How should cash dividends be reported on the statement of shareholders' equity?

• A. As an addition to common stock
• B. As a deduction from retained earnings
• C. As a liability under current liabilities
• D. As an increase in additional paid-in capital

Answer: (B)

Verified step by step guidance

1. Understand the concept of cash dividends: Cash dividends represent a distribution of a company's earnings to its shareholders, reducing the amount of retained earnings available for reinvestment in the business.
2. Review the structure of the statement of shareholders' equity: This statement tracks changes in equity accounts, including common stock, additional paid-in capital, retained earnings, and other equity components.
3. Identify the impact of cash dividends: Cash dividends reduce retained earnings because they represent a payout of profits to shareholders rather than being retained for future use.
4. Determine the correct reporting method: Cash dividends are reported as a deduction from retained earnings on the statement of shareholders' equity, reflecting the decrease in equity due to the distribution.
5. Exclude incorrect options: Cash dividends are not added to common stock, reported as a liability under current liabilities, or included as an increase in additional paid-in capital, as these do not align with the nature of dividends.