Profit reserve: how it works, types and importance

Did you know that in addition to sharing with shareholders, companies can save part of their profits in a special account, called profit reserve?

In today’s content, we will understand how this reservation works, and why it is so important to make it. Keep reading and check it out!

Central topics 

• Concept and objectives of profit reserve
• Different types of reservation
• How it is calculated and recorded in accounting
• Benefits and importance for the company
• Relationship with financial planning and corporate governance

What is Profit Reserve?

Profit reserves are a portion of net profits that the company does not distribute to shareholders, and saves to invest in future projects.

That said, the objectives of this reserve include capital strengthening, growth financing and guarantee of emergency reserve.

Definition and basic concepts

One of the secrets to business growth is precisely investing in improvements, which is why reserving profits is very important to ensure that part of the gains are used for this purpose.

Purposes of profit reserving

• Strengthen the company's capital structure, increasing its financial solidity.
• Finance growth and expansion projects, such as opening new branches, purchasing equipment or launching new products.
• Serve as an emergency reserve, guaranteeing resources to face possible periods of difficulty or take advantage of unexpected opportunities.

Finally, it is important to know that saving profits is essential for the growth and sustainability of companies, as this guarantees more freedom and financial flexibility.

“Profit reserving is a powerful tool for companies to plan their future and ensure competitiveness in the market.”

Types of profit reserves

When we talk about profit reserves, it is important to understand that there are different types, and each one has a specific purpose. 

These modalities are essential in the financial management of companies, and are as follows:

1. Legal: It aims to guarantee the integrity of the share capital, therefore, it is mandatory and corresponds to 5% of the annual net profit.
2. Capital: Used to absorb losses, realize share bonuses and redeem or amortize shares.
3. Profits to be realized: Intended to record the portion of profit that has not yet been effectively received by the company.
4. Contingencies: Created to deal with possible future losses that may occur.
5. Statutory: Established in accordance with the company's bylaws, with specific purposes.

So, each type has its own function and importance, and contributes to the financial health and stability of the company.

“Efficient management of profit reserves is essential for financial planning and strategic decision-making in the company.”

Understanding the types and their respective applications allows for solid and sustainable financial management.

Profit reserve: how does it work?

The calculation of the profit reserve is based on the net profit for the year, and must follow the rules determined by law and the company's bylaws.

Calculation of profit reserve

Calculating the profit reserve has important steps:

1. First, you calculate the net profit for the year.
2. Then take out the losses and income tax provisions.
3. Then use the statute percentages to create the reserve.
4. Finally, allocate the reserve for profit.

Accounting record of profit reserve

The accounting record for the profit reserve is made in the balance sheet, and shows the amount that the company has saved. 

So this process occurs before the profit is distributed to the shareholders. 

Importance of profit reserve

Profit reserving is very important for the financial health and growth of a company, as it is a fundamental tool for managing the company's resources well.

Benefits of profit reserving

One of the biggest benefits of profit reserving is the ability to finance future investments and projects. 

This is because, by claiming a share of the profits, the company guarantees resources to grow, which can be used to expand operations, develop new products or take advantage of growth opportunities.

The importance of profit reserves also lies in maintaining a strong cash flow, which allows the company to face economic or market adversities with greater security. Thus, the reserve acts as a “cushion” that protects the company in difficult times.

Another major benefit is the preservation of the company's financial autonomy, as it allows it to reduce its dependence on external financing, which strengthens its negotiating position and its ability to make independent decisions.

Finally, this financial fund shows the market the company's solidity and sustainability, which reinforces its image and reliability among investors, customers and suppliers, and can lead to better business opportunities and access to more favorable credit.

“Profit reserving is an essential mechanism for the sustainability and long-term growth of a company.”

Profit reserve and financial planning

As we saw earlier, profit reserving helps create a financial cushion, which can be used in a variety of ways.

The first of these is the use of the balance to invest in projects that seek growth and expansion, which reduces the need for loans for this purpose. 

Furthermore, the reserve helps in crises, because when sales fall, the company can use this reserve to continue operating, and thus avoid drastic cuts.

Finally, the money can be used to pay dividends to shareholders, which strengthens the company's capital and brings more stability.

Therefore, applying financial planning to the allocation of funds favors the company's growth through smart investments.

“Profit reserves are a true ally of corporate financial planning. They provide essential security and flexibility for companies to prosper in the long term.”

Legal reserve

The legal reserve is a type of profit reserve required by law, and its purpose is to protect the company's share capital. 

In this way, each year a part of the net profit is saved, generally between 5% and 20% of the capital.

Therefore, this reserve is mandatory and aims to keep the company financially strong, as it helps protect against surprises and provides a basis for the company's growth and sustainability.

Purpose of the legal reserve

The purpose of the legal reserve is:

• Keeping the company's share capital safe
• Ensure the company's financial health
• Protect against unforeseen events
• Providing a basis for growth and sustainability

“The legal reserve is an essential tool for the financial health and longevity of a company.”

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Profit reserve and dividend distribution

Profit reservation and dividend distribution occur when a company saves part of its profits, and therefore has less money to pay dividends. This decision favors investment in its growth.

So this strategy can bring benefits to shareholders in the future, even if dividends decline in the short term.

For it to work, the company must find a balance between keeping profits and paying dividends, which depends on many factors, such as investment plans and the company's growth. 

Furthermore, it is important to consider what shareholders expect in order to avoid conflicts of interest.

Profit reserve: legal and tax aspects

The Corporations Law (Law No. 6,404/76) regulates profit reserves, so the company must follow the procedures set out in the articles of association.

From a tax point of view, profit reserves affect the company's taxation, which includes Income Tax and Social Contribution on Net Profit. 

Therefore, it is essential to be aware of tax aspects to comply with tax obligations.

“Profit reserving is an important financial management tool, but it requires attention to its legal and tax aspects.”

Profit reserve and corporate governance

One transparent and efficient management shows that the company has good controls and accountability, which increases the level of confidence of investors and other interested parties.

“Profit reserves are an essential pillar of corporate governance, as they reflect the company’s concern for sustainability and responsibility in its operations.”

And, as this helps the company to have money to invest in growth, innovation and development, it strengthens its position in the market, and this long-term strategy is an example of good corporate governance.

Therefore, profit reserves and corporate governance are closely linked, as the former shows the company's commitment to sustainability and responsibility.

Best management practices

Managing this value well is key to a company's success, and to get the most out of it, it is important to follow some practices.

First, it is vital to have a clear policy for using and constituting the fund, which should align with the company’s objectives. This way, the resources are used to grow and keep the business strong.

Additionally, it is worth monitoring the fund's growth and its impact on the company's planning, as this helps to make better decisions and adjust the strategy when necessary.

Finally, communicating decisions with shareholders and the market increases the company's trust and credibility, as it shows commitment to best management practices.

“Profit reserves are a powerful tool for driving a company’s sustainable growth. When managed strategically, they can be the competitive edge an organization needs to achieve its goals.”

Conclusion

Throughout this content, you were able to understand what a profit reserve is and what makes it so important for managing a company.

As we discussed, this financial fund serves to help the company invest in opportunities and guarantee operations in times of crisis.

But it is also possible to use this strategic value to attract shareholders and investors, so it is important to use the resource intelligently.

Finally, now that you know what part of your profit should go towards this purpose, try to apply this concept to your business, as it will certainly help you achieve increasingly greater results.

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