When analyzing figures in business, it is helpful to know how to calculate the percentage of sales to expenses. Performing these calculations is an important part of decision-making and long-range planning for any organization.
Percentage of Sales Method
Calculating the percentage of sales to expenses is commonly referred to as the percentage of sales method. This method is used by business owners and employees within a business who create budgets to determine if the ratio of expenses to sales is appropriate. If ratios are too high, the business may make adjustments to reduce the expense percentage and increase profits. The calculation can be used to find the percentage of sales for all expenses and also for specific expense categories.
Here are the steps:
- Calculate your total sales in dollar amounts for the period. You can analyze data for any period of time, such as breaking it down daily, monthly, quarterly or annually.
- Calculate your expenses for the same period of time for which you collect sales data.
- Divide your expense total by the sales revenue total.
- Multiply the result by 100. The result is the percentage of sales to expenses.
For example, suppose your revenue for a particular period equals $200,000 and your expenses for the same period equal $95,000. Divide $95,000 by $200,000.The result is .475. Multiply .475 by 100 to get 47.5%. This means that, for the period analyzed, 47.5% of your sales goes toward expenses.
Percentage of Sales to Categories of Expenses
You may want to compare percentage of sales to different categories of expenses in addition to total expenses. Here is an example, using figures from a company's balance sheet:
- Net sales = $450,000
- Cost of goods sold = $228,000
- Administrative expenses = $22,000
- Sales expenses = $36,000
You want to know the percentage of sales to administrative expenses. Divide the administrative expenses by net sales, then multiply by 100:
(42,000/450,000) = 0.0933
0.0933 x 100 = 9.33%
You want to know the percentage of sales to sales expenses. Divide the sales expenses by net sales, then multiply by 100:
(198,000/450,000) = .44
.44 x 100 = 44%
Interpreting the Calculations
From the above example, you can see that sales expenses have a higher percentage of sales than do administrative expenses. The information becomes especially useful in comparing figures from previous years and making budgeting decisions for the future. For example, if you want to decrease your percentage of sales to administrative expenses, you need to implement strategies to increase sales, decrease administrative costs, or both in order to change the ratio.
Forecasting Sales for Budgeting Purposes
The percentage of sales method is a tool for forecasting and budgeting. A business looks at the historical cost of goods as a percentage of its sales and uses that figure for the forecasted sales amount. The percentage of sales method can also be used to forecast other balance sheet items that are closely associated with sales, such as inventory, accounts payable and accounts receivable.
Considerations in Calculating Percentage of Sales to Expenses
When calculating expense to sales ratios, consider both variable and fixed expenses. Variable expenses can include such items as commissions, cost of raw materials and shipping. Fixed expenses, including such items as rent of building, utilities and fixed salaries, often do not correlate with sales.
Another variable is step costing, which are costs that do not change steadily with sales volume but at discrete points. For example, purchase discounts may be applied to purchases once a unit count passes, say, 10,000 per year. The cost is variable and changes to a different percentage of sales in response to a different volume level.