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Sales Backlog Ratio
Description: The sales backlog ratio cannot be determined strictly from any standard financial statements, since the backlog is normally only included in internal management reports. Nonetheless, if the backlog information is available, this ratio should be used as an extremely useful tool for determining a company’s ability to maintain its current level of production. If the ratio is dropping rapidly over several consecutive months, then it is likely that the company will shortly experience a reduction in sales volume, as well as over-capacity in its production and related overhead areas, resulting in imminent losses. Conversely, a rapid jump in the ratio indicates that a company cannot keep up with demand, and may soon experience both customer relations problems from delayed orders, and a need for additional capital expenditures and staff hirings to increase its productive capacity.
Formula: To calculate the sales backlog ratio, divide the most current total backlog of sales orders by sales. It is generally best not to use annualized sales in the denominator, since sales may vary considerably over that period, due to the influence of seasonality. A better denominator is sales over just the preceding quarter. The formula is as follows:
Backlog of Orders Received
Sales
A variation on this formula is to determine the number of days of sales contained within the backlog, which is achieved by comparing the backlog to the average daily sales volume that a company typically produces. This formula is as follows:
Total Backlog
Annual Sales / 360 Days
Example: The sales and backlog data for the Jabber Phone Company are shown in the following table.
| January | February | March | |
| Rolling 3-month sales | $4,500,000 | $4,750,000 | $4,800,000 |
| Month-end backlog | 2,500,000 | 2,000,000 | 1,750,000 |
| Sales backlog ratio | .55:1 | .42:1 | .36:1 |
The table reveals that the company’s sales are continuing to increase over time, while its backlog is decreasing. The change was caused by an increase in the company’s productive capacity for additional cell phones. As a result, the company is gradually clearing out its backlog and converting it into sales. However, the management team must be aware that, if the present trend continues, the company will eventually clear out its entire backlog and find itself with a sudden reduction in sales, unless it greatly increases its sales and marketing efforts to build the backlog back up to a higher level.
Cautions: The sales backlog ratio is of less use for those companies that have oriented their businesses toward a just-in-time manufacturing model, since these organizations tend to operate with a reduced backlog. It is also of limited use for highly seasonal businesses, since their intention is to completely clear out their backlogs at the end of the selling season, and then build inventory for the next selling season, even in the absence of a backlog.
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