What is the Statement of Retained Earnings?

  • Retained earnings are part of the net income retained by the company after dividend payment to the shareholders. Retained earnings are also called ‘retained surplus’ or ‘accumulated earnings.A company retains a part of its net profit earned in the financial year for future growth, which could be by launching new products, R&D investments, acquiring other businesses, or paying off its debt.Retained earningsRetained EarningsRetained Earnings are defined as the cumulative earnings earned by the company till the date after adjusting for the distribution of the dividend or the other distributions to the investors of the company. It is shown as the part of owner’s equity in the liability side of the balance sheet of the company.read more are reported on the balance sheet as well as the statement of retained earnings.

Retained earnings after a given financial year are calculated as follows:

How to Prepare the Statement of Retained Earnings?

Given below are the steps for the preparation of Retained Earnings Statement.

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Examples

Let’s see some examples so that you can understand this in a better manner.

  • Headings Its’ heading comprises three lines:– Name of the Company– The second line gives the ‘Statement of retained earnings.’– The third line represents the financial year for the retained earnings numbers that have been prepared, i.e., ‘Financial Year Ended 2018’ etc. Retained Earnings Balance from the Previous Year The first entry on the statement is the previous year’s carried-over balance. This entry can be taken from the previous year’s balance sheet or the ending balance of the previous year’s retained earnings. This is also called the beginning of retained earnings.Let us consider the previous years retained earnings balance or the beginning retained earnings of a Company ABC Inc. is $ 500000.Thus, the first entry will be:Retained Earnings for the year ended 2017: $ 50000 Net Income Addition Net income is added to the income statement. It comes as the second entry to the retained earnings. Therefore, to record net income in the statement, the company should prepare the income statement first and then the retained earnings statement.Let’s assume the Company ABC Inc. had a net income of $ 100000.Thus, it will beRetained Earnings for the year ended 2017: $ 500000Plus, Net Income 2018: $ 100000Total: $ 600000 Subtract Dividend Payments A dividend is any payment made by the company to its shareholders. It is subtracted from the net income for the year, as the remaining part is the retained earnings for that year. For example, let us say the Company ABC Inc. paid a dividend of $ 50000 to the shareholders.Thus, it is:– Retained Earnings for the year ended 2017: $ 500000– Plus, Net Income 2018: $ 100000– Total: $ 600000– Minus: Dividend $ 50000 Ending Retained Earnings After subtracting the dividend from the net income, we arrive at the ending retained earnings, which becomes the last entry to this statement.– Retained Earnings for the year ended 2017: $ 500000– Plus, Net Income 2018: $ 100000– Total: $ 600000– Minus: Dividend $ 50000– Ending retained earnings: $ 550000Thus, the above entries are shown on the Statement of Retained Earnings. Additional Information Although this statement is pretty straightforward, additional information can be provided in the footnotes to the statement. This additional information can provide details about the stock purchase, new issuance of stock or rights issue, etc. All these corporate actions affect the dividend payment. Hence additional information can be provided to the investors.

Its’ heading comprises three lines:– Name of the Company– The second line gives the ‘Statement of retained earnings.’– The third line represents the financial year for the retained earnings numbers that have been prepared, i.e., ‘Financial Year Ended 2018’ etc.

The first entry on the statement is the previous year’s carried-over balance. This entry can be taken from the previous year’s balance sheet or the ending balance of the previous year’s retained earnings. This is also called the beginning of retained earnings.Let us consider the previous years retained earnings balance or the beginning retained earnings of a Company ABC Inc. is $ 500000.Thus, the first entry will be:Retained Earnings for the year ended 2017: $ 50000

Net income is added to the income statement. It comes as the second entry to the retained earnings. Therefore, to record net income in the statement, the company should prepare the income statement first and then the retained earnings statement.Let’s assume the Company ABC Inc. had a net income of $ 100000.Thus, it will beRetained Earnings for the year ended 2017: $ 500000Plus, Net Income 2018: $ 100000Total: $ 600000

A dividend is any payment made by the company to its shareholders. It is subtracted from the net income for the year, as the remaining part is the retained earnings for that year. For example, let us say the Company ABC Inc. paid a dividend of $ 50000 to the shareholders.Thus, it is:– Retained Earnings for the year ended 2017: $ 500000– Plus, Net Income 2018: $ 100000– Total: $ 600000– Minus: Dividend $ 50000

After subtracting the dividend from the net income, we arrive at the ending retained earnings, which becomes the last entry to this statement.– Retained Earnings for the year ended 2017: $ 500000– Plus, Net Income 2018: $ 100000– Total: $ 600000– Minus: Dividend $ 50000– Ending retained earnings: $ 550000Thus, the above entries are shown on the Statement of Retained Earnings.

Although this statement is pretty straightforward, additional information can be provided in the footnotes to the statement. This additional information can provide details about the stock purchase, new issuance of stock or rights issue, etc. All these corporate actions affect the dividend payment. Hence additional information can be provided to the investors.

Example 1

Let us summarize the above example and prepare the Statement of Retained Earnings for the Company ABC Inc. The beginning retained earnings of the Company ABC Inc. is $ 500000, the company had a net income of $ 100000 and paid a dividend of $ 50000 to the shareholders.

The Statement at the end of the financial year is as below:

Example 2 – (Apple Inc)

The below snapshot shows the Consolidated shareholder’s equity statement for Apple Inc. for the year ended 2018.

source: Apple SEC Filings

All figures below are in thousands.

  • Apple’s Retained Earning in FY2015 = $92,284Net Income in FY 2016 = $45,687Dividends in FY 2016 = $12,188Buyback of common stockBuyback Of Common StockShare buyback refers to the repurchase of the company’s own outstanding shares from the open market using the accumulated funds of the company to decrease the outstanding shares in the company’s balance sheet. This is done either to increase the value of the existing shares or to prevent various shareholders from controlling the company.read more = $29,000Common stock issues (net of shares) = $419

Apple’s Retained Earnings in FY2016 = $92,284 +  $45,687 – $12,188 – $29,000 -$419 = $96,364

Relevance and Uses

This statement is very helpful to investors. Investors who have invested in a Company gain either from dividend payments or the share price increase. A mature firm is expected to pay a regular dividend. In contrast, a growing Company is expected to retain the income and invest in future business, thus expecting an increase in the share price.

Hence, it helps investors in both ways:

  • It shows dividend payments to the investors or helps them predict future dividends based on the earnings.From retained earnings, the investors can analyze how much money is reinvested in the business, which may lead to a future increase in the share price.

Also, it can be used by investors to compare companies in similar kinds of business. However, it is not always prudent to compare two Companies only based on the retained earnings as retained earnings depend on various factors like the company’s age, dividend policy, and the business’s nature, thus affecting the dividend policyDividend PolicyDividend policy is the policy that the company adopts for paying out the dividends to the company’s shareholders, which includes the percentage of the amount at which the dividend is to be paid out to the stockholders and how frequent the company pays the dividend amount.read more of the Company, and the nature of the business, thus affecting the profitability of the Company.

Conclusion

Retained earnings are the amount the company has accumulated over the years from the net income after paying dividends to the shareholders. Retained earnings statement provides details of the beginning retained earnings, net income, dividend aid, and the ending balance of the retained earnings.

This article has been a guide to what the Statement of Retained Earnings is. Here we discuss how to prepare a statement of retained earnings along with practical examples and formulas. You may learn more about accounting from the following articles –

  • Statement of Retained Earnings ExamplesAppropriated Retained EarningsUnappropriated Retained EarningsWhat is Shareholders Equity Statement?Fully Vested