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What is 'Return on Sales (ROS)'

Return on sales (ROS), also known as a firm's operating profit margin, is a ratio used to evaluate a company's operational efficiency.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 efficiently, while a decreasing ROS could signal impending 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 makes on its revenue and provides 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 analyses and compare internal efficiency performance over time. It is also useful to compare one company's ROS percentage with that of a competing company, regardless of scale. The comparison makes it easier to assess the performance of a small company in relation to a Fortune 500 company. However, ROS should only be used to compare companies within the same industry as they vary greatly across industries. A grocery chain, for example, has lower margins and therefore a lower ROS compared to a technology company.

Calculating ROS

The ROS is calculated as a company's operating profit for a specific period divided by its respective net sales: ROS = Operating Profit / Net Sales.  The ROS equation does not account for non-operating activities and expenses, such as taxes and interest expenses.

The calculation shows how effectively a company is producing its core products and services and how its management runs 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 successfully cuts costs while 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% ($20,000/$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.

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