What is Retained Earnings (Distribution Rules)?
Retained earnings represent the cumulative profits a business has earned but not yet distributed as dividends, available for reinvestment, future dividend payments, or reserve funding, subject to legal restrictions on distribution.
How It Works
- Formula: opening RE + net profit – dividends declared = closing RE.
- Distribution allowed only after legal reserve fully funded.
- Accumulated losses absorb future retained earnings before any distribution.
- Capitalization (bonus issue) converts retained earnings into share capital.
Saudi Context
The Saudi Companies Law requires that 10% of annual net profit be transferred to the legal reserve until it reaches 30% of share capital. Dividends can only be declared from retained earnings after this transfer, and if accumulated losses exceed 50% of share capital, the board must convene an extraordinary general assembly to consider recapitalization or dissolution.
Example
A Saudi LLC has SAR 5,000,000 net profit. It transfers SAR 500,000 (10%) to legal reserve, leaving SAR 4,500,000 distributable. The shareholders approve a SAR 3,000,000 dividend, leaving SAR 1,500,000 added to retained earnings.