What Is the Book-to-Bill Ratio?
A book-to-bill ratio is the ratio of orders received to units shipped and billed for a specified period, generally a month or quarter. It is a widely used metric in the technology industry, specifically in the semiconductor equipment sector.
Investors and analysts closely watch this ratio for an indication of the performance and outlook for individual companies and the technology sector as a whole. A ratio above one implies more orders were received than filled, indicating strong demand, while a ratio below one implies weaker demand.
- Book-to-bill ratio is the ratio of orders received to units shipped and billed for the period.
- A ratio above one means more orders were received than filled, indicating strong demand.
- A ratio below one means more orders were shipped than received during the month, indicating diminishing demand.
The Formula for the Book-to-Bill Ratio:
The formula to calculate book-to bill ratio is:
Book to Bill=Orders ShippedOrders Received
Understanding the Book-to-Bill Ratio
A book-to-bill ratio is typically used for measuring supply and demand in volatile industries such as the technology sector. The ratio measures the number of orders coming in compared to the number of orders going out. A company fulfilling orders immediately as they come in has a book-to-bill ratio of 1. For example, Company A books 500 orders for parts and then ships and bills all 500 orders. The booked and billed orders have a ratio of one, or 500/500.
The book-to-bill ratio reveals how quickly a business fulfills the demand for its products. The ratio also shows the strength of a sector, such as aerospace or defense manufacturing. It may also be used when determining whether to purchase stock in a company.
If a business has a ratio of less than one, there may be more supply than demand. For example, Company B books 500 orders for parts, and then ships and bills 610 orders, including some orders from the previous month. The booked and billed orders have a ratio of 0.82. For every dollar of orders, the company billed, only $0.82 of orders were booked that month.
However, if the ratio is greater than one, there may be more of demand than can be efficiently supplied. For example, Company C books 500 orders for parts, and then ships and bills 375 orders. The book-to-bill ratio is 1.3, or 500/375. In contrast, a business with a ratio of one is meeting supply and demand adequately by shipping and billing orders as they are received.
Real-World Example of the Book-to-Bill Ratio
As a historical example, in June 2016, companies creating semiconductor pieces in the United States and Canada received orders averaging $1.71 billion over three consecutive months. The book-to-bill ratio was 1. Thus, for every $100 in orders received for the month, $100 of the product was billed. The companies booked $1.75 billion in orders during May 2016, making that month 2.3% more profitable than the average bookings from April through June of that year.
What Is the Difference Between Bookings and Billings?
Bookings represent a customer's intent to commit to a purchase from your business. Billings represent the collection of your customer's money when the purchase is complete.
What Is a Good Book-to-Bill Ratio?
A book-to-bill ratio greater than 1 is typically considered to be a good sign of high demand in an industry. However, it is important to know which performance indicator you are interested in. If you need to know whether a business has enough supply to cover demand, a book-to bill ratio of exactly 1 means it is meeting its customer's demand in a timely manner.
Why Would a Company Have a Book-to-Bill ratio Less Than 1?
A company may have a book-to-bill ratio less than 1 if it is shipping out more units than it has received orders for in the current period, whether that's a month or a quarter, etc. If a company ships out more units than it receives orders for in the same period, it means it is fulfilling orders from a previous period. That is indicative of a decreasing demand for the product.
The Bottom Line
The book-to-bill ratio can help managers and investors learn whether a company is meeting demand, has more demand for its products than it is filling, or has more supply of its products than demand for them. This metric is used widely in the technology industry and helps assess the performance and outlook of individual companies and of an industry sector as a whole.