The net income retained by the enterprise at the end of the accounting period is called Retained Earning.
In simpler terms, it is net profit generated which is not distributed but used by the company for its own growth or stocked for later objectives.
These are calculated usually after considering dividends and sometimes earnings surplus. In company’s balance sheet, Retained earnings are listed under Stockholder’s equity. A negative figure under retained earnings is a red flag and it impends that the company is facing a loss.
This negative balance is also called an accumulated deficit. Retained Earnings establish a link between an income statement and balance sheet. This is important as it lets the organization decide whether to keep these earning or not. If the earnings are sufficient to invest for their own growth then the company surely will proceed but in case of its insufficiency then the earnings are meant to be distributed amongst shareholders and buyers.
Retained Earnings can be calculated by:
Retained Earnings (RE) = Beginning RE + Net Income – Dividends (retained surplus.)
In every accounting cycle, the calculated RE will take place as the next Beginning RE. A company whose amount of distribution of dividend is greater than its Retained Earnings will face a deficit.
It is reported after the accounting period. Retained earnings can be both a positive as well as a negative figure. The larger the figure is the healthier the organization is in terms of finance. The amount is subject to change if there is any new entry to the accounting records. These Retained Earnings are usually used by the company to reinvest and pay off their debts. Not every change in Retained Earning is recorded but a track can be traced by looking at the earnings at the beginning and the end of the accounting period. Any fluctuation caused in the amount of Retained Earning is the results of net income or dividend payouts. Any loss suffered by the company or Net income results is an addition to the Retained Earnings as it blocks any entries in accounting section of the Balance sheet.
As the company grows it avoids dividend payments and put it in the investments and its growth. Depending upon what type of work the company is into, it can invest in buying new machinery, branching out in new cities or investing in researches. Many a time the earnings are secured to overcome the anticipated loss or pay off the Lawsuits.
Any stock held by the company or cash secured is a dividend. The more dividends distributed by the company the fewer earnings retained by the company. The accounts in dividend are not permanent and change variably as dividend payments do not have specific periods of occurrence. The outflow of cash changes the size of company’s Balance Sheet while the allocation of stock does not affect the size but alters stocks per share. To maintain the balance of balance sheet, the company may issue some amount to common-stock and an additional-paid-in-capital account which eventually will reduce the amount of retained Earnings in the Balance sheet.