What Are Retained Earnings & How To Calculate Them

Monday, 18 Oct 2021

Retained earnings are significant for accounting purposes, and bookkeepers maintain their records for businesses. It refers to the profits of the business accumulated over a period of time. However, many aspiring entrepreneurs are not aware of the term or do not have a clear understanding of it.

Most of them make their bookkeepers in Melbourne take care of their retained earnings and their calculation. However, as the business owner, you must know about these terms and their significance so that you can analyse the financial status of your company.

So here is a detailed rundown on retained earnings and their calculation procedure.

What are Retained Earnings?

Retained earnings are the net income of the business that is left after the dividends have been paid to the owner or the shareholders. They are referred to as retained earnings because this amount is not distributed and is retained by the business. It is a part of the owner’s or shareholder’s equity.

The retained earnings of an organisation in Melbourne go down if it suffers losses and soars when it generates more profits. Whether the net income is retained or distributed among the shareholders is dependent on the decision of the top management.

The retained amount is usually put back into the business to purchase new assets or fund a new project after consulting the bookkeeper. Thus, it helps the entrepreneur to determine if the business can be expanded with the help of retained earnings or not. They are also known as accumulated earnings and help in identifying the viability of the business by investors and lenders.

How are Dividends Paid?

Dividends can be paid as cash to the shareholders or in the form of stocks. Any type of payment leads to a reduction in accumulated earnings. When cash goes out of the business, it gets recorded in the books by the bookkeeper.

Thus, the asset value of the organisation in Melbourne takes a tumble in the balance sheet. Similarly, when the business offers stocks to its shareholders, the per-share valuation of the company goes down. In both cases, retained earnings are affected.

How They Differ from Other Capital?

Retained earnings are different from revenue and profit. While revenue is the income generated by the business, profit is what is left after subtracting expenses from revenue. Retained earnings are the net income that the company decides to retain for its expansion after paying the dividends.

A business in Melbourne that aims to grow will not distribute the dividends among the shareholders and invest the entire net income back into the company at the suggestion of the bookkeeper. In addition, cash reserves maintained by a bookkeeper for the business are drawn from the retained earnings.

However, they differ from each other as reserves are a part of liabilities and retained earnings are a part of equity. The investors can thus determine the profitability of the business in Melbourne by looking at the accumulated earnings.

How to Calculate Retained Earnings?

The formula used by bookkeepers for the calculation of the sum is as follows:

Retained Earnings = Beginning Period Retained Earnings + Net Income or Loss – Dividends

The beginning period retained earnings are the accumulated earnings from the last accounting period. For example, if the previous retained earnings of a company in Melbourne were $10,000 and it earned a net income of $7,000 and paid $3,000 as dividends, then its retained earning for this accounting period will be: $10,000 + $7,000 – $3,000 = $14,000.

How to Interpret Retained Earnings?

The retained earnings keep getting carried over to the next accounting period throughout the lifecycle of the business by the bookkeeper. A profitable business in Melbourne will have growing accumulated earnings over the years.

On the other hand, a struggling business will have negative retained earnings that showcase a higher debt as compared to income. Thus, bookkeepers analyse them over a long period to understand how much capital is getting accumulated as retained earnings.

It is not the only criterion for determining the profitability of the business because start-ups usually have negative retained earnings as they get funding through loans and investors. However, a business that has been trading for several years should have positive retained earnings.

In some cases, if the business has many shareholders and pays them dividends regularly, it may have lower retained earnings. In addition, seasonal businesses in Melbourne have both high and low retained earnings, depending on the period of accounting. The period of sales will have positive figures while the dry spells will showcase a negative amount.   

How Retained Earnings Can Be Utilised by the Business?

The business management may decide to distribute the entire net income among the shareholders and may not retain anything. Conversely, they may invest the entire income in the development of the business in Melbourne, such as the acquisition of assets and equipment.

It can be utilised for mergers and acquisitions to improve the availability of resources, stock, talent, and infrastructure. The bookkeeper may also recommend using the money for paying off pending debts. It can be used for research and innovations, introducing a new product, new marketing strategy, etc.  

Endnote

Bookkeepers in Melbourne keep track of retained earnings, and business owners must follow suit. It helps in making informed decisions related to the expansion of the business and its investments.  

 

 

Let‘s Connect

Search

Get In Touch

    Archives

    Categories