A company can use its net income in one of two ways: (a) pay dividends to shareholders, and (b) reinvest back into the firm as (addition to) retained earnings. Shareholders like to receive dividends, but they also know that reinvesting is important for future growth. As the business grows, shareholder wealth (the goal of the firm, remember) is enhanced, and the higher value is also a source of return to the shareholder.

In this week's discussion forum, you will

demonstrate your understanding of the uses of net income, using most recent available information for your chosen company.

calculate dividend payout ratio and retention ratio for your chosen company.

Please submit your brief analysis in narrative form. The narrative should describe to a lay person how your company has chosen to use its net income for the most recent year. It must also contain the dividend payout ratio and the retention ratio figures, along with an explanation for your reader about what these figures mean.

You may not choose a company that has paid no dividends.

Net income in this case will all be reinvested back into the company in the form of addition to retained earnings. Consequently, the purpose of the assignment will be defeated.

Financial statements for most publicly traded companies are available on Yahoo! www.finance.yahoo.com

I have provided an example below for your reference. Please take a few minutes to understand the example.

Please pay attention to the units used for all figures on the financial statements.

Example: Southwest Airlines (LUV). The example illustrates the Math. You must translate the Math into your narrative; your "story".

From Income Statement: Net income (for year ended December 31, 2016) = $2,244 million [

http://finance.yahoo.com/q/is?s=LUV+Income+Statement&annual

From Cash Flow Statement: Dividends paid in 2016 = $222 million [

http://finance.yahoo.com/q/cf?s=LUV+Cash+Flow&annual

From Balance Sheet: Addition to Retained Earnings in 2016 = $2,009 million [Retained earnings at year-end 2015 = $9,409 million, which increased to $11,418 million at year-end 2016.]

http://finance.yahoo.com/q/cf?s=LUV+Cash+Flow&annual

Net income = $2,244 million.

Dividends paid + addition to retained earnings = $2,231 million.

Discrepancy of $13 million [$2,244 - 2,231].

I have not calculated dividend payout ratio and retention ratio. This is by design; please look those up if required.

Summary:

In year 2016, Southwest Airlines (ticker symbol LUV) generated net income of $2,244 million. It paid out $222 million in dividends, which represents ##% of net income earned. It reinvested $2,231 million (##%) back into the company. The uses of net income do not add up to the net income generated; we found a discrepancy of $13 million.

Let's first look at a couple of companies that did not pay dividends in 2016.

Amazon Inc. (AMZN): The Income statement for the company shows that it generated net income of $2,371 million during the year ended 12/31/2016 (note that figures are in thousands on the Yahoo!Finance website). A review of the statement of cash flows shows that no dividends were paid. This must mean that the entire net income was reinvested in (or plowed back into) the company. As expected, the balance sheet notes an increase in the retained earning balance from $2,545 million on 12/31/2015 to $4,916 million. This is an addition to retained earnings of $2,371 million. We note no discrepancy. The net income matches exactly with the addition to retained earnings. Retention ratio is 100%; payout ratio 0%.

Citrix Systems, Inc. (CTXS) Income generated in 2016: $536,112,000 Addition to retained earnings: $536,112,000 [$4,010,737,000 3,474,625,000] One again, we note no discrepancy. The net income matches exactly with the addition to retained earnings. Retention ratio is 100%; payout ratio 0%.

You would expect that this neat mapping from net income to addition to retained earnings will hold for every company that has paid no dividends in any given year. Yet, when you check the numbers for Facebook, Inc. - another well-known company that paid no dividends in 2016, the figures do not match up. Net income for the year ended 12/31/2016 was $10,188 million, yet addition to retained earnings was $11,883 million. This is what I referred to as a discrepancy in my Southwest example.

What if a company paid dividends? Since (i) payment of dividends and (ii) addition to retained earnings are the two uses of net income, these two should add up to net income.

I tried to find a company for which the uses indeed add up to net income without any discrepancy, but couldnt find one that fits neatly like your textbook examples. So, here are some more examples of discrepancy. Note that in every case, we are trying to match up net income to the two uses of net income.

Boeing Net income of $4,895 million in 2016. $2,756 million paid out as dividends and $1,958 million added to retained earnings, totaling $4,714 million. Discrepancy of $181 million. Note that though this seems like a huge figure, it is just 3.6% of net income.

Kohls Net income of $556 million in 2016. $358 million was paid out as dividends and $193 million added to retained earnings, totaling $551 million. Discrepancy of $5 million (less than 1% of net income).