# Retained Earnings Formula: How to Calculate It (with SaaS Examples)

> The retained earnings formula explained for SaaS founders - what it means, how to calculate it, and how dividend decisions and net losses change the balance over time.
- **Author**: Aarthi Poonia
- **Published**: 2026-05-29
- **Category**: SaaS Finance, Accounting
- **URL**: https://dodopayments.com/blogs/retained-earnings-formula

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Retained earnings are the cumulative net income a company has kept over its lifetime rather than paying out as dividends. They sit on the balance sheet as part of shareholders' equity and represent the share of historical profits the company has chosen to reinvest in the business.

For SaaS founders, retained earnings get a bad reputation because most early-stage SaaS companies have negative retained earnings - they have spent more than they have earned for the entire history of the business. That is not a flaw in the metric; it accurately reflects the SaaS growth playbook of front-loading customer acquisition costs in exchange for long-tail recurring revenue. Understanding the retained earnings formula, what changes it, and how to read it is still important because investors, auditors, and lenders all use it as one signal of business health.

This guide explains the retained earnings formula, walks through SaaS-specific examples, and covers the most common misinterpretations.

## The Retained Earnings Formula

The standard retained earnings formula is straightforward:

```
Ending Retained Earnings = Beginning Retained Earnings + Net Income - Dividends
```

In plain language: take the retained earnings balance from the end of the previous period, add the net income (or subtract the net loss) earned during the current period, and subtract any dividends paid out to shareholders. The result is the new retained earnings balance.

The formula assumes a single reporting period. To get retained earnings for the full year, you can either apply the formula monthly and roll it forward, or apply it once using the year's total net income and total dividends.

Worked example for a profitable SaaS company:

- Beginning retained earnings (Jan 1): $2,500,000
- Net income for the year: $800,000
- Dividends paid during the year: $0 (typical for SaaS)
- Ending retained earnings (Dec 31): $2,500,000 + $800,000 - $0 = **$3,300,000**

Worked example for a SaaS company with a net loss:

- Beginning retained earnings (Jan 1): -$1,200,000 (accumulated deficit from prior losses)
- Net loss for the year: -$600,000
- Dividends paid: $0
- Ending retained earnings (Dec 31): -$1,200,000 + (-$600,000) - $0 = **-$1,800,000**

The negative number is called an accumulated deficit on the balance sheet. Both terms refer to the same thing - cumulative net losses that exceed cumulative net income.

## Where Retained Earnings Sit on the Balance Sheet

The balance sheet is divided into assets, liabilities, and shareholders' equity. Retained earnings live in the equity section, alongside contributed capital (the money investors put in) and any treasury stock (shares the company has bought back).

A simplified equity section looks like this:

| Equity Component | Balance |
| --- | --- |
| Common stock (par value) | $50 |
| Additional paid-in capital (APIC) | $15,000,000 |
| Retained earnings (or accumulated deficit) | -$3,300,000 |
| **Total shareholders' equity** | **$11,700,050** |

For a venture-backed SaaS company, APIC is typically much larger than retained earnings (or accumulated deficit). The company raised $15M from investors but has spent some of it on growth, resulting in cumulative losses that show up as an accumulated deficit. Total equity is still positive because the contributed capital outweighs the accumulated losses.

A company has "negative equity" only when its accumulated losses exceed both contributed capital and any accumulated earnings - a situation that signals serious financial distress and typically only happens after bankruptcy or extreme losses.

## What Increases Retained Earnings

Only one thing increases retained earnings: net income. Each period the company earns a profit, that profit (after taxes) flows from the P&L into retained earnings on the balance sheet.

There is no other inflow. Equity raises, debt issuance, asset sales, and operational improvements all affect other parts of the balance sheet but do not directly add to retained earnings. The only way to grow retained earnings is to grow the bottom line.

This is why retained earnings is sometimes called "accumulated earnings" - it is the sum of every profitable period minus the sum of every loss period minus every dividend ever paid.

## What Decreases Retained Earnings

Three things decrease retained earnings:

**Net losses** are the most common cause for SaaS. Every period a company spends more than it earns, the loss subtracts from retained earnings. Many SaaS companies are unprofitable on a GAAP basis for years and accumulate substantial deficits during that period.

**Dividends paid to shareholders** are the traditional decrease for mature businesses. A company that earns $1M in net income and pays $200K to shareholders adds $800K to retained earnings. SaaS companies rarely pay dividends because they are reinvesting earnings into growth, but mature, profitable SaaS like Adobe and Oracle do pay them.

**Stock buybacks (in some accounting treatments)** can reduce retained earnings if the buyback price exceeds the original issuance price. In US GAAP, the excess is typically charged against APIC first and only against retained earnings if APIC is exhausted. This is uncommon for SaaS.

## The SaaS Pattern: Negative Retained Earnings During Growth

Most venture-backed SaaS companies have negative retained earnings for years before turning profitable. This is by design, not a flaw.

The SaaS growth playbook is to spend aggressively on customer acquisition while revenue compounds slowly through retention and expansion. Customer acquisition cost (CAC) is recognized as an expense immediately, while the revenue from that customer is recognized ratably over the months and years they remain a customer. The result is a multi-year period where current-period expenses exceed current-period revenue and the company shows a GAAP loss.

A simplified example. A SaaS company spends $500 to acquire a customer who pays $50/month and stays for 36 months. The lifetime revenue is $1,800. Cumulatively, the customer is highly profitable. But in the period the customer is acquired, the P&L shows $500 of S&M expense and only $50 of recognized revenue - a $450 loss.

Multiply this across hundreds or thousands of new customers and the company shows substantial GAAP losses during growth phases. Retained earnings becomes negative and stays negative until the cumulative revenue from previously acquired cohorts exceeds the cumulative cost of acquiring new cohorts.

Healthy SaaS investors understand this pattern and look at unit economics (LTV, CAC payback) and growth rate rather than retained earnings to evaluate the business. Lenders, by contrast, often weight retained earnings heavily because they care about the cumulative track record of generating cash. This is part of why venture debt and SaaS-specific lenders exist - they understand the SaaS pattern and underwrite differently than traditional banks.

A reminder we give SaaS founders we work with at Dodo Payments: retained earnings is rarely the right metric to judge an early-stage SaaS by. Negative retained earnings while a growth-stage business invests aggressively in product and acquisition is usually the correct outcome, not a warning sign. The metrics that actually predict whether a SaaS will survive are net dollar retention and CAC payback, not the cumulative GAAP loss line.

## When Retained Earnings Matters for SaaS

While retained earnings is the wrong metric for early-growth SaaS, it does become relevant in specific scenarios:

**Bank borrowing and traditional debt facilities.** Traditional commercial lenders almost always require positive retained earnings as a precondition for loans. SaaS lenders (Lighter Capital, Pipe, Capchase, etc.) underwrite on different criteria, but traditional bank loans almost always require positive retained earnings.

**M&A and acquisitions.** Acquirers look at retained earnings as part of the financial due diligence. Positive retained earnings signal a track record of profitability. Negative retained earnings prompt more scrutiny - acquirers want to understand whether the losses were investment in growth (good) or operational dysfunction (bad).

**IPO readiness.** Public investors generally prefer companies with positive retained earnings or a clear path to them. Many SaaS IPOs happen while retained earnings are still negative, but the company needs to show a credible trajectory to positive operating cash flow within a reasonable timeframe.

**Statutory requirements in certain jurisdictions.** Some non-US jurisdictions require positive retained earnings before a company can pay dividends or distribute capital. This rarely affects venture-backed SaaS but can matter for bootstrapped SaaS or for companies considering distributions to founders.

**Lender covenants.** Existing debt facilities sometimes include covenants tied to minimum equity or maximum accumulated deficit. Breaching these covenants can trigger default or force renegotiation, even if the underlying business is healthy.

## Retained Earnings vs Cash

A common confusion: retained earnings is not the same as cash. A company can have substantial retained earnings and very little cash, or vice versa.

Retained earnings is an accounting concept tied to net income recognized on the P&L. Cash is an asset on the balance sheet that reflects actual money in the bank. The two diverge for many reasons:

- **Non-cash expenses** (depreciation, amortization, stock-based compensation) reduce net income and retained earnings but do not consume cash
- **Working capital changes** (accounts receivable, accounts payable, deferred revenue) consume or generate cash without affecting net income
- **Capital expenditures** consume cash but are not expensed immediately on the P&L (they depreciate over time, gradually reducing net income)
- **Financing activities** (debt, equity raises, dividends) affect cash but not retained earnings, except for dividends

A SaaS company with $2M in retained earnings and only $200K in cash has used most of its accumulated profit to fund growth - perhaps by purchasing equipment, building inventory, extending customer credit, or making acquisitions. The retained earnings number is real, but it is not liquid.

For founders, this means tracking both retained earnings and cash on hand. A profitable business that runs out of cash is still a failed business, regardless of what the P&L says.

## Calculating Retained Earnings from a Statement of Changes in Equity

For a complete picture, public companies disclose a statement of changes in equity that shows every movement in retained earnings during the period:

| Item | Amount |
| --- | --- |
| Beginning retained earnings (Jan 1, 2026) | $2,500,000 |
| + Net income for the year | $800,000 |
| - Dividends declared | ($150,000) |
| - Other adjustments (rare) | $0 |
| **Ending retained earnings (Dec 31, 2026)** | **$3,150,000** |

For private SaaS companies, this statement is typically only prepared at year-end. For internal reporting, retained earnings is rolled forward monthly as part of the standard close.

## Common Mistakes Founders Make with Retained Earnings

**Confusing retained earnings with cash flow.** As covered above, retained earnings is an accounting concept; cash flow is what actually pays the bills. They are related but not identical.

**Treating negative retained earnings as inherently bad.** For SaaS in growth mode, accumulated deficit is the expected outcome of investing in customer acquisition. The right question is whether the unit economics support eventual profitability, not whether retained earnings is currently negative.

**Forgetting about prior-period adjustments.** If you discover an error in a prior period and restate financials, retained earnings is the catch-all account where prior-period adjustments land. Audit firms scrutinize these adjustments carefully.

**Mixing tax basis and book basis.** Tax retained earnings and GAAP retained earnings can differ because of timing differences between tax and book treatment of items like depreciation, deferred revenue, and stock-based compensation. The two diverge over time and need to be reconciled separately.

**Ignoring the impact of equity issuances.** Equity raises do not increase retained earnings (they increase contributed capital), but they do change the per-share metrics that some equity-related calculations rely on. Stock-based compensation, in particular, hits the P&L as expense and therefore reduces retained earnings even though no cash is spent.

## How Subscription Revenue Recognition Affects Retained Earnings

For SaaS, the timing of revenue recognition has a meaningful impact on the retained earnings trajectory. Annual upfront billing creates a large deferred revenue balance on the balance sheet, with revenue recognized ratably over the subscription period.

```mermaid
flowchart LR
    A[Customer signs
$12K annual contract] -->|"Day 0"| B["Cash: +$12K
Deferred Revenue: +$12K
Revenue: $0
Retained Earnings: $0"]
    B -->|"Month 1"| C["Cash: unchanged
Deferred Revenue: -$1K
Revenue: +$1K
Retained Earnings: +$1K (net of COGS)"]
    C -->|"Month 12"| D["Deferred Revenue: $0
Cumulative Revenue: $12K
Retained Earnings: cumulative impact"]
```

This pattern means that a fast-growing SaaS with strong annual bookings can have huge cash inflows that do not immediately flow to retained earnings. The cash sits on the balance sheet, deferred revenue grows, and retained earnings increases only as the revenue is recognized month by month.

For an excellent deeper look, see our [deferred revenue explained](https://dodopayments.com/blogs/deferred-revenue-explained) and [billings vs revenue](https://dodopayments.com/blogs/billings-vs-revenue) posts.

## FAQ

### What is the retained earnings formula?

Ending retained earnings equals beginning retained earnings plus net income minus dividends. The formula captures the cumulative profit a business has retained over its history. Net losses subtract instead of add, and dividends always subtract. For SaaS companies in growth mode, retained earnings is often negative because cumulative net losses exceed cumulative net income.

### What is the difference between retained earnings and net income?

Net income is the profit (or loss) earned during a single reporting period. Retained earnings is the cumulative net income retained across all periods since the company was founded, minus all dividends ever paid. Net income flows into retained earnings at the end of each period.

### Can retained earnings be negative?

Yes. Negative retained earnings is called an accumulated deficit and indicates that cumulative losses since founding exceed cumulative profits. For venture-backed SaaS companies, accumulated deficits are normal during multi-year growth phases because customer acquisition costs are expensed immediately while revenue accrues over years.

### Do SaaS companies typically pay dividends?

Most SaaS companies in growth phase do not pay dividends. They reinvest earnings into customer acquisition, R&D, and infrastructure to compound growth. Mature, profitable SaaS companies like Adobe, Microsoft, and Oracle do pay dividends, but newer SaaS typically retain 100% of net income to fuel further growth.

### How does revenue recognition affect retained earnings for SaaS?

SaaS revenue recognition under ASC 606 is typically ratable over the subscription period. Annual prepaid contracts result in large deferred revenue balances and slower retained earnings growth than the cash collection would suggest. A SaaS company that books $10M in annual contracts at the start of the year recognizes that revenue ratably over 12 months; retained earnings does not jump on signing day but builds steadily throughout the year as the revenue is earned.

## Conclusion

The retained earnings formula is mathematically simple but conceptually rich. It captures the cumulative profitability of the business across its lifetime and feeds the equity section of the balance sheet. For SaaS founders, retained earnings is usually not the right primary metric to judge the business - LTV, CAC, NDR, and gross margin matter more for assessing whether the model works. But retained earnings matters for lender relationships, M&A, IPO readiness, and longer-horizon decisions about how to deploy or distribute profit once the business reaches sustained profitability.

For SaaS companies running on a [Merchant of Record](https://dodopayments.com/blogs/what-is-a-merchant-of-record), revenue recognition is simplified because the MoR remits net amounts that flow cleanly into the GAAP revenue line. See the [billings vs revenue guide](https://dodopayments.com/blogs/billings-vs-revenue) for more on this, or review the [Dodo Payments pricing](https://dodopayments.com/pricing) to see the MoR cost structure in context.
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