Brush up on managerial accounting to become a trusted advisor
Which are you willing to pay more for: Something you need or something you want? Most people choose the latter. That’s why we have luxury cars that fulfill the same basic need as a second-hand Hyundai. But, most of us are willing to pay a whole lot more for the BMW we desire.
The same idea applies to financial accounting and managerial accounting for business owners. Financial accounting is compliance driven. To keep investors and other stakeholders happy, business owners need to issue financials, but managerial accounting is something business owners want because it helps them with strategies that can boost their bottom line.
If your accounting curriculum was anything like mine, it was heavy on financial accounting and light on managerial accounting. When I completed my master’s of accounting degree in the early 2000s, I had just one class in managerial accounting versus three in financial accounting, plus a separate class for not-for-profit and governmental accounting.
Interestingly, my managerial accounting professor told us that if we could learn how to put together a flexible budget in Microsoft Excel, we could make a decent side income doing that for local businesses. I never heard that about consolidations or calculating lease receivables.
What are the differences between financial and managerial accounting?
Financial accounting looks backward to measure past performance. Managerial accounting looks to the future, with the past as a starting point. Financial accounting has rules and standards, and is geared toward external users. Managerial accounting has no rules or standards, and is for internal users. Financial accounting tries to nail down the historical bottom line. Managerial accounting uses estimates to project what the future might be.
How can managerial accounting help business owners?
Managerial accounting focuses on analysis, projections, and estimates to help business owners with strategic decision making. Here are a few ways that managerial accountants can help business owners.
Cash flow projections. Nearly every business has cash flow issues at some point. Performing a cash flow projection can help business owners see the light at the end of the tunnel, and proactively plan to make sure resources such as lines of credit are in place before they’re needed.
Cost accounting. This can help management determine whether the pricing for an item is correct and which product lines are the most profitable. While you should keep in mind that all methods for cost accounting rely on estimates and are, therefore, not as precise as business owners might think, getting a handle on the direct costs and the overhead costs that go into making something can be an eye-opener.
Budgeting. Nearly every organization needs a budget to plan for the future. A budget helps business owners see the timing of future known expenses so they can plan for them. It helps them find holes in their future cash flows before they happen. It also helps control overhead expenses. A flexible budget allows business owners to try out different scenarios to see the impact.
Break-even analysis. When starting a new business or introducing a new product or service, a break-even analysis helps business owners estimate the volume of sales needed to cover forecasted fixed and variable costs. Business owners can use this to help them determine how much capital they’ll need to get started.
Identify bottlenecks or constraints. A business that can’t keep up with customer demand because there’s some non-obvious bottleneck gumming up the production line is almost worse than a business that can’t generate enough sales. A fun way to learn the theory of constraints is the book The Goal by Eliyahu Goldratt and Jeff Cox. This short and entertaining novel is about an accounting team that saved a factory by optimizing processes.
Evaluation of profits by product line, location, or customer. Business owners always need to know which of their products are most profitable – and which should be discontinued. Likewise, by understanding which types of customers generate the biggest long-term profit, marketing efforts can target that audience.
Scenario evaluation. A business owner might need help in deciding whether to lease or to buy a piece of equipment, or discontinue a product line, and what the impact of that might be.
These are just a few of the ways that managerial accounting can be used to help business owners. Adding just a few of these to your menu of services might do more than generate a “decent side income,” as my former professor told my class. They will also help your clients make the right decisions for achieving their dreams.