Question

The following excerpt is from an article reported in an online issue of Bloomberg. 

(Bloomberg) Ford Motor Co. (F) said it will repurchase $1.8 billion of its shares to reduce dilution from recent stock grants to executives. 

The par amount per share for Ford’s common stock is $0.01. Paid-in capital—excess of par is $5.39 per share on average. The market price was $16. 

 

Required: 

1. Suppose Ford reacquires 112 million shares through repurchase on the open market at $16 per share. Prepare the appropriate journal entry to record the purchase. Ford considers the shares it buys back to be treasury stock. 

2. Suppose Ford considers the shares it buys back to be retired rather than treated as treasury stock. Prepare the appropriate journal entry to record the purchase. 

3. What does the company mean by saying that the buyback will serve “to offset dilution from executive compensation?”

Answer 1

Buyback of Shares

Retired stock: The shares of a corporation which are formally bought back from the shareholders for cash obtain the status of ‘authorized but unissued shares’. Such shares are referred to as retired stock.

 

Treasury stock: The shares of a corporation which are bought back from the shareholders for cash but are not formally retired are referred to as treasury stock.

 

Journalize the stock transactions for Corporation F.

 

1.

Accounting equation: 

The following is the accounting equation to re-acquire common stock as treasury stock:

Assets = Liabilities + Stockholders’ Equity

- $1,792 million(Cash) = + {- $1,792 million (Treasury Stock)}

 

Journal entry: 

Record the following entry in the books of Corporation F:

Date Account Title and explanation	Debit ($ million)	Credit ($ million)
		Treasury Stock	1,792
	Cash		1,792
	(To record purchase of treasury stock.)

 

Explanation:

• Treasury Stock is stockholders’ equity account. The amount has decreased because common stock is purchased as treasury stock. Therefore, debit Treasury Stock account with $1,792 million.

• Cash is an asset account and the amount is decreased because cash is paid to buy treasury stock. Therefore, credit Cash account with $1,792 million.

 

Working Notes:

Compute the treasury stock amount.

Treasury = Number of treasury stock purchased × Purchase price per share

                 = 112 million shares × $16

                 = $1,792 million

 

2.

Accounting equation: 

The following is the accounting equation for the re-acquisition of common stock as retired stock:

 

                          Assets = Liabilities + Stockholders’ Equity

-$1,792 million (Cash) = + {-$1.12 million(Common stock)}

                                      = + {-$603.68 million(Paid-in Capital – Excess of par)}

                                      = + {-$1,187.20 million(Retained Earnings)}

 

Journal entry: 

Record the following entry in the books of Corporation F:

Date	Account Titles and explanation	Debit ($ million)	Credit ($ million)
	Common Stock	1.12
	Paid-in Capital-Excess of par	603.68
	Retained Earnings	1,187.20
	Cash		1,792.00
	(To record retirement of common stock)

 

Explanation:

• Common Stock is a stockholders’ equity account and the amount has decreased due to re-acquisition of common stock. Therefore, debit Common Stock account with $1.12 million.

• Paid-in Capital–Excess of Par is a stockholders’ equity account and the amount has decreased due to decrease in capital. Therefore, debit Paid-in Capital–Excess of Par account with $603.68 million.

• Retained Earnings is a stockholders’ equity account. The amount has decreased because the difference due to re-acquisition is debited to this account. Therefore, debit Retained Earnings account with $1,187.20 million.

• Cash is an asset account. The amount is decreased because cash is paid due to stock re-acquisition; therefore, credit Cash account with $1,792 million.

Working Notes:

 

Compute common stock value.

Common stock value = Number of shares × Par value per share

                                     = 112 million shares × $0.01

                                     = $1.12 million

 

Compute paid-in capital in excess of par value.

Paid-in capital in excess of par value = Number of shares × Excess of par value per share

                                                            = 112 million shares × $5.39

                                                            = $603.68 million

 

Compute cash paid amount.

Cash paid = Number of share × Re-acquisition price per share

                  = 112 million shares × $16

                  = $1,792 million

 

Compute retained earnings amount.

Retained earnings amount = Cash paid-Common stock value – Paid-in capital-excess of par value

                                              = $1,792 million - $1.12 million – 603.68 million

                                              = $1,187.2 million

3.

Explanation:

• Stock grants like stock options increase the number of shares.

• Increase in number of shares reduces the earnings per share value.

• Earnings per share are one of the measurements of company’s profitability.

• Hence, Corporation F wants to offset the effect this decrease in earnings per share by diluting or reducing the number of shares by the way of share reacquisition.