Gibbs Corporation owned 20,000 shares of Oliver Corporation's $5 par value ordinary shares.These shares were purchased in 2009 for $180,000.On September 15, 2011, Gibbs declared a property dividend of one share of Oliver for every ten shares of Gibbs held by a shareholder.On that date, when the market price of Oliver was $14 per share, there were 180,000 shares of Gibbs outstanding.What NET reduction in retained earnings would result from this property dividend?

Question

Quizplus · Accepted Answer

To calculate the net reduction in retained earnings, we need to find the fair value of the property dividend and deduct it from retained earnings.

First, let's calculate the total number of Oliver shares that Gibbs will receive as a property dividend:

20,000 shares ÷ 10 = 2,000 Oliver shares

So Gibbs will receive 2,000 Oliver shares as a property dividend.

Since the fair value of the property dividend is based on the market price of Oliver on the date of declaration, we need to multiply the number of Oliver shares by the market price of Oliver:

2,000 shares × $14 per share = $28,000 fair value of property dividend

Next, we need to deduct the fair value of the property dividend from retained earnings:

$28,000 fair value of property dividend × 1/10 (since Gibbs owns 1/10 of the outstanding shares) = $2,800 reduction in retained earnings

Now we can calculate the net reduction in retained earnings by multiplying the reduction in retained earnings per share by the total number of outstanding shares:

$2,800 reduction in retained earnings ÷ 180,000 outstanding shares = $0.0156 reduction in retained earnings per share

Finally, we can multiply the reduction in retained earnings per share by the total number of shares owned by Gibbs:

$0.0156 reduction in retained earnings per share × 20,000 Gibbs shares = $312 reduction in retained earnings for Gibbs

However, we need to consider that the question is asking for the net reduction in retained earnings, which means we need to subtract the fair value of the property dividend from the total reduction in retained earnings. In this case, since the fair value of the property dividend is higher than the reduction in retained earnings, the net reduction in retained earnings will be equal to the fair value of the property dividend:

$28,000 fair value of property dividend - $2,800 reduction in retained earnings = $25,200 net reduction in retained earnings

Therefore, the correct answer is (D) $162,000.

Gibbs Corporation Owned 20,000 Shares of Oliver Corporation's $5 Par