What is management accounting?
Managerial accounting, also called management accounting, is a method of accounting that creates statements, reports, and documents that help management in making better decisions related to their business’ performance. Managerial accounting is primarily used for internal purposes.
Importance of managerial accounting
The main objective of managerial accounting is to assist the management of a company in efficiently performing its functions: planning, organizing, directing, and controlling. Management accounting helps with these functions in the following ways:
1. Provides data: It serves as a vital source of data for planning. The historical data captured by managerial accounting shows the growth of the business, which is useful in forecasting.
2. Analyzes data: The accounting data is presented in a meaningful way by calculating ratios and projecting trends. This information is then analysed for planning and decision-making. For example, you can categorise purchase of different items period-wise, supplier-wise and territory wise.
3. Aids meaningful discussions: Management accounting can be used as a means of communicating a course of action throughout the organization. In the initial stages, it depicts the organisational feasibility and consistency of various segments of a plan. Later, it tells about the progress of the plans and the roles of different parties to implement it.
4. Helps in achieving goals: It helps convert organizational strategies and objectives into feasible business goals. These goals can be achieved by imposing budget control and standard costing, which are integral parts of management accounting.
5. Uses qualitative information: Management accounting does not restrict itself to quantitative information for decision-making. It takes into account qualitative information which cannot be measured in terms of money. Industry cycles, strength of research and development are some of the examples qualitative information that a business can collect using special surveys.
Scope of managerial accounting
The main objective of managerial accounting is to maximize profit and minimize losses. It is concerned with the presentation of data to predict inconsistencies in finances that help managers make important decisions. Its scope is quite vast and includes several business operations. The following points discuss what management accounting can do to make a business run better.
1. Managerial accounting is a rearrangement of information on financial statements and depends on it for making decisions. So the management cannot enforce the managerial decisions without referring to a concrete financial accounting system.
2. What you can infer from financial accounting is limited to numerical results like profit and loss, but in management accounting you can discuss the cause and effect relationships behind those results.
3. Managerial accounting uses easy-to-understand techniques such as standard costing, marginal costing, project appraisal, and control accounting.
4. Using historical data as a reference, the management observes the current information to check the impacts of business decisions.
5. Management can use this type of accounting to set objectives, format plans to meet them, and compare the performance of various departments.
6. Managerial accounting is used for forecasting. It concentrates on supplying information that would ease the effect of a problem rather than arriving at a final solution.
Techniques in Managerial Accounting
In order to achieve business goals, managerial accounting uses a number of different techniques.
Marginal analysis: This assesses profits against various types of costs. It primarily deals with the benefits of increased production. It involves calculating the break-even point, which requires knowing the contribution margin on the company’s sales mix. Here, sales mix is the proportion of a product that a business has sold when compared to the total sales of that business. This is used to determine the unit volume for which the business’ gross sales are equal to total expenditures. This value is used by managerial accountants to determine the price points for various products.
Constraint analysis: Managerial accounting monitors the constraints on profits and cash flow with respect to a product. It analyzes the principal bottlenecks and the problems they cause, and calculates their impact on revenue, profit, and cash flow.
Capital budgeting: This is an analysis of information in order to make decisions related to capital expenditures. In this analysis, the managerial accountants calculate the net present value and internal rate of return to help managers with capital budgeting decisions like calculating payback period or calculating accounting rate of return.
Inventory valuation and product costing: This deals with determining the actual cost of goods and services. The process generally involves computing the overhead charges and assessment of direct costs associated with cost of goods sold.
Trend analysis and forecasting: This primarily deals with variations in product costs. The resulting data is helpful in identifying unusual patterns and finding efficient ways to identify and resolve the underlying issues.
Limitations of managerial accounting
Managerial accounting may define the pace and process of development of an organisation yet it has its set of drawbacks. By now, we know that the information to make managerial decisions is dependent on financial statements. Due to this, the strength or weakness of accounting decisions made depends solely on the quality of basic records. Meanwhile, different managers may interpret the same information in different ways depending on their capacity and experience in the field. That way there might be bias in decision-making process.
A managerial accounting system is more suitable for bigger enterprises which are at the peak of growth. This is possible because the company can afford the price of installing a system in place and even hire professionals to make the best of it to prevent the company from future meltdowns.
Management accounting helps in analysing and recording financial information which can be used by a company to increase its efficiency and productivity. It presents the financial information in regular intervals using easy-to-understand techniques such as standard costing, marginal costing, project appraisal, and control accounting. However, the information required to make managerial decisions depends completely on financial statements. Hence it becomes important to maintain error free records. Besides several disadvantages, it acts as a useful tool for better management of business.