Case Study (Apply your knowledge). The board of directors for Press Corporation met in January to address growing concerns about the declining stock price of the firm. Because the price per share was so low, the board decided that the company would buy back 10 million of outstanding shares stock. During the year, Press repurchased the shares at a total cost of K62 million. With fewer shares in the hands of shareholders, the board of directors declared and paid a dividend on only those remaining shares outstanding. As a result of these activities, the price per share rose dramatically in only 10 months.I think, board of directors money is also in stock. So, more gain means more declaration of dividend. Accountant has taken right decision. We can not show this gain as revenue gain because to buy and sell own share is not our business. If there is increase in our share capital, it is capital gain and it can be used for development of business. Two points should remember.
The board of directors then felt it best to reissue the treasury stock at the highest per share price possible. Accordingly, Press reissued the 10 million shares for K142 million. When the board of directors looked over the yearly financial statements, however they could not find the K80 million “gain” from the treasury stock sale, equal to the reissue price of K142 million less the purchase cost of K62 million. The accountant had properly recorded the excess as “Additional Paid-in Capital” rather than as a gain on sale. The board of directors met with the accountant and demanded that a gain be recorded; they wanted more revenue to be included on the income statement. They argued that stock had been sold at a price higher than it was purchased for, and therefore it really did not matter whether the stock was Press Corporation stock or any other company’s stock, because all stock sales result in either a gain or loss.
- Why does the board of directors want to recognize the K80 million excess from the treasury stock transactions as a gain?
- Why does the accountant want to recognize the K80 million as an increase in total equity?
- Who is right and are any ethical issues involved?
- Does the board of directors have a strong argument that it does not matter whether the stock was Press Corporation or any other company since all stock is the same?
- Do you have any additional thoughts?
Asked by Chifuniro Bisweck from Malawi
a) When we our own shares, our own shareholder has also sacrificed their share because our value in the market was very low.
b) With this sacrifice, our market value has increased and when we have sold, we have obtained big cash. So, difference is the increment of share capital not the revenue of normal business. There is no need to show this gain in income statement, we just show it as new capital.