Retained earnings, also known as shareholders funds, represent the cumulative profits of a company that have not been distributed to shareholders as dividends. Essentially, it’s the portion of profits kept within the business for reinvestment.
There are several ways a company can utilise its retained earnings:
- Dividend payments: Distributing profits to shareholders.
- Business expansion: Investing in new equipment, technology, or facilities.
- Product development: Funding research and development of new products or services.
- Mergers and acquisitions: Acquiring other businesses to expand market share.
- Share buybacks: Repurchasing company shares from existing shareholders.
- Debt repayment: Reducing financial obligations and improving the company’s financial position.
Retained earnings are also called earnings surplus and represent reserve money, which is available to company management for reinvesting back into the business.
Though the last option of debt repayment also leads to the money going out of the business, it still has an impact on the business’s accounts (for example, on saving future interest payments, which qualifies it for inclusion in retained earnings).
What is the difference between retained earnings and accumulated earnings?
- While similar, accumulated earnings include all profits generated since the company’s inception, whereas retained earnings focus on profits from a specific period.
How do they impact the balance sheet?
- Retained earnings are presented in the shareholders’ equity section of the balance sheet.
Are retained earnings the same as profit?
- No, profit represents earnings for a specific period, while retained earnings are the cumulative profits retained within the business.
How do they affect investor sentiment?
- Higher retained earnings can signal a company’s focus on growth and reinvestment, potentially increasing investor confidence. However, excessive retention without corresponding growth opportunities may lead to investor concerns.