How efficient is the company and how much profit does it make? For an objective assessment of performance, you need to know the rate of return on sales. It reflects the level of profitability of the store and provides guidance for adjusting the development strategy. Read about all the nuances of calculating and analyzing the indicator in our article.
What is the return on sales?
Profitability is a relative value that characterizes the efficiency of using the organization’s resources: tangible and intangible assets, raw materials, financial resources, and personnel. It is calculated both for the entire company as a whole and for individual segments.
The calculation is carried out in order to:
- profit forecasting;
- estimated return on investment;
- analysis of the current state of affairs;
- comparisons with competitors.
Return on sales ratio (ROS) – the ratio of net profit to the total amount of revenue from the sale of goods. It is expressed as a percentage or a specific amount of income received from each unit of the invested resource. In essence, this is a comparison of profits and costs.
By calculating this figure, you can:
- Understand whether the cost of the product pays for the cost of production or purchase, labor, tax and related payments.
- Determine how much money from sales is profit.
- Control costs and pricing policy.
- Compare initial performance with subsequent performance.
Formulas and calculation examples
To calculate the return on sales ratio, you need to know two main parameters:
Profit is calculated as the difference between revenue and costs. These indicators are recorded in the forms of financial statements. Accounting can also be carried out in professional automated systems.
If you use more complex, detailed formulas, the following are added to the list of initial data:
- cost price;
- business expenses;
- management expenses.
One of the formulas is used to determine the indicator.
The easiest option:
ROS = Profit / Revenue x 100%
The coefficient is calculated on sales in general or for individual products. If we express the result in monetary terms, we will see how much money remains from each ruble received for the sale of products. To do this, we do not multiply the resulting ratio by 100%.
This formula allows you to evaluate the effectiveness or inefficiency of the company , but does not make it possible to identify problem areas. To find out how profitability has changed compared to the previous reporting period, you need to refine the formula.
Variations of formulas for calculation
Detailed calculation method:
ROS = (Revenue – Cost – Expenses) / Revenue x 100%
The results are affected by the values of each element of the formula. The ratio is sensitive to cost volumes, demand levels, revenue growth rates, changes in the assortment and pricing policy.
Let’s calculate the profitability of sales in an online shoe store using a simple version of the formula.
We have the following data for the month:
- sales revenue amounted to 300,000 rubles;
- net profit – 100,000 rubles.
Substitute the values:
ROS = 100,000 / 300,000 x 100% = 33%
We get a completely normal indicator and draw a conclusion about financial efficiency. Each business has its own threshold of profitability – the minimum that can cover costs. It is calculated separately.
There are nuances to consider in ROS calculations. For example, if the store invests in the purchase of goods not monthly, but for an indefinite period. Revenue for part of the costs can be received in a year. In this case, the actual profitability formula will not give a clear picture of the performance and the indicator will be low. Therefore, it is important to choose the optimal period for analysis . It follows from the life cycle of the product.
Main Influencing Factors
How to analyze profitability?
The analysis begins with a study of the actual performance for the reporting period.
The data is then compared with:
- profitability for previous periods;
- business plan data;
- similar indicators of stores with a similar assortment;
- niche averages.
To assess how certain factors affected the profitability, let’s take conditional data on the activities of an online store over the past two years .
Suppose that for 2019 a profit of 2.2 million rubles was received. In 2020, the numbers increased to 2.6 million. Net profit in 2019 amounted to 480 thousand rubles, in 2020 – 510 thousand.
ROS 2019 = 480000 / 2200000 x 100% = 21.8%
ROS 2020 = 510000 / 2600000 x 100% = 19.6%
Over the past 2 years, profitability has decreased by 2.2%. A more detailed analysis is needed to elucidate the reasons for these changes.
Graphical profitability analysis
What should be done:
- Calculate the profitability of each product group, category or position. Thus, you can identify the most popular and least popular products. Formula: (Revenue – Cost – Costs) / Revenue x 100%.
- Study changes in the system of tax deductions.
- Determine the profitability of employees responsible for sales. Formula: (Revenue – Salary – Taxes) / Revenue x 100%.
- Calculate the advertising profitability of the product. Formula: (Revenue – Advertising Costs – Taxes) / Revenue x 100%.
- Calculate margin, sales volumes.
All these nuances affect the final result. A decrease in ROS is often due to:
- deterioration in demand for marginal goods;
- decrease in the quality of work of sales managers;
- increase in costs in any of the directions.
A thorough analysis will identify specific problem areas that led to unwanted changes. After that, it is necessary to choose effective methods for working out the shortcomings, draw up a clear plan and strategy for improving sales.
It is quite difficult to collect and calculate financial indicators manually. In the process of such calculations, many errors associated with the human factor can occur. As a result, the numbers do not correspond to reality and a blurry picture of the company’s performance.
To have a clear idea of the state of affairs in real time, it is worth using specialized programs that automate routine work. It provides tools to manage the trading process, control over changes in indicators, take timely actions for improvement and optimization.
The service tracks:
- all trading operations;
- flow of funds;
- performance of individual employees;
- results of activities: revenue, number of sales, average check by day, week, month.
The system automatically determines sales leaders – the most popular products with high margins. The algorithms take into account the number of products sold and the amount of revenue received. Having such information, the entrepreneur understands which items to focus on, how to properly plan purchases and prevent overstocking of the warehouse. Focusing on in-demand products helps increase profitability.
In the Profit and Loss section , important data is available for analyzing the effectiveness of financial activities:
- cost price;
- gross profit;
- operating expenses;
- Operating profit;
- taxes and fees;
- net profit.
Sales analytics allows you to analyze profitability by product groups and specific customer segments. The program keeps track of all the indicators necessary for the correct calculation of ROS.
Methods for improving profitability
In an attempt to increase profitability, many are trying to reduce costs and product costs. But this is not always the best solution. Following such actions, the quality of the product and the productivity of the staff may deteriorate, which will lead to an even greater drop in ROS.
The issue needs to be approached comprehensively. Before proceeding to the development of tactics, you should study:
- Competitive activities.
- Sales and cost structure.
- Activity and behavioral factors of the target audience.
- The efficiency of managers.
- The profitability ratio of individual product groups.
Only then are concrete decisions made. We suggest taking note of several working methods.
Increasing the value of the product
To sell high, you need to increase the value of the offer. Value is the value of the product as determined by the customer. This factor is often the main one when choosing a store.
The value of the offer is increased by:
- free related service or product (free shipping, second position as a gift, etc.);
- easy-to-use site, simple order form;
- fast assembly, prompt delivery within a clearly defined time frame;
- literacy, friendliness and communication skills of managers.
Slight price increase
Sometimes a small price adjustment can make all the difference. Many entrepreneurs are afraid to raise the price, fearing that this will reduce profits to nothing. In most cases, these fears are unfounded. A small increase in the price tag can lead to a significant increase in income.
Let’s consider a possible scenario.
- retail price – 110 rubles;
- wholesale price – 60 rubles;
- revenue – 40 rubles.
- retail price – 140 rubles;
- wholesale price – 60 rubles;
- revenue – 80 rubles.
An increase in price by 30 rubles will increase sales revenue by 2 times. You can still win even in the event of a slight decrease in sales volumes.
The application of the strategy is possible provided:
- competent handling of objections;
- a thorough study of the pricing policy of competitors and the situation on the market;
- preliminary testing on individual commodity items.
Price increases need to be handled carefully. The decision should be argued, taking into account various factors influencing the choice of the buyer.
Expansion of the average check
The most natural way to increase ROS is to increase the average check. Implementing this in retail is easy: just press on the right points and push the customer to impulsive purchases by connecting emotions.
Promotions and discounts, loyalty programs, modern sales techniques are used as auxiliary tools . How productive the chosen method will be depends on the characteristics of the niche and the target audience.
Proven universal methods:
- Lead magnets are attractive free products that come with the main product (e-books, useful checklists, accessories).
- Goods-locomotives – items that can be purchased at a discount when buying from several items.
- Sets – products combined into ready-made balanced sets, which are cheaper than all the units separately.
- Up-sales and cross-sales are product blocks offering to buy related products.
ROS is affected by different types of costs that are associated with the sale of goods:
- transportation from the place of purchase to the warehouse;
- storage, packing and packing;
- remuneration of personnel;
Reducing these costs is an effective tool for increasing profitability. But this requires a smart approach. First, you should analyze all cost items and understand which one can be “cut” without harming the company. Expenses that are fully justified should not be touched.
What will help reduce costs:
- headcount optimization;
- search for profitable partners;
- accounting automation;
- prevention of losses from marriage and theft.
Increasing the share of running positions
Sales analytics in the inventory system shows the most popular items in the store. These are the most profitable products. It is worth replacing unpopular products with them or expanding their share in the assortment. It is also important to ensure that the hot item is always present in sufficient quantities in the warehouse. This step often leads to a significant increase in revenue.
Falling profitability, accompanied by a sharp decline in sales volumes, is a reason to pay special attention to marketing. Effective advertising on the right sites brings many new customers and increases the average check.
Beneficial effects on ROS are:
- contextual advertising;
- targeted advertising in social networks.
An additional incentive for buying on the site will be various advantageous offers: bonus programs, promotions, discounts .
Profitability also depends on the employees of the company responsible for sales. They must be interested in the implementation of the plan. To do this, it is necessary to create a motivation that will encourage managers to strive for better results .
Sales Manager Performance Indicators
The personnel motivation system includes:
- bonuses and bonuses for achieving planned targets;
- gifts to the most effective employees;
- educational trainings;
- social package;
- restrictions for systematically poor performance.