What is Management Accounting and its Importance

Amy Pattinson
August 1, 2022
 Mins Read

Management accounting is the process of preparing management reports and accounts that provide accurate and timely financial and statistical information to managers to make short-term and long-term decisions. It identifies, measures, analyzes, interprets, and communicates information to enable an organization to pursue its goals.

Management accounting differs from financial accounting. While financial accounting provides information to people inside and, more importantly, people outside the organization, management accounting is mostly aimed at aiding managers inside the organization with decision making. Related Reading: Finance and Accounting Tips for Small Businesses

The Role of Management Accounting in an Organization

1. Helping Forecast the Future

Forecasting aids decision-making and answers questions, such as: Should the company invest in more equipment? Should it diversify into different markets? Should they buy another company? Management accounting helps in answering these critical questions and forecasting future trends in business.

2. Helping in Make-or-buy Decisions

Is it cheaper to procure materials or a product from a third party or manufacture them in-house? Cost and product availability are the deciding factors in this choice. Through management accounting, insights will be developed which will enable decision-making at both operational and strategic levels.

3. Forecasting Cash Flows

Predicting cash flows and the impact of cash flow on the business is essential. How much cost will the company incur in the future? Where will its revenues come from and will the revenues increase or decrease in the future? Management accounting involves designing budgets and trend charts, and managers use this information to decide how to allocate money and resources to generate the projected revenue growth. Related Reading: Steps for Effective Cash Flow Budget Planning

4. Helping Understand Performance Variances

Business performance discrepancies are variances between what was predicted and what is actually achieved. Management accounting uses analytical techniques to help the management build on positive variances and manage the negative ones.

5. Analyzing the Rate of Return

Before embarking on a project that requires heavy investments, the company would need to analyze the expected rate of return (ROR).

If given two or more investment opportunities, how should the company choose the most profitable one? In how many years would the company break even on a project? What are the cash flows likely to be? These are all vital questions that can be answered through management accounting.

Tools of Management Accounting

Management accounting employs various tools to forecast business trends:

  • Ratios
  • Skills and ability to read and analyze financial statements
  • Management information systems (MIS)
  • Key performance indicators (KPIs)
  • Simulations
  • Financial modeling
  • Game theory
  • Balance scorecards and any other set of data that the company can produce can be used to complete the analysis.

Final Thought

Management accounting uses activity-based costing to decide what to produce, how much to spend on a product, how much it will cost to service a customer, and what customers and products are profitable. They find the answers to these integral questions so that senior management can focus on maximizing revenue.

Information deluge has transformed how companies operate. Companies can no longer take vital decisions without considering the implications and outcomes. They can use intelligent analysis and management accounting to invest smartly, and at the same time prepare quickly for events that might impact them negatively.

Article by
Amy Pattinson

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