Plowback Ratio

What it is

The plowback ratio (also called the retention ratio) measures the portion of a company’s earnings that is retained and reinvested in the business rather than paid out as dividends. It is the complement of the dividend payout ratio.

Why it matters

• Indicates management’s preference for reinvestment versus cash distribution.
• Higher ratios suggest a focus on growth and reinvestment (common in younger or high-growth firms).
• Lower ratios suggest a preference for returning cash to shareholders or a lack of attractive reinvestment opportunities (more common in mature firms).
• Most useful when comparing companies within the same industry, because optimal retention levels vary by sector.

Formulas

By totals:
Retention ratio = (Net Income − Dividends) / Net Income

Per share:
Retention ratio = 1 − (Dividends per Share / Earnings per Share)

Relationship with payout ratio:
Retention ratio = 1 − Dividend Payout Ratio

Edge cases:
* 100% retention = company pays no dividends.
* 0% retention = company pays out all earnings as dividends.

Investor implications

• Income-focused investors prefer lower retention (higher dividends).
• Growth-focused investors may favor higher retention, which can lead to capital gains if reinvestment generates higher future earnings.
• A stable retention ratio can signal predictable capital allocation policy; large changes may indicate a shift in strategy or financial condition.

Management and accounting effects

Management sets dividend amounts, directly affecting the ratio. Earnings per share (EPS) used in the calculation can be influenced by accounting choices, so the ratio is sensitive to a few internal decisions and accounting policies.

Example

A company with EPS = $5.73 and dividend per share = $0.84:
* Retention ratio = 1 − (0.84 / 5.73) = 0.8534 → 85.34%
* Dividend payout ratio = 0.84 / 5.73 = 14.66%

This means the company retains about 85% of earnings and distributes about 15% as dividends.

Key takeaways

• The plowback ratio shows how much profit is reinvested in a business.
• Use it alongside other metrics (growth rates, return on reinvested capital, payout ratio) to assess whether retained earnings are likely to generate shareholder value.
• Interpret the ratio relative to industry norms and the company’s lifecycle stage.