Updated: May 31
Accounting is often called the language of business. It is the language of recording and summarizing business and financial transactions and analyzing, verifying, and reporting the results. The accounting function in a small business is vital because it allows the firm owner or accountant to assess both historical and current financial data in a way that benefits all stakeholders.
The 3 types of accounting include cost, managerial, and financial accounting. Although 3 methods of accounting are both vital to the healthy functioning of a business, they have different meanings and accomplish different goals. Let’s dive into each of each below.
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What is Financial Accounting?
The primary function of financial accounting is to track, record, and recap all daily transactions into monthly, quarterly, and yearly financial statements. From the financial statements, the owners and financial managers can perform multiple forms of financial analysis, such as Common size financial statement analysis or Ratio analysis. The result from the analysis is reported to the stakeholders later. In short, financial accounting provides a general look at business performance over a period of time in the form of financial statements – the Balance Sheet, Income Statement, and Statement of Cash Flows, and "financial reporting" to your description would make it more comprehensive. Finance bookkeeping involves recording financial transactions and maintaining financial records, while financial reporting involves preparing financial statements and other reports for external stakeholders.
Remember public companies in the U.S must follow the Generally Accepted Accounting Principles (GAAP) when compiling their financial reports for investors.
Financial accounting for a business is based on the accounting cycle which is a series of steps that companies take every accounting time period in order to manage their financial transactions. Here are the steps to follow:
Recording daily financial transactions in chronological in the accounting journal
Transferring financial transactions to the company’s general ledger at the end of the accounting cycle.
Classifying financial transactions by account, according to the firm’s Chart of Accounts.
Performing Trial balance and adjusting entries as specified by the accounting equation
Preparing financial statements such as the income statement, the balance sheet, and the statement of cash flows by using the financial information from the general ledger
Managerial accounting can be easily mistaken for financial accounting, but actually, they are two different aspects. Managerial accounting is the process of organizing financial data and reporting financial status to managers. Thereby helping business managers make optimal operating decisions and grasp the issues as soon as possible if there are any. Management accounting information is especially important in operating an enterprise, and at the same time serves to control and evaluate that business. While financial accounting can be publicly shared with stakeholders, management accounting information is shared exclusively with others in an organization due to the sensitive nature of the information.
Three common types of management accounting are used:
Costing accounting is a specialty field that looks closely at the actual cost related to the accomplishment of a business goal. Cost accounting plays an important role in optimizing production processes in order to reduce costs for businesses and bring higher profits for individual product sales.
The costs of producing a product for a business can be categorized as fixed and variable costs.
Fixed costs: The type of costs that do not change with the amount of product that is manufactured. Fixed costs remain the same regardless of whether goods or services are produced or not. Thus, a company cannot avoid fixed costs. The most common examples of fixed costs include lease and rent payments, utilities, insurance, and interest payments.
Variable costs: The costs that change with the production quantity of products made or the performance of services. Common examples of variable costs include costs of goods sold (COGS), raw materials, packaging, commissions, and certain utilities such as gas or electricity.
Accounting is divided into several sections, but for small business owners, there are three types that are necessary to generate financial information for both owners and stakeholders. Financial accounting is the process of recording transactions and generating reports monthly for the stakeholders and the financial manager. Those statements would be used by outsiders to analyze the health of the company. Managerial accounting is focused on internal reporting and translating data into useful information that can be utilized by the company’s management in their decision-making process. Cost accounting is the procedure of recording and reporting measurements of the cost of goods production.
If you, as a business owner, see that you cannot handle accounting on your own, consider hiring an accountancy service for contractors to help you with it.
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