Corporation Accounting Records.—The method of recording the ordinary business transactions of a corporation is essentially the same as in the types of business organization previously discussed. The opening and closing of corporation accounts, however, as also the method of making the periodic summarization, call for the special treatment given in this chapter and the next.

Proprietorship and Capital Stock.—As stated before, the members of a stock corporation have their ownership evidenced by certificates of stock. The proprietorship or net worth of a corporation, as of the single proprietorship and partnership, is the excess of its assets over its liabilities. This excess is shown in the books by two accounts or two groups of accounts, viz., the Capital Stock account—or accounts—which represents the amount of outstanding shares; and the Surplus account—subdivided and carried under other titles, if desirable—which represents the excess of the proprietorship over the amount of capital stock. Each stockholder’s share in the corporation is determined by the number of shares he possesses.

Common and Preferred Stock.—There may be various classes of stock. If only one kind is authorized at the beginning, the subsequent creation of other kinds requires an amendment of the charter. The usual classes of stock are common and preferred. As its name indicates, preferred stock has some kind of preference over the common or ordinary stock. This preference may be only in regard to dividends, or it may include preference as to ownership in the net assets in case of dissolution. Preferred stock usually carries a fixed dividend, payable before any dividend can be paid to the common stockholders.

Preferred stock is classified as cumulative and non-cumulative. The terms apply to the dividend liability of the corporation in the event that the continuity of dividend declarations is broken. The dividend on cumulative preferred stock accumulates and becomes a preferred claim for the amount accumulated since the time of the last dividend declaration. That is, the common shareholders are not entitled to receive any dividend until the preferred shareholders have received the amount of the accumulated total. Preferred stock that is non-cumulative does not possess this feature. A dividend once passed on such stock is not a preferred claim to profits as compared with the dividend rights of common stockholders, but lapses completely. Preferred stock is cumulative unless specified to the contrary.

The issue of No-par-value stock is authorized by thirteen different states. Very often in a corporation whose stock carries a stated par value, there is little real relationship between the actual value of the stock as indicated by the net assets of the corporation and its stated par value. The law requires that par-value stock be carried on the books at its stated par. If such stock has been sold or exchanged for assets of a lesser value, there is always the temptation to inflate the value of the assets in order to maintain it at the par of the stock issued for them. This tendency is not met in the use of stock carrying no par value. Such stock appears on the books at exactly the amount of the assets received in exchange for it. A purchaser of such stock, because of the fact that it carries no stated par value, is at once put on notice to investigate the values back of it. No-par-value stock may be either preferred or common. In the former instance, if the preference relates to the assets at the time of dissolution, each such share must state the amount of assets applicable to each share in case of liquidation of the corporation. This constitutes a preference claim, not over the creditors of the corporation, but only over the common stockholders.

Thus it is seen that there may be different classes of ownership of a corporation, the owners of one class having some advantages over the owners of the other classes. It should be understood, of course, that within each class the rights and duties of the owners are the same.

Opening the Books of a Corporation.—The opening entries of a corporation have to do with a correct treatment of capital stock, subscriptions, calls and instalments, payments by cash and by property, etc.

The charter to do business, granted a corporation by the state, gives it the right to sell shares of stock. These shares have no value in themselves and are worth only what the corporation can exchange them for, either in cash or other assets. There is, therefore, no reason for making a record on the books of account as distinguished from the corporation’s minute book, of the corporation’s right to issue stock and of the amount of the stock which it has a right to issue. Until the stock has been paid or subscribed for, no formal entry need be made on the books of account. Of course, full record of all deliberations and resolutions as to procedure and policy up to the time of the actual sale of the stock is carried in the minute book, and a concise narrative statement of the organization of the corporation, its purposes, the authorized capital stock issue, the number of shares, the par value of each share, if par value stock, and so forth, should always precede the formal opening entries in the journal. This record and that in the minute book should give all the information of this sort needed. There is a too prevalent tendency among bookkeepers to make all sorts of memorandum entries on the books of account. A memorandum entry is an entry which has no financial significance and is made merely as a reminder that transactions of financial significance may arise from that source.

Before a corporation can secure its charter it is necessary to make certain expenditures. These usually consist of fees paid to a lawyer for his services in assisting in drawing up the charter; fees for filing the certificate; the organization tax; the cost of the certificates of stock and stock records; and so forth. These expenditures must be met by the incorporators from their private funds but they are reimbursed from the funds received upon sale of the stock. It is, accordingly, customary in opening the books of a corporation to show first the sale of the stock before showing the expenditures for organization.

A number of different methods of opening the books are employed. The first of these does not make use of the memorandum entries referred to above, whereas the other two do use memorandum entries. The three methods will be illustrated by means of the problem given below. The entries are shown in journal form. It will be understood, of course, that those entries which involve cash will appear in the cash book only. All the other entries appear in the general journal.

Premium or Discount on Stock.—The law requires that when stock of par value is issued, the Capital Stock account must be carried always at par. When stock is sold at a premium or at a discount, it necessitates, therefore, the use of supplementary proprietorship accounts to make the proper record. In the state of New York, a corporation cannot sell its stock at a discount, but in states where this is allowed the amount of such discounts should be charged to a “Discount on Stock” or some similar account. Sometimes the charge is made to “Organization Expense.” The use of Organization Expense account for this purpose is contrary to the principle that the account title should show the exact nature of the items recorded under it. It is misleading and sometimes reprehensible. A full discussion of this matter is given in Volume II. When stock is sold above par, the amount of the premium is recorded in the account “Premium on Stock,” which as usually handled constitutes a part of the permanent capital of the corporation. Premiums on stock sales should not be credited to Surplus account. The following illustration will show the kind of entries required:

Capital Stock on the Balance Sheet.—The net worth section of the balance sheet of a corporation will usually appear somewhat as follows for the capital stock items. Often, however, more detail is shown in connection with the surplus item. The student should note how full information is given concerning the capital stock.

Where the discount on stock has not been charged off against Surplus either because sufficient profits have not been reserved, or because, although sufficient profits have been reserved, it is deemed desirable to build up a larger balance of Surplus before charging off the discount, the net worth section will appear as follows:

Discount on capital stock should usually be shown as above, although one sometimes finds it listed among the assets on a balance sheet. This is not wholly objectionable unless it is set up under a title which does not indicate its true nature.

Instalments.—The subscription contract sometimes provides for payment by instalments. The corporation usually issues to all such subscribers a “call,” i.e., a notice that an instalment payment will come due at a given time. The subscriber is not considered delinquent until the call has been made and he has not responded. The accounts must therefore reflect the difference in status brought about by a “call.” This is accomplished by transferring the claim against the subscriber carried in Subscribers account to a new claim against him carried under Call account. The illustrations below show the accounts required and their handling.

Entries for Common and Preferred Stock.—Where more than one kind of stock is issued, such as common and one or more kinds of preferred, separate capital stock accounts—and usually other related accounts—should be kept for each class, as illustrated below:

Entries for No-Par Stock.—When a corporation issues no-par stock, the amount of proprietorship resulting from its sale is exactly what the stock brings and is so recorded; there is neither discount nor premium. Booking it is, therefore, simple. The amount of capital so secured, i.e., secured from its sale, should, however, never be mixed with the accretions to capital from reserved profits or other sources. Such items constitute the Surplus just as in the case of stock of par value, and the legal requirement that these amounts be kept separate from the capital stock are just as strict. This is necessary so that the records will clearly show that dividends have not encroached upon the capital. Since the value at which no-par stock is carried on the books bears no relation to the number of shares issued, it is customary to carry on the balance sheet information as to the number of shares outstanding. The net worth section of the balance sheet of a corporation issuing no-par stock should appear as follows:

Payment of Subscriptions by Property.—When payment of subscriptions is by property instead of by cash, the value at which such property shall be brought onto the books is entirely at the discretion of the corporation’s directors, and unless fraud can be shown, their valuations are final. No difficulties are involved in recording such a payment; the paid properties are debited under suitable account titles, and the Subscribers account is credited. The following problem illustrates the change from a partnership to a corporation, at the same time showing how the payment of subscriptions by property must be treated.

Make the opening entries for the new corporation and also close the books of the partnership.

1. The entries to open the corporation’s books:

Entries (b), (c), and (d) are sometimes combined in the following compound entry:

Although this accomplishes the same result so far as the ultimate showing is concerned, it does not present the various steps of the transactions so clearly as the separate entries. The “A & B, Vendors” account in entry (b) indicates the liability of the corporation to A & B, arising from the purchase of their partnership properties. Entries (c) and (d) show the manner in which A and B are paid for this purchase, with consequent cancellation of that liability.

2. The entries to close the books of the partnership of A & B are:

Where the stock is issued to each partner directly (instead of to the firm and then distributed to the vendors), sometimes the issue is not shown on the partnership books, entry (c) above carrying debits to the partner’s capital accounts in place of the debit to American Baking Company Stock. Whether the actual transaction follows one course or the other, entries as shown above seem to meet either requirement.

The student should make sure that the effect of the entries under (a) and (b) is thoroughly understood. It may be further noted that if good-will or shrinkage of values enters into the sale of a partnership, the necessary adjustments should be made in the partners’ accounts before the sale takes place, after which the closing entries are as shown above.