What do you mean by retained earning | What is retained earning?

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Retained earnings are another method of internal sources of finance. Actually it is not a method of raising finance, but it is called as accumulation of profit by company for its expansion and diversification activities. Retained earnings are called by different names like self-finance, inter finance and plugging back of profit.

Advantage of retained Earnings:

Useful for Expansions and diversification: Retained Earnings are most useful for Expansions and diversification of business activities.

Economical Sources of Finance: Retained Earnings are on the least costly sources of fiancé since it does not involve any floatation cost as in the case of raising of funds by issuing different types of securities.

Flexible Sources:  Retained earning allow the financial structure to remain completely flexible. The company need to raise loans for further requirements.

Increase the share value: when the company uses the retained earnings as the source of the finance for their financial requirement, the cost of capital is very cheaper than any other sources of finance.

Disadvantage of retained earnings:

Misuses: The management by manipulating the value of the shares in the stock market can misuse the retained earnings.

Over Capitalization: Retained earnings lead to over capitalization, because if the company uses more and more retained earnings, it leads to insufficient source of finance.

Tax evasion: retained earnings lead to tax evasion. Since the company reduces tax burden through the retained earnings.

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