How to Calculate Your Retained Earnings Balance

Retained earnings represent the cumulative profits a company has kept and reinvested in the business rather than distributing to its shareholders. This figure is a fundamental component of a company’s balance sheet, specifically within the shareholders’ equity section. Understanding retained earnings offers insight into a company’s financial strength, its historical profitability, and its capacity for future growth through internal financing.

Understanding the Components of Retained Earnings

Calculating the retained earnings balance involves several distinct elements that are typically found on a company’s financial statements. The starting point for this calculation is the “beginning retained earnings,” which represents the accumulated profits from all prior accounting periods. You can locate this figure in the shareholders’ equity section of the balance sheet from the prior period.

The next component is “net income” (or “net loss”) for the current accounting period. Net income signifies the profit a company generates after all expenses, including operating costs, interest, and taxes, have been deducted from its total revenues. A positive net income increases retained earnings, while a net loss decreases them.

Finally, “dividends” are the portion of a company’s profits that are distributed to its shareholders. These distributions reduce the retained earnings balance because they represent funds paid out to owners rather than being kept within the business. Dividends are not considered an expense on the income statement; instead, they are reflected in the statement of stockholders’ equity or the statement of cash flows under financing activities.

The Retained Earnings Calculation Method

The standard formula for determining the ending retained earnings balance integrates these components. The formula is: Ending Retained Earnings = Beginning Retained Earnings + Net Income (or – Net Loss) – Dividends. This calculation shows how a company’s accumulated profits change over a specific period.

To apply this formula, you first identify the beginning retained earnings balance. Next, you determine the net income or net loss for the current period, which is obtained directly from the income statement. If the company generated a profit, this amount is added; if it incurred a loss, it is subtracted.

The third step involves identifying any dividends paid to shareholders during the period. These payments reduce the amount of earnings retained by the company. This figure typically comes from the statement of stockholders’ equity or the statement of cash flows. Once these three figures are gathered, they are applied to the formula to calculate the ending retained earnings balance for the current period.

Practical Application Through an Example

Consider a hypothetical company, “Green Gadgets Inc.,” at the end of its fiscal year on December 31, 2024. At the start of the year, on January 1, 2024, Green Gadgets Inc. had a beginning retained earnings balance of $150,000. This figure was carried over from their balance sheet at the close of the previous fiscal year.

During 2024, Green Gadgets Inc. generated a net income of $75,000, as reported on its income statement for the year. This profit reflects the company’s revenues less all operating expenses, interest, and income taxes for the period. To reward its shareholders, the company distributed $20,000 in cash dividends during the year, which would be noted in its statement of cash flows under financing activities.

Applying the retained earnings formula, the calculation for Green Gadgets Inc.’s ending retained earnings for 2024 would be: $150,000 (Beginning Retained Earnings) + $75,000 (Net Income) – $20,000 (Dividends). This results in an ending retained earnings balance of $205,000. This final balance of $205,000 signifies the cumulative profits that Green Gadgets Inc. has retained and reinvested in the business up to December 31, 2024, indicating its financial capacity for future growth or potential dividend payouts.