Accounting is a process for companies to record financial transactions occurring during operations. This process usually involves summarizing, analyzing and reporting those transactions. In most cases, it aims to provide users with useful information for decision-making. Companies maintain a finance department that overlooks and controls this process. Usually, this department has multiple accountants that deal with accounting for financial transactions.
Accounting is a critical component of any company. Some companies may perform this process in-house, while others outsource it. Usually, accounting produces reports which can aid in decision-making. One of these reports includes the financial statements presented by companies. These include four reports which provide crucial information about various business aspects. Similarly, they summarize the financial transactions that occurred for a period.
The term accounting is often synonymous with financial accounting. This branch of accounting usually focuses on processing financial information. Consequently, it deals with quantitative information and may not emphasize its quality. However, accounting is not limited to that branch only. Companies also use this process to produce qualitative information. This process does not fall under financial accounting. Instead, it is a part of managerial accounting.
What is Managerial Accounting?
Managerial accounting is the accounting process that companies perform for internal purposes. It differs from financial accounting through which companies communicate with external stakeholders. Instead, managerial accounting focuses on providing managers with useful information. The objectives for both branches, however, is similar. Both focus on improving the quality of decisions made by users. For managerial accounting, these users include managers.
Managerial accounting involves identifying, measuring, analyzing, interpreting and communicating financial information. However, it does not focus on providing that information externally. Instead, this branch aims to offer information to managers to achieve internal goals. On top of that, managerial accounting also focuses on qualitative information. However, that does not imply it is not quantitative in nature.
Managerial accounting may include many alternative names. In some places, it is also called management or cost accounting. The latter, however, is a subsection of the comprehensive branch of managerial accounting. Compared to financial accounting, it covers a broader area and presents information in a detailed form. However, it does not limit the format used by companies to report information.
Managerial accounting involves using several tools to enhance the quality of the information provided to managers. These tools convert financial data into information that is easier to understand and interpret. In some cases, it may also obtain figures from financial accounting systems. However, it does not report them without any changes. Managerial accounting processes all information to present it in its most straightforward form.
Overall, managerial accounting is a branch of accounting that involves reporting information internally. This branch does not focus on external stakeholders or their decisions. Instead, it emphasizes the quality of information presented to managers for internal processes. This way, it enhances the decisions that those managers make. Consequently, it can provide higher profits and reduce costs. However, it works behind the scenes.
What are the functions of Managerial Accounting?
As mentioned above, managerial accounting involves various tools. These tools allow managers to analyze and transform data into useful information. However, not all of these apply to every situation or company. Similarly, they fall under the functions of managerial accounting. While these functions may include several areas, some of the most crucial ones include the following.
Cost accounting is one of the most well-known areas within managerial accounting. Reducing costs is one of the functions of managerial accounting. Consequently, cost accounting plays a crucial role in helping companies manage their expenses. It also allows companies to allocate and apportion those costs to different areas and products. This way, managerial accounting can enable companies to increase their profitability.
Capital budgeting is another critical function of managerial accounting. This area involves several tools to enhance decision-making related to future projects. Usually, it uses capital budgeting analysis techniques to allow management to quantify their future cash flows. Based on those, they can calculate the profits they can generate from their future projects. Capital budgeting provides a base for strategic and operational decisions.
Forecasting involves predicting future possibilities based on variables. Managerial accounting allows managers to forecast their profits and cash flows. On top of that, it may cover specific areas, such as products, branches or business units. Forecasting allows companies to predict future possibilities. Based on that, it helps managers make decisions to achieve specific objectives. It is usually a part of the planning activities performed by companies.
While most users associate financial accounting with profitability, managerial accounting plays a more critical role. This branch allows companies to analyze various areas and use techniques to improve them. Similarly, some of the above points, for example, capital budgeting and cost analysis, also contribute to profits. Overall, managerial accounting focuses on profitability which reflects on the financial statements.
Optimizing resource allocation
One of the critical areas where managerial accounting is crucial includes resource allocation. Most companies operate on limited capacity. Usually, this limit relates to the restricted resources they have at their disposal. Managerial accounting recognizes this limitation and allows companies to optimize their usage. It also allows companies to identify bottlenecks and reduce or eliminate them to enhance productivity.
Companies cannot focus on increasing profits or reducing costs with ineffective and inefficient processes. Managerial accounting tackles that issue by emphasizing the efficiency of various areas. Usually, it involves using several tools, such as budgeting, financial reporting and analysis, etc. Companies can use these tools to set standards and mould their processes accordingly. This process can also help identify any bottlenecks.
Estimating cash flows
While profitability is a crucial factor to success, cash management also plays a vital role in company survival. Companies cannot be profitable in the long run if they don’t manage their cash resources properly. On top of that, with effective cash management, companies cannot stay liquid in the long run. Managerial accounting focuses on these areas and allows companies to manage their cash resources effectively.
Variance analysis is one of the tools used in managerial accounting to improve operations. This tool goes along with forecasting, budgeting and setting standards. In other words, it complements those processes to improve efficiency. Companies cannot set budgets or forecasts if they are not comparable with actual performance. Variance analysis compares those standards with company results to identify weaknesses and improve those areas.
Trend analysis is a tool that has its applications in various areas. Even outside managerial accounting, it can be significantly helpful. In this branch, trend analysis can help review the trend line for costs. In this way, it can contribute to several areas within managerial accounting, for example, variance analysis and forecasting.
Managerial accounting also involves communicating information. As mentioned above, it focuses on enhancing the quality of information produced. Once this process occurs, managerial accounting also includes spreading that information within a company. In some cases, it may also cover communicating with external sources. However, it primarily involves the internal spread of information.
Analyzing financial statement
One of the functions of managerial accounting relates to financial accounting. This branch focuses on analyzing financial statements. Usually, it involves ratio analysis and similar tools to evaluate financial position and performance. On top of that, this process also enhances the other functions of managerial accounting. Consequently, it also allows companies to forecast future conditions better.
Managerial accounting involves the flow of qualitative information. This flow usually occurs within a company to managers. Overall, managerial accounting can have many functions. However, some of these are more significant than others. Of those, the primary functions of managerial accounting are above.