Financial accounting and managerial accounting are two of the four largest branches of the accounting discipline (e.g. tax accounting and auditing are others). Despite many similarities in approach and usage, there are significant differences between the financial and managerial accounting. These differences primarily center around compliance, accounting standards, and target audiences.
- Managerial accounting is the practice of identifying, measuring, analyzing, interpreting, and communicating financial information to managers for the pursuit of an organization's goals.
- Financial accounting involves recording, summarizing, and reporting the stream of transactions and economic activity resulting from business operations over a period of time to the public or regulators.
- Managerial accounting differs from financial accounting because the intended purpose of managerial accounting is to assist users internal to the company in making well-informed business decisions.
Main Objectives of Both Accounting Practices
The main objective of managerial accounting is to produce useful information for a company's internal use. Business managers collect information that encourages strategic planning, helps them set realistic goals, and encourages an efficient directing of company resources.
Financial accounting has some internal uses as well, but it is much more concerned with informing those outside of a company. The final accounts or financial statements produced through financial accounting are designed to disclose the firm's business performance and financial health. If managerial accounting is created for a company's management, financial accounting is created for its investors, creditors, and industry regulators.
Past and Present Use
The information created through financial accounting is entirely historical; financial statements contain data for a defined period of time. Managerial accounting looks at past performance and creates business forecasts. Business decisions should be informed by this type of accounting.
Investors and creditors often use financial statements to create forecasts of their own. In this way, financial accounting is not entirely backward-looking. Nevertheless, no future forecasting is allowed in the statements.
Regulation and Uniformity
The biggest practical difference between financial accounting and managerial accounting relates to their legal status. Reports generated through managerial accounting are only circulated internally. Each company is free to create its own system and rules on managerial reports. This means there is no centralized system regulating reports, and it can often take much longer to find what you need.
In contrast, financial accounting reports are highly regulated, especially the income statement, balance sheet, and cash flow statement. Since this information is released for public consumption and is highly anticipated by investors, companies must be very careful about how they make calculations, how figures are reported, and in what order those reports are constructed.
The Financial Accounting Standards Board (FASB), under the aegis of the Securities and Exchange Commission (SEC), establishes financial accounting rules in the United States. The sum of these rules is referred to as generally accepted accounting principles (GAAP).
Through this uniformity, investors and lenders compare companies directly on the basis of their financial statements. Moreover, financial statements are released on a regular schedule, establishing consistency of external information flows.
For a variety of reasons, financial accounting reports tend to be aggregated, concise, and generalized. Information is simultaneously more transparent and less revealing. This is not normally the case with managerial accounting as there are many reasons to do things a specific way for each company. For example, you might want to internally report lower bonuses so as to not anger mid-to-lower level employees who might want to peruse the report.
Managerial accounting reports are highly detailed, technical, specific, and often experimental. Firms are always looking for a competitive advantage, so they examine a multitude of information that could seem pedantic or confusing to outside parties.
The Bottom Line
The key difference between managerial accounting and financial accounting relates to the intended users of the information. Managerial accounting information is aimed at helping managers within the organization make well-informed business decisions, while financial accounting is aimed at providing financial information to parties outside the organization.
Financial accounting must conform to certain standards, in accordance with GAAP as a requisite for maintaining their publicly traded status. Most other companies in the U.S. conform to GAAP in order to meet debt covenants often required by financial institutions offering lines of credit. Because managerial accounting is not for external users, it can be modified to meet the needs of its intended users. This may vary considerably by company or even by department within a company.