Retained earnings

Definition

Retained earnings are the cumulative amount of net income that a company retains, rather than distributes as dividends to shareholders. They are reported on the balance sheet under shareholders' equity and reflect the company's reinvestment in its own operations.

5 Must Know Facts For Your Next Test

1. Retained earnings increase when a company earns a profit and decrease when it incurs a loss or pays dividends.
2. The retained earnings figure is calculated by adding net income to the previous period's retained earnings and then subtracting dividends paid.
3. A high level of retained earnings can indicate that a company is successfully reinvesting its profits into growth opportunities.
4. Retained earnings are different from cash on hand; they represent potential future investments or obligations.
5. Negative retained earnings, known as an accumulated deficit, suggest that a company has sustained more losses than profits over time.

Review Questions

• How do retained earnings affect the shareholders' equity section of the balance sheet?
• What happens to retained earnings when a company pays out dividends?
• Why might investors be interested in a company's retained earnings?

Related terms

Net Income:

The total profit of a company after deducting all expenses, taxes, and costs from total revenue.

Dividends:

Payments made by a corporation to its shareholder members, usually derived from profits.

Shareholders' Equity:

The residual interest in the assets of the entity after deducting liabilities, representing ownership interest held by shareholders.