Retained earnings is the amount of capital a company keeps for itself from profits generated by business activities. In smaller companies, this amount represents the claims an owner makes against the assets of the business, that is, his or her personal ownership. Larger companies use retained earnings for many things, often labeling the amount as appropriated retained earning and unappropriated retained earning. The former simply means the earnings do not go to investor dividend payments and are used for internal business purposes. Appropriated retained earnings can have multiple uses in a business as defined by its owners, executives, or board of directors.
The accounting equation can give a basic idea of what retained earnings is in accounting terms. This equation has three parts: assets, liabilities, and owners' equity, though larger businesses call the last item stockholders' equity. The equation itself is assets equal liabilities plus stockholders' equity; therefore, stockholders' equity can be defined as assets less liabilities. What a company intends to do with funds retained in the business is often important to investors, who look to make financial gains on the back of the company’s performance. Hence, a company sets up appropriated retained earnings as part of a plan to use these funds for purposes that increase the company’s wealth.
A company’s balance sheet reports monthly and annual retained earnings for a given time period. In most cases, this amount is a simple total that balances the company’s accounting figures. In order to determine the amount of retained earnings used for dividends and those appropriated retained earnings for business use, an investor must look into statements made by management. These statements usually fall under a quarterly or annual report released by a company in accordance with regulators for publicly held companies. The amount of appropriated retained earnings and the specific use for such funds is in this report.
While appropriated retained earnings are for the use of different business activities, unappropriated earnings are not. The latter most likely fall under the classification of amount of earnings paid out as dividends to investors. Again, dividends may be quarterly or annually depending on the setup as defined by the company’s board of directors. These two items can determine how much internal investment a company expects to make in the near future. For example, a company that does not retain copious funds for business use will most likely not be planning major expansion through internal funding and growth.