What is the Percentage of Sales Method? Definition Meaning Example

For example, if a company historically spends 10% of its sales revenue on advertising, it can predict future advertising expenses by applying this percentage to its projected sales. It involves using historical percentages to project future values of accounts that tend to vary with changes in sales volume. Management of XYZ Company meets on an annual basis to discuss the performance of the company and discuss the financial statement outlook.

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• If your business needs a very rough picture of its financial future immediately, the percent of sales method is probably one of your better bets.
• Especially when it comes to creating a budgeted set of financial statements.
• With the percentage of sales method, you can quickly forecast financial changes to your business — including both assets and expenses — based on previous sales history.
• Under the Percent of Sales Method for tracking bad debts, credit sales (not cash sales) are multiplied by a percent to arrive at the estimate for bad debts.
• Suppose Panther Tees is a t-shirt retailer that sells t-shirts directly to consumers via its online platform.

Learn how to use the sales revenue formula so you can gauge your company’s continued viability and forecast more accurately. Next, Liz needs to calculate the percentage of each account in reference to her revenue by dividing by the total sales. If your sales increase by 20 percent, you can expect your total sales value in the upcoming quarter or year to be $90,000.

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This calculation is done each month based on the current month’s credit sales and the total accumulates in the Allowance account. This is different from the Aging of Accounts Receivable Method where a journal unit cost definition entry is done to bring the balance in the account to the desired balance. Finally, we would like to point out that your application of the percentage of sales method is not limited to just the Balance Sheet.

Real-world example of the percentage of sales method

Connect and map data from your tech stack, including your ERP, CRM, HRIS, business intelligence, and more. Sync data, gain insights, and analyze performance right in Excel, Google Sheets, or the Cube platform. Bad debt expense represents the money that customers owe but are unlikely to pay.

Companies with credit sales will want to keep tabs on their accounts receivable to ensure bad or aged debt isn’t building up. This method just focuses on accounts receivable and can complement the percentage-of-sales calculations. If you want a more accurate view of the company’s financial health, then the percentage-of-sales method can form part of a more detailed financial outlook statement. While COGS is generally related to sales, it might not directly correspond to changes in sales volume. This could happen because of factors like inventory accounting methods or changes in material costs.

In this article, we’ll explain the percentage of sales method and how to calculate it. We’ll also show you a real-life example, highlighting its benefits and drawbacks. With a revenue of $60,000, she’s not running a corporation, but she should still expect to run into a small amount of bad debt expense. By looking over her records, she finds that for the month, her credit purchases come to $55,000 (with $5,000 cash). If her sales increase by 10 percent, she can expect your total sales value in the upcoming month to be $66,000.

There is a lower chance that recent purchases won’t be settled by the credit card companies than purchases over a month out. This allows for a more precise understanding of what money may be lost. First, Jim needs to work out the percentage that each of these line items represents relative to company revenue. The store owner needs to look at each line item on the financial statement and work out the percentage in relation to revenue. But even for bigger companies, the percentage-of-sales method may not work as well if they’ve had a big change in operations or structure that’s taken place to drive more sales. For example, if a company is small and growing rapidly, its sales data might become out of date much quicker than a more mature business.

A business would need to forecast the accounts receivable or credit sales using the available historical data. Understanding how quickly customers pay back credit sales over different periods, such as 30, 60, and 90 days, also helps. Because the percentage-of-sales method works closely with data from sales items, it’s not the best forecasting method for things like fixed assets or expenses.