What does 'retained earnings' refer to?

Retained earnings represent the cumulative amount of net income that a company has retained, rather than distributed as dividends to its shareholders. This figure reflects the company's ability to reinvest its profits back into the business for growth, expansion, and operations, or to pay off debts. It is calculated by taking the previous period's retained earnings, adding the current period's net income, and subtracting any dividends paid out.

This concept is vital for companies as it indicates how much profit is being kept within the company to fund future projects, research and development, or to maintain financial stability. High retained earnings can signify that a company is reinvesting in itself for future growth, while low retained earnings might indicate that a company is distributing much of its income, which could affect its ability to invest in expansion or improvement initiatives.