Question

The books of Conchita Corporation carried the following account balances as of December 31, 2017.

Cash \( 195,000

Preferred Stock (6% cumulative, nonparticipating, \)50 par) 300,000

Common Stock (no-par value, 300,000 shares issued) 1,500,000

Paid-in Capital in Excess of Par—Preferred Stock 150,000

Treasury Stock (common 2,800 shares at cost) 33,600

Retained Earnings 105,000

The company decided not to pay any dividends in 2017.

The board of directors, at their annual meeting on December 21, 2018, declared the following: “The current year dividends shall be 6% on the preferred and \(.30 per share on the common. The dividends in arrears shall be paid by issuing 1,500 shares of treasury stock.” At the date of declaration, the preferred is selling at \)80 per share, and the common at \(12 per share. Net income for 2018 is estimated at \)77,000.

Instructions

a) Prepare the journal entries required for the dividend declaration and payment, assuming that they occur simultaneously.

b) Could Conchita Corporation give the preferred stockholders 2 years’ dividends and common stockholders a 30 cents per share dividend, all in cash?

Short answer

The total debit and credit side of the journal is $125,610and the amount available to pay dividends is $148,400.

Step-by-step solution

Meaning of Cash dividends

Acash dividend may be defined as a payment made to shareholders as a return on their investment from a company's retained earnings. Cash dividends are often paid in cash rather than in the form of stock dividend or any other sort of value.

Preparing Journal Entries for Preferred Dividend in arrears

Date	Particular	Debit ($)	Credit ($)
	Retained Earnings	18,000
	Treasury		18,000

Working Notes:

$\begin{array}{rcl}\mathrm{Treasury}\mathrm{stock}\mathrm{issued}\mathrm{as}\mathrm{dividend}& =& \mathrm{Treasury}\mathrm{shares}\times \mathrm{per}\mathrm{value}\mathrm{of}\mathrm{share}\\ & =& 1,500\times \$12\\ & =& \$18,000\end{array}$

Preparing Journal Entry for 6% current year dividend

Date	Particular	Debit ($)	Credit ($)
	Retained Earnings	18,000
	Cash		18,000

Working Notes:

$\begin{array}{rcl}\mathrm{Retained}\mathrm{earnings}& =& \mathrm{Preferred}\mathrm{stock}\times \mathrm{Rate}\mathrm{of}\mathrm{preferred}\mathrm{stock}\\ & =& 300,000\times 6\%\\ & =& 18,000\end{array}$

Preparing Journal Entry for $0.30 per share common dividend

Date	Particular	Debit ($)	Credit ($)
	Retained Earnings	89,610
	Cash		89,610

Working Notes:

Since all preferred dividends must be paid before the common dividend, outstanding common shares include-

As of December 31,2017 (300,000-2,800) shares	297,200
Preferred distribution shares	1500
Total shares	298,700
Common dividend value per share	$0.30

$\begin{array}{rcl}\mathrm{Amount}\mathrm{of}\mathrm{common}\mathrm{cash}\mathrm{dividend}& =& \mathrm{Total}\mathrm{shares}\times \mathrm{common}\mathrm{dividend}\mathrm{per}\mathrm{value}\\ & =& 298,700\times \$0.30\\ & =& \$89,610\end{array}$

Explaining the situation whether Conchita Corporation gives the preferred stockholders 2 years’ dividends and common stockholders a 30 cents per share dividend, all in cash.

The suggested cash dividend could be paid even if state law did restrict the retained earnings balance in the amount of cost of treasury stock. Total dividends would be $125,160, which is adequately covered by cash balance.

Retained earnings balance after adding 2015s net income (estimated at $77,000) is sufficient to cover the dividend

Determining the total cash dividends

Preferred dividends in arrears	$ 18,000
Current preferred dividends	18,000
Common dividends	89,160
Total cash dividend	$125,160

Working Notes:

Available balance to pay dividends:

Beginning balance	$105,000
Estimated net income	77,000
Total balance available	182,000
If restricted by the cost of treasury share	(33,600)
Available to pay dividends	$148,400