Question

FULL SCEN PRINTER VERSION 4 BACK NE Problem 14-1A The condensed balance sheet of Ivanhoe Corporation reports the following: IVANHOE CORPORATION Balance Sheet (partial) June 30, 2017 Total assets $12,840,000 Liabilities and shareholders' equity Total liabilities $3,586,000 Shareholders' equity Common shares, unlimited number authorized, 383,000 issued 2,298,000 Retained earnings 6,956,000 Total shareholders' equity 9,254,000 Total liabilities and shareholders' equity $12,840,000 The market price of the common shares is currently $36 per share. Ivanhoe wants to assess the impact of three possible alternatives on the corporation and its shareholders. The alternatives are: 1. Payment of a $1.33 per share cash dividend 2. Distribution of a 5% stock dividend 3. A 3-for-1 stock split

Answer 1

Items (1) Assets (2) Liabilities (3) Common Shares (4) Retained Earnings (5) Total Shareholders' Equity (6) Number of Shares Cash Dividend -$509,390 Decreased $0 No Effect $0 No Effect $509,390 Decreased -$509,390 Decreased 0 No Effect Stock Dividend $0 No Effect $0 No Effect $114,900 Increased -$689,400 Decreased $0 No Effect 19,150 Increased 3-for-1 Stock Split $0 No Effect $0 No Effect $0 No Effect $0 No Effect $0 No Effect 766,000 Increased Explanation on Cash Dividend: When firm declares cash dividends, firm must pay cash to shareholders calculated by multiplying number of common shares outstanding as on the date of cash dividend declared by cash dividend per share. That is, here, 383,000 shares x $1.33 = $509,390 will be paid to shareholders. As a result, firm's cash (asset) will decrease. On the other side, retained earnings will decreasee by the same amount, resulting total shareholders' equity also to decrease by same amount. I will not have any impact on firm's liabilities or common shares or number of shares outstanding.

Explanation on Stock Dividend: Stock dividend refers to dividends declared by firm to existing shareholders instead of declaring cash dividends by the firm. The main objective of declaring stock dividend is that the shareholders will be happy that they've received some return on their equity investment in firm's share capital though not received by cash. When shareholders receive such stock dividend, they may not be benefited by just receiving it but will be benefited in future when firm declares dividends on total shares including shares alloted via stock dividend. Shareholders will enjoy more proceeds by selling more number of shares in future if they need cash by selling their original number of shares along with number of shares allotted to them through stock dividends. While calculating amount of stock dividends, share price as at date of stock dividend shall be taken as share price. That is, market price per share at the time of distributing the stock dividend shall be taken into account for calculating amount of retained earnings required to declare such stock dividend. To the extent of par value of stock dividends shall be credited to common stock account. Difference between market price and par value of stock dividend shall be credited to additional-'-paid-in-capital in excess of par account. Total value of stock dividend shall be debited to retained earnings account. As a result, balance in retained earnings account will be decreased by market value of stock dividend declared. On the other hand, balance in common stock account will be increased by par value of stock dividend. Simultaneously, balance in paid-'-in-capital in excess of par account will be increased by difference between market value and par value of stock dividend. As a result, though stock dividend will decrease retained earnings by market value of stocks issued as dividends, equity will increase by same amount on the other hand. So, net effect of stock dividend will be zero on total shareholders' equity. In simple words, decrease in retained earnings will be set off by increase in shareholders' equity by same value, resulting no change in total shreholders' equity.

Number of common stocks outstanding before stock dividend Stock dividend percentage Number of common shares issued as stock dividend Market price per share as on date of stock dividend declared Market value of stock dividends declared 383,000 5% 19,150 (383000 x 5%] $36 $689,400 [19150 shares x $36] Increase in common shares from stock dividend Additional paid-in-capital from stock dividend Market value of stock dividends declared $114,900 [19150 shares x ($2,298,000/383000 shares)] $574,500 [$689400 - $114900] $689,400 --> Retained earnings will decrease but total SHs equity will increase. After the stock dividend, number of stocks outstanding will be increased by number of stocks issued for the stock dividend but total stockholders' equity will remain same though retained earnings, common stock and additional paid in capital will be affected. Number of shares outstanding before stock dividend 383,000 Increase in number of common shares issued on stock dividend 19,150 Number of shares outstanding after stock dividend 402,150 [383000 + 19150] Explanation on 3-for-1 stock split: Stock split refers to splitting number of shares outstanding into more by offering number of shares for each share held as outstanding. 3-for-1 stock split refers to splitting every existing outstanding number of share into 3 shares. It would increase outstanding # of shares by 2 times more than the exting number of shares that are outstanding so as to reach the ending figure of 3 shares for every one share held as outstanding before stock split. Therefore, it will result in increase in number of shares outstanding. So, number of shares outstanding after stock split will become 1,149,000 from 383,000 because every one share will become 3 shares after the stock split. It increases number of shares outstanding by 766,000 shares. However, none of the figures reported under stockholders' equity will be affected due to stock split though number of shares that are outstanding will be increased and per share value will be decreased.