Introduction
Retained Earnings is the accumulated net profit that the company has NOT distributed as dividends. It represents reinvestment in the business vs. returning cash to shareholders.
Explanation
Each year, the company decides: reinvest profits to grow (increase RE) or distribute via dividends/buybacks (reduce RE)? Amazon reinvests everything (high RE growing). AT&T distributes almost everything (flat RE).
Formula
Retained Earnings (end of year) = RE (start of year) + Net Profit - Dividends - Buybacks
Example
Amazon vs AT&T: - Amazon: RE $90B+ and growing (reinvests in AWS, logistics, innovation) - AT&T: RE $60B stagnant (distributes almost everything as dividends, little growth)
How to read it
High RE growing = company reinvests for growth (common in tech, high growth). RE flat = company distributes almost everything (utilities, telecoms, matures). Declining RE = company distributes more than it earns (Apple has distributed >$500B). Correct decision depends on ROIC: if ROIC >15%, reinvesting is better; if ROIC <10%, better to distribute. Red flag: declining RE and rising debt = company borrowing for dividends (unsustainable).
Key takeaways
- RE = accumulated undistributed profits
- RE growing = reinvestment for growth
- RE flat = company distributes almost everything
- Correct decision depends on ROIC
- ROIC > 15%: better to reinvest
- ROIC < 10%: better to distribute