If you ever perused a company's income statement, you may have come across an entry called "Selling, General and Administration Expenses." Rather than separate these three expenses, companies usually group them together because they represent fixed and variable costs, which are typically tied to sales. SG&A expenses comprise payroll costs, such as salaries, commissions and travel, and advertising costs.
Selling expenses usually comprise all costs associated with or tied to the company's sales. This includes salaries of sales personnel and executives, advertising costs and travel expenses. In general, selling expenses rise and fall with sales. In difficult times, or in a slow sales growth period, a company may cut back on its advertising expenses to save money or it may lay off unproductive sales personnel. Generally, selling expenses represent variable costs to the company.
Administrative expenses consist of officers' salaries, rent costs, utilities and office supplies expenses. In general, administrative expenses consist of fixed costs such as salary and rent. A company with high fixed costs is said to have high operating leverage because it loses money up until a certain point when it reaches breakeven, or the point where it covers all of its expenses. Companies with high administrative expenses may opt to lay off employees to cut losses.
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Consequences of High SG&A
High SG&A expenses may be a bad sign for a company, depending on whether the costs stem from variable or fixed costs. Variable costs that include items such as sales commissions keep pace with sales. Therefore, high selling expenses may be a sign of a company with high sales growth. When looking at SG&A expenses, it is good to identify the source of the rising costs. Declining sales growth coupled with high SG&A expenses is a bad sign. This may cost shareholders millions or even billions of dollars. Investors and financial analysts view such companies as wasteful, and the stock prices of these companies suffer.
Analyzing SG&A Expenses
Before penalizing a company's stock price because of high SG&A, analysts look at the expenses over time, such as year over year. This provides an indication of where SG&A expenses are heading. Analysts also compare a company's expense relative to sales over time and against a peer group of companies. A company whose SG&A is out of line with its competitors would most likely see a decline in its stock price as investors seek companies with better operating efficiency metrics.