Question

Respond to the following in a minimum of 175 words:

What are some of the key differences between financial and managerial accounting? How do these differences impact the type of information that must be gathered and reported? What are the different types of decisions that users of financial accounting information must make? What are the different types of decisions that users of managerial accounting information must make?

Answer 1

Differences between financial and managerial accounting;

• Aggregation. Financial accounting reports on the results of an entire business. Managerial accounting almost always reports at a more detailed level, such as profits by product, product line, customer, and geographic region.

• Efficiency. Financial accounting reports on the profitability (and therefore the efficiency) of a business, whereas managerial accounting reports on specifically what is causing problems and how to fix them.

• Proven information. Financial accounting requires that records be kept with considerable precision, which is needed to prove that the financial statements are correct. Managerial accounting frequently deals with estimates, rather than proven and verifiable facts.

• Reporting focus. Financial accounting is oriented toward the creation of financial statements, which are distributed both within and outside of a company. Managerial accounting is more concerned with operational reports, which are only distributed within a company.

• Standards. Financial accounting must comply with various accounting standards, whereas managerial accounting does not have to comply with any standards when information is compiled for internal consumption.

• Systems. Financial accounting pays no attention to the overall system that a company has for generating a profit, only its outcome. Conversely, managerial accounting is interested in the location of bottleneck operations, and the various ways to enhance profits by resolving bottleneck issues.

• Time period. Financial accounting is concerned with the financial results that a business has already achieved, so it has a historical orientation. Managerial accounting may address budgets and forecasts, and so can have a future orientation.

• Timing. Financial accounting requires that financial statements be issued following the end of an accounting period. Managerial accounting may issue reports much more frequently, since the information it provides is of most relevance if managers can see it right away.

• Valuation. Financial accounting addresses the proper valuation of assets and liabilities, and so is involved with impairments, revaluations, and so forth. Managerial accounting is not concerned with the value of these items, only their productivity.

Different types of decisions that users of financial accounting information must make

Financial accounting allows a business to keep track of all its financial transactions. It is the process in which the company records and reports all the financial data that go in and out of its business operations. The accounting data is recorded on a series of financial statements including the balance sheet, income statement, and cash flow statement.

There are three main areas where financial accounting helps decision-making:

1) Investing Decisions

Fundamental analysis depends heavily on a company's balance sheet, its statement of cash flows and its income statement. All of the financial statements for publicly traded companies are created and reported according to the financial accounting standards set forth by the Financial Accounting Standard Board (FASB).

Investors use the information from financial statements to make decisions about the valuation and creditworthiness of a company. Without the information provided by financial accounting, investors would have less understanding about the history and current financial health of stock and bond issuers. The requirements set forth by the FASB create consistency in the timing and style of financial accounts, which means investors are less likely to be subject to accounting information that has been filtered based on a firm's current condition.

2) Lending Decisions

Financial accounting is also a key for lenders. Because financial statements outline all its assets as well as the short- and long-term debt, lenders get a better sense of a company's creditworthiness.

A number of common accounting ratios creditors rely on, such as the debt-to-equity (D/E) ratio and times interest earned ratio, are derived from a company's financial statements. Even for privately-owned businesses that do not necessarily follow the requirements of the FASB, no lending institution assumes the liability of a large business loan without critical information provided by financial accounting techniques.

Ultimately, a lender wants to know just how much risk is involved by lending a company money, which can be determined by reviewing the company's financial accounting. Once this is determined, the lender will also be able to outline exactly how much to lend and at what interest rates.

3) Corporate Governance

Reliable accounting serves a practical function not only for investors and lenders but also for the firms themselves.

The most obvious benefit for businesses to complete their financial accounting is to meet the legal and regulatory obligations outlined for (public) companies. Companies must be honest about their financial activities and the data must be accurate and published regularly.

Beyond the regulatory and compliance hurdles financial accounting helps clear, financial accounting also helps managers create budgets, understand public perception, track efficiency, analyze product performance, and develop short- and long-term strategies.

Different types of decisions that users of managerial accounting information must make:

1) Product Costing and Valuation

Product costing deals with determining the total costs involved in the production of a good or service. Costs may be broken down into subcategories, such as variable, fixed, direct, or indirect costs. Cost accounting is used to measure and identify those costs, in addition to assigning overhead to each type of product created by the company.

Managerial accountants calculate and allocate overhead charges to assess the full expense related to the production of a good. The overhead expenses may be allocated based on the quantity of goods produced or other activity drivers related to production, such as the square footage of the facility. In conjunction with overhead costs, managerial accountants use direct costs to properly value the cost of goods sold and inventory that may be in different stages of production.

Marginal costing (sometimes called cost-volume-profit analysis) is the impact on the cost of a product by adding one additional unit into production. It is useful for short-term economic decisions. The contribution margin of a specific product is its impact on the overall profit of the company. Margin analysis flows into break-even analysis, which involves calculating the contribution margin on the sales mix to determine the unit volume at which the business’s gross sales equal total expenses. Break-even point analysis is useful for determining price points for products and services.

2) Cash Flow Analysis

Managerial accountants perform cash flow analysis in order to determine the cash impact of business decisions. Most companies record their financial information on the accrual basis of accounting. Although accrual accounting provides a more accurate picture of a company's true financial position, it also makes it harder to see the true cash impact of a single financial transaction. A managerial accountant may implement working capital management strategies in order to optimize cash flow and ensure the company has enough liquid assets to cover short-term obligations.

When a managerial accountant performs cash flow analysis, he will consider the cash inflow or outflow generated as a result of a specific business decision. For example, if a department manager is considering purchasing a company vehicle, he may have the option to either buy the vehicle outright or get a loan. A managerial accountant may run different scenarios by the department manager depicting the cash outlay required to purchase outright upfront versus the cash outlay over time with a loan at various interest rates.

3) Inventory Turnover Analysis

Inventory turnover is a calculation of how many times a company has sold and replaced inventory in a given time period. Calculating inventory turnover can help businesses make better decisions on pricing, manufacturing, marketing, and purchasing new inventory. A managerial accountant may identify the carrying cost of inventory, which is the amount of expense a company incurs to store unsold items. If the company is carrying an excessive amount of inventory, there could be efficiency improvements made to reduce storage costs.

4) Constraint Analysis

Managerial accounting also involves reviewing the constraints within a production line or sales process. Managerial accountants help determine where bottlenecks occur and calculate the impact of these constraints on revenue, profit, and cash flow. Managers can then use this information to implement changes and improve efficiencies in the production or sales process.

5) Financial Leverage Metrics

Financial leverage refers to a company's use of borrowed capital in order to acquire assets and increase its return on investments. Through balance sheet analysis, managerial accountants can provide management with the tools they need to study the company's debt and equity mix in order to put leverage to its most optimal use. Performance measures such as return on equity, debt to equity, and return on invested capital help management identify key information about borrowed capital, prior to relaying these statistics to outside sources. It is important for management to review ratios and statistics regularly to be able to appropriately answer questions from its board of directors, investors, and creditors.

6) Accounts Receivable (AR) Management

Appropriately managing accounts receivable (AR) can have positive effects on a company's bottom line. An accounts receivable aging report categorizes AR invoices by the length of time they have been outstanding. For example, an AR aging report may list all outstanding receivables less than 30 days, 30 to 60 days, 60 to 90 days, and 90+ days. Through a review of outstanding receivables, managerial accountants can indicate to appropriate department managers if certain customers are becoming credit risks. If a customer routinely pays late, management may reconsider doing any future business on credit with that customer.

7) Budgeting, Trend Analysis, and Forecasting

Budgets are extensively used as a quantitative expression of the company's plan of operation. Managerial accountants utilize performance reports to note deviations of actual results from budgets. The positive or negative deviations from a budget also referred to as budget-to-actual variances, are analyzed in order to make appropriate changes going forward.

Managerial accountants analyze and relay information related to capital expenditure decisions. This includes the use of standard capital budgeting metrics, such as net present value and internal rate of return, to assist decision-makers on whether to embark on capital-intensive projects or purchases. Managerial accounting involves examining proposals, deciding if the products or services are needed, and finding the appropriate way to finance the purchase. It also outlines payback periods so management is able to anticipate future economic benefits.

Managerial accounting also involves reviewing the trendline for certain expenses and investigating unusual variances or deviations. It is important to review this information regularly because expenses that vary considerably from what is typically expected are commonly questioned during external financial audits. This field of accounting also utilizes previous period information to calculate and project future financial information. This may include the use of historical pricing, sales volumes, geographical locations, customer tendencies, or financial information.