Web3ch8 - CHAPTER EIGHT The Analysis of the Statement of...

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CHAPTER EIGHT The Analysis of the Statement of Shareholders’ Equity Stephen H. Penman The web page for Chapter Eight runs under the following headings: What this Chapter is Doing Comprehensive Income Presentation under GAAP Other Comprehensive Income and Tax Allocation A Firm Reporting Stock Option Compensation in the Income Statement The Stampede to Report Stock Option Compensation Expense The IASB and Stock Options The FASB and Stock Options Exercise Date Accounting for Employee Stock Options Diluted Earnings per Share: Does it Deal With the Hidden Expense Problem? Reformulation of VF Corporation’s Statement of Shareholders’ Equity Reformulation of the Equity Statement: Electronic Data Systems (EDS) The Equity Footnote Put Option Contracts and Forward Purchase Agreements: FASB Statement 150 Appropriate Accounting for Contingent Claims on Equity Shares: A Comprehensive Solution Convertible Securities: The Market Value Method and the Book Value Method The Payout Ratio and the Dividend Yield History of the Dividend Payout Ratio -1-
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What this Chapter is Doing The analysis in Chapter 8 has two purposes. First, it ensures that the earnings that the analyst focuses on are comprehensive earnings. Second, it ensures that the analyst distinguishes earnings (pertaining to the generation of value) from dividends (the distribution of value). The valuation models on Chapters 5 and 6 involve the forecasting of comprehensive earnings. If an analyst misses any component of earnings, value will be lost in her calculation. She must focus on comprehensive earnings. In doing that, she distinguishes the change in equity that is due to comprehensive income and the change that is due to net dividends. The stocks and flows equation, introduced in equation 2.4 in Chapter 2, guides the reformulation to do this. The book devotes considerable space to this issue. If GAAP accounting for equity were good accounting, the reformulation would be straightforward. Unfortunately that is not so: GAAP fails to distinguish operating and financing components of share transactions, treating all transactions as simply financing transactions. So, for example, a share issue in exercise of employee stock options is treated as a transaction for raising cash for the business rather than payment for compensation netted into a financing transaction. Accordingly, the chapter cleans up the accounting. Read the section, The Eye of the Shareholder at the end of the chapter to get the appropriate perspective. Comprehensive Income Presentation under GAAP FASB Statement 130 governs the reporting of comprehensive income. Firms can report “Other Comprehensive Income” in three different ways: Within the Equity Statement As part of the Income Statement (an add-on to Net Income at the bottom on the statement) In a separate Comprehensive Income Statement between the Income Statement and the Equity Statement Almost all firms choose the first option. A few report under the third option. As a case in point,
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This note was uploaded on 10/07/2010 for the course ECTCS ec12947322 taught by Professor Johnathayeri during the Spring '10 term at Life.

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Web3ch8 - CHAPTER EIGHT The Analysis of the Statement of...

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