A:

Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance sheet. The amount of additional paid-in capital does not directly affect retained earnings. However, the amount of equity capital a company generates can impact its net income, thereby impacting its retained earnings down the line.

Additional Paid-in Capital

The additional paid-in capital entry on the balance sheet reflects the amount of equity capital that is generated by the sale of shares of stock on the primary market that exceeds its par value. The par value of stock is the minimum value of each share as determined by the company at issuance. If a share is issued with a par value of $1 but sells for $30, therefore, the additional paid-in capital for that share is $29.

The amount of additional paid-in capital a company has on its balance sheet is determined solely by the number of shares it sells.

Retained Earnings

The most important thing for any business is maintaining a healthy net income. A company's net income is the sum total of all of its income and expenses over a given period. After all of the costs of running a business are taken care of, the company can decide what to do with the money that's left over. Generally, companies choose between issuing dividends to shareholders or keeping those earnings to fund business growth. The portion of net income that a company keeps for itself is its retained earnings.

The Connection

The amount of additional paid-in capital on a company's balance sheet is an indication of the amount of equity available to fund growth. Since expansion generally boost profits down the road, an increase in additional paid-in capital can indirectly contribute to an increase in net income and, therefore, its retained earnings.

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