What are retained earnings?

Retained earnings represent the cumulative amount of net income that a company has retained over time instead of distributing it to shareholders as dividends. This figure reflects the profits that have been reinvested in the business, allowing for growth, expansion, and the strengthening of the company’s financial position.

When a company earns a profit, it has the option to either distribute that profit to shareholders as dividends or retain it for future use. The retained earnings account accumulates these retained profits year after year. This is crucial for stakeholders to understand a company's ability to reinvest in its operations and the potential for future growth.

In contrast, the other options do not accurately define retained earnings. The total dividends paid to shareholders reflect distributions rather than earnings withheld in the company. The total amount of sales revenue pertains to the income generated from sales activities but does not account for net income after expenses. Lastly, the difference between assets and liabilities is known as equity, which encompasses various components, including retained earnings, but does not define them specifically.

Overall, retained earnings are a core component of equity, indicating a company’s efficiency in utilizing its profits effectively over time.