Common stock is a type of equity ownership in a company. It is the primary instrument to indicate the shareholders' rights to a company's assets. Sometimes, they are also known as ordinary shares. Common stocks have various features, including voting rights, dividends, limited liability, etc. Companies use these instruments to raise finance and collect funds for several activities.
Companies provide common stock to shareholders in a process known as issuance. When companies issue shares, they must also account for the proceeds received. Before discussing that, it is crucial to understand what the issuance of common stock means.
What does the Issuance of Common Stock mean?
Issuance of common stock refers to the process by which a company sells shares of its common stock to investors in exchange for cash or other assets. It can occur in several ways, including through an initial public offering (IPO) and a secondary offering. Overall, it is a critical mechanism for companies to raise capital and finance operations.
When a company decides to issue common stock, it hires an investment bank or underwriter to facilitate this process. The investment bank helps set the offering price and may also provide marketing and promotional services to attract investors. Once the shares are sold, they become "issued common stock". However, companies must consider various aspects of this transaction when accounting for it.
What is the accounting for the Issuance of Common Stock?
Accounting for the issuance of common stocks involves several steps to record the transaction. The first step is to determine the stock's par value. While it is the base value for that stock, it does not reflect its market value. The second step during the process is to establish the issue or offering price. This price is usually higher than the par value and is what shareholders pay to receive it.
Companies must divide the proceeds received for the issuance of shares into two accounts. The first is the share capital or paid-in capital account, which only records the par value of those shares. On the other hand, the remaining amount for the transaction goes into the additional paid-in capital account. These values appear under shareholders' equity in the balance sheet.
What is the journal entry for the Issuance of Common Stock?
The journal entry for the issuance of common stock reflects the accounting treatment discussed above. Usually, companies receive cash through the bank for the transaction. Therefore, the journal entry records the change in assets and equity. The equity part of the journal entry gets divided into two accounts, as mentioned above.
Overall, the journal entry for the issuance of common stock is as below.
| Dr | Bank |
| Cr | Paid-in capital |
| Cr | Additional paid-in capital |
Example
A company, Green Co., issued 1,000 shares with a par value of $10 to its shareholders. However, the company received $30 per share, reflecting the stock's current market value. In total, Green Co. got $30,000 from this transaction. The journal entry to record it is as follows.
| Dr | Bank | $30,000 |
| Cr | Paid-in capital ($10 x 1,000 shares) | $10,000 |
| Cr | Additional paid-in capital ($20 x 1,000 shares) | $20,000 |
Conclusion
The issuance of common stock is a process companies use to raise finance for their activities. This process involves issuing shares (known as common or ordinary stock) to shareholders. In exchange, companies receive cash through the bank. However, accounting for it requires recording the par and offering value in separate accounts.
Originally Published Here: Issuance of Common Stock: Meaning, Accounting Treatment, Journal Entry, Example
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