 Hello and welcome to this session. This is Professor Farhad and this session we're going to be looking at stock dividend issued by a subsidiary as well as dividend from pre and post acquisition earnings. This topic is covered in an advanced accounting course and it's covered on the CPA exam. As always, I would like to remind my viewers which is you to connect with me on a professional level via LinkedIn. If you don't have a LinkedIn account, I strongly suggest you create one. It's very important for your professional image and network ability. YouTube is where you would need to subscribe. I house all my 1500 plus accounting, auditing and tax lectures. If you like my lectures, please like them, share them, put them in playlists, let the world know about them. If you're benefiting from them, other people might benefit as well. This is my Instagram account. Please follow me on Instagram. This is my Facebook and this is my website. So what is the big idea for this chapter or what's the big idea of stock dividend? Stock dividend is when the company doesn't want to distribute cash. They want to conserve their cash. Therefore what they do rather than paying cash in terms of dividend, they pay stocks. So the basic journal entry, which is something you have to be aware of or something you have to know from your intermediate accounting. So if you don't know what a stock dividend is or you haven't learned it before, I strongly suggest to go to my intermediate accounting chapter 16 and I'll talk in depth about stock dividend. So stock dividend, when you declare dividend, you debit, this is the basic idea, retained earnings. So you reduce your retained earnings because dividend comes out of retained earnings. You debit your retained earnings and you credit depending on whether it's a small or a large stock dividend. You may credit capital stock or you may credit capital stock plus additional paid in capital depending on whether it's a small or a large stock dividend. But that's the basic idea, debit retained earnings, credit capital stock or common stock and credit additional paid in capital or APIC. The parent company, so when the subsidiary issues stocks issue dividend stock, the parent company record the receipt of a share in a memorandum entry only. So there's no journal entry for the parent company. The parent company don't have a journal entry. The subsidiary records the declaration of a stock dividend as a transfer from retained earnings to one or more paid in capital. This is what this entry is showing you. Retained earnings goes down, capital stock or common stock and additional paid in capital goes up. So basically what you are doing, you are transferring or you are capitalizing some of your earnings. So you're taking money out of retained earnings, not money earnings out of retained earnings and increasing capital stock. The amount transfer is dependent upon the dividend, whether it's a large or a small stock dividend. If it's a large stock dividend, we capitalize the number of shares times the par value. If it's a small stock dividend, we capitalize number of shares times the market value per share. So however many shares we are issuing times the market value. So this is basically again review from chapter 16 Intermediate Accounting. For consolidated purposes, so when we consolidate it because this is an advanced accounting course, the stock dividend does not alter the investor's proportionate interest in the sub. So it doesn't really make any difference. So let's take a look at an example. That's the best way to see this. And I will show you how stock dividend doesn't really alter the total equity in the sub, let alone the parent position at the sub. So assume P company purchased 4,000 shares of S company at $100 par value common stock on January 2, 2012 for $560,000. At the time of the purchase, S company reported common stock and retained earnings as follow. $500,000 of common stock, $200,000 of retained earnings. Let's assume we prepare the consolidated financial statement as of January 2nd. So what do we need to do? We need to remove common stock, we need to debit common stock, capital stock for the sub company. We need to remove their earnings because those are the equity for the sub and the equity for the sub need to be eliminated. Then we eliminate them against the investment account because we paid $560,000 and we established a non-controlling interest, which is the remainder of $140,000. This is if we consolidate the January 1st. Now at the end of the year, now assume that S company report $50,000 in income and declared 30% stock dividend, which is an additional 1,500 shares, 1,500 shares. Now this is 30% is a large stock dividend. Why large? Because it's a greater than 20 to 25%. 30% is greater than 25%. Okay, so it's a large stock dividend. Therefore, we capitalize 1,500 shares times the par value. The par value is 100, it's giving in the problem. Therefore, we are going to debit, we are going to debit stock dividend or retained earnings. Retained earnings eventually is close to stock dividend. I like to say retained earnings, but if they're going to debit stock dividend declared, eventually they will close this account to retained earnings and they will credit common stock or capital stock. Okay, there's no additional paid in capital because the shares were issued at par. Okay, the shares were issued at par. Now if there was a small stock dividend, you might have additional paid in capital, you know, some amount here. Okay, but this is a large stock dividend. Now this is S company. This is what S company would record on door books. Okay, so notice S company increased their capital stock by 150. They used to have only 500,000. Now think about it. Now they have 150. And remember the retained earnings went down too. The retained earnings used to be 200,000. Now it's 50. P company, the only entry P company would make is a memorandum entry to record the receipt of 1,200 shares. Why 1,200 shares? Because they don't own 100% of the company. They don't own 100% of the company. It's 1,200 out of 1,500. They only own 80%. So they own 80% of the company. Okay. So the memorandum entry would look something like this, received 1,200 shares, which is 1,000 times 80% of S company common stock based on the declaration of 30% stock dividend. This is what the memorandum entry is. And just to kind of let you know that the equity of S company did not change. This was their equity before the stock dividend. 500,000 in retained earnings is 250. 200,000 the original retained earnings plus an additional $50,000 in earnings. After the stock dividend, capital stock went up 150. Retained earnings went down 150. Therefore, capital stock is 650. Retained earnings is 100. We still have total equity of 750. Before and after the stock dividend. Now, at the end of the year, we have to prepare this is 2012, not 2015. Work paper entries. We have to prepare work paper entries at the end of the year, work paper entries. So we have to debit capital stock 120,000. Why 120,000? Because they declared 150 times 80%. That's 120. So they increased their total account by 150. They increased their total capital stock by 150. We have to reduce it by 120. Why by 120? It's 80%. It's our share 80%. On one, one retained earning of S company will have to be debited 200,000, which is the original retained earnings to eliminate investment account and recognize non-controlling interest. Debit capital stock 500,000 credit the investment 560 and it's established a non-controlling interest of 140,000. Now, what happened if the stock dividend had been more than retained earnings? So retained earnings was 200,000. So what happened if the dividend that they paid was more than 200,000? This is called stock dividend issued from post-acquisition earning. So now you're issuing dividend, but that dividend is coming from earnings that you earned after the acquisition. Well, it's not a big deal. What you do is you capitalize it. You capitalize it. Capitalize it means what? It means you debit the full amount to retained earnings. Okay? So occasionally, subsidiary companies capitalize retained earnings arising since acquisition by means of a stock dividend or otherwise stock dividend or cash dividend. It doesn't matter. This does not require a transfer to capital surplus on consolidation. So it doesn't really make any difference on the capital surplus during the consolidation. So basically, if the stock dividend have been more than 200,000, some of the post-acquisition earning of the subsidiary would have been capitalized. For example, assume S company made the following entry to record the stock dividend. So if the stock dividend, let's assume it was for 220. Guess what? All what we do is we capitalize an additional 20,000. So this additional 20,000 is from the post-earning because the pre-acquisition was only 200,000 in retained earnings. So the consolidated earning is the same. So when we consolidate, it doesn't make a difference. However, an additional 20,000 of post-acquisition is no longer available because it was capitalized. We removed it from retained earnings to capital stock. It's no longer available for dividend. Let's start a little bit more about dividend from pre-acquisition earning, pre-acquisition before the acquisition. So let's assume P company acquired 80% in S company on January 2, 2019 for 560. At the same time, S company had a capital stock of 500,000 and retained earnings of 200,000. During the first year of the investment was held, S company reported 200,000 of income on December 31. The sub declared and paid $250,000 in cash. Now what they did is they paid $250,000 in cash. And that's based from, compared to the 200,000 that they started with, that's an additional 50,000. So what would P company do? If they paid 250,000 in dividend, they paid 250,000, P company will get 80%, which is 200,000. So P company will debit cash 200,000. They will credit dividend income 200,000 times 80%, that's dividend income, which is 160. Then they will credit investment in S company. Now you have to understand this is a liquidating dividend. It's considered that they paid more than the retained earnings that they have. So this is, and this entry would reduce the investment account. Remember the investment account was 560. Now we reduce the investment account by 40. The investment account becomes 500 and 20,000. This is the investment account. So now I have to prepare eliminating entries at the end of the year. The first thing we have to eliminate is intercompany dividend. We have to do that. Therefore, we debit dividend income 160 and we credit dividend declared S company. Then we also have to reverse this 40,000. We debit 40,000 of dividend investment in S company to reverse it and we declare dividend declared by 40,000 to reverse this entry, to reverse this entry. Now also we need to eliminate the equity account for the sub and eliminate the investment account. So what we do is we debit retained earnings to 100,000. We debit capital stock 500,000, credit the investment account 560 and credit established a non-controlling interest 140,000. If you have any questions, any comments about this topic, please email me. If you happen to visit my website for additional lectures, please consider donating if you're studying for your CPA exam. I don't believe they go this far as far as testing you, but it's something you need to be familiar with. You might be asked a question about consolidation when you have a stock dividend. Study hard for the exam. It's worth it. Good luck.