Why are Profit Reconciliation Accounts prepared?
The very purpose of maintaining financial accounts is the ascertainment of profit or loss for a specific period and also to know the financial position of the company at the end of the accounting period.
The financial accounts deal with the classification, recording, and summarization of transactions of the concern and end up with the preparation of financial statements like Profit and Loss Account and Balance Sheet for the accounting period.
In the case of cost accounts, the accounts are maintained to know the cost of production of goods and services in stage wise and cost and profit per unit. In this way, cost accounting deals with the ascertainment of cost of product, absorption of overheads into product cost in division wise and fixed the product wise profitability.
Both systems of accounts are maintained under different principles, methods and practices. Moreover, the object of maintaining financial accounts is differing from the object of maintaining cost accounts. Hence, there is a possibility of showing different figures of profit or loss in cost accounts and financial accounts. It leads to the preparation of reconciliation statement which shows the reasons for difference profit or loss in the financial and cost accounts.
Objectives of preparing Profit Reconciliation Statement
The following are the objectives of preparing the profit reconciliation statement.
1. To find the reasons for disagreement of profit or loss shown both in the financial books and cost books.
2. To check the arithmetic accuracy of financial books and cost books.
3. To establish the reliability of both financial and cost books.
Need and Importance of Reconciliation
The preparation of profit reconciliation statement is necessary because of the following reasons.
1. Different approaches and principles are followed for maintaining both financial and cost books. Moreover, financial and cost books are kept separately.
2. There is a need of adjusting over or under absorption of overhead balances.
3. The management cannot take the quality decision if a different set of books are shown different profit or loss figures. If the reasons are known for such differences, the management can take the wise decision without any hesitation.
4. Reconciliation facilitates the finding out of reasons for the disagreement of two different profit figures.
5. The management can identify the factors which are responsible for increasing or decreasing the profits. These identified factors can be controlled by the management if required.
6. There is a need for coordination between the financial and cost department. The reconciliation procedure promotes the work of coordination.
7. Reconciliation helps the management for formulating the policies regarding stores, cost reduction, overheads, depreciation and stock valuation.
8. There is a possibility of analyzing and highlighting the reasons for disagreement.
9. The accuracy of cost accounting methods and practices followed by the company is verified with the help of financial accounts profit or loss.
10. It helps the management in identification of reasons for deviation in profit between cost accounts and financial accounts for internal control and efficient management of operations.