In accounting, “gross to net” (GTN) is the process of moving from a total or “gross” to the actual “net” figure that remains after the necessary deductions. This process is how businesses understand their true financial positions, whether they’re looking at payroll or revenue.

GTN also plays a major role in revenue recognition. Gross revenue captures a company’s total sales without any adjustments for returns, allowances, or discounts. Net revenue shows what the company actually keeps after these deductions. Businesses must understand the difference between gross and net figures to recognize revenue accurately and create a clear, actionable picture of financial health.

Below, we’ll explain how to calculate GTN revenue, why it’s important to revenue recognition, how to report gross and net figures in financial statements, and common challenges in making GTN adjustments.

What’s in this article?

• How to calculate gross to net revenue
  
• Why is gross to net important?
  
• How to report gross and net figures in financial statements
  
• Common challenges in gross to net adjustments
  

How to calculate gross to net revenue

Calculating GTN revenue involves understanding the difference between a company’s total revenue (gross) and its revenue after deductions (net). Here’s how to find your GTN revenue.

Determine gross revenue

Gross revenue is the total amount of sales or income generated by a company before any deductions. This figure includes all sales revenue, excluding returns, allowances, and discounts.

Formula: Gross Revenue = Total Number of Products or Services Sold x Average Sales Price

Calculate deductions

Deductions typically include the following:

• Returns and allowances: The value of goods that customers return, along with any price adjustments or allowances

• Discounts: Any sales discounts provided to customers, such as promotional discounts, volume discounts, and early payment discounts

• Other deductions: Any rebates, commissions, or similar deductions that are subtracted from the total sales

Formula: Total Deductions = Returns and Allowances + Discounts + Other Deductions

Calculate net revenue

Net revenue is the remaining revenue after accounting for these deductions. If you’ve already calculated gross revenue, you can find the net revenue by subtracting total deductions from the gross.

Formula: Net Revenue = (Number of Products or Services Sold x Average Sales Price) - Total
Deductions

Example calculation

Suppose a company has gross revenue of $500,000. The returns and allowances amount to $20,000, discounts are $10,000, and other deductions are $5,000. That company would calculate net revenue as follows:

Net Revenue = $500,000 - ($20,000 + $10,000 + $5,000) = $465,000

Why is gross to net important?

Understanding the difference between gross and net revenues is necessary for recognizing revenue accurately and assessing your company’s finances. Looking at net revenue allows you to do the following:

• Have a clear picture of earnings and profitability.

• Identify profitable products or services.

• Strategically adjust pricing tactics.

• Decide where to cut costs or invest money.

• Build trust with investors and analysts.

• Correctly calculate the taxes you owe.

• Compare your performance with that of competitors.

• Comply with accounting standards.

How to report gross and net figures in financial statements

Reporting both the gross and net revenues in financial statements provides stakeholders with a clear view of a company’s overall performance, revenue-generating capacity, and overall health.

Here’s how businesses typically report gross and net figures across various parts of financial statements.

Income statement (profit and loss statement)

The income statement is the primary financial statement where gross and net figures are reported, especially for revenue and expenses. Here’s how to report these figures.

Revenue

• Gross revenue: This is the total revenue generated from sales of goods or services before any deductions. It appears as the top line of the income statement.

• Deductions: Below gross revenue, the company should report deductions such as sales returns and allowances, discounts, and rebates.

• Net revenue: This is gross revenue minus all deductions. Net revenue shows actual income from operations more accurately.

Operating and net income

• Gross profit: Gross profit is gross revenue minus the cost of goods sold (COGS). It represents the profit from core operations before deducting operating expenses.

• Net profit: Net profit is the final bottom-line figure, calculated as gross profit minus operating expenses and nonoperating expenses (such as taxes). This figure reflects the company’s total profit after all expenses.

Balance sheet

• Gross amount of accounts receivable: The gross amount of accounts receivable is the sum of all accounts receivable the business has recorded.

• Net realizable value for accounts receivable: This is the gross amount of accounts receivable minus the allowance for doubtful accounts (i.e., an estimate of receivables that might not be collected).

Statement of cash flows

• Gross cash flows: This represents all cash inflows from a particular period.

• Net cash flows: This is gross cash inflows minus all cash paid out for obligations and liabilities. This is the difference between total cash inflows and outflows and is reported for each section (e.g., operating, investing, financing).

Notes to the financial statements

Notes to the financial statements provide additional context on the figures reported in the main financial statements. These should include the following:

• Revenue recognition policies: These describe how gross and net revenues are calculated and the basis for recognizing revenues and deducting discounts, rebates, and returns.

• Allowance for doubtful accounts: This states how these allowances are calculated.

Common challenges in gross to net adjustments

The process of calculating GTN adjustments can be complicated. Errors at any point in the process can lead to inaccurate calculations that impact budgeting, planning, and financial reporting. Here are some of the most common challenges of GTN adjustments.

Calculating deductions

• Variable pricing models: In industries such as pharmaceuticals, retail, and consumer goods, businesses might struggle with accurately tracking and accounting for complex pricing models with various rebates, discounts, and incentives.

• Contractual obligations: Businesses must carefully manage different contracts with distributors, customers, and payers, each with specific terms.

• Rebates and chargebacks: Companies must accurately estimate rebates (especially volume-based or performance-based rebates) and chargebacks (common in pharmaceuticals).

• Sales returns and allowances: Businesses must forecast customer behavior accurately in order to predict future returns and allowances.

• Discounts: Businesses must manage and predict trade and cash discounts that vary by customer, season, or product type. They need effective systems to apply the correct discount rates and track their impact on revenue.

• Data quality: Companies must integrate data from several departments (e.g., sales, finance, supply chain, marketing). This data must be clean, timely, and accurate for each component of the GTN process, which can be especially challenging in large organizations with multiple systems and touchpoints.

Predicting future outcomes

• Market changes and economic factors: Businesses must account for fluctuations in market demand and changes in competitive pricing. Economic factors such as inflation, supply chain disruptions, recessions, and changes in government policies (e.g., pricing regulations, rebate programs) can also impact future predictions.

• Product launches and life cycle changes: Businesses must adjust calculations for new product launches, changes in product life cycles, or entries into new markets.

• Forecasting: Companies must account for historical trends, market changes, or contractual obligations in their forecasting models.

Internal processes

• Regulatory compliance: Businesses in highly regulated industries including pharmaceuticals and healthcare must comply with regulations such as the US Medicaid Drug Rebate Program and EU Council Directive 89/105/EEC, which govern pricing, rebates, and reporting requirements.

• Accounting compliance: Businesses must comply with revenue recognition standards such as Accounting Standards Codification (ASC) 606 and International Financial Reporting Standard (IFRS) 15.

• Legacy systems: Companies must update their systems regularly. They also need to integrate their financial, enterprise resource planning (ERP), and customer relationship management (CRM) systems for accuracy and efficiency.

• Internal controls: Businesses must have strong internal controls regarding GTN adjustments to prevent errors, fraud, or misstatements in financial reporting.

• Audits: Businesses must maintain detailed records and strong controls to justify their GTN estimates and calculations to auditors.

• Coordination: Businesses must coordinate across their finance, sales, marketing, and supply chain departments for accurate data and calculations.

Solutions

To address these challenges, companies often invest in the following:

• Advanced analytics and forecasting tools that use AI and machine learning to improve the accuracy of GTN adjustments

• Integrated systems that enable data flow across departments

• Automated workflows that are faster, more accurate, and less labor-intensive

• Strong internal controls and governance practices for improved compliance and accuracy