Relationship of Management Accounting, Financial Accounting and Cost Accounting

Cost Accounting is a branch of accounting, which has been developed because of the limitations of Financial Accounting from the point of view of management control and internal reporting. Financial accounting performs admirably, the function of portraying a true and fair overall picture of the results or activities carried on by an enterprise during a period and its financial position at the end of the year. Also, on the basis of financial accounting, effective control can be exercised on the property and assets of the enterprise to ensure that they are not misused or misappropriated. To that extent financial accounting helps to assess the overall progress of a concern, its strength and weaknesses by providing the figures relating to several previous years.

Data provided by Cost and Financial Accounting is further used for the management of all processes associated with the efficient acquisition and deployment of short, medium and long term financial resources. Such a process of management is known as Financial Management. The objective of Financial Management is to maximize the wealth of shareholders by taking effective Investment, Financing and Dividend decisions. Investment decisions relate to the effective deployment of scarce resources in terms of funds while the Financing decisions are concerned with acquiring optimum finance for attaining financial objectives.

The last and very important ‘Dividend decision’ relates to the determination of the amount and frequency of cash which can be paid out of profits to shareholders. On the other hand, Management Accounting refers to managerial processes and technologies that are focused on adding value to organizations by attaining the effective use of resources, in dynamic and competitive contexts. Hence, Management Accounting is a distinctive form of resource management which facilitates management’s ‘decision making’ by producing information for managers within an organization.

There are a number of differences between cost accounting and financial accounting, which are as follows:

• Audience: Financial accounting involves the preparation of a standard set of reports for an outside audience, which may include investors, creditors, credit rating agencies, and regulatory agencies. Cost accounting involves the preparation of a broad range of reports that management needs to run a business.
• Format: The reports prepared under financial accounting are highly specific in their format and content, as mandated by either generally accepted accounting principles or international financial reporting standards. Cost accounting involves creating reports that can be in any format specified by management, with the intention of including only that information pertinent to a specific decision or situation.
• Level of detail: Financial accounting primarily focuses on reporting the results and financial position of an entire business entity. Cost accounting usually results in reports at a much higher level of detail within the company, such as for individual products, product lines, geographical areas, customers, or subsidiaries.
• Product costs: Cost accounting compiles the cost of raw materials, work-in-process, and finished goods inventory, while financial accounting incorporates this information into its financial reports (primarily into the balance sheet).
• Regulatory framework: The structure of financial accounting reports are tightly governed by either generally accepted accounting principles or international financial reporting standards. There is no regulatory framework governing cost accounting reports.
• Report content: A financial report contains an aggregation of the financial information recorded through the accounting system. The information in a cost accounting report can contain both financial information and operational information. The operational information can come from a variety of sources that are not under the direct control of the accounting department.
• Report timing: Financial accounting personnel issue reports only at the end of a reporting period. Cost accounting staff may issue reports at any time and with any degree of frequency, depending upon management’s need for the information.
• Time horizon: Financial accounting is only concerned with reporting the results of reporting periods that have already been completed. Cost accounting does this too, but also can be involved in a variety of projections for future periods.