A businessman must be familiar with the term profit, because profit is the goal of running a business. In accounting, in addition to profit there is also the term retained earnings.
Then what is the meaning of retained earnings? What are the benefits and how do you calculate retained earnings? This time we will review it. Let’s look at the following explanation.
Definition of Retained Earnings
Retained earnings is the term for unshared profit. Or in other words, the notion of retained earnings is the whole or part of the company’s profit for a certain period which is not distributed to shareholders as their dividends. Retained earnings is a term that is also popular in a company’s balance sheet.
What is meant by dividend is the distribution of profits to the company’s shareholders according to the percentage of their share ownership. The decision on retained earnings is a joint decision at the General Meeting of Shareholders (GMS). The decision is taken by looking at the company’s financial condition, marketing strategy and operational funding needs in the next period.
The value of this profit is influenced by many things, such as changes in corporate taxes, changes in the cost of production, changes in the cost of goods sold, changes in the cost of orders , changes in net receipts, changes in the amount of dividends to be paid to shareholders, and changes in administrative costs.
Benefits of Retained Earnings
Retained Earning has several very significant benefits for the company’s operations, namely:
To Pay Company Debt
The first benefit of retained earnings is that the company continues to run and the company’s good name is maintained, the debt obligations must be paid. Therefore, the company can plan debt payments with retained earnings, especially debt that will soon be due.
To Finance Company Operations
In carrying out its operations, a company must have sufficient funds including funds in large cash and petty cash. Retained earnings are also useful for financing the company’s operations with the aim that the company can continue to operate in the hope that it will continue to grow bigger.
This is usually taken as a decision if the profit earned by the company is small so it would be much better if it is used to finance operations rather than being distributed to shareholders. But of course this decision must be approved by the shareholders.
As Reserve Capital
Another benefit is as a capital reserve if one day the company experiences financial constraints. With the funds from these profits, it can be additional funds so that the company can continue to run well without the need to borrow money from other parties such as banks.
For the Company’s Future Development or Investment
The company, of course, must not run statically or decline but must continue to rise and innovate so that it can continue to exist and develop. This profit can be used in business development or company investments, including investments in other businesses.
Factors Behind Retained Earnings
There are several factors behind the occurrence of retained earnings, namely:
Changes in Company Management
Changes in organizational structure in company management can be the background for the occurrence of retained earnings reports. The goal is for the new management to be able to adjust and show their performance in managing the company’s finances. Withholding earnings due to this factor also aims to maintain work stability and suppress fraudulent actions.
There is an Error in the Financial Statements of the Previous Period
Another factor is the occurrence of errors in the financial statements of the previous period. In this case, the company must first correct the financial statements until they are valid and then recalculate the value of the retained earnings report correctly.
Dollar Value Adjustment From Previous Period
The next factor was due to an adjustment in the value of the dollar which had changed. The rupiah exchange rate that rises and falls at any time will affect the results of the company’s profit calculation, so the accountant decides to hold back the existing profit.
There is a Change in Calculation Method
Factors that change the calculation method can also be the cause of retained earnings. For example, the previous calculation method always used a monthly system and then suddenly it was changed to weekly then it would be confusing. Because of the confusing data or calculation results, the accountant will usually withhold the existing capital results.
Changes in Accounting Principles from the Previous Period
Factors that can also influence are changes in accounting principles from the previous period, where these changes occur quite significantly and affect the value of the statement of retained earnings.
How to Calculate Retained Earnings
Here are the steps to calculate it:
Calculate the Gross Profit of the Company
The formula for calculating gross profit is:
Gross Profit = Sales Figures – Cost of Goods
Calculate Company Operating Profit
After calculating gross profit, then calculating operating profit with the formula:
Operating Profit = Gross Profit – Operating Expenses
Next, Calculate Net Profit Before Tax
After operating profit is obtained, the next step is to find out net income before tax, namely operating profit minus interest, depreciation and amortization. Depreciation and amortization is the depreciation of the value of an asset (tangible and intangible) over its economic life.
Then, You Calculate Net Profit After Tax
Net profit after tax is obtained from net income before tax minus the tax rate.
Finally, Calculate the Value of Retained Earnings
If net profit after tax is obtained, then it can be calculated using the formula:
Retained Earnings = Net Profit After Tax – Dividends
As can be seen above, the formula is very simple, namely subtracting net income after tax by dividends distributed to shareholders.
Thus the explanation of retained earnings, benefits, how to calculate and the formula. Hopefully useful and you can apply it in your business.
Calculating retained earnings manually will take time and hassle and there is a possibility of wrong numbers due to human error, you can minimize or eliminate these errors by using accounting software. Currently, there are many choices of accounting software, especially cloud-based ones, of these choices, one of the best is Harmony Accounting Software.
