Understanding Corporations

• A corporation is a separate legal entity from its owners, able to enter contracts, own assets, and be sued independently of its shareholders.
• Shareholders of a corporation are not personally responsible for the corporation's lawsuits.

Advantages of Corporations

• Limited Liability: Owners are not personally responsible for business debts.
• Ease of Raising Capital: Corporations can sell shares to investors to raise capital.
• Continuity: The business continues even if ownership changes.

Disadvantages of Corporations

• Double Taxation: Profits are taxed at the corporate level and again when distributed as dividends.
• More Regulation: Corporations must comply with legal and reporting requirements.
• Shareholders are not responsible for a corporation's debts if the company loses money.

Organizational Costs

• Organizational costs are expenses incurred when forming a corporation, such as legal fees, registration costs, and accounting fees.

Corporations and Investors

• A corporation's advantages, such as limited liability and ease of raising capital, are attractive to investors.
• When a corporation issues only one class of shares, they are common shares, and they are the voting shares.
• Common shares represent ownership in a corporation and provide voting rights.
• If a company issues only one class of shares, they are common shares.

Authorized vs. Issued vs. Outstanding Shares

• Authorized Shares: The maximum number of shares a corporation can issue.
• Issued Shares: Shares that have been sold to investors.
• Outstanding Shares: Issued shares that are still held by investors (not bought back by the company).

Preferred Shares vs Common Shares

• Preferred shares have priority over common shares for dividends, but usually do not carry voting rights.
• If a company issues dividends, preferred shareholders get paid first before common shareholders.
• Dividend preference for preferred shares means preferred shareholders get paid first before common shareholders receive any dividends.
• Cumulative dividends require that if a company skips a dividend, it must pay all missed dividends before common shareholders receive anything.
• Noncumulative dividends mean that missed dividends are lost and never paid.

Cash Dividends

• The declaration and payment of a cash dividend reduces retained earnings and cash accounts.

Key Dividend Dates

• Date of Declaration: The date when the company announces a dividend.
• Date of Record: The date on which shareholders must own shares to receive the dividend.
• Date of Payment: The date the dividend is actually paid.
• Corporations with deficits in retained earnings are not allowed to pay a cash dividend in many jurisdictions.

Stock Splits

• A stock split increases the number of shares but reduces the price per share, with no effect on total stockholder's equity.
• Stock Dividend: Transfers from retained earnings to contributed capital, issuing new shares instead of cash.
• A stock dividend transfers from retained earnings to contributed capital.

Reverse Stock Split

• A reverse split reduces the number of shares while increasing the price per share.

Earnings Per Share (EPS)

• EPS measures how much profit a company earns per outstanding share.

Accounting Changes

• Change in Accounting Policy: A change in how financial results are reported.
• Correction of Errors: Fixing past mistakes in financial statements.
• Change in Estimate: Revising assumptions (e.g., depreciation rate changes).

Effective Interest Method

• The effective interest method allocates bond interest using a constant interest rate applied to the carrying value of the bond, resulting in changing interest expense amounts each period.

Installment Loans

• An installment loan gives the lender the right to be paid from cash proceeds from the sale of specified assets defined in the agreement.
• Installment notes are promissory notes requiring the borrower to make a series of payments consisting of principal and interest.
• An installment loan requires a series of payments, including both principal and interest.

Investors vs Creditors

• An investor purchases shares of a company.
• A creditor buys bonds from a company.
• Investor: Owns shares of a company.
• Creditor: Lends money to a company by buying bonds.

Corporations Buying Shares

• Corporations buy shares in other corporations to participate in new markets and technologies and to build a favorable business relationship with a major customer or supplier.
• Debt securities are bonds.
• Equity securities are stocks and reflect an ownership interest.

Debt Securities vs Equity Securities

• Debt Securities: Bonds (loaned money).
• Equity Securities: Stocks (ownership).
• When a company issues a bond, it owes money to bondholders, while a stockholder owns part of the company.
• When shares, less than or equal to 20% of a company's shares, are bought to flip them for profit in the short-term.
  • These shares are classified as current assets
  • They are expected to be converted into cash within one year
  • They are expected to provide profits through short-term changes in price
  • They are subject to frequent buying or selling.
• Bonds are traded using the fair value through profit method.
• The income of a corporation is taxed twice: first, as corporate income, and then as personal income to shareholders when they receive dividends.
• Corporations pay taxes on profits, and shareholders pay taxes again when they receive dividends.