5.1.4 Expense analysis
The analysis of profit margins can be further extended through analysis of the relationship between operating expenses and revenue. These can be calculated for any expense item individually or in groups and can be calculated using the following formula:
The ratio for administrative expenses of Remote Sensors Plc is calculated as follows:
| 2025 | 2024 | 2023 | |
|---|---|---|---|
| Sales | 17,860 | 16,995 | 15,990 |
| Administrative expenses | 3,150 | 2,820 | 2,630 |
| Administrative expenses % | 17.64% | 16.59% | 16.45% |
Similarly, distribution expenses as a percentage of sales can be calculated by using the following formula:
As a rule of thumb, the smaller the expense ratio, the better capacity a business has to keep earning profits even if there is a decrease in its sales volume. Businesses often use this ratio to analyse the viability of having any particular product in the product mix. For example, a manager may decide to keep producing a product with a very high expense ratio only because that product attracts customers into their shop. Once they are in, they may then buy a much more expensive product with a very low expense ratio. Furthermore, expense ratios will vary from business to business depending on whether it is a labour-intensive business or a highly automated one. It will also vary from business to business depending on the nature of the costs (fixed or variable). Therefore, caution must be exercised when comparing expense ratios of organisations operating in different industries and producing different product mixes.
Activity 5 provides you with an opportunity to develop your skills in carrying out expense analyses using a company’s financial data.
Activity 5 Practising expense analysis
Read the data on Marks & Spencer Group Plc’s sales and administration expenses from 2018 to 2022 (obtained from Fame) and answer the following questions.
- a.Calculate the administration expenses as a percentage of revenue for the years 2018 to 2022.
| 2022 | 2021 | 2020 | 2019 | 2018 | |
|---|---|---|---|---|---|
| £m | £m | £m | £m | £m | |
| Total revenue | 10,885.1 | 9,155.7 | 10,181.9 | 10,377.3 | 10,698.2 |
Administration expenses |
(3,125.9) | (2,713.0) | (3,036.4) | (3,271.1) | (3,426.2) |
Administration expenses % |
Comment
| 2022 | 2021 | 2020 | 2019 | 2018 | |
|---|---|---|---|---|---|
| £m | £m | £m | £m | £m | |
| Total revenue | 10,885.1 | 9,155.7 | 10,181.9 | 10,377.3 | 10,698.2 |
Administration expenses % |
(3,125.9) | (2,713.0) | (3,036.4) | (3,271.1) | (3,426.2) |
Administration expenses % |
28.72% | 29.63% | 29.82% | 31.52% | 32.03% |
- b.How has this ratio changed over the years?
Comment
The administration expenses of the company decreased steadily from 2018 to 2022. For stable and established businesses like M&S, if this ratio stays the same from year to year, it is also considered a good sign. However, a decline in this ratio indicates that the management of the company is making efforts to further control the company’s operating costs to maximise profitability. It is also important to compare the administration expenses ratio to other competitors to gain a better idea of how the company is performing.
Having looked at gross profit margin, return on sales and expense ratios, it is also helpful to look at how to measure company profit compared to the capital and assets used to generate that profit. This is done by calculating return on capital employed, which you will see next.