Having a thorough understanding of the accounting needs for your business is a vital step towards a successful and comprehensive business plan. Accounting should very well be the highest priority for a business in terms of profitability and legality. For many, this is easier said than done. Today, CEOs need to wear many hats and company accountant can seem like the most daunting of tasks. With a variety of audiences who require vital information about a business, what type of accounting follows suit with their needs? There are several types of accounting – this article is designed to demystify and differentiate between two common accounting practices essential for business; financial and managerial. We’ll take a look at both to help explain how these apply to most businesses.
There are several differences between financial and managerial accounting. Among these differences are; audience, regulation and reporting standards and time period to which the report references the data. Data for reporting is generated differently based on regulations. The most important facet of accounting to remember is that you are accountable! Accounting fraud is a serious crime with harsh penalties. If you are ever uncertain as to what you are accountable for, ask a CPA.
Basics of Financial Accounting
As described by the name, financial accounting reports the overall financial health of a business to external users. Think of this as a roadmap to your financial situation. At its very core, financial accounting reports what you have, whatyou owe, and what your worth is. This data is standardized across industries and is for external reporting to those who have a stake in the company. For example, stockholders, board of directions, and investors require information on the financial standings of a business. They are required to have access to financial statements.
More importantly, financial statements must be filed and reported annually to the public. These reports typically account for cash flow, income and expense statements, liabilities, equity, and reported assets. In the United States, this basis of financial reporting is set by the Financial Accounting Standards Board (FASB).
There are four main types of financial statements required, but there are two primary financial statements that business owners should have a solid understanding of. These statements include the balance sheet and the income statement. All financial statements link in some way and these two are very helpful when understanding a company as a whole.
A balance sheet is made of three main parts; assets, liabilities, and equity. A company’s assets must equal their total equity and liabilities. Assets include anything owned and/or controlled by a company. This includes everything from raw materials to cash or cash equivalents. Equity is what a business owes to stockholders and owners. Finally, liabilities include any borrowings or accounts payable that a company owes. This includes payable taxes.
An income statement reposts profits and loss. This statements reports what a company will profit after all expenses are accounted for. This reports revenue, cost of sale, gross profit, administrative expenses, and net profit. Not only does this statement give you a true picture of the health of your business, it is a way to help you asses risk and pinpoint areas that may need attending to.
Basics of Managerial Accounting
Managerial accounting is designed for internal company use. This information is typically reported to managing positions. Management needs this information to help make calculated business decisions. A manager will find this type of accounting beneficial because it provides rationale and a guide for making decisions related to daily operations.
Typical examples of reported data for managerial accounting are sales volume, movement of material, and labor cost. Educated and appropriate decisions for business planning purposes are based off of these numbers and their forecasts
Unlike financial accounting, these reports are not public information and they are not held to one set of accounting standards. Managerial accounting is not required by law, but is extremely important for running a successful business by empowering smart management decision making.
Each business tailors their managerial reports based on the informational needs of management. Reports may be generated for any time frame. These reports are generally confidential and only used by the top management positions of a company.
Managerial accounting provides future-oriented reports. Managerial accounting is vital for planning budgets, forecasting cash flow, making decisions and strategy, monitoring productivity, and allocating responsibility to specific teams or departments. There is an advantage for management when they are able to forecast sales and recognize market trends.
What type is right for your business? Some businesses may never need to implement financial accounting, but if a company goes public, those numbers by law will have to be reported. Regardless, financial accounting is vital for understanding where your business stands as a whole. All businesses should employ the use of managerial account regardless of their industry or size. It is especially important for small businesses to have easy access to budgets, forecasts, and goals to make calculated business decisions.
A business with plans and goals is planning for success. Reports should be a priority and a tool for success. Because managerial accounting is not standardized, important information generated by these managerial reports can fall by the way-side. If your business needs assistance getting on the right track for either financial or managerial accounting, seek the guidance of a business advisor or CPA.
Photo Credit: Flickr/401(K) 2012
