AIM-listed companies are eroding their own profits

Non-core operations for many businesses can be expensive, with wages, legal and accounting costs, in addition to office expenses, amounting to large sums. 

Indeed, research undertaken my own accountancy firm, SKS Business Services, found that the overheads of 134 AIM-listed companies general and administrative costs (G&A), has dramatically increased by 21 per cent since 2008.

This research, consisting of 670 small-cap financial reports 2008 and 2012, found that an increase in cost of non-core operations was the cause of reduced profits. Sectors like energy, chemical and ‘oil and gas’ spent the greatest portion of their revenues on G&A expenses, compared to food producers, construction and industrial engineering which have better control over these costs.

In 2012 alone, these companies spent 5 per cent more on G&A expenses than in the previous year.

One of the main reasons for these cost increases was a lack of management discussions and analysis (MD&A). It is essential for management to analyse the business operation overheads to determine costs for the following year. Only 2 per cent of the companies undertook MD&A reporting; but even when they did use this reporting, they only focused on the increased costs, but didn?t make plans how to reduce them.

It is not a compulsory requirement of AIM-listed companies to undertake such analysis, but without closer analysis of overhead and administrative costs these warnings will not be identified. MD&A reports are essential to discover when operational costs are being poorly maintained and identify the best approach to rectify this over the coming year.

It is easy for smaller companies to have G&A costs spiral out of control because greater regulatory and reporting obligations force the business to focus on non-core operations.

Even with a rise of compliance and regulatory costs, improvements in technology have established opportunities to find savings. New technologies have given rise to improve negotiations with suppliers and shift the businesses focus away from resource-high commodities.

When a company?s profits begin to decline, G&A expenditure is usually the first to be analysed to assess where savings can be made. But this research contradicts this notion as overheads have risen by 9 per cent in real terms. 

It would be simple for these companies to cut G&A costs by as much as 20 per cent with a simple change in the everyday processes; companies should be considering outsourcing certain functions, using the latest low-cost technologies and restructuring the finance function.

Outsourcing of non-core operations while retaining top-level UK expertise should be standard protocol in this day and age. 

But while many of the companies featured in the research are developing a reputation for innovation in such fields as biotechnology, oil and gas exploration and technology, too many still prefer the traditional approach to their G&A costs. This includes a tendency to ignore cheaper, skilled labour in emerging markets and shared services business models. Simple changes made to non-core operations can keep costs down.

Even before these changes can be made, the research showed directors have been reticent to explain and admit to shareholders and investors the reason for failing profits. The use of MD&A reporting gives the investors an indication whether their money is being managed effectively. Investors will always want to hear about profits ? not only new sources of revenues, but what management do to control overall costs both essential and non-essential.

Only once the non-core essential operations are analysed and assessed will management be able to change their operational practices. This will not only keep costs low, but improve profits, keeping investors happy.

Sanjay Swarup is director of chartered accountancy firm SKS Business Services.

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