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What is Book-To-Bill Ratio?
Book to bill ratio is the ratio of orders received to the orders shipped to measure the demand and supply gap of a product or service of a business. It is a strong indicator of the health of a business or company.
In other words, it can be understood as the comparison of the number of orders coming in with the number of orders going out.
It tells how efficiently a business fulfills the demands for its product or service.
When a book-to-bill ratio is greater than one, it suggests high demand while a ratio less than one suggests a decline in demand. When this ratio is equal to one, then demand and supply both will be in equal amounts.
Book-to-bill is a ratio of orders taken to the bills or invoices sent over a set period. It talks about how quickly the supply meets the demands of a product or service by a business.
Book to bill or BB ratios calculate the rise and fall of the demand for a good or service and provides an early indication of whether a business is going upwards or downwards.
The book to the billing ratio measures-
- Whether a business is having more orders than it can deliver (BB ratio >1)
- Whether a business is having equal orders as it can deliver (BB ratio =1)
- Whether a business is having lesser orders than it can deliver (BB ratio <1)
All in all, the ratio of book to the bill will be indicating strong demand if the ratio is more than one. The demand is considered to be falling with a declining ratio (less than one).
Importance of Book-to-Bill Ratio
The ratio holds excellent importance in industries where the demand of the customers is volatile. The management, in this case, tries to understand when the capacity should be scaled back to meet the declining demand.
The high value of the ratio indicates that the business is solid and robust, attracting customers. The high value denotes that the business is worth investing in. On the contrary, the lower or declining value is indicative of impending trouble and suggests that the company is going toward bankruptcy.
The figure of the Book to Bill ratio helps in understanding the sales force efficiency of the company. The ratio, therefore, helps in getting an idea of the company a where it is headed. For example, investors have a close look at this figure when they plan to purchase stock because a high ratio suggests a robust business that is investment-worthy.
Calculation of Book-to-Bill Ratio
The calculation of the book-to-bill ratio is done by dividing the value of booking by the total income in a specific period usually one month or one quarter. Hence it can be understood as the value of bookings divided by income from sales.
It is calculated as
Book-to-Bill ratio = Orders Received/Completed Orders Billed
It can also be mentioned as-
Book to Bill- Orders Received/Orders Shipped
Investors or traders working in the high-technology sector like aerospace or defense manufacturing have significant interest in this ratio for making a robust business model that maintains the ratio of supply and demand in the same period.
The semiconductor industry also uses the ratio for measuring the supply & demand gaps in the reporting periods.
Examples of the Book-To-Bill Ratio
Suppose a manufacturing company’s business receives orders worth 10,000 units during a month, and the company ships and bills 8,000 units out of them during that month.
Book to Bill ratio = 10,000/8,000 = 1.25
The ratio shows the increased demand for its products against its earlier orders, which is beneficial.
The consulting work industry also used this ratio quite frequently. For example, Accenture mentioned its BB ratio as-
New bookings were $10 billion for the quarter, reflecting a 19% growth in local currency over last year. Our consulting bookings were $5.9 billion, with a book-to-bill of 1.1, and represented an all-time high. Outsourcing bookings were $4 billion, with a book-to-bill of 0.9.
Factors Influencing Book-to-Bill Ratio
It is clear now that book to the bill is a ratio that denotes the demand and supply in industries. It is a ratio of orders that are taken to invoices sent over a set period. It compares the current customers, the orders taken, with the previous customers, which means the invoices sent.
The Book to Bill ratio calculates the rise and fall of the demand for a good or service. Following are the factors influencing the Book to Bill Ratio
1. Decrease in Demand
The company might suffer due to seasonal factors, and the demand for the products in the case might decrease. The decrease in demand will lead to a decline in the ratio for the industry.
2. Strikes or Lockdowns
There are times when companies suffer due to the strikes of their employees for specific reasons. The company cannot complete the orders in that case, which leads to a decline in the orders billed and affects the Book Bill ratio.
3. Company’s Negative Publicity
Sometimes, the company suffers negative feedback, and its reputation is hurt due to some of the other negative news published against it. In such cases, the number of orders received might decline, which will also harm the company. On the other hand, if the company’s image is high, the demand will increase, leading to a higher Book Bill ratio.
4. Break down of the Equipment
The breakdown in machinery and equipment of the company, for instance, the damaged manufacturing plant, can negatively affect the company’s productivity. The ratio will have a negative impact, as the number of completed orders will low down.
Businesses That Use Book-to-Bill Ratio
The ratio of the Book to Bill is more commonly and largely applies to the companies that take time to fulfill their orders of products and services. It includes marketing agencies, manufacturing firms, website developers, and other service providers. Though it is not essential, the B2B companies also largely make use of this ratio.
Book to Bill ratio is not applicable in all companies, especially those receiving payment when the sale is confirmed. The ratio in such businesses is always exactly one.
This happens because the placement and the payment of the orders are performed at the same time. It leads the companies to divide their sales figure for any given product by itself, leading to a ratio remaining one.
On a concluding note, it is clear that the book-to-bill ratio is extremely important for investors as well as companies involved in high technology sectors.
It is useful in suggesting if a company has positive prospects or not as the high ratio would suggest more significant sales for a business in the next quarter or coming periods.
It also tells whether a company is efficient enough in completing its orders or not.
How important do you consider the book-to-bill ratio in analyzing the health of a company?