Knowing what sort of sales you are bringing in is important in determining the overall health of your business. Sales can tell you any number of things about your business, but not all sales numbers are created equal.
Here, we will specifically look at net sales and how to calculate net sales as well as briefly touch on why net sales are ultimately so crucial to your business.
What Are Gross Sales?
To define what net sales are, it is first important to look at gross sales, since they play a major part in how you go about calculating net sales. Gross sales measure the overall sales of a company while not taking discounts or customers returns into account.
If you add together all of a business’s sales invoices, you get that business’s gross sales. However, this calculation does not include the cost of goods sold, operating expenses, tax payments, or any other various charges.
What Are Net Sales?
With our definition of gross sales in mind, net sales can be defined as gross sales minus relevant deductions. The three deductions that you need to account for when calculating net sales are sales allowances, sales discounts, and sales returns.
A sales allowance is a deduction that occurs when a seller reduces the price of a sold product due to a problem with that product, whether it be a quality problem, a shipment-related problem, or an incorrect pricing issue. The sales allowance is created after the initial billing to the buyer, but before the buyer actually pays the seller. In other words, the product was damaged or found to be defective before the sale.
On the other hand, a sales discount is when a seller reduces the price of a product or service due to early payment by the buyer. For example, if a buyer pays for the product or service within five days of the sales posting, that buyer may be allowed to pay 10% less than the posted price. This discount is applied when the money is exchanged between the buyer and seller and is typically employed by sellers who are immediately in need of cash.
Finally, a sales return is simply a refund granted to the buyer if they return the product for any number of reasons. It can be because the product is defective, or if the product arrives late, or if the product specifications are incorrect, or if the wrong items were shipped, or even if too many items were shipped.
Why Are Net Sales Important?
Net sales are important for a variety of reasons. If you find a large discrepancy in gross sales and net sales, this could be telling you that you may need to set higher quality control standards in place for your business to truly thrive. In other words, if your gross sales numbers are much higher than your net sales numbers, this could be providing you with valuable insight into your actual sales processes. You may have defective products that you need to deal with, or perhaps you have to issue a product recall.
Maybe you need to rework your customer service strategy. Or maybe you have a supplier problem. Or maybe even still you have to work out a few kinks in your inventory management system. Since the main difference between gross sales and net sales are sales-based deductions, net sales that are drastically lower than gross sales usually indicates there is something wrong with the way you are conducting business.
A Greater Understanding Of Net Sales Can Help You To Maximize Profitability
Your net sales are your bottom line. They let you know how much revenue you are actually raking in. To understand every single facet that goes into calculating net sales (be it sales allowances, discounts, returns, or any number of different deductions) is to understand why your business either is or is not profitable. If you want your business to ultimately be able to maximize profitability and achieve sustained growth and development in the long term, then you need to be able to implement effective strategies for increasing net sales.