On January 1, 2017, Agassi Corporation had the following stockholders’ equity accounts.

Common Stock (\(10 par value, 60,000 shares issued and outstanding) \)600,000

Paid-in Capital in Excess of Par—Common Stock 500,000

Retained Earnings 620,000

During 2017, the following transactions occurred.

Jan. 15 Declared and paid a \(1.05 cash dividend per share to stockholders

Apr. 15 Declared and paid a 10% stock dividend. The market price of the

stock was \)14 per share.

May 15 Reacquired 2,000 common shares at a market price of \(15 per share.

Nov. 15 Reissued 1,000 shares held in treasury at a price of \)18 per share.

Dec. 31 Determined that net income for the year was $370,000.

Accounting

Journalize the above transactions. (Include entries to close net income to Retained Earnings.) Determine the ending balances for Paid-in Capital, Retained Earnings, and Stockholders’ Equity.

Analysis

Calculate the payout ratio and the return on common stockholders’ equity.

Principles

R. Federer is examining Agassi’s financial statements and wonders whether the “gains” or “losses” on Agassi’s treasury stock transactions should be included in income for the year. Briefly explain whether and the conceptual reasons why gains or losses on treasury stock transactions should be recorded in income.

Shareholders' equity (SE), also known as shareholders' value, both have the same meaning. The term refers to the sum of the value that the owners of a corporation

have left after paying off liabilities or debts. Equity basically refers to the difference between the total resources and total obligations of a company

Working Notes:

Calculation of Retained Earnings

$\begin{array}{rcl}\mathrm{Retained}\mathrm{Earnings}& =& \mathrm{Common}\mathrm{stock}\mathrm{share}\times \mathrm{cash}\mathrm{dividend}\mathrm{price}\\ & =& 60,000\times \$1.05\\ & =& 63,000\end{array}$

Working Notes:

Calculation of Retained Earnings

$\begin{array}{rcl}\mathrm{Retained}\mathrm{Earnings}& =& \left(\mathrm{Dividend}\mathrm{Rate}\times \mathrm{Common}\mathrm{stock}\mathrm{share}\right)\times \mathrm{market}\mathrm{price}\mathrm{od}\mathrm{share}\\ & =& \left(10\%\times 60,000\right)\times \$14\\ & =& 84,000\end{array}$

Working Notes:

Calculation of Treasury Shares

$\begin{array}{rcl}\mathrm{Treasury}\mathrm{Shares}& =& \mathrm{Required}\mathrm{share}\times \mathrm{market}\mathrm{price}\mathrm{per}\mathrm{share}\\ & =& 2000\times \$15\\ & =& 30,000\end{array}$

Working Notes:

Calculation of Cash amount

$\begin{array}{rcl}\mathrm{Cash}\mathrm{amount}& =& \mathrm{Shares}\times \mathrm{per}\mathrm{shares}\mathrm{value}\\ & =& 1,000\times \$18\\ & =& 18,000\end{array}$

Working Notes:

Calculation of Share capital amount

$\begin{array}{rcl}\mathrm{Share}\mathrm{capital}& =& \mathrm{Common}\mathrm{stock}+\mathrm{outstanding}\mathrm{shres}\\ & =& \$600,000+\$60,000\\ & =& \$660,000\end{array}$

Calculation of Share premium amount

$\begin{array}{rcl}\mathrm{Share}\mathrm{premium}& =& \mathrm{Paid}-\mathrm{in}\mathrm{capital}\mathrm{in}\mathrm{excess}\mathrm{of}\mathrm{par}+\mathrm{Share}\mathrm{premium}\mathrm{ordinary}+\mathrm{Share}\mathrm{premium}\mathrm{treasury}\\ & =& \$500,000+24,000+3,000\\ & =& \$527,000\\ & & \end{array}$

Calculation of Retained Earnings

$\begin{array}{rcl}\mathrm{Retained}\mathrm{Earnings}\mathrm{Amount}& =& (\mathrm{Cjhange}\mathrm{in}\mathrm{the}\mathrm{value}\mathrm{of}\mathrm{retained}\mathrm{eaarnings})+\mathrm{met}\mathrm{income}\\ & =& (\$620,000-\$63,000-\$84,000)+370,000\\ & =& \$843,000\end{array}$

Calculation of Treasury Shares

$\begin{array}{rcl}\mathrm{Treasury}\mathrm{shares}& =& \mathrm{Treasury}\mathrm{shares}\mathrm{issued}-\mathrm{Treasury}\mathrm{shares}\mathrm{paid}\\ & =& \$30,000-\$15,000\\ & =& \$15,000\end{array}$

Analysis of Payout Ratio

$\begin{array}{rcl}\mathrm{Payout}\mathrm{ratio}& =& \frac{\mathrm{Total}\mathrm{dividend}}{\mathrm{Net}\mathrm{income}}\\ & =& \frac{\$63,000}{\$370,000}\\ & =& 17\%\end{array}$

Analysis of ordinary share equity

$\begin{array}{rcl}\mathrm{Return}\mathrm{on}\mathrm{ordinary}\mathrm{share}\mathrm{equity}& =& \frac{\mathrm{Net}\mathrm{income}}{\mathrm{Average}\mathrm{shareholder}\mathrm{equity}}\\ & =& \frac{\$370,000}{{\displaystyle \frac{\$1,720,000+\$2,105,000}{2}}}\\ & =& 19.3\%\end{array}$

As treasury stock does not fit the definition of an asset, it does not result in gains or losses when it is sold above or below cost. It is rather unissued equity. Furthermore, as share repurchases and reissues are transactions with their own owners, no profits or losses should be recorded; the effect of such transactions should not be reflected in income.