Issuing stock Sahara Unlimited Inc. began operations on January 2,20Y4. with the issuance of 250.000 shares of $8 par common stock. The sole stockholders of Sahara Unlimited Inc. are Karina Takemoto and Dr. Noah Grove, who organized Sahara Unlimited Inc. with the objective of developing a new flu vaccine. Dr. Grove claims that the flu vaccine, which is nearing the final development stage, will protect individuals against 80% of the flu types mat have been medically identified. To complete me project, Sahara Unlimited Inc. needs $25,000,000 of additional funds. The banks have been unwilling to loan the funds because of the lack of sufficient collateral and the riskiness of the business. The following is a conversation between Karina Takemoto, the chief executive officer of Sahara Unlimited Inc., and Dr. Noah Grove, the leading researcher: Karina: What are we going to do? The hanks won't loan us any more money, and we've got to have $25 million to complete the project. We are so close! It would be a disaster to quit now. The only thing I can think of is to issue additional stock. Do you have any suggestions? Noah: I guess you're right. But if the banks won't loan us any more money, how do you think we can find any investors to buy stock? Karina: I've been thinking about that. What if we promise the investors that we will pay them 2% of sales until they have received an amount equal to what they paid for the stock? Noah: What happens when we pay back the $25 million? Do the investors get to keep the Stock? If they do, it'll dilute our ownership. Karina: How about, if after we pay back the $25 million, we make them turn in their stock for what they paid for it? Plus, we could pay them an additional $50 per share. Thai's a $50 profit per share for the investors. Noab: It could work. We gel our money, but don't have to pay any interest or dividends until we start generating sales. At the same time, the investors could get their money back plus $50 per share. Karina: We'll need current financial statements for the new investors. I'll get our accountant working on them and contact our attorney to draw up a legally binding contract for the new investors. Yes, this could work. In late 20Y4, the attorney and the various regulatory authorities approved the new stock offering, and shares of common stock were privately sold to new investors for $25,000,000. In preparing financial statements for 20Y4, Karina Takemoto and Glenn Bergum, the controller for Sahara Unlimited Inc., have the following conversation: Glenn: Karina, I've got a problem. Karina: What's that, Glenn? Glenn: Issuing common stock to raise that additional $25 million was a great idea. But ... Karina: But what? Glenn: I've got to prepare the 20Y4 annual financial statements, and I am not sure how to classify the common stock. Karina: What do you mean? It's common stock. Glenn: I'm not so sure. I called the auditor and explained how we are contractually obligated to pay the new stockholders 2% of sales until they receive what they paid for the stock. Then. we may be obligated to pay them $50 per share. Karina: So ... Glenn: So the auditor thinks that we should classify the additional issuance of $25 million as debt, not stock! And, if we put the $25 million on the balance sheet as debt, we will violate our other loan agreements with the banks. And, if these agreements are violated- the banks may call in all our debt immediately. If they do that, we are in deep trouble. We'll probably have to file for bankruptcy. We just don't have the cash to pay off the banks. Discuss the arguments for and against classifying the issuance of the $25 million of stock as debt.

BuyFind

Survey of Accounting (Accounting I)

8th Edition
Carl Warren
Publisher: Cengage Learning
ISBN: 9781305961883
BuyFind

Survey of Accounting (Accounting I)

8th Edition
Carl Warren
Publisher: Cengage Learning
ISBN: 9781305961883

Solutions

Chapter
Section
Chapter 8, Problem 8.3.1C
Textbook Problem

Issuing stock

Sahara Unlimited Inc. began operations on January 2,20Y4. with the issuance of 250.000 shares of $8 par common stock. The sole stockholders of Sahara Unlimited Inc. are Karina Takemoto and Dr. Noah Grove, who organized Sahara Unlimited Inc. with the objective of developing a new flu vaccine. Dr. Grove claims that the flu vaccine, which is nearing the final development stage, will protect individuals against 80% of the flu types mat have been medically identified. To complete me project, Sahara Unlimited Inc. needs $25,000,000 of additional funds. The banks have been unwilling to loan the funds because of the lack of sufficient collateral and the riskiness of the business. The following is a conversation between Karina Takemoto, the chief executive officer of Sahara Unlimited Inc., and Dr. Noah Grove, the leading researcher:

Karina: What are we going to do? The hanks won't loan us any more money, and we've got to have $25 million to complete the project. We are so close! It would be a disaster to quit now. The only thing I can think of is to issue additional stock. Do you have any suggestions?
Noah: I guess you're right. But if the banks won't loan us any more money, how do you think we can find any investors to buy stock?
Karina: I've been thinking about that. What if we promise the investors that we will pay them 2% of sales until they have received an amount equal to what they paid for the stock?
Noah: What happens when we pay back the $25 million? Do the investors get to keep the Stock? If they do, it'll dilute our ownership.

Karina: How about, if after we pay back the $25 million, we make them turn in their stock for what they paid for it? Plus, we could pay them an additional $50 per share. Thai's a $50 profit per share for the investors.
Noab: It could work. We gel our money, but don't have to pay any interest or dividends until we start generating sales. At the same time, the investors could get their money back plus $50 per share.
Karina: We'll need current financial statements for the new investors. I'll get our accountant working on them and contact our attorney to draw up a legally binding contract for the new investors. Yes, this could work.
In late 20Y4, the attorney and the various regulatory authorities approved the new stock offering, and shares of common stock were privately sold to new investors for $25,000,000.

In preparing financial statements for 20Y4, Karina Takemoto and Glenn Bergum, the controller for Sahara Unlimited Inc., have the following conversation:

Glenn: Karina, I've got a problem.

Karina: What's that, Glenn?
Glenn: Issuing common stock to raise that additional $25 million was a great idea. But ...
Karina: But what?
Glenn: I've got to prepare the 20Y4 annual financial statements, and I am not sure how to classify the common stock.

Karina: What do you mean? It's common stock.

Glenn: I'm not so sure. I called the auditor and explained how we are contractually obligated to pay the new stockholders 2% of sales until they receive what they paid for the stock. Then. we may be obligated to pay them $50 per share.
Karina: So ...
Glenn: So the auditor thinks that we should classify the additional issuance of $25 million as debt, not stock! And, if we put the $25 million on the balance sheet as debt, we will violate our other loan agreements with the banks. And, if these agreements are violated- the banks may call in all our debt immediately. If they do that, we are in deep trouble. We'll probably have to file for bankruptcy. We just don't have the cash to pay off the banks.
Discuss the arguments for and against classifying the issuance of the $25 million of stock as debt.

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Chapter 8 Solutions

Survey of Accounting (Accounting I)
Ch. 8 - A corporation issues $40,000,000 of 6% bonds to...Ch. 8 - The following data relate to an $8,000,000,7% bond...Ch. 8 - When should the liability associated with a...Ch. 8 - Deere & Company (DE), a company well known for...Ch. 8 - Delta Air Lines (DAL)' SkyMiles program allows...Ch. 8 - Of two corporations organized at approximately the...Ch. 8 - When a corporation issues stock at a premium, is...Ch. 8 - a. In what respect does treasury stock differ from...Ch. 8 - A corporation reacquires 18,000 shares of its Own...Ch. 8 - The treasury stock in Question 14 is resold for...Ch. 8 - A corporation with preferred stock and common...Ch. 8 - An owner of 300 shares of Colorado Spring Company...Ch. 8 - What is the primary purpose of a Mock split?Ch. 8 - Effect of financing on earnings per share BSF Co.....Ch. 8 - Evaluate alternative financing plans Obj. 1 Based...Ch. 8 - Current liabilities Zahn Inc. -told 16.000annual...Ch. 8 - Notes payable Obj. 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Quality Marble...Ch. 8 - Issuing stock for assets other than cash Obj.5 On...Ch. 8 - Treasury stock transactions Obj.5 Blue Moon Water...Ch. 8 - Treasury stock transactions Sun Dance Gardens Inc....Ch. 8 - Treasury stock transactions Banff Water Inc....Ch. 8 - Cash dividends The date of declaration, date of...Ch. 8 - Effect of cash dividend, stock split, and stock...Ch. 8 - Effect of stock split Audrey's Restaurant...Ch. 8 - Stockholders' Equity section of balance sheet Obj....Ch. 8 - Stockholders' Equity section of balance sheet...Ch. 8 - Effect of financing on earnings per share Three...Ch. 8 - Effect of financing on earnings per share Three...Ch. 8 - Effect of financing on earnings per share Three...Ch. 8 - Recording payroll and payroll taxes The following...Ch. 8 - Recording payroll and payroll taxes The following...Ch. 8 - Recording payroll and payroll taxes The following...Ch. 8 - Recording payroll and payroll taxes The following...Ch. 8 - Bond premium; bonds payable transactions Beaufort...Ch. 8 - Bond premium; bonds payable transactions Beaufort...Ch. 8 - Bond premium; bonds payable transactions Beaufort...Ch. 8 - Bond premium; bonds payable transactions Beaufort...Ch. 8 - Stock transactions for corporate expansion Vaga...Ch. 8 - Dividends on preferred and common stock Yukon Bike...Ch. 8 - Dividends on preferred and common stock Yukon Bike...Ch. 8 - Dividends on preferred and common stock Yukon Bike...Ch. 8 - Notes payable transactions Using the data from...Ch. 8 - Notes payable transactions Using the data from...Ch. 8 - Recording payroll and payroll taxes Using the data...Ch. 8 - Recording payroll and payroll taxes Using the data...Ch. 8 - Recording payroll and payroll taxes Using the data...Ch. 8 - Bonds payable transactions I sing the data from...Ch. 8 - Bonds payable transactions I sing the data from...Ch. 8 - Bonds payable transactions Using the data (rum...Ch. 8 - Note payable and stock transactions Using the data...Ch. 8 - Note payable and stock transactions Using the data...Ch. 8 - Note payable and stock transactions Using the data...Ch. 8 - Dividends Using the data from £8.20, indicate the...Ch. 8 - Dividends Using the data from £8.20, indicate the...Ch. 8 - Dividends Using the data from £8.20, indicate the...Ch. 8 - Stock split Using the data from E8-22. indicate...Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios The Home Depot....Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Lowe's Companies...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios Alphabet (formerly...Ch. 8 - Debt and price-earnings ratios For each of the...Ch. 8 - Ethics and professional conduct in business Jas...Ch. 8 - Ethics and professional conduct in business Jas...Ch. 8 - Contingent liabilities Altria Group. Inc., has a...Ch. 8 - Contingent liabilities Altria Group. Inc., has a...Ch. 8 - Issuing stock Sahara Unlimited Inc. began...Ch. 8 - Issuing stock Sahara Unlimited Inc. began...Ch. 8 - Preferred stock vs. bonds Living Smart Inc. has...Ch. 8 - Financing business expansion You hold a 30% common...Ch. 8 - Financing business expansion You hold a 30% common...

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