Long-term Sources — Part 2: Retained Earnings, Debentures and Term Loans: visual lesson, ISC Class 12 Commerce

Lesson

Retained Earnings, Debentures and Loans

Part 2: ploughing back profit, borrowing through debentures, and term loans from banks and institutions.

In this lesson you will

Evaluate retained earnings as a source of finance
Describe kinds of debentures and distinguish shares from debentures
State the advantages and disadvantages of loans from banks and financial institutions

Part 2 at a glance

Concept

Retained earnings (ploughing back) is the part of profit kept in the business instead of being paid as dividend.

Table of four merits and four demerits of retained earnings
Merits	Demerits
Permanent; no repayment	Lower dividends may upset shareholders
No floatation cost	Amount uncertain; depends on profit
No dilution of control	Opportunity cost often ignored
Builds creditworthiness and a cushion	May be misused by management

Worked example

An imagined hosiery company decides its dividend.

Retained = profit after tax − dividend.
Item (imagined: Hooghly Hosiery Ltd)	₹
Profit after tax	50,00,000
Dividend at 40 per cent payout	20,00,000
Ploughed back (retained)	30,00,000