What is 'Return On Sales - ROS'
This measure provides insight into how much profit is being produced per dollar of sales. An increasing ROS indicates that a company is growing more efficient, while a decreasing ROS could signal looming financial troubles.
BREAKING DOWN 'Return On Sales - ROS'
ROS is a financial ratio that calculates how efficiently a company is generating profits from its top-line revenue. It measures the performance of a company by analyzing the percentage of total revenue that is converted into operating profits. Investors, creditors and other debt holders rely on this efficiency ratio because it accurately communicates the percentage of operating cash a company actually makes on its revenue and can provide insight into potential dividends, reinvestment potential and the company's ability to repay debt.
ROS is used to compare current period calculations with calculations from previous periods. This allows a company to conduct trend analysis and compare internal efficiency performance over time. ROS is also used by comparing a company's percentage with the percentage of a competing company, regardless of scale. This makes it easier to assess the performance of a small company in relation to a Fortune 500 company. However, ROS varies widely depending on industry and should only be used to compare companies within the same vertical. A grocery chain, for example, has lower margins and therefore a lower ROS compared to a technology company.
The ROS calculation is taken as a company's operating profit in a specific period divided by net sales for that same period. The equation for ROS is as follows: ROS = (Operating Profit) / (Net Sales).
The calculation shows how effectively a company is producing its core products and services and how its management team is running the business. Therefore, ROS is used as an indicator of both efficiency and profitability. For example, a company that generates $100,000 in sales and requires $90,000 in total costs to generate its revenue is less efficient than a company that generates $50,000 in sales but only requires $30,000 in total costs.
ROS is larger if a company's management team is better cutting costs and increasing revenue. Using the same example, the company with $50,000 in sales and $30,000 in costs has a operating profit of $20,000 and a ROS of 40%, calculated by dividing $20,000 by $50,000. If the company's management team wants to increase efficiency, it can focus on increasing sales while incrementally increasing expenses, or it can focus on decreasing expenses while maintaining or increasing revenue.