Retained earnings are the balance sheet items that record under equity sections. This account is used to records entity net income cumulatively from the starting operation until the end of the reporting date.
If the entity operation generates net income, then the accumulation of it is called retained earnings which is a positive balance, and if the entity makes operating losses, then retained earnings will turn negative.
It is called accumulated losses. When retained earnings turn negative, total equity is also decreasing. In some countries, if the equity turns to a level below the requirement, shareholders or owners are normally required to inject more funds.
Negative return earnings are not a positive sign for the entity, and potential investors might be concerned about this seriously. However, there are many factors that we can look into in detail. For example, the ages of the entity, nature of the industry that entity operates in, and other internal factors.
If an entity does start its operation, the entity will not make profits and most likely make losses. However, it will turn into operating profits when the entity operation runs smoothly, the brand name is well known, and sales significantly increase.
And if the entity is operating in some industry like the insurance industry, the entity might spend some more time than others to break even and make profits.
Excessive dividend payments could also cause retained earnings into negative. However, it is not often that we can see this. Many negative earnings and long-run operating losses indicate that the entity might face going concerned or bankrupt.
This negatively impacts potential investors, but other potential stakeholders like bankers, creditors, large customers, suppliers, and staff also reluctantly rely on the entity.
These are the main factors that can lead retained earning into a negative, and there are many other factors like sales, cost of goods sold, and operating expenses are also factors that need to consider.
