Corporations issue stock to raise money for their growth and to finance new projects. Accountants record the stock issues and dividends paid on the company's financial statements so that investors and analysts can see how much money was received. This also provides enough data to support analysis that reveals how well the company is putting the funds to work to increase profitability and value for investors.
The term "capital stock" covers both common and preferred company stock. Common stock is the first type of stock that companies issue. Common stockholders have responsibility to elect the corporation's board of directors, cast votes to determine whether to allow a company merger, and experience gains in their stock value based on the company's future successes. Corporations also issue preferred stock, which pays stockholders set dividends and gives them priority treatment over common shareholders. Preferred dividends must be paid before common dividends.
When a company issues capital stock, it records the stock's "par value," a number defined by management, on its balance sheet in the stockholders' equity section. When the corporation sells the stock, any amount paid above par is recorded as "additional paid-in capital" or "contributed capital."
The income statement shows a firm's revenue receipts and expense payments during a specific period. While a balance sheet shows a picture of the company's asset and liability account balances, including shares of capital stock outstanding, the income statement shows an accumulation of revenue and expense transactions for the entire fiscal year. The income statement shows the year's net earnings. Although capital stock is not shown on the income statement, earnings are indirectly affected, because dividends must be shown as a reduction of earnings. Since dividend payments are not an expense coming directly from the company's operations, though, they are not shown on the income statement.
At the end of each year, a firm's accountant takes the total earnings figure from the income statement and moves it over to the balance sheet into an account called "retained earnings." This account is cumulative and represents all of the earnings the firm has kept since its inception. An accountant records the payment of common and preferred dividends by reducing accumulated retained earnings directly on the balance sheet.