# 5.1.3 Return on sales

Return on sales (ROS) indicates the percentage of sales revenue left before payment of finance costs and corporation taxes. Return on sales is calculated as follows:

Earnings before interest and tax (EBIT) is also often referred to as ‘operating profit before interest and tax’, and some companies may refer to EBIT as ‘operating income’.

This is a key ratio showing a company’s basic operating performance or core income as a percentage of revenue or, in other words, the amount of net operating profit generated by each unit of revenue. It uses the profit arising from the organisation’s productive processes. This represents the core revenue generated by the business before the impact of financing decisions (interest costs), some one-off events and taxation are considered. The rationale behind what is or is not included comes from the key purpose of this ratio: to look at the organisation’s basic or ‘underlying’ performance. ROS is often the starting point for assessing what might be expected to happen in the future.

ROS provides a first-level indication about whether the organisation has a worthwhile market position. A high figure implies that the organisation’s outputs are sufficiently attractive to its customers and they are willing to pay a price that substantially exceeds the costs of providing that product or service. If it is a high figure, this indicates that the company has a good business model and/or product portfolio. Therefore, ROS assesses the viability of an organisation’s performance and is an essentially outward-looking ‘effectiveness’ measure. It is important to note that any company can achieve high sales simply by pricing well below the cost of production. A company can undercut the competition and make dramatic sales right up until it goes bankrupt. The sign of good management – of effective management – is being able to sell at a good profit because the products are attractive to the market (and not just low priced).

The ROS measure can be thought of as a way to cast light on the organisation’s marketing capability, albeit taking the broadest definition of marketing. The product line, the distribution process, the pricing and sales strategy are all aspects of the overall ROS result, and all of these factors are encompassed by the broad definition use of the term ‘marketing’. However, ROS also inherently includes an element relating to production efficiency, particularly if ROS is very low or negative, which might be because marketing (in the broad sense) is poor, or it might be because the costs of production are much too high. In the latter case, even if the marketing is excellent, competition economics means that it will be almost impossible to have a good ROS. Allied to this point is the fact that ROS measures tend to be similar within industrial sectors. Thus, comparing ROS to average sector values can be an effective benchmarking exercise leading to important questions such as: Why do some competitors produce more or less profit from revenue?

In the case of Remote Sensors Plc ROS can be calculated as follows:

##

| 2025 | 2024 | 2023
--- | --- | --- | ---
Sales | 17,860 | 16,995 | 15,990
Profit before interest and tax | 4,120 | 3,515 | 3,484
Return on sales | 23.07% | 20.68% | 21.79%

You can observe a slight decline in ROS from 2023 (21.79%) to 2024 (20.68%). One reason for this decline could be a reduced GP margin (calculated in Section 5.1.2), the impact of which is transferred here. However, management should investigate the causes of the reduction in ROS and make a conscious effort to control costs, as ROS is an index of corporate performance and can be used to compare one company to others in the same industry. Investors will often base their investment decisions on ROS. You can observe an improvement in ROS from 2024 (20.68%) to 2025 (23.07%). Again, one of the reasons for this increase could be attributable to the increased gross profit margin. For improvements in future, this analysis suggests the need for an assessment of both cost and marketing functions within the company.

Activity 4 provides you with an opportunity to practise calculating ROS and to understand the significance of changes in ROS over time.

## Activity 4 Calculating return on sales

Allow 15 minutes

Read the data on Marks & Spencer Group Plc’s revenue and operating income from 2018 to 2022 (extracted from Fame) and answer the following questions.

1. Calculate ROS for the years 2018 to 2022.

##

| 2022 | 2021 | 2020 | 2019 | 2018
--- | --- | --- | --- | --- | ---
| £m | £m | £m | £m | £m
Total revenue | 10,885.10 | 9,155.70 | 10,181.90 | 10,377.30 | 10,698.20
Operating income | 572.20 | (30.70) | 254.80 | 162.40 | 156.50
Return on sales | (A text entry box would appear here, but your browser does not support it.) | (A text entry box would appear here, but your browser does not support it.) | (A text entry box would appear here, but your browser does not support it.) | (A text entry box would appear here, but your browser does not support it.) | (A text entry box would appear here, but your browser does not support it.)

Interactive feature not available in single page view.

### Feedback

##

| 2022 | 2021 | 2020 | 2019 | 2018
--- | --- | --- | --- | --- | ---
| £m | £m | £m | £m | £m
Total revenue | 10,885.10 | 9,155.70 | 10,181.90 | 10,377.30 | 10,698.20
Operating income | 572.20 | (30.70) | 254.80 | 162.40 | 156.50
Return on sales | 5.26% | (0.34%) | 2.50% | 1.56% | 1.46%

2. How would you interpret the changes in ROS over the years?

(A text entry box would appear here, but your browser does not support it.)

### Feedback

The ROS of the company was increasing steadily from 2018 to 2020. However, there was an operating loss in 2021 which resulted in a negative operating profit margin. Covid-19 is a responsible factor for that. However, the company bounced back in 2022, generating the highest net profit margin of 5.57% in the last five years. You noticed in Activity 3 that the gross profit margin of the company was decreasing from 2018 to 2021. However, the company still managed to gradually increase its ROS. This analysis indicates that the management of the company was striving to control the company’s costs to maximise profitability. However, in order to assess whether this rate of return is healthy and attractive for investors, more data about the rate of return on sales within the sector is needed.

3. Access Marks and Spenser Annual Reports online and compare the data provided in this activity with the data provided in those annual reports. Comment on the possible reasons for any discrepancies found.

(A text entry box would appear here, but your browser does not support it.)

### Feedback

Companies restate their previous year’s financial statements for correction of any errors found after the date of their publication. Restatement of financial statements becomes necessary when the errors result in any material inaccuracies in the information provided and can expose a company to the threat of being non-compliant with standards and regulations. These errors could creep in as a result of simple clerical mistakes to the more serious cases of incompetence, misrepresentation and fraud.

These restatements mean that there will be some variation in the financial figures reported across different accounting periods, and might also reflect when data is collected from different sources. It is important to be mindful of these variations and analyse data using a single source of information for maintaining consistency in analysis.

OpenLearn - Financial statement analysis and interpretation
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