Chapter 5: Q1DQ (page 593)

How does the marginal principle of retained earnings relate to the returns that a stockholder may make in other investments?

Short Answer

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The marginal principle of retained earnings states that the company should evaluate the return attained by the stockholders when the money is set aside as retained earnings and when the income is given to the stockholders as dividends.

Step by step solution

Step 1:Meaning of retained earnings

The earnings set aside by the company are called retained earnings.This is the net income left with the company after providing for all taxes, interests, and dividends.

The relation between the marginal principle of retained earnings and the stockholder’s return

The marginal principle of retained earnings states that the company must analyse the return achieved on the retained earnings and the return generated by the stockholders if the fund is distributed to them as dividends.The return generated by the stockholders in both scenarios should be evaluated.

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Bailey corporation
Income statement
For the year 20X1
Sales (all on credit)	\(42,680,000
Cost of goods sold	\)32,240,000
Gross profit	\(10,440,000
Selling and administrative expenses	\)4,558,000
Operating profit	\(5,882,000
Interest expense	\)600,000
Net income before taxes	\(5,282,000
Taxes	\)2,120,000
Net income	\(3,162,000

Bailey corporation
Balance sheet
As of December 31, 20X1
Assets
Current assets:
Cash	\)250,000
Marketable securities	\(130,000
Accounts receivables	\)6,000,000
Inventory	\(8,300,000
Total current assets	\)14,680,000
Net plant and equipment	\(13,970,000
Total assets	\)28,650,000
Liabilities and stockholders’ equity
Current liabilities:
Accounts payable	\(3,800,000
Notes payable	\)3,550,000
Total current liabilities	\(7,350,000
Long-term liabilities	\)5,620,000
Total liabilities	\(12,970,000
Stockholder’s equity:
Common stock (1,800,000 shares at \)1 par)	\(1,800,000
Capital in excess of par	\)6,300,000
Retained earnings	\(7,580,000
Total stockholder’s equity	\)15,680,000
Total liabilities and stockholder’s equity	\(28,650,000

How does the marginal principle of retained earnings relate to the returns that a stockholder may make in other investments?

Short Answer

Step by step solution

Step 1:Meaning of retained earnings

The relation between the marginal principle of retained earnings and the stockholder’s return

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