Question

The shareholders' equity of Red Corporation Includes $200,000 of $1 par common stock and $500,000 par of 4% cumulatlve preferred stock. The board of directors of Red declared cash dividends of $60,000 in 2018 after paying $10,000 cash dividends in 2017 and $20,000 in 2016 . What Is the amount of dividends common shareholders will recelve in 2018 ? Multiple Choice $45,000 $30,000 $40,000. $35,000.

Answer 1

Common shareholders of Red Corporation will not receive any dividends in 2018 since the entire amount of declared dividends is required to cover the cumulative preferred dividends, including arrears from previous years.

Step-by-step explanation:

To calculate the amount of dividends the common shareholders will receive in 2018 for Red Corporation, it is important to understand that preferred shareholders have priority. Since the preferred stock is cumulative and has a 4% dividend rate, preferred shareholders are entitled to dividends before common shareholders. The calculation is as follows:

Preferred dividends per year = $500,000 * 4% = $20,000.

Total preferred dividends unpaid from 2016 and 2017 = 2 * $20,000 = $40,000 (since only $10,000 and $20,000 were paid in 2017 and 2016, respectively).

Total dividends for 2018 that must be paid to preferred shareholders before common shareholders = Past unpaid dividends ($40,000) + Current year dividends ($20,000) = $60,000.

Since Red Corporation declared $60,000 in cash dividends for 2018, and this entire amount is needed to cover the preferred dividends (including arrears), common shareholders will not receive any dividends in 2018.

Therefore, the amount of dividends common shareholders will receive in 2018 is $0.