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Distinguishing Cost of Sales from SG&A in Financial Analysis

Article Quant Q&A · Author: n_mu_sigma
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Summary

The document distinguishes cost of sales from selling, general, and administrative expenses. Cost of sales is associated with producing goods or delivering services, while SG&A covers overhead that supports those activities. The answer describes cost of sales as generally varying with production and being matched to sales through accrual accounting; SG&A is generally treated as a period expense. These are broad rules of thumb, not strict definitions for every business.

The distinction can support break-even analysis and investigation of changes in a company’s margins. Comparisons across companies require care, even within one industry, because accounting standards, inventory methods, depreciation choices, and expense classifications can differ. Analysts may need to adjust financial statements before drawing conclusions about operating efficiency. The document suggests using expense shares of revenue to understand operating economics, while cautioning that the categories alone do not make companies directly comparable across industries.

Key ideas

  • Cost of sales generally covers production or service-delivery expenses, while SG&A covers supporting overhead.
  • Cost of sales is generally tied to output and matched to sales; SG&A is generally expensed in the period incurred.
  • The two categories can inform break-even analysis and analysis of margin changes.
  • Company comparisons may require adjustments for accounting standards and methods.
  • Expense ratios help assess operations, but category labels and industry differences limit direct comparisons.

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EquitiesStatisticsRisk management
Full text
# Cost of revenue vs SG&A


# Cost of revenue vs SG&A












How do cost of revenue and SG&A compare (across industries)?

For cost of revenue, one definition is "the cost of manufacturing and delivering a product or service".

Assuming my product is beer, my cost of revenue would be cost of water, barley, wheat etc, correct?

But that's very incomplete. I mean, to generate revenue from water and barley I needed: - all the brewery equipment - possibly financing the above - sell the product to the customer

But from what I understand, the cost of sales (and marketing etc) of my product is only included in operating expenses (under SG&A) and my financial expenses in continous operations.

So if anything, the name "cost of revenue" seems to be misleading.

Then as we start comparing companies and industries, it seems not everybody is using the same standards. For example, Oracle has only 20% of their cost presented as "cost of revenue" while IBM has about 50%. Without really understanding what's in there, the numbers seems incomparable. Then what if we'd compare say automotive to IT... does it have any sense at all?

## Answer by Sergey Bushmanov (score 0)

https://quant.stackexchange.com/a/21181

- Cost of Sales vs. SG&A. Cost of sales are your expenses directly incurred in the production cycle or service delivery. SG&A is overhead incurred while helping production. The main difference between the two (roughly) is that Costs differ with production level (almost) while SG&A is considered to be fixed. One more subtle accounting difference, Cost of Sales is accounted for on accrual basis (matched to sales) while SG&A is charged to Income statement in the period it's incurred.

- You may use Cost of Sales vs SG&A within one company for break-even analysis, to calculate how much production you need to sell to cover overhead (or vice versa how many admin people to lay off to match current state of the economy). Or you may use historical records of both to identify why your net income margins have shrunk during the last quarter (this would be called horizontal analysis).

- Comparing Cost of Sales and SG&A between two companies, even within the same industry may be tricky, as you said. The job of the Financial analyst in this case is to make two sets of the Financial Statements as comparable as possible before drawing any conclusion that one company is more management-wise efficient than the other. Adjustment may include bringing both companies to the same: accounting basis (GAAP or IFRS) inventory accounting rules (FIFO or LIFO) depreciation rules

Let alone that similar items in two similar companies may be under different names.

Why knowing these two important:

when you assess prospects of buying a company you need to understand if the company generates enough cash (think of EBITDA here and EV/EBITDA which is a shortcut for company value), generates it effectively, and if the operations could be improved. Knowing Costs of sales and SG&A (as pct of revenue) helps compare companies at operational level within industry and across industries.

Disclaimer: the definitions for Costs of Sales and SG&A are not intended as accounting guidance. E.g., there are situations when production stops, but the company reports some minimum cost of revenue to support production site. Rather, these are intended as general logic behind strict accounting definitions that may help to memorize the difference between the two.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.