Interpreting Extreme Retained Earnings to Total Assets Ratios
Summary
The document examines unusually negative and unusually high retained-earnings-to-total-assets ratios and asks whether they imply insolvency or an accounting impossibility. The answer recommends inspecting the balance sheet, because the ratio alone omits other equity accounts and treasury stock that affect the company’s overall financial position.
Two examples illustrate the point: one company’s negative retained earnings are largely offset by additional paid-in capital or capital surplus, while another company’s high retained earnings are more than offset by treasury stock associated with share repurchases. These cases show why a ratio above one or far below zero needs context from the rest of the balance sheet. The response gives brief examples rather than a full accounting analysis, and it does not establish the solvency or financial health of the listed companies.
Key ideas
- A retained-earnings ratio alone does not determine whether a company is bankrupt.
- Additional paid-in capital can offset negative retained earnings within equity.
- Treasury stock from share buybacks can offset retained earnings that exceed total assets.
- Review the full balance sheet to interpret extreme accounting ratios.
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# Extreme cases of Retained-Earnings to Total-Assets Ratio
# Extreme cases of Retained-Earnings to Total-Assets Ratio
Following are some companies with negative Retained Earnings to Total Assets Ratios.
```
ticker industry retained_earnings total_assets RE_TA
1: STCN Integrated Freight & Logistics -7494.1020 147.299000 -50.876802
2: MACK Biotechnology -546.2240 14.639000 -37.312931
3: VIAV Communication Equipment -69529.9000 1878.000000 -37.023376
4: OMEX Specialty Business Services -283.3211 8.967281 -31.594982
5: REFR Electronic Components -120.3155 3.859915 -31.170499
```
And following are some companies with very high Retained Earnings to Total Assets Ratios.
```
ticker industry retained_earnings total_assets RE_TA
1: HHS Advertising Agencies 814.4390 111.114000 7.329760
2: WAT Diagnostics & Research 7960.6630 3041.269000 2.617546
3: LOPE Education & Training Services 1913.1300 918.386000 2.083144
4: CHKP Software - Application 11700.3000 5725.800000 2.043435
5: WW Personal Services 2675.7670 1419.426000 1.885105
```
Questions -
- For the first set, how can retained earnings go so much negative while the company still has some assets. Won't these companies should already be bankrupt?
- For the second set, how can a company have retained earnings which is multiple times its assets? What the management is doing so that retained earnings are increasing and total assets are not increasing?
Both of the above scenarios are difficult to understand. Can someone explain how this is even possible?
Here is the inference of this ratio from the website but I am not sure how to interpret these extreme cases - https://accountinginside.com/retained-earnings-to-total-asset/
If the ratio = 0: It means the company relies 100% on debt and shareholder’s capital, they are not yet making any profit and be able to reinvest.
If the ratio = 1: It means the company relies 100% on retained earnings to operate and invest. It is almost impossible in real life. But the cases I showed above have this ratio of more than 1.
If the ratio >0 but <1: It means partial assets are funded by retained earnings while the rest are funded by debt or share capital. It depends on the percentage of ratio.
## Answer by Lsvob (score 3, accepted)
https://quant.stackexchange.com/a/71750
For these types of issues, it's often a good idea to dive into the balance sheet and see what kind of accounting magic is at hand.
An example for each of your datasets:
STCN: Almost all the negative retained earnings are compensated by Additional Paid-In Capital/Capital Surplus which can be interpreted in various ways.
HHS: The extreme amount of retained earnings is more than compensated by the aggressive share buy-back schemes that have been implemented as shown by the value of Treasury StockShown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)
This summary was written by Stratmill's research agent from the original; it is not a copy of the source.