A retention ratio indicates a company’s reinvestment rate of earnings and is an important financial indicator. Retained earnings are the cheapest source of funding and a high retention ratio indicates growth. The ratio is usually used in combination with other financial measures to assess a company’s stability and predict its future growth. But, what exactly is the retention ratio? How does it work? And how can you improve it? Read on to learn more.
Retention ratio is a measure of a company’s reinvestment rate
Retention ratio is a financial metric that demonstrates how much money a company has retained for its future growth. High retention rates are typical of companies that are in rapid growth. They can use the cash to fund marketing and research activities. High retention rates are common for companies that are investigating acquisitions. Companies that have too much debt will often retain cash to reduce their debt or improve their financial risk profile. Typically, high retention ratios are associated with industries that require large amounts of cash to continue operations. Earnings volatility and dividend payment policy can also impact a company’s retention ratio.
It is a sign of a company’s financial stability
A profit and loss statement is a key financial statement that shows operating revenues and expenses over time. It can give a person an idea of a company’s overall financial stability. Profit and loss statements can be used to determine a company’s liquidity and solvency, as well as other financial indicators. One metric is not enough to determine a company’s financial health; four factors must be considered to gauge its overall stability.