Cost accounting and financial accounting are both important accounting methods used by businesses to track and manage finances. While they both involve accounting principles and methods, there are significant differences between the two.
Financial accounting is a system that involves tracking and recording of financial transactions of a company. Financial accounting is concerned with providing financial information for external stakeholders, such as investors, lenders, and tax authorities. Financial accounting is used to create financial statements that provide a snapshot of the company at a given time. These financial statements include the income statement, balance sheet, and cash flow statement that report the company's profits, assets, liabilities, and cash flows.
On the other hand, cost accounting is an internal accounting method that tracks the cost of producing goods or services. Cost accounting is used by the business to determine if production costs are adding up to the products or services' final sales price. Cost accounting is concerned with the cost of production, such as raw materials, labor, overhead expenses, and other expenses.
The following points explain in more detail the difference between cost accounting and financial accounting.
The primary objective of financial accounting is to provide financial statements that follow Generally Accepted Accounting Principles (GAAP). These financial statements are used by external stakeholders such as investors, tax authorities, and creditors to evaluate the company's financial performance. It is essential for financial accounting to be highly accurate and reliable to ensure external stakeholders can make informed decisions.
On the other hand, the primary objective of cost accounting is to provide the management of the company with information that helps them make decisions about the products or services' cost. A company's management, such as the production manager or the financial manager, use the cost accounting information to make cost-saving decisions.
The focus of financial accounting is external stakeholders, while the focus of cost accounting is internal management of the business. Financial accounting is concerned with explaining how a company generates revenue and how it uses its assets and liabilities to develop financial statements that show its profitability, liquidity, and overall financial health.
Cost accounting is aimed at calculating the production costs of the business. Cost accounting provides information on how to reduce costs by eliminating wasteful practices, identifying areas where cost-saving opportunities exist, and optimizing production processes.
The financial accounting reports are concerned with the business' financial performance in the past. Financial accounting reports show the company's performance over a certain period, generally a quarter or a year. Financial statements such as the income statement, balance sheet, and cash flow statement represent the company's financial performance at a specific point in time.
Unlike financial accounting, cost accounting provides current data on the business's operational performance. Cost accounting provides information on the production costs of the current production cycle, allowing management to make decisions in real-time.
Financial accounting reports are used by external stakeholders as a basis to evaluate the business. These stakeholders include creditors, suppliers, investors, and regulatory authorities. Financial accounting reports are used to determine the company's creditworthiness, acquire investment or valuation, and inform tax authorities of the business's taxable income.
In contrast, cost accounting is used for internal management decision-making. Management uses cost accounting information to make informed decisions about pricing strategies, product mix, and budgeting decisions. Cost accounting information helps management to optimize production processes, review the production lines' efficiency, and determine whether production costs are reasonable.
5. Types of Reports
The reports produced by financial accounting are standard financial statements required by Generally Accepted Accounting Principles (GAAP). Standard financial statements include income statements, balance sheets, and cash flow statements. These reports are produced annually and provide a snapshot of the business's financial health.
On the other hand, cost accounting reports are customized for the business's specific needs. Reports are generated as and when required, often in real-time. The cost accounting report may include information about the cost involved in producing a specific product, comparing the costs of multiple products, or tracking wages paid to employees.
In conclusion, financial accounting and cost accounting are both important methods of accounting, but with different objectives. Financial accounting provides information that is used by external stakeholders to evaluate a company's financial performance, while cost accounting provides information to internal management that helps them make informed decisions on the cost of production. The difference between these two methods is significant, and businesses should understand what each method entails to use them to their advantage.