© 2000 John Petroff
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© 2000 John Petroff |
10)- Analysis of discretionary expenses
As mentioned earlier, discretionary expenses hold important clues about management's thinking about current results, and an analyst should make use of this information. It is clear that if discretionary expenses, such as employee bonuses, public relation type advertisement, charitable donations, and earnings are high in the current year, compared to prior years, this shows that management is very confident about the future, and that the company has strong earning power.
If the discretionary expenses are smaller in the current year than they were in the past, the opposite must be concluded. But in that case, an analyst should pay special attention to the lack of discretionary expenses that can be very destructive for the company. That is the case of research and development, employee training, maintenance and repair (as previously discussed in Chapter 10), basic insurance and some minimum advertising. The latter is indeed important because discontinuing all advertisement can have a very negative effect on consumers, and the company is likely to lose a large portion of its market share. It is, therefore, appropriate to separate out discretionary expenses according to their impact on future sales and production. Those listed in this paragraph should be considered as critical, those listed in the previous paragraph can be considered as optional. Thus, a company that has a loss but does not sacrifice its critical discretionary expenses can hold its own.
Less obvious, but just as important because it affects the major expense component, i.e. employees, are moneys spent on improving employees' skills. This form of spending is however not often shown separately and must be inferred from other sources than financial statements. However, management is most likely to be eager to disclose the amount it spends on employee training as it is usually considered a well meant expenditure. Another expenditure related to social preoccupations is that of studies of ecological and medical impact of products. It has recently become a significant consideration because several companies have been forced to close down because law suits against them, Monsanto for instance. Companies today put their spending for social and ecological purposes well in view probably to woo concerned customers.
See review questions Q-13C10.1 through Q-13C10.3.
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