In this class, we will try to understand what is accounting and what's the difference between financial and management accounting. Let's start from the definition of accounting. We can define accounting as the process of identifying, classifying, recording information that are related to events that occur inside of the organization and reporting these events to decision-makers. This is a very long definition, but if we want to put this simply, we can say that if some events occur inside the company, it is required a process in order to identify these events, classify these events and reorganize this information in order to provide reports to support decision-makers. Basically, depending on who is the decision-maker, we can distinguish between financial and management accounting. If the decision maker is outside the organization, we can talk about financial accounting. Moreover, given that financial accounting provides information to people outside, we can define the role of financial accounting as an external accountability role. External accountability simply means that information are provided to external decision-makers. Moreover, if we have financial accounting, the definition of reports that are provided to people outside needs to follow very specific rules. These rules, we can say so that financial accounting is regulated area of accounting. So we need to follow very precise accounting policies and rules. It is exactly the opposite for the management accounting. If we have management accounting, decision-maker are managers inside the organization. This means that information are provided to someone that stays inside the company. This means that management accounting has the opposite role, which is to support the so-called internal accountability. Supposing internal accountability simply means that decision makers inside of the organization use these data both to make decisions but also to motivate people. Finally, in contraposition with respect to the financial accounting, if we have the management accounting, this is a non-regulated area, which means that there are no predefined rules that are defined in advance by the law that should be followed by the organization. This is the main difference between financial and management. Let's try to understand much better what is financial and what is management accounting. So let's start from the financial accounting. If you remember the distinction between shareholders and stakeholders, that's the purpose of financial accounting, to provide information both to shareholders and to stakeholders, because they are people outside the organization, that because of different reasons, they are interested in how the company is performing. Why? Because we have that shareholders that want to understand if they can receive a dividend by the company. Then we have that banks that are interested in performances of the company because they want to know if the company is able to deliver a loan back plus the interest. Then we have the governments that are also interested in how the company is performing, because they want to know if the company is able to pay taxes. Clients also are interested in the performances of the company, because they want to know if the company is able to deliver them the products they want. But also employees want to know if they are able to receive the money, so the wages and salaries at the end of the month. At the same time, we have the overall environment that is interested in the overall contribution that the company can provide to the overall community. Basically, these are the people interested in financial accounting. Now let's try to go back to the structure of financial and management accounting. If we have financial accounting, the idea is to provide information on the overall activity of the company. So if we think at the input, output model, so this structure in which we have that the company realizes some products and services, so the company realizes some outputs by starting from some inputs. With the financial accounting, the focus is on this overall structure, so of transformation of input and output without considering what there's inside. On the other way around, instead, if we have management accounting, the idea is to provide very detailed information for managers inside of the organization, which means that the focus of management accounting is on this black box. So with the management accounting, we are open what is happening inside here. So if we consider at the black-box, what we can have inside, with the management accounting, we are providing very detailed information on resources that are used inside this black box, where these resources can be raw materials. But then, we can have also label resources, and we can also have all of the indirect costs, which are the finance overhead both related to the production process and non-related to the production process. So all of these resources are detailed in the moment in which we're talking about management accounting, so we're opening this black box. Now, let's try to summarize all of the differences between management and financial accounting. Let's start from the decision maker. If we have financial accounting, as we have just discussed, the decision maker is outside the company. So we have shareholders and stakeholders that are interested in how the company is performing. If we have management accounting, the decision maker is the manager inside the company. Another difference is in terms of nature of the reports because if we have financial accounting, reports are mandated by nature. What does this mean? This means that companies are required by the law to provide this financial accounting statement. While the other way around, if we have management accounting, the nature of the report is voluntary. The reason why, is because the company can decide either to prepare these reports or not, because a company could also decide not to provide this kind of information to internal managers. Another difference is in terms of level of detail, because the level of detail is very low in terms of financial accounting. The purpose is to provide information on the overall structure of the organization. So we do not enter the detail of the specific activities or processes that are delivered by the company. The other way around, if we have management accounting, the level of detail is really high because detailed information are provided in terms of resources, and then processes, and then specific activity. So we can have a focus on a very specific activity that is carried out by the company itself. Another difference is in terms of reporting interval, because when we have financial accounting, we have reports that are prepared usually on an annual basis. In some cases, we can also have reports that are provided on a quarterly basis. It is exactly the opposite for management accounting, because we can have that information should be provided by managers very often because they use them for making decisions inside the company. So the frequency of this data is very high. We can have daily reports or we can have weekly or monthly, for example, reports. This is another difference. One last difference which is crucial, is the time horizon. Because financial accounting focuses on past information. This means that when the financial year ends, all of these information are aggregated and provided in these financial reports, which means that we are looking at what happened in the company in the past. The other way around, if we have management accounting, the focus is on the future. This means that the idea is to look at cost and resource information in order to support future decisions that are made by manager. For example, how much raw material should be purchased? How many products do we need to realize? So this is exactly the opposite. In this table, if you look at the entire table, we have summarizes basically the main differences between financial and management accounting. During the next classes of the course, we will try to understand in detail what is financial and what is management accounting.
