Accounting is the language in which economic communication takes place. It measures processes and communicates details of financial activities of economic business entities.  Accounting as a discipline can be classified into for major areas:  1) Financial Accounting, 2) Cost Accounting, 3) Audit, 4) Tax.  We will focus on the first two areas, comparing financial accounting and cost accounting.

DEFINITION

Financial Accounting: Bookkeeping and reporting that deal with financial statements intended for external decision makers like investors/stock holders, creditors, government agencies, regulators and suppliers. Reports profit/loss, cash flows and a firm's assets and liabilities which describe the firm's financial position to the external market.

Cost Accounting: Bookkeeping and reporting which serves internal decision makers within the company by providing more detailed information on economic transactions by business unit or department.  Incorporates actual and estimated/allocated values of economic transactions.

AIM

Financial Accounting: Enables an organization to furnish key economic details such as income, expenses, assets, liabilities and equity of owners.  It aims to provide a well-organized set of statements that evaluates the company’s position in the market and overall financial health for external actors to review.

Cost Accounting:  Its aim is to help internal decision makers with better financial decision making by providing detailed information for review.

LEGAL RESTRICTIONS

Financial Accounting: Abides by the norms of a particular jurisdiction. It is subject to country specific standards and rules such as GAAP, (Generally Accepted Accounting Principles), FASB (Financial Accounting Standard Board of America) and IFRS (International Financial Reporting Standards).  It also adheres to income tax law and company specific accounting preferences.

Cost Accounting: Free from such legal bindings and can follow different formats set by each company internally.

BUSINESS ANALYSIS

Financial Accounting: Reports total company profit and loss. Generally does not have a detailed split by each subunit.  Reports on expenses (both direct and indirect), sales and total profit or total loss.  Provides higher level analysis on health of the overall business.

Cost Accounting: Takes into account the costs incurred by each unit or product group. Provides details of labor cost, material cost, overhead cost, sales per unit and net profit/loss. Profit and loss analysis is generally deeper and more detailed.  One use of cost accounting is cost control by individual departments or subunits.  Managers generally use cost accounting to manage their businesses on a continuous basis and make cost reduction decisions.

PROCESS

Financial Accounting: The process begins with maintaining a trial balance with the help of double-entry bookkeeping.  The trial balance data is used to create the income statement, balance sheet and statement of cash flows.  

Cost Accounting: Revenue, raw material costs, labor costs, machinery costs, overhead costs, etc. are all totaled and then allocated either directly or indirectly across products and subunits.  These allocations help management identify unit prices and margins across products.  

In summary financial accounting is more external focused and used by external decision makers to evaluate the health of an organization.  Cost accounting on the other hand is more detailed and focuses on reporting unit cost and margin by product.  Cost accounting is used for monitoring each manager's product group or department on an everyday basis.


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