What is Return on Sales?
The Return on Sales (ROS) is a ratio used to determine the efficiency at which a company converts its sales into operating profit.
How to Calculate Return on Sales (Step-by-Step)
The return on sales ratio (ROS), also known as the “operating margin,” measures the amount of operating income generated per dollar of sales.
Therefore, the return on sales answers the question:
- “How much in operating profits is kept for each dollar of sales generated?”
On the income statement, the “Operating Income” line item – i.e. earnings before interest and taxes (EBIT) – represents the residual profits of a company once its cost of goods (COGS) and operating expenses (SG&A) have been subtracted.
The profits left over after all operating expenses have been accounted for can be used to pay off non-operating expenses such as interest expenses and taxes to the government.
With that said, the more sales that “trickle-down” to the operating income line, the more profitable the company is likely to be – all else being equal.
Return on Sales Formula
The return on sales ratio establishes a relationship between two metrics:
- Operating Income (EBIT) = Revenue – COGS – SG&A
- Net Sales = Gross Sales – Returns – Discounts – Sales Allowances
Both the operating income and sales of a company can be found on the income statement.
The formula for calculating the return on sales ratio consists of dividing operating profit by sales.
In order to express the ratio as a percentage, the calculated amount must then be multiplied by 100.
By denoting the ratio in percentage form, it is easier to conduct comparisons across historical periods and against industry peers.
Return on Sales vs. Gross Profit Margin
The gross profit margin and the return on sales (i.e. operating margin) are two frequently used metrics to evaluate a company’s profitability.
Both the gross margin and return on sales metric compare a company’s profit metric to its total net sales in the corresponding period. The difference is that the gross margin utilizes the gross profit in the numerator, whereas the return on sales utilizes operating profit (EBIT).
Moreover, the gross profit only subtracts COGS from sales, but operating profit subtracts both COGS and operating expenses (SG&A) from sales.