Selling General And Administrative Expenses - definition & overview

In the world of small businesses, the term 'Selling General and Administrative Expenses' (SG&A) holds significant importance. It refers to the sum of all direct and indirect selling expenses and all general and administrative expenses of a company. Understanding SG&A is crucial for any small business owner, as it provides insight into the operational efficiency of the business and can be a key factor in determining profitability.

SG&A is a line item on the income statement, often listed below the cost of goods sold (COGS). It includes all the costs not directly tied to making a product or performing a service. That is, the costs that remain even if all direct production costs are eliminated. This article will delve into the intricacies of SG&A, providing a comprehensive understanding of its components, calculation, and its impact on a business's financial health.

Components of SG&A

SG&A includes three major types of expenses: selling expenses, general expenses, and administrative expenses. Each of these categories encompasses a variety of costs, all of which contribute to the overall operational expenses of a business.

Selling expenses are those that are directly tied to the sale of a product or service. These can include costs such as advertising, sales commissions, promotional materials, and direct mailing costs. Essentially, any cost that is incurred to promote and sell the business's products or services falls under this category.

General Expenses

General expenses are the costs associated with the day-to-day operations of a business. These can include utilities, rent for office space, and maintenance costs. While these costs may not be directly tied to the sale of a product or service, they are necessary for the overall functioning of the business.

It's important to note that general expenses can vary greatly from one business to another. For example, a business that operates out of a physical location will have higher general expenses (such as rent and utilities) than a business that operates entirely online.

Administrative Expenses

Administrative expenses are the costs associated with the general administration of the business. These can include salaries for administrative staff, office supplies, and legal and accounting services. Like general expenses, administrative expenses are necessary for the overall functioning of the business, but are not directly tied to the sale of a product or service.

Administrative expenses can also vary greatly from one business to another. For example, a business with a large administrative staff will have higher administrative expenses than a business with a small staff.

Calculating SG&A

Calculating SG&A is a straightforward process. It involves adding up all the selling, general, and administrative expenses for a given period. These expenses are usually tracked and reported on the income statement, which makes it easy to calculate the total SG&A.

However, it's important to note that not all expenses listed on the income statement are included in SG&A. For example, cost of goods sold (COGS) and interest expense are not included in SG&A. This is because these costs are considered to be directly tied to the production or financing of the product or service, and are therefore not included in the calculation of SG&A.

Example of SG&A Calculation

Let's consider a hypothetical small business in Australia. This business has the following expenses for a given period:

• Advertising: $10,000
• Sales Commissions: $5,000
• Rent: $2,000
• Utilities: $1,000
• Office Supplies: $500
• Legal Services: $1,500

To calculate the SG&A for this business, we would add up all these expenses:

$10,000 (Advertising) + $5,000 (Sales Commissions) + $2,000 (Rent) + $1,000 (Utilities) + $500 (Office Supplies) + $1,500 (Legal Services) = $20,000

Therefore, the SG&A for this business for the given period is $20,000.

Impact of SG&A on Financial Health

The level of SG&A expenses can have a significant impact on the financial health of a business. High SG&A expenses can eat into profits, making it harder for a business to achieve profitability. On the other hand, low SG&A expenses can indicate operational efficiency, potentially leading to higher profits.

However, it's important to note that a low SG&A is not always a good thing. If a business is cutting costs by reducing its selling efforts or skimping on necessary administrative tasks, this could harm the business in the long run. Therefore, it's important for business owners to strike a balance between maintaining operational efficiency and investing in the necessary resources to support the business's growth and success.

SG&A Ratio

One way to assess the impact of SG&A expenses on a business's financial health is to calculate the SG&A ratio. This ratio is calculated by dividing SG&A expenses by total sales. The resulting figure represents the percentage of sales that is consumed by SG&A expenses.

For example, if a business has $100,000 in sales and $20,000 in SG&A expenses, the SG&A ratio would be 0.20, or 20%. This means that 20% of the business's sales are consumed by SG&A expenses.

The SG&A ratio can provide valuable insight into a business's operational efficiency. A high ratio may indicate that the business is spending too much on SG&A expenses relative to its sales, which could be a sign of inefficiency. Conversely, a low ratio may indicate that the business is operating efficiently, with a relatively low level of SG&A expenses relative to its sales.

Managing SG&A Expenses

Managing SG&A expenses effectively is crucial for the financial health of a business. This involves regularly reviewing and analysing these expenses, identifying areas of potential savings, and making strategic decisions to optimise operational efficiency.

One common strategy for managing SG&A expenses is to benchmark these expenses against industry standards or against the business's past performance. This can provide valuable insight into whether the business's SG&A expenses are in line with expectations, and can highlight areas where the business may be overspending.

Cost Cutting Strategies

There are several strategies that a business can employ to cut SG&A expenses. These can include negotiating lower prices with suppliers, reducing energy usage, implementing technology to automate administrative tasks, and outsourcing non-core tasks.

However, it's important to approach cost cutting with caution. While reducing SG&A expenses can improve profitability in the short term, it's important to ensure that these reductions do not compromise the quality of the business's products or services, or its ability to operate effectively.

Investing in Growth

While managing SG&A expenses is important, it's also crucial for businesses to invest in growth. This can involve increasing selling expenses to reach new customers, investing in technology to improve operational efficiency, or hiring additional staff to support the business's growth.

Ultimately, the goal is to strike a balance between managing SG&A expenses and investing in the resources necessary to support the business's growth and success. By understanding the components of SG&A and its impact on financial health, business owners can make informed decisions that support the long-term success of their business.