What Is Selling General Administrative Expenses?
Definition: Selling general administrative (SGA) expenses refers to the money spent on operating a business. Alternatively, accountants refer to this expense as operating expenses. Usually, this line of expenses includes all costs that a business incurs that arise from activities unrelated to production of goods/services.
In business, a company will incur two major types of costs. On the one hand, there are the expenses related to production and delivery of goods/services. When preparing the income statement of the company, accountants bundle together all expenses that directly affect production and delivery of goods into the cost of goods sold (COGS) line. The second type of costs is those whose influence on product development and delivery is minimal. Such costs are what go under SGA.
Selling General Administrative Expenses SGA Formula
The expenses under SGA come from certain departments of a company, which include the corporate affairs department (which incurs corporate expenses), the accounting and legal departments (which incur legal and accounting expenses),and the sales and marketing departments(which incur sales and marketing expenses). Other departments include HR (especially one that manages work force used for non-production duties).
While SGA includes costs unrelated to production and delivery of goods, it does not include research and development expenses. Also, financing costs like interest payment and interest income are not part of SGA. That is why you get operating profits or earnings before interest and tax (EBIT) when you deduct SGA from gross profits. The formula for EBIT is:
EBIT = Gross profits – (COGS + SGA)
Where EBIT = earnings before interest and tax
COGS = costs of goods sold
SGA = selling, general and administrative expenses
If you had a an ice cream business, the COGS would include the cost of ice cream maker, the wages of the people controlling the machine, the raw materials, and the wages of the driver that delivers the products. On the other hand, the SGA would include the money spent on Facebook ads, the wages of a sales agent handing out flyers on the road, and the cost of running a company website.
Why should a business tightly control the size of SGA cost?
From the foregoing, it is clear that SGA is crucial for a business when it comes to breaching the breakeven point. Oftentimes, a large SGA expense means that a business will take longer to break even. Therefore, it is prudent for the management to put the SGA cost on a tight leash if the business is to turn profitable. One of the tricks management can use to keep SGA cost grounded is through frequent reviewing of discretionary costs. Also, implementing zero-base budgeting technique could help to reign in the SGA cost.
However, it is common for some costs that fall under SGA to relocate to the cost of goods sold (COGS) segment. Usually, this happens when the cost has a direct influence on the sale of certain products. For example, take the sales and marketing department that is looking to increase sales numbers. To this end, the department offers sales commissions to employees to spur higher sales. Naturally, the expense falls under the general company overhead and, thus, should fall under SGA costs. However, since this cost directly affects the sales numbers of the given product, accountants can relocate it from SGA to COGS.
Selling General Administrative Expense Example
Company Theta produces ice cream for the local market. The company’s accountant prepared the income statement for Q4 FY2019, which included the SGA costs. Below is how the income statement looks like.
Income Statement for Company Theta for Q4, FY 2019
| Revenues and Expenses | Amount ($) |
| Gross sales revenue | 229,259 |
| Cost of goods sold (COGS) | (95,225) |
| Selling, general and administrative costs (SG&A) | (21,266) |
| EBITD | 112,768 |
| Interest expense | (4,246) |
| Tax expense | (8,234) |
| Depreciation | (1,459) |
| Net Income | 98,829 |
SGA Sales Ratio
This important metric informs management about how the business eats up the money earned from sales of goods/services. To calculate the SGA to sales ratio, you simply divide the total SGA costs by the gross sales revenue. For Company Theta, the SGA to sales ratio is:
= SGA/Gross sales revenue
=21,266/229,259 = 0.0928
= 0.0928 x 100 = 9.28%.
Apparently, Company Theta spends just 9.28% of its revenue on business operations. Usually, a smaller SGA sales ratio implies that the business is healthy.