As a startup founder, you want to make decisions that are in the best interest of your new venture. In the economic climate post-pandemic, many startups shifted focus to maintaining revenue and tightening budgets.
It’s a nail-biting situation for a lot of founders. Managing finances on its own is complicated. Adding on a recession adds more stress and significance to handling your startup’s finances efficiently.
But it can be difficult for you to determine the best financial decisions without access to the right information. You need a strong understanding of your internal financial data to identify areas for change or success.
That’s where managerial accounting comes in. It allows you to analyze and interpret financial information, giving you a better understanding of how different elements of your company affect finances. By leveraging this data, you can make decisions that maximize your business's positive impacts.
What Is Managerial Accounting?
Managerial accounting is a process of gathering and analyzing financial data from individual areas of your business and disseminating it to internal stakeholders to make well-informed decisions. The information gathered is strictly for internal decision-making purposes and not meant for public disclosure or tax filings.
Let's say you manufacture a product. You can use managerial accounting internally to determine the costs of producing that item or adjust your pricing to cover all expenses and profit margins. The information can also help you identify expensive processes and reduce production costs.
Does Managerial Accounting Follow GAAP?
Managerial accounting does not need to follow Generally Accepted Accounting Principles (GAAP). GAAP is a set of standard guidelines for external financial statements. Since managerial accounting is an internal process, it doesn't have to adhere to these regulations.
However, even though it is not a requirement, using GAAP principles in your managerial accounting process is still beneficial. Following these guidelines can help improve the accuracy and consistency of your financial reporting and ensure you’re filing all reports legally.
Importance Of Managerial Accounting
By keeping a pulse on all aspects of your business, you can identify potential problems early on and take corrective action before they become larger issues.
You can determine which products are profitable and which products or services need reworked to enhance profitability.
Additionally, having a comprehensive understanding of your business can help you communicate the vision and goals of your company more effectively to employees, investors, and other stakeholders.
Types Of Managerial Accounting
Each accounting type produces different managerial accounting reports. Below are the primary types of financial statements and reports used for managerial accounting.
Cash Flow Statement Analysis
Unlike a balance sheet trend analysis, a cash flow statement analysis looks at how much cash the business generates or uses during a specific accounting period. Regardless of the analysis method, it will show how liabilities and operating expenses affect your business's cash.
If your business needs new equipment, a cash flow statement can show how that would impact your business's financial position.
Accounts Receivable (AR) Management
AR management is a financial trends analysis of your accounts receivable. Your AR ledger includes customers' money owed to your business for purchased goods or services.
AR can help identify trends, such as slow-paying customers, and allow you to address them before they become a more significant problem. If your startup needs to budget for additional inventory, you can see how much money customers owe you before investing in new stock.
Budget Analysis
Budget analysis is a type of managerial accounting that looks at how the business performs relative to its budget. By comparing the budgeted amounts with actual results, you can identify areas where spending or income has exceeded the budget and make decisions to improve performance and business key performance indicators (KPIs).
For example, if you are spending too much on advertising, budget analysis can help you identify areas where you can reduce costs.
Financial Leverage Metrics
Financial leverage metrics look at maximizing the return on investment (ROI) of the borrowed or invested money. By understanding how different financial instruments affect your ROI, you can determine the best action for allocating funds.
For example, if investors offer you a loan with specific terms, financial leverage metrics can help you identify the best way to use those funds while meeting the terms of the loan.
Constraint Analysis
Constraint analysis aims to identify anything that impedes production, sales, or other operations. As with cash flow analysis, it examines a business's financials, such as revenue and expenses, to locate any issues hindering progress.
If you are having difficulty meeting customer demand, constraint analysis can help identify where bottlenecks are occurring and how you can adjust processes to optimize performance.
Three Pillars Of Managerial Accounting
Startups face many challenges as they try to grow their businesses. Managerial accounting can help startups overcome these challenges by providing information and analysis to support decision-making, planning, and control. Let’s take a closer look at these three pillars below.
1. Financial Planning
Financial planning consists of setting long-term goals, having the ability to budget and forecast, and establishing strategies to reach those goals. It includes analyzing the current financial situation and making decisions about investments, cash flow management, debt repayment, and other factors that will help ensure financial success.
2. Decision-Making
Decision-making involves:
- Analyzing data
- Weighing the pros and cons
- Choosing a course of action
Without the necessary data, founders lack clear insight, leading to a greater chance of failure. For example, if your company has an app and your customer base is growing and requesting additional features, you might need to determine if you have enough funds to hire two more software engineers.
In this scenario, you would examine cash flow, debts, and the number of customers to determine if and when the investment in additional salaries is feasible.
Controlling
Post financial planning and decision-making, it’s up to managerial accountants to control the actions of different departments by comparing actual results with the predictions you made. This could be done, for example, by looking at a department’s expenses and comparing them to the already set budget. From this point, you find yourself back to “decision-making” to adjust business actions as needed.
Learn more about budgeting and financial analysis here.
Managerial Analysis Tools
These tools can help you make sense of your financial data and take the right actions to increase profits and reduce costs. Founders should utilize each tool consistently to ensure cost does not outweigh profits.
Revenue And Sales Projections
Revenue and sales are the lifeblood of any business, and it's essential to track these financial KPIs closely. By forecasting revenue and sales, you can identify where to cut costs or adjust your strategy to meet your goals.
Managing Costs
High sales can be great, but without proper cost management, profits can quickly disappear. By analyzing your costs and identifying areas for improvement, you can maximize your ROI and ensure your business is running as efficiently as possible.
Managing Cash Flow
Cash flow statements provide insight into the current financial state of your business. They show how money comes in and goes out, so you can quickly identify any problems holding back growth or leading to losses. The balance needed to create profitability can easily disappear without proper and consistent management.
Limits To Managerial Accounting
Although managerial accounting is a powerful tool for helping founders make informed decisions, there are limits to the types of insights it can provide.
For example, managerial accounting focuses primarily on financial data, so it does not provide insight into customer trends, industry developments, or other external forces that can affect your business.
Some additional limitations to managerial accounting include the following:
- Managerial accounting does not adhere to GAAP, so accuracy is not guaranteed
- The data used is internal only and doesn't consider external factors
- It can be too focused on short-term profitability and not long-term growth strategies
- Unless you have the right tools and personnel, it can be difficult to dig down into the numbers to extract meaningful insights
What Is The Difference Between Financial And Managerial Accounting?
Financial accounting provides financial information to external stakeholders, while managerial accounting helps internal decision-makers plan and control operations. Although financial and managerial accounting differs in purpose, they are always intertwined.
Financial accounting provides the data that managerial accounting needs to make decisions. By using both financial and managerial accounting, founders get a clear picture of a startup's fiscal health, allowing them to make educated decisions toward future growth and success.
Without a solid foundation of financial accounting data, managerial accountants cannot produce accurate internal reports. Therefore, incorporating both forms of accounting is essential for any business to achieve its goals.
Isn't Financial Accounting Enough?
Startups need more insight and analysis than accounting can provide. The goal of managerial accounting is to optimize the internal processes of your business for growth and success. In contrast, accounting is merely the act of recording data as it comes.
To achieve sustainable growth, founders need a clear view of their startups' finances and operations. Decisions cannot be based solely on accounting. Instead, use managerial accounting to get a complete picture and make better-informed decisions.
Financial data can reveal trends in operations that are not readily apparent. Founders can use this information to make long-term decisions and implement strategies to succeed.
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