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What are the 3 Ways of Showing Financial Accountability?

By Darren Finkelstein
By Darren Finkelstein

The Accountability Guy®

Home » Financial accountability » What are the 3 Ways of Showing Financial Accountability?
Business women calculating business finances.

Financial accountability is one of the key considerations for any business. After all, the money you spend should be accounted for to ensure it has gone in the right direction. The question is, how do you show the current state of your company’s finances? Are all the methods equally valuable, or are some superior to others? Without answering these critical questions, no firm can successfully demonstrate that it is financially accountable. 

So, let’s discuss some of the time-tested methods to show financial accountability and how they work.

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Table of Contents

The Three Pillars of Financial Accountability

Auditing, management accounting, and financial reporting are the three main components of financial accountability. Let’s explore them deeper and understand why they are crucial.

1. Auditing

Auditing analyses income statements, balance sheets, cash flow statements, and the like. The World Auditing and Assurance Standard Board publishes auditing guidelines for corporations worldwide called the International Standards on Auditing (ISA). Auditing is usually divided into internal and external auditing, the latter done by a third party to ensure fairness in financial practices.

External Audits

Audits from outside parties can be tremendously valuable when checking your company’s financial health. They remove the potential bias and conflict of interest from financial analysis and reveal an accurate picture of a corporation’s finances. They ensure that firms stay clear of inaccurate ‘clean opinions that could result from internal audits because external audits use a different set of criteria.

Internal Audits

Internal audits mean minimum outside involvement, and the results are directly presented to management and the board of directors. Although the internal auditors aren’t hired by the company directly, they use the company’s auditing standards instead of relying on external standards. Internal audits are valuable for the management because they point out any inconsistencies in the financial data that can be corrected before an external audit.

2. Management Accounting

Managerial or management accounting means analysing and communicating a company’s financial data to the managers to achieve specific goals. It differs from financial accounting in that it assists the company’s internal people to make better decisions, creating robust financial accountability mechanisms. Following are some of the major types of management accounting:

Product Costing and Valuation

Product costing and valuation involves determining product manufacturing costs and associated overheads. The costs are broken into various categories, such as variable and fixed, to represent overheads accurately. Moreover, managerial accounting uses direct costs to accurately assess the costs of goods sold and the current inventory.

Cash Flow and Inventory Turnover Analysis

Cash flow analysis determines how decisions impact the cash flow of a business. To accurately measure the impact of a single financial transaction, managerial accountants usually rely on capital management strategies instead of accrual accounting. 

Inventory turnover analysis calculates how frequently your company sells and restocks its products. It is crucial to help management make production, marketing, and purchasing decisions. Similarly, this analysis involves determining the carrying cost of inventory, meaning how much it costs the company to store its current inventory.

Constraint Analysis

Managerial accounting helps companies identify bottlenecks and constraints in their production and supply chain processes. It shows the impact of these constraints on a company’s revenue, profits, and cash flow.

Financial Leverage Metrics

Leverage simply means the debt a company has accrued to fund its operations or expansion. Managerial accountants can analyse the balance sheets and provide valuable tools to the company’s management to understand the debt situation. It helps the management become more efficient and accountable, putting the leverage to best use

Some of the most important metrics regarding financial leverage are the following:

  • Debt to equity
  • Return on equity
  • Return on invested capital 

 

Analyzing data based on these metrics can help you be more confident when it becomes accountable to investors, creditors, and the board of directors.

3. Financial Reporting

Financial reporting involves communicating the financial details of your firm, including income statements, cash flow statements, and balance sheets, to internal and external stakeholders. Companies usually adhere to the US Generally Accepted Accounting Principles (GAAP) or the International Financial Reporting Standards (IFRS) for financial reporting.

Following are some reasons why financial reporting matters:

  • It is helpful when companies want to raise capital through loans and public or private investments.
  • Allows robust internal management and financial accountability, such as measuring KPIs and compensations.
  • It adheres to compliance regulations and laws, helping a firm become externally accountable.

A Tabular Overview of Audit, Management Accounting, and Financial Reporting

 

Who Uses it?

Purpose

Reporting Standards

Audit

Investors, creditors, and regulators

An independent analysis of the company’s finances

GAAP (Generally Accepted Accounting Principles) or IFRS (International Financial Reporting Standards)

Managerial Accounting

Managers and executives

Detailed financial information for improving internal decision-making

Internal company standards

Financial Reporting

Managers, creditors, investors, and regulators

Communicates a company’s financial health to internal and external stakeholders

GAAP or IFRS

Conclusion

Just showing that you are financially accountable isn’t enough; you must adopt the correct practices to ensure everyone understands your motives and goals. Without financial accountability, your business will falter in the long run and stay well behind competitors. 

When it comes to accountability, it is crucial to get help from a professional. 

If you need assistance you can take a look at my accountability coaching packages or take an accountability assessment today. Achieve clarity in your ideas, get started and get stuff done!