Management Accounting and Financial Accounting

Introduction

Management accounting deals with using accounting information to perform the managerial functions of the organization. It provides managers with the basis to make proper decisions and hence be able to achieve the desired objectives. The organization professionals are involved in formulating and evaluating business operations, making budgets and forecasts, implementing and monitoring internal affairs and analyzing, providing, and measuring information to help achieve economic value (CIMA- Management Accounting report Vol. 76 1998).

Since the 1980s management accounting has been subjected to major criticisms importance to providing the relevant needs of an organization’s managers. As the control of organizations became more complex, management accountants continued to face major challenges in ensuring that the accounting procedures and techniques were in a position to cope with this complexity and the increasing changes in technology (ICAA and KPMG 2001).

The International Accounting Standards defines financial accounting, on the other hand, is that area of accountancy that is concerned with preparing financial statements based on the International Accounting Standards. It aims at using the accounting concepts to monitor the day to day transactions that are taking place in the organization and then use this information to prepare the final statements. Therefore financial accounting is the process of summarizing the day to day financial data that is obtained from the accounting records and publishing them in form of financial statements for them to be used by the general public, that is, investors, government agencies, financial institutions and other external stakeholders.

Main distinction between management accounting and financial accounting

According to the ACCA Focus (2003), one major aspect that distinguishes management accounting from the broad concept of financial accounting is the issue of principal-agent relationship. Whereas financial accounting is used to prepare financial accounts for the purpose of external stakeholders who are not involved in the day to day operations of the business, management accounting provides accounting information to help the organization’s managers to make appropriate decisions regarding the running of the organization.

Hence, the information obtained by financial accountants is used by the outsiders to be able to evaluate and be updated on the performance of the business. On the other hand, information obtained by managerial accountants is used by the internal managers to make appropriate managerial decisions.

Relationship between management accounting and financial accounting

There have been a number of scholars who have brought out the new era of accounting away from the traditional accounting, and Professional Associations of Management Accountants has tried to develop the relevance of management accounting by modifying their policies to emphasize the role of their members as pure decision-makers other than record makers. There has also great desire by consulting firms to replace the traditional management accounting systems with new and improved systems that are focused on the firm’s activities, time management and quality improvement. It is therefore clear that management accounting has begun a new phase in its formulation and it aims at re-organizing itself to improve the management practices (Accounting, Auditing and Accountability Journal, vol. 1 (1988).

The Chartered Institute of Management Accountants on the Management Accounting report (1998) argues that as firms attempt to change management accounting, they must take into account the context in which it is practiced. One factor which explains the ineffectiveness of management accounting in obtaining information suitable for the running operations of the organization is its dependence on the financial accounting concepts.

The dominance of financial accounting procedures, in academics as well as in practice inhibits the dynamic change of the management accounting systems to the changing business environment. Dominance in this aspect means that the clear relationship between financial accounting and management accounting is the relationship of power. That is to mean that financial accounting is dominant over management accounting and therefore management accounting is subservient or the subordinate system.

According to CIMA- Management Accounting Journal Vol. 76 (1998), management accountants have tried to come up with the real conditions of the business environment and have been coming up with techniques of improving the managerial conditions but the demands of financial accounting have greatly inhibited the implementation of these techniques. This only shows that the new managerial systems cannot be put into force without taking into consideration the existing financial accounting aspects. It implies that financial accounting plays the dominant role in the accounting policies and the possibility that financial accountants could affect the growth of management accounting is one factor that has over time been looked into by different scholars.

Different scholars have brought out the negative effects that could result when financial accounting information is used for managerial decision-making. They provide sufficient reasons why management accounting systems ought to be independent of financial accounting systems. When the financial accounting information dominates managerial accounting, the role of management accounting in the organizations is not fulfilled (ACCA Press Release 2001).

In early accountancy work, there was need to separate cost accounting systems from financial accounting systems but in the recent studies, the need to combine the two systems has been made possible by the establishment of the Enterprise Resource Planning (ERP) systems which focus on making maximum use of the available resources in the organization to make profits. If the factors that initially made management accounting systems to be dominated by financial accounting systems are still in existence, then it means that the management accounting information which is provided by the financial systems may not be relevant in the managerial decision-making process (ACCA Press Release 2001).

According to the Accounting, Auditing and Accountability Journal, Vol. 1 (1988), there is evidence that managerial accounting has for a long time been subservient to financial accounting and this can be summarized by the following forms of subordination:

1. There have been strong limitations exerted on management accounting as the financial accounting concepts require that cost accounts be incorporated into the ledger accounts.
2. Limitations have also been created on the ability of management accountants to make innovative ideas and decisions. This is due to the fact that management accountants are placed in the lower or subordinate levels in the organizational hierarchy.
3. Profession of Management Accountants’ body was formed by the Institute of Chartered Accountants and this has been seen that management accounting was created as a subordinate of a larger body and it ought to carry its activities from the concepts of the dominant financial accountancy.

Today’s Management accounting

During the late 1990s, many articles were developed by the accountancy institutes to analyze and promote change for management accounting. There was need to separate financial accounting with the management accounting for efficiency to be enhanced. The management accountants and other professionals developed strategies that were directed towards promoting independency in management accounting and the articles produced in this aspect sought to obtain answer for the following questions (ACCA Focus 2003):

1. What has been the cause of the complexity encountered by management accountants?
2. How has management accounting been influenced by pressures from the financial accounting concepts?
3. What skills should the management accountant acquire and enhance for management accounting to improve and to be of benefit to the organization?
4. What role should financial accountants play in enhancing the efficiency of the management accountants?

From the response to numerous surveys undertaken for professional accountancy bodies across the world (AICPA- The CPA Vision Project 1998), professional education and training provision on management accounting has been seen as a very important component in realizing the changes and complexities that are coming up in organizations. CIMA’s UK President (2002a) argued that management accounting should be used as an independent body and any changes arising ought to be used to help the accountants advance their skills. The following solutions have been derived to assist management accounting regain its independence, away from financial accounting:

1. There has been need to observe the activities of management accountants and professionals are now focusing on these activities.
2. The improvement of costing accounting procedures have helped the management accountants focus on the new changes for their benefit. Activity-based costing is the major improvement in cost accounting which has enabled management accountants to focus on their area and move away from the record preparing.
3. More advanced search for and elaboration of opportunities and threats provided by the changing accounting environment has enabled accountancy bodies to treat management accounting and financial accounting as two separate entities, each aiming for its own horizon of opportunities and threats.

Since the beginning of the 21^st Century, there has arisen the need to change the old concepts to the new ones in relation to the technological changes. The change has had a positive effect on management accounting with time and it is as a result of this that there is less dominance of financial accounting concepts towards the management accountancy.

Summary and Conclusion

With the different analysis made on financial accounting and management accounting, it is clear that financial accounting greatly affects the operation of the management accountants and this has for a long time affected the effective managerial decision-making process of most organizations. It is also important to note that subordination of management accounting is not an internal issue but a challenge that has affected organizations all over and it arose as early as during the establishment of the traditional cost accounting.

There has proven to be sufficient evidence that, despite the change in technology and in the accounting concepts, there is possibility that financial accounting concepts have been affecting the growth of management accounting. This has been proven by the CIMA Management Accounting report vol.76 (1998) in its analysis of the role of professional accountants’ dominance in formulating different accounting fields.

One element that explains the differences related to the ideologies of management accounting is the change in technology and the introduction of information systems in organizations. As much as management accountants aim at being independent, there are factors that are making their concepts lose meaning and in turn make it subservient to financial accounting. The Management Accounting Research Vol. 3 – www.echeat.com/essay (1992) brings out the following major concerns that make management accounting less relevant on its own:

1. Conventional management accounting hardly meets the needs of today’s changing environment especially with more advanced technology. This is because it mainly deals with theoretical concepts rather than the practical accounting way.
2. Activity-based costing is formed from the traditional costing methods, which sometimes provide misleading ideas necessary for the decision-making process.
3. Management accounting mainly focuses on internal activities and procedures and less on the external environment which greatly affects the decision-making process. This is unlike financial accountancy, which looks into all the external aspects of the business environment.

These concerns have had a significant effect on the dominance of financial accounting and as the management accountants try to focus on independence, they ought to take these issues into consideration.

On the other hand, the assertion that management accounting has become subservient to financial accounting means that a relationship of power existed between the two areas for a long period and this relationship of dominance and subordination was reflected by the Management Accounting Research Vol. 3 –www.echeat.com/essay (1992) by the following characteristics:

1. Management accountants have been working against their desires as their operations are defined by the financial accountants.
2. The development policies of the accounting profession still excludes the management accounting concepts, meaning that management accounting does not play any role in working towards the growth of accountancy.
3. Despite the new methods of management accounting and activity-based cost accounting, management accountants still form their policies and ideas based on the control of financial accounting concepts that have dominated the International Accounting Standards.

In conclusion, therefore, it can be argued that dominance of financial accountancy is still in existence in the accounting field and complexities in technology and the external environment are not helping to eliminate this dominance. Management accountants still feel constrained in coming up with their own techniques and are not able to implement their ideas.

Bibliography

AICPA, American Institute of CPAs, 1998. The CPA Vision Project: 2011 and Beyond. Web.

Chaston, I. and Mangles, T. 2001. The Role of Accountants in the Provision of E-commerce Support to Small UK Firms: ACCA Research Report No. 70. Web.

Chourides, P., Long-Bottom, D. and Murphy, W. 2003. Excellence in Knowledge Management: an Empirical study to Identify Critical factors and Performance Measures: Journal of Business Performance Management. Web.

Chua, W. 1988. Interpretive sociology and management accounting research – A critical review: Accounting, Auditing and Accountability Journal, Vol. 1. Web.

CIMA, Chartered Institute of Management Accountants, 1998. The Changing Role of the Management Accountant and its Implications for Qualification Development: Management Accounting, Vol.76. Web.

Cowe, R. 2001. The Boardroom in the 21st century: ACCA Press Release. Web.

Does Financial Accounting Dominate Management Accounting- A Research note: 1992. Management Accounting Research, Vol. 3. Web.

ICAA and KPMG. 1998: The CFO of the Future. Web.

ICAA and KPMG, 2001. New CFO of the Future: Finance Functions in the Twenty-First Century. Web.

ICAEW, The Institute of Chartered Accountants in England and Wales, 1997. Added value Professionals: Chartered Accountants in 2005. Consultation document. Web.

Stolowy, H and Lebas, M, 2006. Financial Accounting and Reporting: A Global Perspective: Cengage Learning.

Wilhelm, N, 2007. Management for Engineers, Technologists and Scientists: Juta & Company Ltd.

Warren, C, Fess, P & Reeve, J, 1996. Accounting: South-Western College Publishers, New Jersey.