If you are gauging the health of your business, there are some metrics that you simply can not avoid. And Return On Sales or ROS is one of them. It also has the potential to measure the logic behind your budget and sales strategies. This figure is reported as a ratio.
The higher ROS implies more profit. So, you8 need to make sure that your Return On Sales is going up. It is really a piece of vital data for your company in order to track its overall financial health.
What Is Return On Sales?
If you are a salesperson then you have to know about the Return On Sales or ROS system, It is a ratio or percentage that is used in order to determine a company’s operational efficiency. This measurement offers insight into the amount of profit that has been made or being produced in per dollar sales.
An increasing ROS refers to the more efficient growth strategies of a company, while a decreasing graph shows the upcoming financial troubles. Have you heard of operating profit margin? Any firm’s operating traffic margin is very closely related to ROS.
Some Key Features
- Return On Sales or ROS is the particular measure of how efficiently a company is turning sales into profits.
- ROS or Return On Sales is evaluated by dividing operating profit with net sales.
- ROS or Return On Sales only comes into use when you want to compare companies in the same line of business. Those companies should also fall under the same size roughly.
Calculation And Return On Sales Formula
In order to calculate the ROS or Return on Sales, you need two figures from your company’s income statement. And they are the “Net Sales” and “Operating Profit.”
Here is the formula of Return On Sales
ROS (Return On Sales) = Operating Profit / Net Sales.
While calculating the return on sales, as an investor, you may notice that some companies report net sales, and there are some others, which report the revenue. You can calculate net sales from the revenue.
Net Sales = Total Revenue – The Refunds or Credits paid to the customers.
Mostly, the retail industry reports net sales, while others prefer reporting the total revenue. You also can check the net sales formula for a better understanding.
How To Calculate Return On Sales
Here are the steps that you need to require while calculating the Rate On Sales or ROS.
- At first, you need to search for the net sales on the income statement. You also can check for revenue if you are unable to find net sales.
- Now on the income statement, search for operating profit. You need to be more careful with not including non-operating expenses or activities, such as interest expenses and taxes.
- Now, divide the operating profit with the net sales.
- The calculated numeric answer will be your ROS or Return On Sales.
Understanding The Concept With An Example
The basic concept of calculating the ROS or Return On Sales is described above. Here we will understand the whole idea by discussing it with an example.
Let’s assume your company has made $900,000 in sales, and along with that, it also has incurred $725,000 in expenses.
Now the Operating Profit will be = $900,000 – $725,000
Now, Return On Sales (ROS) = Operating Profit / Net Sales
= $175,000 / $900,000
If we convert it into a percentage, the ROS or Return On Sales will be 19.4% or around 19%, which is indeed a healthy ROS. There are a lot of organizations that would be content with a Return On Sales of 5-10%.
After calculating the ROS, a company will be able to determine how cost-effective it is in terms of delivering products to the market.
The Importance Of Return On Sales
In order to determine a company’s overall performance, the ROS or return or sales is considered as one of the most straightforward figures. You will find creditors and stakeholders are often interested in this particular metric because it offers a prominent overview of any company’s investment potential, potential dividends, and the ability to pay back loans.
At the time of messing the performance over years and years, ROS has proved itself as one of the most reliable figures. It is a fact that any company’s expenses and revenue can vary over time. So, it is obvious that higher revenue may not be the most suitable metric to evaluate a company’s profitability.
On the other hand, ROS or Return On Sales is the measure of both the expenses and revenue. It lets your business identify how both these figures can offer a more appropriate picture of the company’s performance by interacting and also it will help to increase your business level as well.
When you are comparing the success of different companies, you can use the ROS or Return On Sales. However, ROS greatly differs from industry to industry. But you need to make sure that the companies you are comparing are from the same industry.
The Difference Between ROS And Operating Margin
In order to describe a quite similar financial ratio, operating margin and return on sales are being used. While the main difference between the usage of these two lies in the way the formula of them are derived.
The standard formula for calculating operating margin is operating income divided by net sales. It is extremely similar to return on sales. Here the denominator stays the same, while the numerator is usually written as earnings before taxes and interests (EBIT).
Usage Limitations Of Return On Sales
I have already mentioned that while you are comparing businesses, you need to make sure that all the companies fall under the same industrial category. You also can consider various companies with similar annual sales figures and business models. So, you need to know how to run your business financially stable. Companies of different industries having different business models usually have very different operating margins. So, using EBIT while comparing them could be very confusing.
With a variety of different applications, Return On Sales or ROS is an important metric. As a businessman, it is too vital to have a picture of yourself. This metric allows you to check where you are currently standing in terms of business financials. In order to judge your efficiency of turning over profits, you need to get a thorough idea of ROS and also need to know the process of calculating it.
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