Finance is a key aspect of the business world. Financial and management accounting are essential for the successful running of a company. These assist the business in making strategic decisions based on their financial performance. Understanding these two types of accounting can help an organisation’s smooth functioning.
This blog will cover financial accounting vs. management accounting, the difference between cost accounting and management accounting and more. Read on to learn how applying both can help grow your business successfully.
Financial Accounting: A Short Definition
An accounting system involving the financial transactions of a business, it assists in analysing, recording and classifying transactions. Financial accounting is essential in preparing the financial statements of the company. External stakeholders analyse these statements to make investment decisions.
Financial accounting uses a company’s past financial performance record to assess its present financial health. A company has to follow GAAP and Schedule III of the Companies Act 2013 to make financial statements. The statements include the income sheet, cash flow statement and the company’s balance sheet.
The strict guidelines and rules governing financial accounting statements ensure transparency between the company and the stakeholders. An independent auditor verifies the accuracy of the financial statements.
Purpose of Financial Accounting
Among the various functions of financial accounting, some are listed below:
1. Analysing transactions
Analysing each company transaction as soon as it occurs is essential. A team assesses the company’s financial activity and records the authentic transactions. They can assess the loss or profit of the company, use the data in trial balance form and finally prepare a balance sheet. All stakeholders must keep track of the required data to manage their investments.
2. Communicating transactions
The company’s stakeholders, like investors, lenders, creditors and banks, have the right to see the financial statements and reports of the same during the end of a fiscal year. The transactions must be communicated adequately to ensure people know their implications.
3. Meeting legal needs
While preparing the financial statements, the company has to comply with legal guidelines. They must adhere to GAAP (Generally Accepted Accounting Principles) and IND AS (Indian Accounting Standards). The company’s team responsible for preparing the financial statements should be aware of the laws and must meet the accounting rules and regulations while creating the financial statements.
4. Sequential recording of transactions
In large firms and major companies, a huge chunk of transactions occurs daily. It is difficult to keep track of each transaction. Financial accounting is advantageous in such circumstances. It provides a systematic way to record each transaction with the help of ledgers, journals and other accounting books.
Management Accounting: A Short Definition
Most people fail to distinguish between management accounting and financial accounting. This is why understanding management accounting, also known as managerial accounting, is imperative. Management accounting assists in analysing, collecting and understanding cost information.
Managers use management accounting data to plan and control future operations. Management accounting focuses on internal operations and assists with organisational decision-making. The managers can use the data to make financial decisions to achieve the company’s vision for the future. Management accounting provides both quantitative and qualitative information to managers.
Reports generated using financial data include cost analysis, budget forecasts and variance analysis depending on the requirements of managers and specific departments. There are no fixed guidelines or regulations regarding generating reports in management accounting. There is more flexibility in reporting financial data compared to financial accounting.
Key objectives of management accounting focus on market forecasting and emerging developments. Company leaders often need to make quick operational decisions. Management accounting comes in handy during such times.
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Management Accounting Functions
Management accounting entails a range of functions, some of which we have discussed in the following section.
Management accountants strive to organise an organisation’s accounting tasks using modern techniques. They analyse distinct activities and help the managers administer the company’s human and non-human assets. Managers must be aware of the best ways to utilise human capital. Management accounting focuses on identifying and developing the skills for making employers productive. It teaches managers to develop a positive work environment. This branch of accounting even helps in managing change.
2. Controlling reports
Another function of management accounting is to check that the company’s goals are met. Monitoring, measuring and correcting reports’ outcomes can show a company’s actual performance compared to expected performance. Management accountants can use these reports to take appropriate action to keep the operations under their control. They can focus on what is missing if they find any discrepancies between actual and budgeted outcomes.
Forecasting is one of the key functions of management accounting. By presenting reports and data, forecasting can help business executives to estimate the impacts of various actions. Managers use capital budgeting, statistics principles and marginal costing to plan for the company. Management accounting can help companies predict their position in the continuously changing social, economic and political business climate.
4. Coordinating tools
Management accounting uses several coordinating tools to maximise the company’s revenue. These tools include financial analysis, budgeting, financial reporting, and interpretation. The tools help the management in various ways, such as preparing budgets, analysing costs, and developing standard costs.
Management accountants develop various reports as part of their work. They must communicate their findings efficiently to managers and have some distinct control over their tasks. They assist the management in coming up with smart decisions. As a result, external parties learn about the business’ performance from the findings.
6. Analysing finance
Management accountant helps in financial analysis. They analyse financial data such as cash flow statements, balance sheets and profit/loss statements to find out the financial status of a company as well as its operating performance. Analysing the financial data of a company can help in predicting its future outcome along with its effectiveness.
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Difference Between Financial and Management Accounting
Now that you know the basics of financial accounting and management accounting, let’s learn about the differences between the two through the given table:
|Basis for comparison||Financial Accounting||Management Accounting|
|Meaning||It is an accounting system that involves a company’s financial transactions to inform external stakeholders about its financial position.||This accounting system helps a company’s management make strategic business decisions for formulating policies and plans for the successful running of the company.|
|Objective||The primary objective of financial accounting is to create periodic reports of the business and its financial standing on a specific date.||The primary objective of management accounting is to help the management plan future goals and evaluate these goals based on substantial data.|
|Audience||Financial accounting has both internal (managers, employees) and external (investors, creditors, customers) users.||Management accounting only has internal users (management of the company).|
|Nature of Statements||Financial accounting statements are created for general purposes.||Management accounting reports and statements are created for some specific purpose.|
|Rule||Financial accounting has to strictly follow the rules of IND AS and GAAP while preparing the reports.||There are no fixed rules to follow for the preparation of statements in the case of management accounting.|
|Scope||The financial accounting scope is minimal.||Management accounting scope is much broader.|
|Statutory Requirement||Companies are legally required to prepare the financial statements of the past.||Preparation of management accounting reports begins when the need arises, and there isn’t any legal requirement to do so.|
|Format||The reports are developed in a specific format as multiple teams have to compare them.||There is no specific format for management accounting, and it depends on the department or the company.|
|Period||Financial accounting is done based on the history of the past quarter or year.||Management accounting is done during the present while simultaneously forecasting the future.|
|Verifiable||The data found in reports of financial accounting is verifiable.||The data found in management accounting reports is not immediately verifiable as its nature is predictive.|
|Basis of Decision-making||Decision-making for financial accounting is done based on historical information.||Decision-making for management accounting is done based on historical and predictive information.|
|Application||Financial accounting shows the true image of the company’s financial standing.||Management accounting helps the company’s management to make strategic decisions accordingly.|
Cost Accounting and Management Accounting Difference
Before moving on to the difference between cost accounting and management accounting, let us learn about cost accounting. It is a business practice that involves collecting, classifying, and analysing cost information. The information helps the managers in their decision-making process.
The key objective of cost accounting is to fix the cost of business and keep track of the production cost. The information can help reduce various costs. Although financial accounting has some similarities, there is no need to report the information at the end of a fiscal year. Now, let us distinguish between cost accounting and management accounting.
|Basis for comparison||Cost Accounting||Management Accounting|
|Meaning||It is the record of cost information of a company and its classification.||It is a way of analysing financial and non-financial data for making effective business decisions.|
|Objective||The objective of cost accounting is to control a company’s production cost.||The objective of management accounting is to plan effective management strategies.|
|Scope||Its scope is narrow.||Its scope is comparatively broad.|
|Information type||Quantitative data||Qualitative and quantitative data|
|Planning||Useful for short-term plans||Suitable for both long-term and short-term planning|
|Dependency||It can be used without a management accounting||Cannot be used without cost accounting.|
|Recording||There is a recording of both past and present data||The focus is more on the future of the company|
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How Are Managerial Accounting and Financial Accounting Similar?
Apart from financial accounting and management accounting differences, it is also essential to know about their similarities. Here are some of the similarities:
- These accounting types co-exist to provide accounting information to internal management and stakeholders.
- Both are useful for preparing a company’s financial statements.
- You need basic expertise and education in accounting concepts for both accounting types.
- Both collect accounting data for preparing financial statements.
- Users can find the cost of various accounting departments and periods from both accounting types.
Top MBA Skills
Most companies use both management accounting and financial accounting. These accounting types depend on financial transactions; hence, a proper financial system is necessary for the smooth running of a business. To push forward a career in accounting, you can take courses to equip you with the latest accounting systems.
If you want to reap maximum benefits from an MBA in Finance, apply for upGrad’s MBA programs. We provide MBA in Finance from Liverpool Business School. All the subjects are carefully crafted, keeping into consideration the current world scenario and competition in the market. Plus, the courses are taught by eminent industry leaders and experienced management faculty.
Can you distinguish between management accounting and financial accounting?
Yes, we can. Some of the differences between financial accounting and management accounting are: Financial accounting must follow strict rules, whereas management accounting has no guidelines. Companies have to prepare past financial statements, while management accounting reports are prepared on a need-basis.
What are the primary differences between information users and time horizons between financial and management accounting?
Financial accounting focuses on external stakeholders and is prepared on past data. Whereas management accounting focuses on internal management and present data, focusing on the future.
What are the key characteristics and objectives of financial accounting?
Financial accounting helps to record and analyse a company’s financial transactions to create periodic reports.