Common Equity Transactions

6.1
Common Equity Transactions. Describe the directional effect (increase, decrease, or no effect) of each transaction on the components of the book value of common shareholders’ equity shown in the chart on the next page.
a. Issuance of $1 par value common stock at an amount greater than par value
b. Donation of land by a governmental unit to a corporation
c. Cash dividend declared
d. Previously declared cash dividend paid
e. Property dividend declared and paid
f. Large stock dividend declared and issued
g. Small stock dividend declared and issued
h. 2-for-1 stock split announced and issue
i. Stock options granted
j. Recognition of compensation expense on stock options
k. Stock options exercised
l. Stock options expired
m. Treasury stock acquired (company uses the cost method)
n. Treasury stock in Transaction m reissued at an amount greater than original acquisition price
o. Treasury stock in Transaction m reissued at an amount less than the original acquisition price
p. Restricted stock issued (grant date)
q. Recognition of compensation expense related to restricted stock
r. Granting of stock appreciation rights to be settled with cash
s. Recognition of compensation expense on stock appreciation rights
t. Reacquisition and retirement of common stock at an amount greater than original issue price

6.4

Cash Flow Effects of Equity and Debt Financing. Identify where the cash flow effect of each of the following transactions is reported in the statement of cash flows: operating, investing, or financing section. State the direction of each change. State None if there is no cash flow effect.
a. Issuance of stock for cash
b. Issuance of stock for land
c. Acquisition of treasury stock
d. Reissuance of treasury stock
e. Declaration of a cash dividend
f. Payment of a cash dividend previously declared
g. Declaration and issuance of a large stock dividend
h. Declaration and issuance of a small stock dividend
i. Granting of stock options
j. Exercise of stock options
k. Granting of RSUs
l. Issuance of long-term notes payable
m. Issuance of convertible bonds
n. Conversion of convertible bonds to common stock
o. Payment of interest on bonds
p. Retirement of bonds at book value Retirement of bonds at a gain
q. Retirement of bonds at a loss

6.23

Stock-Based Compensation-Vesting and Valuation Models. Exhibits 6.16 and 6.17 provide footnote excerpts to the financial reports of The Coca-Cola Company and Eli Lilly and Company that discuss the stock option grants given to the employees of the two firms. Each firm uses options extensively to reward employees for their performance.
a. Explain the concept of vesting. Discuss why firms typically include a vesting feature in the stock-based compensation plans that they offer to their employees.
b. What are the vesting characteristics of the two plans discussed in the exhibits? What effect do they have of stock-based compensation expense using the fair value method as required by Statement No. 123(Revised 2004)?
c. For each firm, (1) what is the life of the options granted, (2) how does option life relate to the vesting period, and (3) why might the weighted-average expected life of the options be less than the full life of the options?
d. The Coca-Cola Company uses the Black-Scholes valuation model for estimating the fair value of the stock options, whereas Eli Lilly and Company utilizes a lattice-based option valuation model. Both valuation techniques are permitted by GAAP. Perform an Internet search to determine which valuation model is more commonly used by the largest publicly held firms. Speculate on why this is the case.

7.1

Capitalization Versus Expensing Decision. When a firm incurs costs on an item to be used in operations, management must decide whether to treat the cost as an asset or an expense. Assume that a company used cash to acquire machinery expected to contribute to the generation of revenues over a three-year period and the company erroneously expensed the cost to acquire the machine.
a. Describe the effects on ROA of the error over the three-year period.
b. Explain how the error would affect the statement of cash flows.

7.7

Earnings Management and Depreciation Measurement. Earnings management entails managers using judgment and reporting estimates in such a way as to alter reported earnings to their favor.
a. Discuss the three factors that must be estimated in measuring depreciation.
b. Provide an illustration as to how each of these factors can be employed to manage earnings.
7.13

Choice of a Functional Currency. Choosing the functional currency is a key decision for translating the financial statements of foreign entities of U.S. firms into U.S. dollars. Qing Corporation, a U.S. firm that sells car batteries, formed a wholly owned subsidiary in Mexico to manufacture components needed in the production of the batteries. Approximately 50 percent of the subsidiary’s sales are to Qing Corporation. The subsidiary also sells the components it manufactures to independent third parties, and these sales are denominated in Mexican pesos. Financing for the manufacturing plants in Mexico is denominated in U.S. dollars, but labor contracts are denominated in both dollars and pesos. All material contracts are denominated in Mexican pesos. Senior managers of the subsidiary are employees of Qing Corporation who have been transferred to the subsidiary for a tour of international service. Is the functional currency of the subsidiary the peso or the U.S. dollar? Explain your reasoning.
7.17
Upward Revaluations Under IFRS
Bed and Breakfast (B&B), and Italian company operating in the Tuscany region, follows IFRS and has made the choice to remeasure long-lived assets at fair value. B&B purchased land in 2009 for 150,000. At the end of the next four years, the land Is worth 160,000 in 2009m 155,000 in 2010, 140,000 in 2011, and 145,000 in 2012.
Required
a. Describe how B&B will reflect the changes in the land’s value in each of its annual financial statements.
b. Assume that the asset was a building with a ten-year remaining useful life as of the end of 2009. After writing the building upward to 160,000, how much should B&B charge to depreciation expense in 2009?