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Cost Accounting Theory | Management Accounting | Financial Accounting

Arjun EP

Published on: April 13, 2021

Management Accounting

Management accounting is the presentation of accounting information.

It helps to the management in the creation of policies and day to day operation of the organization.

From cost accounting and financial accounting, the managements make policy or planning, decision making, control, coordination, motivation etc.

Definition

According to Robert N. Anthony, “Management accounting is concerned with accounting information that is useful to management.”

According to Meigs and Meigs, “Management accounting involves the preparation and use of accounting information for planning and controlling the operation of the business.”

Objectives of Management Accounting

The main objective of business organization is to earn maximum profit.

Management accounting provides information to management how to maximize the profit.

Other main objectives are:

Planning

Management accounting helps to management for planning in advance. Some planning is:

· What to do,

· How to do,

· When to do,

· Who is to do?

These plans may be Short term or long term, introduce new product, increase sales volume in existing market, expand of market, additional fund for long term investment, additional fund for assets replacement etc.

Decision-making

To choose best alternative from more or many choices is called decision. Some decisions are:

· Fixation of price;

· Whether price should be reduced or not to increase sales volume;

· Whether factory should production full capacity or not;

· Determination of most profitable level of production;

· Whether to make or buy spare parts;

· Whether new product should be introduced in the market;

· Whether the product should be exported or not;

· Whether the product should be discontinued from the market;

· Whether new fixed assets should be purchased etc.

Control

Under cost accounting, planning is on estimation basis.

But in actual, they may different than estimated.

To find out causes of variances or deviation control is needed.

Coordinating

Management accounting helps to coordinating between or among:

· Departments or branches

· Department and sections.

· Staffs etc.

Motivation

It is the new system of management accounting.

Under motivation, workers or staffs are encouraged to do work in their responsibility.

Some motivation factors are:

· Wage or salary paid in time

· Bonus and incentive

· Training and seminar

· Promotion etc.

Scope of Management Accounting

The scope of management accounting is very wide and broad. The main scopes of management accounting are:

Financial accounting

It provides historical information. From past data, management can take decision for future.

It contains journal entries, ledgers, trading account, profit and loss account, balance sheet, cash flow statement etc.

These accounts are helpful for cash position, assets and liabilities of organization.

Cost accounting

It provides cost information of product or service at different stage.

It includes cost sheet, job costing, variable costing, absorption costing, standard costing, contract costing and process costing etc.

Tax accounting

Every state and country has its government.

While doing business in state or country, organization has to pay tax or value added tax (VAT).

Management accounting is helpful to determine tax payable on income.

Auditing

To check financial transactions about correct or incorrect, auditing is required.

There are two types of auditing, internal auditing and external auditing.

Internal auditing is operated for checking up fraud and external auditing is done for approved to financial data by authorized auditors.

Budgeting and forecasting

Budgeting means arrange funds for various sections or department for operating business.

Forecasting means guess or think in advance.

Both budgeting and forecasting are required for management accounting.

Office service

Management accounting requires different types of data for decision making.

Office service helps to management accounting by providing report, data process, references, printing mail, drafting etc.

Limitation of Management Accounting

Although management accounting has broad and wide scope yet it has following limitations:

Accuracy information

Management accounting looks-for accurate and correct information.

So management decision may not be effective for financial, non-monetary and cost data.

Costly installation

Management accounting needs large scale manpower, many formalities, standard costing etc.

These require large cost.

It is suitable for large organization only.

Knowledge of different subjects

Effective management accounting needs knowledge of different subjects like principle of accounting, economics, statistics, taxation etc.

It is not easy it find out entire knowledge in one person.

No specific procedures

It is used for different deviation or variation.

There is not specific data or procedures.

Therefore, past data or experience may not be suitable for present and future.

Sixth sense decision

Management accounting needs scientific and systematic decision for quantitative technique.

In spite of these, management takes decision by intuition (sixth sense or insight).

No substitute of administration

Management accounting creates tools and techniques for decision making but it is not substitute of administration.

Differences between Cost Accounting and Management Accounting

Both cost accounting and management accounting are helpful to management for planning, decision-making and control. Although both are internal control tools yet they have some differences. The main differences are:

Bases	Cost accounting	Management accounting
Base	It provides a base for management accounting.	It is derived from both cost and management accounting.
Role	It helps to collect costing data for the management.	It helps to clear cost idea and analysis the business problems.
Status	Cost accounting comes after management accounting; so it is junior than management accounting.	Management accounting is senior than cost accounting in position.
Tools	It has basic tools of variable costing, standard costing, breakeven point etc	It has basic tools of cash flow statement, ratio analysis along with variable costing, standard costing and breakeven point.
Scope	It does not include financial accounting and tax accounting.	In includes cost accounting, financial accounting and tax accounting.
Installation	It can be installed without management accounting.	It needs cost and financial account for base.

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Meaning of Financial Accounting

Financial accounting is the process or work to keep recording financial transactions.

It is broader than bookkeeping.

It starts when bookkeeping ends.

Financial accounting is the language of business.

It is an analysis and interpretation of book keeping records.

It is an art of measuring, recording and communicating of financial information.

It includes maintenance of accounting records as well as preparation of financial and economic information.

Financial accounting is an information system.

It measures, processes and communicates financial information for decision makers.

Business activities are identified and measured in terms of money.

Then processed and finally communicated to the various groups of users.

Without accounting, the financial transactions are only data.

They are converted to information by the accounting processing system.

In simple meaning, accounting is a story of value or money.

From where the money come, how much the money worth, how much the money cost, how much value for money exchange and how much of money is in hand at any given time.

Accounting is that body of knowledge which is concerned with measurement and communication of financial information about economic activities to interested persons and parties.

Accounting provides information to interested parties with quantitative financial information.

It helps to them to make decisions about the use of resources in business or other entities.

Interested or related parties take decision from financial information.

Definitions of accounting

According to Oxford Dictionary, “Accounting is the process or work of keeping financial accounts.”

According to R N Anthony, “Accounting system is the means of collecting, summarizing, analyzing and reporting in monetary terms of the business.”

Keep in Mind (KIM)

Accounting science or art?

In simple words, science is world based the fact that can be proved with examples and by experience.

Art is ability or skill that can be developed with training and practice.

In accounting, we apply both science and art. Therefore, accounting is science as well as art.

Functions of Financial Accounting

There are many functions of financial accounting; the major functions are as under:

Recording

Recording is the basic function of financial accounting.

It is principally based on all financial transactions of business.

They are recorded in chronological order.

These financial transactions are initially recorded in the journal.

Classification

After recording financial transactions in journal entries, they are classified into different related group according to their nature.

The work of classification is done in the book of ledger account.

Summarising

Classified data (ledger account) are summarised into trial balance.

Arithmetic accuracy is checked from trial balance.

From trial balance, different financial statements like trading account, profit and loss account and balance sheet are prepared at the end of accounting period.

Analysis and interpretation

The recorded financial data is analyzed.

It is interpreted in a manner that the end-users can make a meaningful judgment about the financial condition.

The data is also used for preparing the future plans and framing of policies for executing such plans in actions.

Communication

Different analysed and interpreted accounting information are to be communicated to the different interested parties.

They are shareholders, creditors, investors and trade union etc.

These are equally useful to management itself.

They use this information for various purposes according to their need.

This is done through preparation of accounting ratios, graphs, diagrams, funds flow statements etc.

Objectives or Importance of Accounting

The primary objectives or importance of accounting are as under:

Keep transactions

The main objectives of accounting are to keep financial transactions in systematics way.

Whenever, accounting data are needed is future, It will help to find out easily.

Find out profit or loss

Other objectives of accounting are to find out profit or loss of the organization.

It helps to find out profit or loss of the organization in an accounting year by preparing income statement (profit and loss account).

Find out financial position

It helps to find out financial position of the organization in an accounting year by preparing balance sheet.

Balance sheet can be prepared for single year as well as comparative years.

Provide information

It provides necessary information and up to date to related users.

Users are management, creditors, employees and government etc.

They take decision according to their need by comparing financial statement.

Fix the tax

Every state and country charges tax on income.

Income may be either personal or firm.

Accounting helps to fixation of tax to pay the government in an accounting year.

Keep in Mind (KIM)

The importance of accounting can be understood by answering following questions:

How much was earned last year?

How much we have earned this year?

Is our business improving?

How much cash do we have?

How much loan we have taken?

How much investment we have done?

Scope of Financial Accounting

By scope we mean all those areas for sectors where accounting is being used in various purposes are regarded as scope of accounting.

Following are the major scope of accounting:

Business

Accounting is widely applicable in the business sector.

In the modern world, many peoples are engaged in business sector.

They keep accounting of their business.

They follow Generally Accepted Accounting Principle (GAAP) to keep accounting.

Properly recorded accounting helps to find out profit, loss and financial position of business firm.

Government organizations

Government organizations do not follow Generally Accepted Accounting Principle (GAAP). The government authority use government accounting to keep systematic records of all transactions in order to find the position of public fund.

Non-government organizations

Non-government and service organizations such as NGOS, INGOs, Red Cross Society, SOS etc plays a vital role in the development of nation.

They also use accounting.

The accounting system used in these organizations is called fund accounting (non-trading accounting).

Individuals

Individuals also involve in different economic activities to earn their livelihood.

They also use accounting system.

The use receipts and payments account and statement of affairs etc according to their need.

Keep in Mind (KIM)

Concern, enterprises, trading house, store, center, firm and company etc are business firm.

Limitation of Financial Accounting

Financial accounting contains journal entries, ledgers, trading account, profit and loss account, balance sheet, cash flow statement etc.

These accounts are helpful for cash position, assets and liabilities of organization.

But it has following limitations:

a.	Financial accounting does not give detail information about cost of product or service.
b.	It does not record detail information about inventory control, standard costing, budgetary control, marginal costing etc.
c.	It is based on history or past data so it does not compute pre determine costs.
d.	In financial accounting, costs are not classified according to direct and indirect cost, fixed and variable cost, controllable and uncontrollable cost etc.
e.	It does not analysis about idle time of labour, idle time of machine, inefficiency of labour etc.
f.	Financial accounting fails to provide information about introduction of new product, make or buy decision, replacement of labour and machine etc.

Differences between Cost Accounting and Financial Accounting

Bases	Cost Accounting	Financial Accounting
Purpose	The main purpose of cost accounting is to provide information to management about planning, control and take decision.	The main purpose of financial accounting is to provide information about financial position of the business.
Past, present or future	Cost accounting is related to past and future. It is based on estimation and actual facts	Financial accounting is related to past. It is based on actual facts
Period	There is no limit for preparing cost accounting. It is prepared when management needs to take decision.	Generally, it is prepared for one accounting period. This period is annual.
Cost control	It helps to cost control. Like materials, labour and overhead cost control.	Its purpose is not to control cost.
Stock valuation	Stock/inventory is valued at cost price basis.	Stock or inventory is valued at cost or market, which is less.
Transactions	Cost accounting is related to internal affairs.	Financial accounting is related to external affairs.