Accounting Made Simple 04

Question 1

1. What is the purpose of the STATEMENT OF RETAINED EARNINGS?

Answer 1

It has only one purpose; to detail the changes in a company’s RETAINED EARNINGS over a period of time.

Question 2

2. What are RETAINED EARNINGS?

Answer 2

The SUM of all the company’s UNDISTRIBUTED PROFITS over the ENTIRE EXISTENCE of the company.

Question 3

3. We say “UNDISTRIBUTED EARNINGS” in order to distinguish from:

Answer 3

profits that have been distributed to company shareholders in the form of dividend payments.

Question 4

4. EXAMPLE: ABC Const. is formed on 1-1-12. On that date, it has a RETAINED EARNINGS of zero because it hasn’t had any income yet.
   in 2012 it has a Net Income of 50k, and on 12-31-12 pays a dividend of 20k.
   ITS STATEMENT OF RETAINED EARNINGS IS:

Answer 4

STATEMENT OF RETAINED EARNINGS
Retained
Earnings on 1-1-12………..0

Net Income………………50k

Dividends Paid…………(20k)

RETAINED
EARNINGS, 12-31-12…..30K

Question 5

5. In 2013, ABC Construction’s Net Income was 70k, and paid 20k in dividends. What is the STATEMENT OF RETAINED EARNINGS?

Answer 5

STATEMENT OF RETAINED EARNINGS
Retained
Earnings, 1-1-13…………30k

Net Income….……………70k

Dividends
Paid…………………………(20k)

RETAINED
EARNINGS, 12-31-13……..80K

Question 6

6. The STATEMENT OF RETAINED EARNINGS functions much like a bridge between the INCOME STATEMENT and the BALANCE SHEET because:

Answer 6

It takes information FROM the INCOME STATEMENT and provides information TO the BALANCE SHEET.

Question 7

7. When you calculate NET INCOME in the INCOME STATEMENT, you use it in:

Answer 7

the of STATEMENT OF RETAINED EARNINGS to calculate the end-of-year balance in RETAINED EARNINGS.

Question 8

8. The ending RETAINED EARNINGS balance is then used to prepare:

Answer 8

the company’s end-of-year balance sheet.

Question 9

9. What type of EXPENSE are DIVIDENDS?

Answer 9

DIVIDENDS ARE NOT AN EXPENSE. Expenses reduce profits; DIVIDENDS ARE A DISTRIBUTION OF PROFIT.

Question 10

10. Where on the INCOME STATEMENT are DIVIDENDS shown?

Answer 10

Because they are not a part of the calculation of NET INCOME, DIVIDEND PAYMENTS DO NOT SHOW UP ON THE INCOME STATEMENT.
Instead, they appear on the STATEMENT OF RETAINED EARNINGS.

Question 11

11. The definition of RETAINED EARNINGS- the sum of a company’s undistributed profits over the entire existence of the company-makes it sound as if the RETAINED EARNINGS balance is sitting around somewhere as cash in a checking account. However:

Answer 11

just because a company has not distributed its profits to its owners does not mean that it has not already used them for something else.

Question 12

12. For instance profits are frequently:

Answer 12

reinvested in growing the company by purchasing more inventory or more equipment for production.