Page 520 - Accounting Principles (A Business Perspective)

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13. Corporations: Paid-in

capital, retained earnings,

dividends, and treasury stock

Learning objectives
After studying this chapter, you should be able to:
• Identify the different sources of paid-in capital and describe how to present them on a balance sheet.
• Account for a cash dividend, a stock dividend, a stock split, and a retained earnings appropriation.

• Account for the acquisition and reissuance of treasury stock.
• Describe the proper accounting treatment of discontinued operations, extraordinary items, and changes in
accounting principle.
• Define prior period adjustments and show their proper presentation in the financial statements.
• Analyze and use the financial results—earnings per share and price-earnings ratio.

The accountant as a financial analyst
The primary purpose of financial reporting is to provide information to investors and creditors. Investors use
financial information in purchasing and selling of stocks, while creditors (such as banks) use financial information
in reviewing the credit-worthiness of companies wishing to obtain loans. In making these types of decisions,
investors and creditors rely on financial analysts to give them accurate assessments of the value and strength of the

company. The role of the financial analysts is to take the financial information reported by a company and translate
that into a rating of company performance. It should therefore be no surprise that a successful financial analyst is
one that has a deep understanding of financial accounting. Who better to analyze the financial statements than the
person who prepared them? Who would have a better understanding of the data and information contained in
financial statements than the accountant? Financial statements are becoming ever more complex and difficult to
interpret by users. Thus, accountants are becoming increasingly important in assisting others to understand and
interpret financial information.
Helping users understand financial information involves such tasks as developing graphs, common-size
statements, and performing horizontal and vertical analysis. Analysis could also involve performing data

comparisons with relevant financial and nonfinancial data. The Altman Z Model is an example of a tool used by
analysts to predict bankruptcy. The model includes such items as retained earnings/total assets and sales/total
assets as variables in the calculation. Based upon this test, Cooper Tire & Rubber Company earned a score of 6.07 in
a recent year. A score below 2.675 was considered an indication of possible bankruptcy. Therefore, analysts
evaluated Cooper as a very healthy company not likely to go bankrupt.

Accounting Principles: A Business Perspective 521 A Global Text