Management Accounting and its Importance

Narendra Kumar

12 Dec, 2020

Is your company using management accounting? This is the process of preparing management reports/accounts that provide accurate/fast statistical info to a company’s managers. This gives them the ability to make decisions for the company. Management accounting defines measures, evaluates, and shares info so an organization can work towards its goals. A company’s goals/objectives are critical as they allow the business to set metrics it wants to achieve. It’s important for the goals/ to be metrics that the company works towards and has detailed as possible.

It’s important to note that management accounting is different from financial accounting. Financial accounting gives info to people inside and outside an organization. Meanwhile, management accounting’s goal is mainly to help managers within a company to make decisions.

Goals of Management Accounting in a Company/Organization

1. Making “Make or Buy” Decisions

A key decision a company must often make is whether it’s more cost-effective to manufacture products in-house or buy them from a third party. The factors used to make these decisions include production availability and costs. Management accounting develops insights that allow for decisions made at strategic and operational levels. In some situations, it’s more cost-effective for companies to build parts for products in their own factories. However, in other situations, there are logistics that make it more practical to outsource the work to other companies.

2. Evaluating the Rate of Return

When a company is starting a project that requires heavy investments it’s important for it to analyze the projected rate of return (ROR). If a company has 2+ investment opportunities there are various issues to consider. They include how many years are needed to break even on the project, how to pick the most profitable investments, projected cash flows, etc. Management accounting is an effective tool to help answer all of these questions.

The ROR and return on investment (ROI) of particular investments are important to calculate to determine whether they’re practical options. Investments can involve tough decisions to make. That’s why it’s critical to do number crunching to determine which option is the best one. This will help to make decisions about the best investment for your company. It’s important to determine a wide array of factors to determine which investment is the best option for your company. Management accounting can help to achieve that goal effectively.

3. Projecting the Future

The process of forecasting helps decision making and answers questions like whether the company should buy more equipment, acquire another company, diversify into new markets, etc. These are all important questions and management accounting can help o answer all of them. It’s also effective in projecting future business trends.

Unfortunately, there’s no way of knowing the future of the business world. However, this can still be done based on current metrics and past trends. Accounting is a critical part of the process since it involves various figures related to the company’s money matters. That, in turn, can help to effective project future actions of the business.

4. Management of Accounting Tools

As with other businesses, it’s important to use the right software for projecting business trends including:

• Ability to Read/Analyze Financial Statements

This is critical as it’s just to generate financial statements but also to evaluate them effectively. This is critical for the company to use them effectively in its daily operations.

• Key Performance Indicators (KPIs)

This is a kind of performance measurement that analyzes a company’s success doing a certain activity like products, programs, projects, etc. Success is sometimes determined by making progress in achieving particular strategic goals.

• Financial Modeling

This is the process a company uses to build a financial representation of some/all aspects of a company. A model is usually shown by doing calculations and then making recommendations that are based on the data. The model can also summarize certain events for end users like investment management returns, or project market direction.

• Management Information Systems (MIS)

This is a computerized database that contains financial data organized. It’s programmed in a way that produces reports on operations for each management level of a particular company. It can also easily collect special reports from the computer system. The main goal of the MIS is to provide managers feedback regarding their performance. An MIS usually shows real data versus planned results as well as results from the previous year.

• Ratios

These ratios compare two aspects of a company’s financial statement like the relationship of current assets versus current liabilities. A company can use the ratios to evaluate its financial condition including its strengths/weaknesses.

• Game theory

Game theory is the study of human conflict/cooperation in competitive situations. In a sense, it’s the science of strategy or the best decision-making of competing/independent actors within a strategic setting.

• Simulations

A business simulation is a simulation that’s used for business analysis, education or training. It can be an analysis that’s based on numbers or scenarios. The majority of business simulators are used for business training/development. It includes various learning objective including decision making, strategic thinking, financial analysis, problem-solving, operations, and leadership, teamwork, and market analysis.

5. Understanding the Company’s Performance Variances

Discrepancies in a company’s performance are differences between what a company has projected versus what it achieves. Management accounting uses various analytical methods so management can build on its positive variances and manage negatives. It’s important for a company to evaluate its performance variances in order to determine its performance variances effectively. This is one of the most important processes of a company.

6. Projecting Cash Flows

Cash flow is one of the most important factors related to companies’ accounting processes. It’s important for a company to project cash flows and how they affect the company. Important issues include the company’s future costs, where revenue will originate in the future and whether it will increase/decrease during the future. The process of management accounting includes designing budgets as well as trend charts. The manager then uses the data to make decisions about how to use the company’s money/resources in order to achieve the company’s revenue growth projections.