What it means
The ratio takes everything spent on winning and servicing sales, then divides it by the revenue those efforts produced. Typical costs include sales salaries, commission, bonuses, travel and entertainment, sales tooling and the share of management time devoted to the sales function.
The result is a single percentage that can be tracked month by month. Its value lies in the trend rather than the level.
A ratio that falls as revenue rises suggests the sales engine is gaining efficiency, while one that rises alongside revenue means growth is being bought at an increasing cost per dollar earned. Both patterns are visible long before they show up in the bottom line.
Different business models sit at wildly different levels, so cross-industry comparison is close to meaningless. A commodity distributor selling on thin margins might run at 3% while an enterprise software firm with long sales cycles might spend 25% or more, and neither number is wrong for its context.
Definitions vary in one important way: some businesses include marketing in the figure and some do not. Mixing the two produces a broader selling and marketing ratio, which is fine as long as the definition is written down and applied consistently, because switching part way through a year makes the trend useless.
The most common misuse is treating the ratio as a cost cutting target on its own. Sales expense is largely an investment in future revenue, so squeezing it can improve the ratio this quarter while quietly starving the pipeline that produces next year's numbers.
In practice
Real-world examples.
Example
A packaging distributor watches its sales expense ratio climb from 6% to 8% over four quarters while revenue is flat. Analysis shows two new territory representatives have been hired but neither has yet built a book, so the board agrees to hold the ratio target until the ramp period ends.
Example
A software company reports a sales expense ratio of 27%, well above the 20% it targets. Digging into the numbers reveals that renewals are being handled by expensive new business salespeople, and moving renewals to a lower cost account management team brings the ratio down to 21% within three quarters.
Example
A wholesale food business compares two regions with similar revenue. The southern region runs at 4.5% while the northern runs at 7.2%, and the difference turns out to be a legacy commission scheme paying on gross rather than net sales.
Think of it
“Sales expense ratio shows what percentage of revenue goes to sales activities-the cost of selling.
Formula
Calculation
Sales expense ratio = total selling expenses / net revenue x 100.
A commercial equipment supplier records revenue of $12,000,000 for the year. Its selling costs are $1,080,000 of sales salaries, $360,000 of commission and $120,000 of travel and entertainment, which total $1,080,000 + $360,000 + $120,000 = $1,560,000.
Sales expense ratio = $1,560,000 / $12,000,000 x 100 = 13%. In other words, 13 cents of every revenue dollar goes to the selling effort.
The following year revenue grows to $15,000,000 while selling expenses rise more slowly to $1,725,000. The ratio becomes $1,725,000 / $15,000,000 x 100 = 11.5%, so the business added $3,000,000 of revenue for only $165,000 of extra selling cost and improved its efficiency by 1.5 percentage points.Case study
Seen in the real world.
This is an illustrative and clearly fictional example. Marlow Industrial Supplies, an invented distributor with $40 million of revenue, had grown steadily for a decade and had never separated its selling costs from general administration. When a new finance director itemised them, the sales expense ratio came out at 14.8%, roughly double what the management team had assumed.
The fictional company then split the figure by customer segment. Small accounts, which contributed 22% of revenue, consumed 41% of selling cost and ran at a ratio close to 28%, while its twenty largest accounts ran at under 6%. Nobody had seen this because commission and travel were pooled centrally.
Marlow's illustrative response was to move small accounts onto a telephone and online ordering channel rather than field visits, and to redeploy two representatives onto the larger accounts. Group revenue was broadly flat the following year, but the sales expense ratio fell to 11.2% and operating profit rose by more than $1.4 million.
Watch out
Common mistakes.
- Including marketing costs one year and excluding them the next, which makes the trend line meaningless even though each individual calculation is correct.
- Benchmarking the ratio against a company in a different industry and concluding the business is inefficient, when sales models differ far too much for that comparison to hold.
- Cutting sales expense to hit a ratio target in the current period, without accounting for the pipeline damage that shows up two or three quarters later.
Questions
People also ask.
Should the ratio use gross revenue or net revenue?
Net revenue after discounts and returns is the better base, because it reflects what the business actually earned from the selling effort.
How often should it be reviewed?
Monthly for trend spotting but judged on a rolling twelve month basis, since single months are distorted by commission timing and seasonal buying patterns.
Is a falling ratio always good news?
Not necessarily, because it can also mean the business is under-investing in sales capacity and living off existing accounts rather than winning new ones.
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