the
notes to the financial statements.

New Concepts and Terminology

Articles of incorporation; share of stock; dividend; double taxation; stock certificate; par value; legal
capital; underwriter; start-up and organization costs; liquidating dividend; declaration date; record
date; ex-dividend; payment date; treasury stock; stock option plans

Key Ratios
dividends yield; return on equity; price/earnings (P/E) ratio

Related Text Illustrations

Figure 1: The Corporate Organization
Figure 2: Dividend Dates
Figure 3: Stock Quotations on the NASDAQ
Focus on Business Practice: Politics and Accounting Don’t Mix

Lecture Outline
I. A corporation is a business organization authorized by the state and considered a separate legal
entity from its owners.
A. Articles of incorporation form the company charter.
B. Share of stock is unit of ownership.
C. Board of directors decide major business policies.
D. Dividends are distributions of resources to stockholders.
E. Corporate officers are appointed by the board of directors.
II. Advantages and disadvantages of corporate form of business
A. Advantages to the corporate form of business.
1. Separate legal entity
2. Limited liability of owners
3. Ease of capital generation

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 Chapter 11: Contributed Capital 151

4. Ease of transfer of ownership

5. Lack of mutual agency
6. Continuous existence
7. Centralized authority and responsibility
8. Professional management
B. Disadvantages to the corporate form of business.
1. Government regulation
2. Double taxation
3. Limited liability of owners
4. Separation of ownership and control
III. Equity Financing
A. Par value is an arbitrary amount assigned to each share of stock; legal capital equals the
number of shares issued times the par value.
B. In IPOs, stock is generally issued through an underwriter.
C. Start-up and organization costs consist of all costs of forming a corporation.
D. Start-up and organization costs usually are expensed when incurred.
IV. Dividend policies
A. Stockholders can earn a return on their investment in one of two ways.
1. Through dividends paid by the corporation
2. By selling their shares of stock for more than they paid for them
B. The board of directors has sole authority to declare dividends.
1. Dividend policies are usually influenced by top management.
2. Dividends are usually paid when a company has experienced profitable operations;
however, two other considerations will affect the decision to make dividend payments.
a. The expected volatility of earnings
b. The level of cash flows
3. Dividends can be paid quarterly, semiannually, annually, or as decided by the board of
directors.
4. A liquidating dividend is the return of contributed capital to the stockholders and is
normally paid when a company is going out of business or reducing operations.
C. There are three dates associated with a cash dividend.
1. Declaration date
2. Record date
3. Date of payment
D. Stock sold after the date of record is sold ex-dividend.
E. Common ratios
A. Dividends yield
B. Return on equity
C. Price/earnings ratio
V. The return on equity ratio is the most important ratio associated with stockholders’ equity.
A. The return on equity ratio is affected by the following:
1. The amount of net income the company earns
2. The company’s level of average stockholders’ equity
B. Stockholders’ equity is affected by management decisions.
1. How much stock a company sells to the public
2. How many shares the company buys back on the open market (reducing the number of
shares held by the public), known as treasury stock

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152 Chapter 11: Contributed Capital

VI. A stock option plan gives corporate employees the right to purchase stock in a certain quantity
and at a certain price.
A. Most plans are intended to compensate employees (usually management).
B. The amount of compensation equals the market price on the date the option is granted minus
the option price.

Teaching Strategy
Write “Advantages” and “Disadvantages” (of the corporate form of business) on the board, and ask
students to give examples of each. Be sure students say why an item is an advantage or a disadvantage.
Note that limited liability is both an advantage and a disadvantage.
Explain what costs are included in the start-up and organization costs account, and either make up some
facts for a journal entry or refer students to the entry in the text.
Case 1 deals with the reasons for issuing common stock. Short Exercise 3 pertains to start-up and
organization costs.
Explain declaration date, record date, ex-dividend, and date of payment.
Compare a cash dividend paid to a stockholder with a cash withdrawal made by a sole proprietor. One
difference is that usually no payable is set up for the sole proprietor. Emphasize that the Cash Dividends
Declared account must be closed, just as the Withdrawals account must be.
Short Exercise 6 and Exercises 7 and 8 pertain to cash dividends.
Use Short Exercise 4 to show the journal entry when a stock option is exercised. Explain that the
journal entry when the option is exercised would have been the same even if the option price had been
less than the market price on the option-granting date.
Note that the journal entry for the compensation at the option-granting date is covered in more
advanced courses.

OBJECTIVE 2: Identify the components of stockholders’ equity.

Summary Statement
A corporation’s balance sheet contains assets, liabilities, and a stockholders’ equity section.
Stockholders’ equity is made up of contributed capital (the stockholders’ investment) and retained
earnings (earnings that have remained in the business).
When only one type of stock is issued by a corporation, it is called common stock. Because common
stockholders’ claim to assets in case of liquidation ranks behind that of creditors and preferred
stockholders, common stock is considered the residual equity of a corporation.
The second kind of stock a company can issue is preferred stock. Preferred stock has preference over
common stock in one or more areas. The maximum number of shares that can be issued is stipulated in
the corporation's state charter. This maximum amount is known as the authorized shares. The shares sold
or otherwise transferred to stockholders are the issued shares of a corporation. Shares that have been
issued to stockholders and remain in circulation, having been neither bought back by the corporation
nor given back by the stockholder, are called outstanding shares. Treasury stock consists of shares
bought back and being held by the corporation.

New Concepts and Terminology

common stock; residual equity; preferred stock; authorized shares; issued shares; outstanding shares

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 Chapter 11: Contributed Capital 153

Related Text Illustrations

Exhibit 1: Stockholders’ Equity Section of a Balance Sheet
Focus on Business Practice: Are You a First-Class or Second-Class Stockholder?
Figure 4: Relationship of Authorized Shares to Unissued, Issued, Outstanding, and Treasury Shares

Lecture Outline
I. Stockholders’ equity is composed of contributed capital and retained earnings.
II. When only one type of stock is issued, it is called common stock.
III. The second kind of stock a company can issue is preferred stock.
IV. Authorized shares are the maximum number of shares the corporation is allowed to issue
according to its state charter.
V. Issued shares represent the number of shares sold or otherwise transferred to stockholders.
VI. Outstanding shares are shares that have been issued and are still held by stockholders.

Teaching Strategy
Show students the balance sheet that follows. Then conceal the asset part while discussing the
components of stockholders’ equity. Each time a new account is introduced, show this balance sheet
and locate the new account with the students. At this point, do not go into detail about each account;
simply emphasize that there are two major categories—contributed capital and retained earnings. Show
how the credit to capital is specifically stated when an owner contributes to (buys stock in) a
corporation. (Short Exercise 5 is a good illustration.) Case 6 deals with stockholders’ equity.

Balance Sheet
Corporation Name
12/31/x1
Current Assets Current Liabilities
Cash Notes Payable
Marketable Securities Accounts Payable
Notes Receivable Salaries Payable
Accounts Receivable Dividends Payable
Subscriptions Receivable
Inventory Total Current Liabilities
Prepaid Expenses
Long-Term Liabilities
Total Current Assets Bonds Payable

Total Liabilities
Property, Plant, and Equipment
Land Stockholders’ Equity
Building
Less Accumulated Depreciation Contributed Capital
Equipment Preferred Stock
Less Accumulated Depreciation Common Stock
Common Stock Distributable
Total Property, Plant, and Equipment Additional Paid-in Capital

Total Contributed Capital

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154 Chapter 11: Contributed Capital

Intangible Assets
Trademarks Retained Earnings
Patents Total Contributed Capital and
Retained Earnings
Goodwill Less Treasury Stock

Total Intangible Assets Total Stockholders’ Equity

Total Assets Total Liabilities and Stockholders’ Equity

OBJECTIVE 3: Identify the characteristics of preferred stock.

Summary Statement
Holders of preferred stock are given preference over common shareholders when dividends (and
liquidating dividends) are declared; that is, the holders of preferred shares must receive a certain
amount of dividends before the holders of common shares can receive dividends. This dividend is a
specific dollar amount or percentage of par value. Preferred stockholders receive their dividends before
common stockholders receive anything. Once preferred stockholders have received the annual
dividends to which they are entitled, however, common stockholders generally receive the remainder.
At times, preferred stockholders do not receive the full amount of their annual dividends. When the
stock is noncumulative preferred stock, unpaid dividends are not carried over to the next period. When
the stock is cumulative preferred stock, the unpaid amount is carried over to the next year. Unpaid
“back dividends” are called dividends in arrears and should be disclosed either on the balance sheet or
in a note.
When a dividend is declared by the board of directors, Cash Dividends Declared is debited and Cash
Dividends Payable is credited.
An owner of convertible preferred stock has the option to exchange each share of preferred stock for a
set number of shares of common stock.
Most preferred stocks are callable preferred stock, meaning that the corporation has the right to buy the
stock back for cancellation at a specified call or redemption price. Holders of convertible preferred
stock can choose instead to convert it to common stock.

New Concepts and Terminology

noncumulative preferred stock; cumulative preferred stock; dividends in arrears; convertible preferred
stock; callable preferred stock

Related Text Illustration

Focus on Business Practice: How Does a Stock Become a Debt?

Lecture Outline
I. Compute the distribution of dividends to common and preferred shareholders, assuming the
different features of preferred stock.
II. Dividends in arrears are unpaid “back dividends” on cumulative preferred stock.
III. Journalize the declaration of a dividend.
IV. Convertible preferred stock can be exchanged for common stock at a predetermined ratio.
V. Callable preferred stock can be redeemed or retired at the option of the issuing corporation.

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 Chapter 11: Contributed Capital 155

Teaching Strategy
Explain preferred stock as stock that has preference over common stock when dividends are paid and
when assets are distributed if the corporation is liquidated. Note that preferred stock usually has no
voting rights.
List the following and explain each characteristic:
Characteristics of preferred stock
Cumulative—stockholder’s advantage
Noncumulative—corporation’s advantage
Convertible—stockholder’s advantage
Callable—corporation’s advantage
Refer back to the terms cumulative and noncumulative. Use Short Exercise 7 and Exercises 9 and 10 to
show the effect of each. Use or assign Case 4 to illustrate issuing stock.

OBJECTIVE 4: Account for the issuance of stock for cash and other assets.
Summary Statement
Par value is the legal value established for a share of stock. Capital stock (common or preferred) may or
may not have a par value, depending on the specifications in the charter. When par value stock is
issued, the Capital Stock account is credited for the legal capital (par value), and any excess is recorded
as Paid-in Capital in Excess of Par Value. In the stockholders’ equity section of the balance sheet, the
entire amount is labeled Total Contributed Capital.
No-par stock is stock for which par value has not been established; it may be issued with or without a
stated value. Stated value (which is established by the board of directors) constitutes the legal capital
for a share of no-par stock. The total stated value is recorded in the Capital Stock account. Any amount
received in excess of the stated value is recorded as Additional Paid-in Capital. If no stated value is set,
however, the entire amount received constitutes legal capital and is credited to Capital Stock.
When stock is issued in exchange for assets or for services rendered, the stock should be recorded at the
fair market value of the assets or services, unless the fair market value of the stock is more easily
determined.
The following journal entries are introduced in this learning objective:
Cash XX (amount invested)
Common Stock XX (legal capital amount)
Additional Paid-in Capital XX (excess of par)
Issued par value common stock for amount in excess
of par value

Cash XX (amount invested)

Common Stock XX (legal capital amount)
Issued no-par common stock (no stated value established)

Cash XX (amount invested)

Common Stock XX (legal capital amount)
Additional Paid-in Capital XX (excess of stated value)
Issued no-par common stock with stated value for
amount in excess of stated value

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156 Chapter 11: Contributed Capital

Start-Up and Organization Expense XX (fair market value of services)

Common Stock XX (par value)
Additional Paid-in Capital XX (excess of par)
Issued par value common stock for attorney's services

Land XX (fair market value of stock)

Common Stock XX (par value)
Additional Paid-in Capital XX (excess of par)
Issued par value common stock with a market value
in excess of par value for a piece of land

New Concepts and Terminology

no-par stock; stated value

Lecture Outline
I. Common and preferred stock may or may not have a par value.
A. Journalize the issuance of par value stock at greater than par value.
II. No-par stock may be issued with or without a stated value.
A. Journalize the issuance of no-par stock with a stated value.
B. Journalize the issuance of no-par stock with no stated value.
III. Journalize the issuance of stock in exchange for assets or services.

Teaching Strategy
Remind students of the journal entry used when a sole proprietor contributed cash or other assets to a
company. Generally, an asset account is debited and an equity account is credited.
Show the balance sheet used in Objective 2 so that students can see the number of choices for the equity
account to be credited.
Explain par value and stated value and how they limit the dollar amount to credit the stock accounts.
Use Short Exercise 8 and Exercise 11 to demonstrate the issuance of stock.
When stock is issued for noncash assets, students have difficulty understanding the amount to debit the
noncash asset the corporation receives. The misunderstanding seems to arise because the amount is the
fair market value of what is given up if the fair market value is known. If it is not known, then the
amount of the debit is the fair market value of what is received. Show the following chart:
Noncash Asset Amount to Debit the
Received Stock Issued Asset Received
Fair Market Value (FMV) unknown FMV known FMV of stock
FMV known FMV unknown FMV of asset

Use Short Exercise 9 and Exercise 12 to demonstrate the issuance of stock for noncash assets.

OBJECTIVE 5: Account for treasury stock.

Summary Statement
A company's treasury stock, as explained earlier, comprises common or preferred shares that are issued
but no longer outstanding. Treasury stock may be purchased for a variety of reasons: (1) to distribute to

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 Chapter 11: Contributed Capital 157

employees through stock option plans, (2) to maintain a favorable market for the company’s stock, (3)
to increase earnings per share, (4) to use in purchasing other companies, and (5) to prevent a hostile
takeover of the company.
Treasury stock can be held indefinitely, reissued, or retired; it has no rights until it is reissued. Treasury
stock appears on the balance sheet as the last item in the stockholders’ equity section, as a deduction.
When treasury stock is purchased, Treasury Stock, Common is debited for the purchase cost. The stock
may be reissued at cost, above cost, or below cost. When cash received from reissuance exceeds the
cost, the difference is credited to Paid-in Capital, Treasury Stock. When cash received from reissuance
is less than the cost, Paid-in Capital, Treasury Stock (and Retained Earnings, if needed) is debited for
the difference. In no instance should a gain or loss account be established.
When treasury stock is retired, all the contributed capital associated with the retired shares must be
removed from the accounts. When less was paid on reacquisition than was contributed originally, the
difference is credited to Paid-in Capital, Retirement of Stock. When more is paid, the difference is
debited to Retained Earnings.
The following journal entries are introduced in this learning objective:
Treasury Stock, Common XX (cost)
Cash XX (amount paid)
Acquired shares of the company’s common stock

Cash XX (resale price)

Treasury Stock—Common XX (cost)
Reissued shares of treasury stock at cost

Cash XX (resale price)

Treasury Stock—Common XX (cost)
Paid-in Capital, Treasury Stock XX (“gain”)
Sold shares of treasury stock at above cost

Treasury Stock—Common XX (cost)

Cash XX (amount paid)
Purchased shares of treasury stock

Cash XX (resale price)

Treasury Stock—Common XX (cost)
Paid-in Capital, Treasury Stock XX (“gain”)
Sold shares of treasury stock at above cost

Cash XX (resale price)

Paid-in Capital—Treasury Stock XX (“loss”)
Retained Earnings XX (“loss”)
Treasury Stock—Common XX (cost)
Sold shares of treasury stock at below cost

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158 Chapter 11: Contributed Capital

Common Stock XX (par value)

Additional Paid-in Capital XX (excess of par)
Retained Earnings XX (premium paid)
Treasury Stock—Common XX (cost)
Retired treasury stock; cost exceeded original
investment amount

If the above treasury stock had been retired for an amount less than the original investment amount,
then instead of Retained Earnings being debited for the excess paid, Paid-in Capital, Retirement of
Stock would be credited for the difference.

Related Text Illustration

Focus on Business Practice: When Are Share Buybacks Really Good?

Lecture Outline
I. Treasury stock is issued stock that the issuing corporation has reacquired for any of the following
reasons:
A. To use for stock option plans
B. To maintain a favorable market for the company’s stock
C. To increase earnings per share
D. To use to purchase other companies
E. To prevent a hostile takeover of the company
II. Treasury stock is the last item (a deduction) in the stockholders’ equity section of the balance
sheet.
A. Journalize the purchase of treasury stock.
B. Journalize the reissuance of treasury stock (at cost, above cost, and below cost).
C. Gains and losses are not recognized on treasury stock transactions.
III. When stock is retired, all the contributed capital associated with it must be removed from the
accounts.
A. Journalize the retirement of stock at the original issue price.
B. Journalize the retirement of stock at less than the original issue price.
C. Journalize the retirement of stock at greater than the original issue price.

Teaching Strategy
To place treasury stock in perspective, show the balance sheet from Objective 2. After explaining why a
company purchases its stock, if time permits and if students need the visual presentation, write out the
journal entries as follows:
Purchase: Treasury Stock at cost
Cash at cost

Reissue at cost: Cash at cost, which equals reissue price

Treasury Stock

Reissue at more than cost: Cash at reissue price

Treasury Stock at cost
Paid-in Capital, Treasury Stock

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 Chapter 11: Contributed Capital 159

Reissue at less than cost: Cash at reissue price

Paid-in Capital, Treasury Stock if there is a
credit balance in the account large enough to
accommodate the debit needed to balance the
journal entry.
Retained Earnings if the credit balance in Paid-
in Capital, Treasury Stock is not large enough
to accommodate the debit balance needed to
balance the journal entry.
Treasury Stock at cost

Work Short Exercises 10 and 11 and Exercises 13 and 14 for practice. Exercise 14 includes the
retirement of treasury stock. Use Case 2 to illustrate the purposes of treasury stock or Case 10 as a
group activity on the decision to buy treasury stock or issue a dividend

REVIEW QUIZ

True-False
1. T F Return on equity equals dividends per share divided by stockholders’ equity.
2. T F Stockholders’ liability extends to their personal assets.
3. T F The costs of organizing a corporation are normally recorded as an asset and amortized
over the early years of a corporation’s life.
4. T F A corporation would be bound by a contract entered into by one of its stockholders.
5. T F The board of directors is directly responsible for appointing the corporate officers.
6. T F No journal entry is required on the date of declaration of a cash dividend.
7. T F Corporate income is subject to taxation both when earned and when distributed as
dividends.

Multiple Choice
8. Which of the following classifications represents the fewest shares of stock?
a. Unissued shares
b. Outstanding shares
c. Treasury shares
d. Issued shares
e. More information needed

9. Dividends in arrears should be disclosed

a. on the balance sheet as a current liability.
b. in the body of the financial statements or as a footnote.
c. as a contra account within stockholders’ equity.
d. on the balance sheet as a long-term liability.
e. on the income statement as an expense.

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160 Chapter 11: Contributed Capital

10. Which of the following statements is true about stock option plans?
a. They apply to all employees equally.
b. Compensation expense may be recorded only if the fair value of the options is less than the
exercise price on the grant date.
c. The issued stock is recorded at the market price, not the exercise price.
d. Compensation is measured on the date the stock is issued.
e. Compensation expense may be recorded only if the exercise price is less than the fair value
of the options on the grant date.

11. Treasury stock is disclosed in the financial statements

a. as an asset.
b. within stockholders’ equity, as an addition.
c. within stockholders’ equity, as a deduction.
d. as a contra-asset account.
e. as a footnote.

12. Par value

a. is the legal capital established for a share of stock.
b. represents what a share of stock is worth.
c. can exist for preferred stock but not for common stock.
d. represents the original selling price for a share of stock.
e. is established for a share of stock after it is issued.

13. Preferred stock is least likely to have which of the following characteristics?
a. The right of the corporation to redeem or retire the stock
b. Preference as to dividends
c. The right of the holder to convert to common stock
d. The right of the holder to vote at stockholders’ meetings
e. Preference as to assets upon liquidation of the corporation

14. A corporation has 100,000 shares of 7 percent cumulative preferred stock and 40,000 shares of
common stock outstanding. Par value for each is $10. No dividends were paid last year, but this
year a $150,000 dividend is paid. How much of this $150,000 goes to the holders of preferred
stock?
a. $10,000
b. $70,000
c. $80,000
d. $110,000
e. $140,000

15. Assume the same facts as in Question 14, except that the preferred stock is noncumulative. How
much of the $150,000 now goes to the holders of common stock?
a. $10,000
b. $70,000
c. $80,000
d. $110,000
e. $140,000

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
 Chapter 11: Contributed Capital 161

16. The contributed capital portion of stockholders’ equity does not include
a. Preferred Stock.
b. Retained Earnings.
c. Common Stock.
d. Additional Paid-in Capital
e. Paid-in Capital, Treasury Stock

17. A company purchases 300 shares of its $100 par value stock at $110 per share. It then reissues 50
shares at $115 per share. The entry upon reissuance of the stock would include a
a. debit to Retained Earnings for $250.
b. credit to Cash for $5,750.
c. credit to Treasury Stock for $5,750.
d. credit to Paid-in Capital, Treasury Stock for $250.
e. credit to Retained Earnings for $750.

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
162 Chapter 11: Contributed Capital

ANSWERS TO REVIEW QUIZ

True-False Multiple Choice

1. F 8. e
2. F 9. b
3. F 10. e
4. F 11. c
5. T 12. a
6. F 13. d
7. T 14. e
15. c
16. b
17. d

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.