The definition of net credit sales is those revenues generated by an entity that it allows to customers on credit, less all sales returns and sales allowances. Net credit sales do not include any sales for which payment is made immediately in cash.
The concept is useful as the foundation for other measurements, such as days sales outstanding and accounts receivable turnover, and also as an indicator of the total amount of credit that a company is granting to its customers.
Net credit sales are likely to be highest when a company has a loose credit policy, where it grants large amounts of credit to even those customers with suspect payment histories.
Key definitions are:
- Sales returns. A credit issued to a customer, caused by a problem with a shipment or service provided to that customer.
- Sales allowances. A reduction in the price charged to a customer, due to a problem with the sale transaction not involving the delivered goods or service.
Net Credit Sales Formula
The formula for net credit sales is:
Sales on credit - Sales returns - Sales allowances = Net credit sales
It is easiest to calculate net credit sales when cash sales are recorded separately in the accounting records from sales on credit. Also, sales returns and sales allowances should be recorded in separate accounts (or at least aggregated into a separate account).
A potential problem with this calculation is that some of the sales returns and allowances may be related to sales that were originally paid in cash (not with a credit sale). If so, you will need to back out these returns and allowances from the calculation. Otherwise, the resulting net credit sales figure will be too low.
Net Credit Sales Example
For example, the Anderson Boat Company (ABC) generated $100,000 of gross sales in its most recent month. Of this amount, customers paid $20,000 in cash for new boats. During the month, ABC issued a refund of $5,000 to a customer who returned a boat, and also granted a sales allowance of $1,000 to a customer in exchange for not returning a boat having a faulty paint job. Therefore, ABC's net credit sales were $74,000 ($100,000 gross sales - $20,000 cash sales - $5,000 sales returns - $1,000 sales allowances).