Retained earnings may play an important role in your business’s ability to fund expansions, launch new products, or enter mergers/acquisitions. To calculate your retained earnings, you’ll need to produce a retained earnings statement. Find out more about how to calculate retained earnings with our comprehensive guide.
Retained earnings meaning
Before we get onto the retained earnings statement, it’s important to explore what is meant by retained earnings more generally. Essentially, retained earnings is a term describing the amount of your business’s net income that is left over after the company has paid out dividends to shareholders. As a result, retained earnings can be either positive (a profit) or negative (a loss).
Why are retained earnings important?
Retained earnings are likely to have a significant effect on the financial viability of your business. If you have a positive retained earnings figure, your business will have more money to spend on growth activities like R&D, expanding physical premises, and so on. Furthermore, this profit may also be used to fund mergers and acquisitions, bankroll share buybacks, repay outstanding loans, or expand your company’s existing operational infrastructure. Furthermore, if businesses don’t believe that they’ll receive enough return on investment from their retained earnings, they may be distributed to shareholders.
How to calculate retained earnings
There’s a simple retained earnings formula that you can use to learn how to calculate retained earnings, although you’ll need to know a couple of key pieces of information to complete the formula properly. The retained earnings formula is as follows:
End Period Retained Earnings = Beginning Period Retained Earnings + Net Income (or Net Loss) – Cash Dividends – Stock Dividends
Essentially, you just need to find out the retained earnings at the beginning of your accounting period, add the net income (or loss, depending on the financial health of your business), before subtracting both cash and stock dividends. The figure you land on will be your end period retained earnings.
Understanding the retained earnings statement
Now that you’ve got a basic understanding of retained earnings, let’s look at the retained earnings statement in greater depth.
Essentially, the retained earnings statement (sometimes referred to as a statement of retained earnings, equity statement, or statement of shareholders’ equity) provides an overview of the changes in your company’s retained earnings over a specific period. Put simply, the statement reconciles your business’s retained earnings at the beginning of the period with the retained earnings at the end of the period using information from other financial documents.
While the retained earnings statement can be prepared on its own, many companies will simply append it to another financial document, like the balance sheet. You’ll need to ensure that – as with any financial statement – you’re in compliance with the generally accepted accounting principles (GAAP), which is why many businesses rely on outside parties to prepare their retained earnings statement.
Retained earnings statement example
Let’s see a retained earnings statement example for a little more context about how this all works in the real world. If we look at the following (simplified) version of a retained earnings statement, we can see how retained earnings may be calculated:
|Retained earnings on December 31, 2019||250,000|
|Net income for year ending December 31, 2020||70,000|
|Dividends paid to shareholders||
|Retained earnings at December 31, 2020||290,000|
Or expressed in a different way:
End Period Retained Earnings = £250,000 + £70,000 - £30,000 = £290,000
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