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What’s the difference between managerial and financial accounting, and why should you care?

For most people, there is no burning desire to know the difference between managerial and financial accounting. It’s not something that impacts them, or so they believe. The truth is, if you are earning a salary or running a business, you are a part of these processes. When you are running a company, these accounting systems are a part of your everyday decision-making. If you are an employee, these accounting systems will tell you how strong or weak your company is.

Let’s say you want to be an entrepreneur. It pays to have a bird’ eye view of handling profit and loss through proper accounting systems.

Business owners, small, medium, or big, who pay little attention to these accounting systems, often learn harsh lessons. Concentrating on the big picture of creativity, vision, and expansion of a company is all very well, but accounting is the brick and mortar that sustains a company. So, it makes sense to understand accounting systems.

Before we tune in to this topic, let’s get this straight: financial accounting and managerial accounting are not the same things. Arguably, they are not even close cousins. This article will point out the differences.

So, come on board. We promise you it’s a fun journey.

What is accounting?

Accounting keeps track of a company’s cash flow. It records how much money you are spending, where that money is going, what your company is worth, and where you are making profit and loss.

Whether it’s a small business or multinational company, accounting or budgeting is vital for both. Keeping track of what you earn and spend is called the bottom line. It is like a compass that points you in the direction you and your company are taking – towards greener pastures (profitable future) or arid terrain (loss-making prospects).

It’s a big responsibility to run a company, big or small. As the owner, you are answerable to many parties such as investors, stakeholders, shareholders, creditors, and staff.

After every quarter in a calendar year, the company summarizes its significant activities and draws up a profit-loss statement to better implement policies. This summary is called the financial statement that follows certain measurement principles (based on government taxation rates). This financial statement summarizing or quantifying the company’s activities is called Accounting.

Managerial and Financial Accounting: Comparison

How do financial accounting and managerial accounting serve their purpose? 

Financial Accounting leans heavily on the quantitative analysis of the company’s financial condition to provide a report to outsiders such as investors and stakeholders of the company’s state of health. Therefore, this type of accounting is exact in value.

Managerial Accounting uses both quantitative and qualitative analysis of information to inform the company’s staff of its financial health so they can take decisions to promote prospects for the company’s growth. Therefore, it is an estimated guess, not an exact calculation.

Target audience: For financial accounting, the intended audience is both parties, internal as well external. On the other hand, management accounting is internal, only for the managers of the company or the people in the company who are involved in taking decisions.

Timeline: Financial accounting represents the company’s past performance, while managerial accounting considers the company’s present and future needs keeping market changes or trends in mind.

Result value: As stated earlier, financial accounting objectifies past performance, so the result value is exact since many people verify it. Managerial accounting assesses future assumptions and present trends in the market, and hence, it is a guess value. Assumptions and reiterations are associated only with managerial accounting; hence precision is not a critical issue.

Mandatory or not? Financial accounting is compulsory as per the laws and regulations. Stakeholders and investors analyze its information as per their call.  Such is not the case with managerial accounting. Law or government regulatory bodies do not require it. It eases business operations, and it depends on the staff to provide it.

Information type: The information provided by financial accounting is monetary. (We will study this in detail later). On the other hand, managerial accounting defines monetary and non-monetary purposes since the target audience is different.

Time-Frame of calculation: Financial statements are necessary for outsiders, so they release at the end of each year (i.e., at the end of each accounting period). Fiscal years of accounting vary from company to company since there are different terms for different sectors. Managers decide the time frame of completion in managerial accounting.

Guidelines: Financial reports follow the strict rules stated by the GAAP or IFRS. Managerial accounting reports have no guidelines prescribed by law. Hence the format is dependent on the company’s rules and policies.

Reports: Financial accounting reports depict results from past performances. On the other hand, managerial reports periodically detail relevant data. The company decides the specific nature of the data.  

Audits: Publishers of financial accounting reports are statutory auditors. Managerial reports are neither published nor reviewed/audited by any of the authorities.

Area of focus: Financial reports focus on the entire organization. Managerial accounting reports concentrate on dividend details department by department, specific products, operational teams.

Decision-Making value: Here is the fun part – both kinds of accounting reports are essential but for a different set of people. For example, are you thinking of investing in another company? In which case, you need to refer to its financial report to guide you. Or are you the manager and want to launch a new product for the company? You need to consult the managerial accounting report to learn about market conditions and future growth. A management report is more suited to undertake a product analysis.

Tone: Financial accounting depicts the company’s growth, so it is positive (optimistic) in style, highlighting the profits and the company’s efficiencies. On the other hand, the managerial report is private, revealing the company’s gaps or problems. Its tone, therefore, tends to be cautionary or pessimistic.

How to measure results of Financial and Managerial Accounting:

Anyone who has invested in the company can track its financial statements.

  • Managerial accounting results, on the other hand, are not as accessible.  
  • Financial Accounting represents the company’s functionality in the public eye.
  • Management Accounting gives an accurate qualitative picture of the company for the company’s management.

What are the nuts and bolts of Financial Accounting?

  • Double Entry System: The double entry is done in the book when cash is withdrawn or added. So, it is a double entry. Both the bank and the money would be affected by this, hence the name. It has two parts: Debit and Credit. Debit means outward cash flow (increase in expenses). Credit means inward cash flow (increase in income).
  • Entry in the Journal: It is about the exchange between credit and debit accounts.
  • Ledger Entry: It is an extended type of journal entry. It separates the debit and credit statements.
  • Trial Balance: It reveals the total amount after all debit and credit activities at the end of the year. This balance is essential for big corporations to track profit or loss.

Other Financial Statements

Income Statements

They record the income of the companies by doing a revenue-expenses analysis. To see the format of income statements, refer to the figure below:

Balance Sheet:

Companies use a balance sheet to understand their assets and liabilities, to track depreciating products. Look at the balance sheet below:

Equity Statements of Shareholders

It includes any retained or on-hold earnings. Refer to the below format:

Cash Flow Statement

Net cash flow, whether inward or outward, can be calculated through this statement. It gives an idea of the company’s profit or losses.

It includes any retained or on-hold earnings. Refer to the below format:

How is Management Accounting done?

By using KPIs, Periodical Reports, Scorecards, and Forecasts. We will look at how to use Key Performance Indicators (KPI)KPIs are subjective; they are different for different organizations. Let us look at few indicators:

Conclusion

Financial and Managerial accounting are two different cups of tea.  They not only differ in their audience, but they also differ in how they are put together and measured. When undertaken together, they yield better results for the company.

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Rowan Jayme

Rowan Jayme

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