Accounting for Treasury Stock With the Par Value Method
Learn how the par value method accounts for treasury stock by treating repurchased shares as retired, directly impacting stockholders' equity accounts.
A corporation may repurchase its own shares, known as treasury stock, to increase earnings per share or for employee compensation plans. One way to account for these transactions is the par value method, which treats the repurchase as if the shares are being retired, even if they may be reissued later. This method records treasury stock at its assigned par value, not the market price paid. The accounting entries impact several stockholders’ equity accounts on the balance sheet, reflecting a contraction of the company’s capital structure.
Recording the Purchase of Treasury Stock
To record the purchase, the journal entry affects several equity accounts. The Treasury Stock account is debited for the par value of the acquired shares. The Additional Paid-in Capital (APIC) associated with the original issuance of those specific shares is also removed from the books with a debit. Finally, the Cash account is credited for the total purchase price paid to acquire the shares from the market.
Balancing the journal entry depends on the repurchase price versus the original issuance price. If the company buys back stock for less than its original sale price, the difference is credited to an account called “Additional Paid-in Capital from Treasury Stock Transactions.” This is an equity transaction and does not affect net income.
If the repurchase price is higher than the original issuance price, the excess cost is handled differently. First, any credit balance in the APIC from Treasury Stock Transactions account is debited. If that account is insufficient to cover the cost, the remainder is debited to Retained Earnings, signifying a distribution of profits.
Accounting for the Reissuance of Treasury Stock
When a company sells treasury shares, the transaction is treated as a new issuance of stock. The accounting focuses on the new sale proceeds and the shares’ par value, not the original repurchase price.
The journal entry to record the reissuance begins with a debit to the Cash account for the full amount of money received from the sale. The Treasury Stock account is then credited for the par value of the shares being reissued. To balance the entry, the amount received in excess of the shares’ par value is credited to the Additional Paid-in Capital account.
For example, if 100 shares with a $1 par value are reissued for $25 per share, Cash is debited for $2,500. Treasury Stock is then credited for $100, and APIC is credited for the remaining $2,400.
As with the purchase, reissuance transactions do not generate profits or losses on the income statement. The reissuance increases the company’s cash and paid-in capital, reflecting new investment.
Retirement of Treasury Stock
Formal retirement is the process of legally canceling treasury shares, which prevents them from being reissued. Because the par value method already treats the purchase as a constructive retirement, the journal entry for legal retirement is simple.
The entry to formally retire shares involves debiting the Common Stock account and crediting the Treasury Stock account for the par value of the retired shares. For instance, if a company retires 1,000 shares of treasury stock with a $1 par value, it debits Common Stock for $1,000 and credits Treasury Stock for $1,000.
By retiring shares, a company officially decreases its number of issued shares. This can be a strategic move to alter the equity structure or increase metrics like earnings per share.
Balance Sheet Presentation
The par value method presents treasury stock differently on the balance sheet compared to other methods. Instead of a single negative line item, it is shown as a direct reduction from the common stock account.
The stockholders’ equity section first shows the Common Stock account, detailing the par value and number of shares issued. A separate line item titled “Less: Treasury Stock” is then presented, showing the par value of shares held in treasury, which is subtracted from the common stock value.
For example, the equity section might list Common Stock (1,000,000 shares issued at $1 par) for $1,000,000. Directly beneath it, a line for “Less: Treasury Stock” (50,000 shares at par) would show a deduction of $50,000. This clearly shows how many issued shares have been repurchased.