How to calculate retained earnings

Content

Steps
Method 1 of 2: What is retained earnings
Method 2 of 2: Calculation of the company's retained earnings
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Retained earnings represent the portion of a company's income that is not paid to shareholders as dividends. This money is usually reinvested in the development of the company or used to pay off debts. Usually, retained earnings for a given reporting period is determined by subtracting dividends paid to shareholders from the company's net income. The calculation of retained earnings is the responsibility of accountants (and this is an important part of their job), but knowing the basic principles, you can do it yourself!

Steps

Method 1 of 2: What is retained earnings

1 Find out where the retained earnings of the company are recorded. Actually, this is the account that is displayed in the balance sheet of the company under the heading "Share of a shareholder in the funds of the enterprise." The funds stored in this account are the total profit of the company since its inception, which has not been distributed among shareholders in the form of dividends. If this account went into negative territory, such a situation is called “accumulated deficit”.
- Knowledge of the retained earnings accumulated by the company from the moment of its registration, allows you to determine the balance of retained earnings after the next reporting period. For example, if the cumulative retained earnings of your company is 12 million rubles, and during the current reporting period you deposit 6 million rubles into this account, then the new amount of accumulated retained earnings will be 18 million rubles. In the next period, if retained earnings are 15 million rubles, this account will already have 33 million rubles. In other words, since the creation of the company, you have been able to do enough so that after the payment of salaries, operating costs, dividends to shareholders, another 33 million rubles will remain “saved” for the company.
2 Try to understand the relationship between retained earnings of a company and the policies of its investors. On the one hand, investors in a profitable company expect a good return on their investment. On the other hand, they are interested in the development of the company, because in this case it will bring more profit, which means that their dividends will increase. For a company to grow and develop, it must invest its retained earnings in itself, increasing its efficiency and / or expanding the business.If successful, such a reinvestment in the long term will lead to an increase in the company's profitability and the price of its shares, that is, investors will earn more money than if they initially demanded large dividends.
- If a company generates profits and retains a significant portion of its earnings, but does not grow, investors tend to start demanding larger dividends because the money should not just be “stored” in the company - it should be used efficiently to generate even more profits.
- A company that has no profit or does not pay dividends has almost no chance of attracting investors.
3 You need to know what factors affect the size of retained earnings. Retained earnings may vary from one reporting period to the next, but this is not always the result of changes in the company's earnings. The following are the factors that can affect the balance of retained earnings:
- Change in net profit
- Change in the amount of funds paid as dividends to investors
- Change in the cost of goods sold
- Change in administrative costs
- Change in taxes
- Changing the company's business strategy

Method 2 of 2: Calculation of the company's retained earnings

1 Collect the required data from the financial statements of the company. Companies are required to formally document their financial history. In general, the easiest way to calculate current retained earnings is not manually, but using these official figures of retained earnings accumulated to date, net income and dividends paid. The capital of the company and its retained earnings up to the period of the last record should be shown in the current balance sheet, while the net profit is shown in the current income statement.
- If you can get all this information, all you have to do is calculate retained earnings using the formula: "Net Income - Dividends Paid = Retained Earnings".
  - To find the cumulative retained earnings of a company, add the retained earnings for the current period to the amount in the account at the end of the previous reporting period.
- For example: let's say that at the end of 2011, your company had 150 million rubles of total retained earnings on its account. In 2012, the company earned RUB 15 million in net profit and paid RUB 5.5 million in dividends. In this case:
  - 15 - 5.5 = 9.5 - retained earnings for this reporting period
  - 150 + 9.5 = 159.5 - total retained earnings
2 If you do not have access to information on net income, you can calculate retained earnings manually, although this process is more time consuming. Start by looking for the company's gross margin. Gross profit is displayed in a multi-step income statement. It is determined by subtracting the value of the goods sold by the company from the income received from these sales.
- Suppose that the company earned 1,500,000 rubles on sales during one quarter, but it had to spend 900,000 rubles to buy the goods needed to form 1,500,000 rubles. Gross profit for this quarter was 1,500,000 - 900,000 = 600,000.
3 Calculate your operating income. This is the company's income after covering all sales and operating (running) costs such as salaries. To calculate this figure, subtract all operating expenses (other than the cost of goods sold) from gross profit.
- Let's say that, with a gross profit of RUB 600,000, a company spent RUB 150,000 on administrative costs and employee salaries. The company's operating income for this quarter is 600,000 - 150,000 = 450,000 rubles.
4 Calculate your net income before taxes. To do this, subtract interest, depreciation and amortization expenses.Depreciation and amortization, that is, the decline in the value of assets (tangible and intangible) over their service life, are recognized as an expense in the income statement. If a company buys RUR 100,000 of equipment with a 10-year service life, the annual depreciation expense would be RR 10,000, assuming that the equipment depreciates at a constant rate.
- Let's assume that our company lost 12,000 rubles on interest expenses and 40,000 on depreciation expenses. In this case, net profit before taxes will be 450,000 - 12,000 - 40,000 = 398,000.
5 Calculate net income after taxes. Taxes are the last expense we need to consider. To do this, first apply the company's tax rate to its pre-tax net income (by multiplying them), and then subtract the resulting amount from the company's net profit before taxes.
- Let's assume that in our example, a company is taxed at a flat rate of 34%. Our tax expense would be 0.34 × 398,000 = 135,320.
- Net profit after taxes: 398,000 - 135,320 = 262680.
6 Finally, subtract the dividend payout. As a result of all the previous manipulations, we calculated the company's net profit, taking into account all expenses. To determine retained earnings for the current period, it is necessary to deduct dividends paid to shareholders from net profit after taxes.
- Let's assume that in our example we paid out 100 thousand rubles to our investors in this quarter. Retained earnings for the current period amounted to 262,680 - 100,000 = 162,680.
7 Calculate the current balance of the retained earnings account. Remember, this account is cumulative; it reflects the change in retained earnings from the inception of the company to the present. To calculate the total amount of retained earnings, add the retained earnings for the current period to the amount in the account at the end of the previous reporting period.
- Suppose that today the total retained earnings of our company amounted to 300 thousand rubles. Now the balance will be 300,000 + 162 680 = 462 680.