What Is Net Sales?
Net sales refers to the revenue earned by the company by selling its goods or services less the returns, allowances, and other discounts from the company’s gross sales. These are presented in the statement of income of the company, and the best way to report the statement of income is to report the total gross sales of the company followed by the returns, different discounts, and the allowances derived from the net sales figure.
The net sales has direct impact on the gross profit that the companies make. When the deductions are made in the gross sales figures with respect to the returns, allowances, and discounts, the exact profit figures are derived.
Table of contents
Net Sales Explained
Net sales is a component of income statements. It is the top line of the financial document, which helps businesses assess and examine the financial performance of a company. The figures affect the gross profit count and its margin. Though the net sales is less allowances and discounts, it does not include deductions of the cost of goods sold (COGS), which is an important component for determining the gross profit margin.
The best way to report the income financial statements is to report the total gross sales of the company, followed by the returns, different discounts, and the allowances to derive the net sales figure. Using this presentation format makes it easier for the different uses of the financial statement to check if any recent changes that took place concerning the sales deductions, if any discount of the huge amount is given during the period and whether the reason for the same are disclosed in the notes to the financial statement or not, etc.
It varies from company to company to adopt the way of presenting its sales. Many companies report the gross sales and then the net sales in the income statement’s direct costsDirect CostsDirect cost refers to the cost of operating core business activity—production costs, raw material cost, and wages paid to factory staff. Such costs can be determined by identifying the expenditure on cost objects. portion, or on the other hand, they may report only the net sales on the top lineTop LineThe top line is the revenue earned by the business by selling goods or services, reported in the income statement for a defined period. of the income statement.
Changes in the value of the sales affect the gross profit and the gross profit margin of the company, but it does not include the costs of the goods sold.
At the accounting periodAccounting PeriodAccounting Period refers to the period in which all financial transactions are recorded and financial statements are prepared. This might be quarterly, semi-annually, or annually, depending on the period for which you want to create the financial statements to be presented to investors so that they can track and compare the company's overall performance. firms should calculate the total value of the sales allowances and total sales discounts during the period and subtract the same from the total value of gross sales to arrive at the net sales figures. The figure derived shows the actual amount of receipts from the customers is reported on the company’s income statement. Net sales don’t need to apply to every company because of various components for its calculation.
The elements that play an important role in the calculation of net sales include the following:
- Gross Sales – The total unadjusted sales that the company makes during the period under consideration is known as the gross sales.
- Sales Returns – Many companies allow buyers to return the sold item within a period against the full refund. When these sold items are returned, they count as the sales return of the company.
- Allowances – The allowances are given to the customer if the company agrees to lower its already booked revenue. This type of situation generally arrives when there is a complaint from the buyer’s side regarding the damage of goods during transportation or the wrong delivery of goods. So in these cases, a partial refund is given to the customer through the allowances.
- Discounts – Sometimes, the seller offers different discounts on their products to the customer on meeting certain terms like paying the bills earlier than the due date. In such circumstances, the buyer must pay an amount lower than the billed amount.
The net sales equation that helps calculate its value is mentioned below:
Net Sales = Gross Sales (Total Revenue) – Sales Returns – Allowances – Discounts
How To Calculate?
When it comes to calculating this value, businesses prefer having an excel sheet to record the transactions and components required for the calculation. There are series of six steps that the businesses can follow to ensure having a well-organized set of data calculating the net sales. Let us have a look at those steps:
- The first step is to have two columns, one containing the category of concession, be it allowances or discounts, and the other containing the respective amount.
- The next step is to find the gross sales, which is computed by multiplying the number of units sold with the price of it per unit. Look for the columns having the respective values and apply the formula for results.
- From the gross sales value, subtract the sales discounts, if any. Record this value in another column.
- The resultant in Step 3 can then be used as a value from which sales returns are subtracted. Sales return includes the goods that are returned to sellers for full refund. These record for no sales. Hence, they must be deducted from the net sales value as obtained in the previous step.
- From the value obtained in the last step, deduct the allowance as applicable.
- The final value obtained above (in Step 5) is the net sales.
Let us consider the following instances to understand the net sales definition better and also see how it works and is calculated:
For example, Company XYZ ltd manufactures and sells different textile items in the market. The total gross sales of the companyGross Sales Of The CompanyGross Sales, also called Top-Line Sales of a Company, refers to the total sales amount earned over a given period, excluding returns, allowances, rebates, & any other discount. for July 2019 were $ 100,000. Out of the total sales, during the same period, sales and returns were $ 2,000, sales allowances were $ 3,000, and the discounts given were $ 10,000. Using the given figures, calculate the company’s net sales for July 2019.
Calculation of the net sales of the company for July 2019 is as follows:
These are calculated by deducting the returns, allowances, and other discounts from the company’s gross sales.
Departmental store ace, Macy, reported a decline in the third quarter of 2023 following the restricted consumer spendings. In the analyst meeting, the to-be CEO of the organization presented the current status and said that there have been 40 million customers annually from the different nameplates they hold and run all across the world.
Despite the customers numbers and specific mention of huge sales of cosmetics and beauty product, the company noted that the earnings per share for the third quarter of 2023 was $0.15, which was $0.20 less than the EPS of the third quarter of 2022.
Net sales, also known as net revenue, is important as it helps businesses know the real sales figures and the revenue generated from it. When gross sales is recorded, it reflets figures that may not give a clear picture of the actual revenue generated.
Hence, the required amounts need to be deducted from the gross value to know what the actual sales-driven revenue is. Based on this, the businesses assess their financial performance. Apart from being an assessment metric, these sales values also have other advantages, which include the following:
- Changes in the value of the net sales affect the company’s gross profitGross ProfitGross Profit shows the earnings of the business entity from its core business activity i.e. the profit of the company that is arrived after deducting all the direct expenses like raw material cost, labor cost, etc. from the direct income generated from the sale of its goods and services. and the gross profit margin of the companyGross Profit Margin Of The CompanyGross Profit Margin is the ratio that calculates the profitability of the company after deducting the direct cost of goods sold from the revenue and is expressed as a percentage of sales. It doesn’t include any other expenses into account except the cost of goods sold., so the company should show it in its statement of income.
- While deriving at the company’s net sales, different components are generally presented by companies like Sales returns, allowances, and discounts.
- Using this presentation makes it easier for the different uses of the financial statement to check if any recent changes that took place concerning the sales deductions if any discount of a huge amount is given during the period and whether the reason for the same is disclosed in the notes to the financial statementFinancial StatementFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels. or not, etc.
- It doesn’t need to apply to every company because of various components for its calculation.
- Different components used for the better analysis of the company working by the different users of the financial statements are not accounted for in the Net sales, such as the cost of the goods soldCost Of The Goods SoldThe Cost of Goods Sold (COGS) is the cumulative total of direct costs incurred for the goods or services sold, including direct expenses like raw material, direct labour cost and other direct costs. However, it excludes all the indirect expenses incurred by the company. , marketing expenses, general expenses, and administrative expensesAdministrative ExpensesAdministrative expenses are indirect costs incurred by a business that are not directly related to the manufacturing, production, or sale of goods or services provided, but are necessary for the smooth functioning of business operations, such as information technology, finance & accounts..
Net Sales vs Net Income
Net sales and net income are two terms that play significant role in a business and many a times they are mistakenly used interchangeably because of their similarities. Both help to measure the financial performance of the companies. Both these metrics allow investors and other internal as well as external stakeholders to wiser management and investment decisions.
However, it is important to know that these they differ from each other in various aspects. The difference between net sales and net income are as follows:
- While net sales is the total revenue a business generates, net income is the profit.
- Net sales is the value obtained when different discounts, allowances, and sales returns are subtracted from the gross sales recorded for a period. On the contrary, net income is the income recorded after the expenses and liabilities of the businesses are subtracted from the gross income post their payments.
- The former provides clear picture of revenue generated from sales, while the latter enables businesses to check how profitable they are.
This article has been a guide to what is Net Sales. We explain its formula, how to calculate it, vs net income, examples, advantages, & disadvantages & components. You can learn more about accounting from the following articles –