The advantages and disadvantages of retained profit

Joe Romeo3 minutes
Business tipsFinance
The advantages and disadvantages of retained profit
In this article

Creating and selling products and services is just one part of running a successful business. Once the money starts flowing in, you need to decide how to allocate your revenue. If the business is publicly owned, do you pay out dividends, or do you keep the money in the business?

This decision can have a big impact on the long-term success of your business, and there are several factors to consider before making up your mind.  First, it’s important to understand the core terminology.

What is retained profit?

Also known as ‘retained earnings,’ ‘trading profits,’ or ‘earnings surplus,’ this is money held in the business, rather than paid out to shareholders. It’s a form of equity that is an important measure of a company’s financial stability, and one in which potential investors will be interested. 

It’s also a term that’s crucial to the field of accounting. On financial statements, a company can ‘bring forward’ its retained profit from one period to the next, with the money accumulating over time.

What are the advantages of retained profit?

Invest in expansion

A company that’s focused on growth may pay low or no dividends, because it makes more sense to finance expansion activities. The idea is that more money can be made for everyone (including shareholders) in the long run. 

Create a safety net

There are ups and downs in any business, and it’s important to have a plan for a sudden downturn. If a certain initiative turns out to be less profitable than hoped or an unexpected expense arises, it may be possible to borrow money, but this can come with limits and costs. Having money in the bank provides security and doesn’t come with lenders’ fees.

Boost investor confidence

More money in the company’s coffers makes the business look like a more attractive prospect to potential investors. The balance sheet’s bigger; there’s more stability. This can raise the share price, and attract investment, which could create a virtuous cycle of growth.

What are the disadvantages of retained profit?

Inefficiency

Early-stage companies may want to keep things simple, and only spend the money they already have. But for some businesses, borrowing might make more sense than retained profit. The average annualised return for the S&P 500 is more than 10%, so if your company can borrow at 5%, it could be a calculated risk worth taking. 

Look at Apple: its annual retained earnings in 2021 were $5.6B. In 2013, the figure was $116.6B. However, its stock price and market capitalisation has grown during that time. 

Shareholder dissatisfaction

Some shareholders may see the wisdom in a company reinvesting money and potentially boosting stock prices, leading to long-term growth. Others may be after shorter-term wins, and become disgruntled if they don’t receive regular payouts. 

Potential investors will be aware of the dividend stream, too, and it will affect their opinion of the company accordingly.

How much profit should a company retain?

The answer to this question depends on everything that makes that business unique. What financial obligations does the company have? What are the goals, and are they long-term or short-term? What’s the appetite for risk?

These are the types of questions company leaders should be asking themselves when making decisions about retained profits versus shareholder dividends.

Boost profits with an Airwallex account

The amount of profit a company retains is affected not only by shareholder considerations, but by how much revenue is coming in and what costs are going out. 

Airwallex is the borderless business account that can help you unlock new global markets without losing money in unnecessary FX fees. 

Collect payments from your customers in their local currency with no forced conversions, and send money across borders without paying international fees. 

You can also create virtual cards for your team in minutes, and manage expenses at home and abroad from one account with no transaction fees. 

To find out how Airwallex can help you streamline your finances and boost your business, click below to watch a three-minute demo or sign up for a free account today. 

Related article: Break-even analysis

Back to blog

Share

Joe Romeo
Senior Growth Marketing Manager

Joe Romeo is responsible for scaling our Airwallex's product adoption in the UK and the world. An all-around growth enthusiast, Joe's speciality lies in SEO, organic acquisition and making lasagna.

Subscribe for our latest news and updates

Related Posts

Introducing Reimbursements: Quickly pay employees worldwide for out-of-pocket expenses

Introducing Reimbursements: Quickly pay employees worldwide for o...

Max Kozlowski

5 minutes

March Release Notes: Introducing Reimbursements and Bill Pay integration with Quickbooks
Company news

March Release Notes: Introducing Reimbursements and Bill Pay inte...

Isabelle Comber

5 minutes

Why Airwallex is the perfect financial machine for the manufacturing industry
Isabelle Comber

5 minutes

Watch a 3-minute demo

Enter your details below to watch the demo:

We're not a bank, we're better.

Get started

Open a business account built for growth

Airwallex business account screenshot with payment card and mobile overlay.

Reach new markets with foreign currency accounts

Create cards instantly and empower your team to make purchasing decisions

Transfer funds across the globe, without excessive fees

Get started
Airwallex business account screenshot with payment card and mobile overlay.
Business Account
Global Accounts

© Airwallex 2024. All rights reserved. Sitemap

This information doesn’t take into account your objectives, financial situation, or needs. If you are a customer of Airwallex Pty Ltd (AFSL No. 487221) it is important for you to read the Product Disclosure Statement (PDS) for the Direct Services, which is available here. If you are a customer of Airwallex Capital Pty Ltd (Authorised Rep No. 001304702), it is important for you to read the Product Disclosure Statement (PDS) for Airwallex Yield, which will be made available to you at the time of onboarding. Airwallex Yield is brought to you by Airwallex Capital Pty Ltd (Authorised Rep No. 001304702). All investments carry risk. *Target returns are after fees and accurate and updated as at 4 March, 2024 (AEDT).

Cookies on the Airwallex website

We use cookies to give you a better experience on our website. If you continue without changing your settings, we’ll assume that you are happy to receive cookies. However, if you would like to, you can change your cookie any time here

Find out more