What is par value of a stock?
December 16, 2013
Par value and no par value stocks exist and accounting for them may be different. In this article, we will review par value of stock, watered stock and sample journal entries to account for issuing stocks.
A share of stock is the essence of a corporation, signifying ownership of the business. The concept of a stock’s par value is hundreds of years old -- it’s basically the share’s legal value, even though par value is almost never equal to the market value you might see quoted on an exchange. As an example, shares of stock in the McDonald’s corporation have a par value of $0.01, but they traded near $100 on the New York Stock Exchange in December 2013.
Par value affects corporations and their shareholders in two ways. First, dividends cannot generally be paid out of the common stock balance sheet account, and that amount is determined by multiplying the number of shares issued and outstanding by the par value of those shares. For example, if Corporation X has issued 100,000 shares with a par value of $1.00, the common stock account would equal $100,000. Second, a share of stock cannot normally be issued to an investor for less than par value. If Corporation X issued 5,000 shares to you for $2,500 (i.e., $0.5 per share), you could be sued by X’s creditors for the $2,500 difference between the purchase price and the stock’s legal value if the company declares bankruptcy. Stock sold below par value is referred to as “watered stock.” Nearly all corporations with par-value stock set that value far below $1.00 to avoid dividend restrictions and potentially watered shares -- in fact, the last watered stock case closed almost 60 years ago.
Some states allow a corporation to issue no-par stock. The board of directors of a company can assign the legal value of no-par stock, and that stated value is effectively equivalent to par value. Accounting entries for no-par stock are a bit different than those for stock with a par value, as you’ll see in a moment.