Definition
The financial accounting term retirement of treasury stock refers to a process whereby a company decides it will not reissue stock held in treasury to the market. In addition to approval by the company's board of directors, there are a number of regulatory requirements a company must comply with before it can retire treasury stock.
Explanation
Companies will issue capital stock to raise funds that are used to expand business operations and create additional shareholder value. Companies can choose to subsequently buy back shares from the market and will reacquire stock for a number of reasons including: increasing earnings per share, meeting stock option obligations, establishing a floor price for the stock, contracting the business, as well as preventing a hostile takeover.
When a company reacquires common stock, it can hold them as treasury shares. This enables the company to reissue the securities in the future. Alternatively, it can decide not to reissue the shares held in treasury, and retire the stock.
The accounting approach to the retirement of treasury stock will depend on whether the company used the par or cost method when the treasury shares were reacquired.
Cost Method: the journal entries for this transaction under the cost method would involve debits to Common Stock, Paid-in Capital in Excess of Par, and Retained Earnings (if the share price was higher than the price when issued), while the transaction would also involve a credit to the Treasury Stock account.
Par Method: the journal entries for this transaction under the par method would involve a credit to Common Stock and a debit to Treasury Stock.
Example
Ten years ago, Company A issued 1,000,000 shares of common stock with a par value of $0.01. During the initial public offering, Company A was able to raise $20,000,000. The journal entries to record the issuance of this common stock would be as follows:
| Debit | Credit | |
| Cash | $20,000,000 | |
| Common Stock: 1,000,000 shares, par value $0.01 | $10,000 | |
| Paid-in Capital in Excess of Par | $19,990,000 |
Company A reacquired 100,000 shares at a price of $24.00. The journal entry to record this transaction using the par method would be as follows:
| Debit | Credit | |
| Treasury Stock: 100,000 shares x $0.01 per share | $1,000 | |
| Paid-in Capital in Excess of Par: 100,000 shares x $19.99 per share | $1,999,000 | |
| Retained Earnings | $400,000 | |
| Cash | $2,400,000 |
Company A's board of directors subsequently decided to retire 50,000 shares of Treasury Stock. The journal entry to record this transaction using the par method would be as follows:
| Debit | Credit | |
| Common Stock | $500 | |
| Treasury Stock: 50,000 shares x $0.01 per share | $500 |
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