Retained Earnings Statement

Retained earning statement or the statement of retained earnings is a statement of the net earnings that are not paid to the shareholders and are invested back into the business or used to pay off debt. In an accounting cycle, a retained earnings statement is the second financial statement and is prepared after the income tax statement. It basically gives the company an idea about the difference in the earnings over varying periods of time. Let us first try to understand the concept of retained earnings.

Whether a company is making profits or losing money is determined by the analyzing its incomes and expenses. For example, when a firm makes money, the income generated is referred to as earnings. The amount of money spent to carry out operational activities, production, paying off employees etc., are categorized as expenses. To determine whether firm is making profits or losses, the expenses are subtracted from the earnings. If a company is making profits, some of it is shared with the shareholders of the company, while some of it is retained by the company for further planning, acquisitions, investment etc. These earnings are not fixed over a period of time, so these are recorded on a statement in accordance with the U.S. Generally Accepted Accounting Principles. This statement is known as retained earnings statement.

How to Calculate Retained Earnings?

The formula to calculate retained earnings is quite simple. You just need to be aware about some of the terms used in accounting and economics and you can successfully calculate the retained earnings of your business. The formula for retained earnings calculation is:

Retained Earnings (RE) = Previous Retained Earnings + Net Income - Dividends

So, on the basis of this formula, if a company has previous retained earnings of $100,000 and has made a profit of $125,000 after all the taxes and deductions, out of which $20,000 has to be paid as dividends, then the retained earnings would be:

Retained earning = {100,000 + 125,000 - 20,000}= $205,000.

Retained Earnings Statement : A Sample

ABC Private Limited
Statement of Retained Earnings for Year ending December 31, 2010
Balance of the Retained Earnings on December 31, 2009	$100,000
Net income in year 2010	$125,000
Dividends to stockholders	$20,000
Retained Earnings for 2010	$205,000

Uses of Retained Earnings

The legendary investor Warren Buffet has laid the emphasis on retained earnings and called them a sign of good financial management. A company that intends to grow must know how to put its earnings back into the business. Also, there are times when the company is not able to make as much profits as planned, in those times retained earnings ensure that the operational work of the company is carried out smoothly and there is no need to take desperate measures like layoffs, closures, etc. Also, while running a large organization, there are times when the firm would have borrowed from banks, money lending institutions to survive. Retained earnings ensure that the company is able to pay back its debts and liabilities. A retained earnings statement of cash flows makes the business evaluate its plans and prioritize the use of these earnings accordingly. For example, if a company is thinking about expanding its base, but also has some debts to pay, a careful preparation and study of the retained earnings statement helps it prioritize as to which is more important for the business as of now.

In the end, we can say that like many other financial statements, a retained earnings statement is of great importance for a firm and careful evaluation of this statement will ensure that the firm is in control of its earnings and spending.