Cost Audit

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Definition of Cost Audit

The term Cost Audit means the examination of books of account and vouchers to ascertain their accuracy. The exact calculation of the cost of a product is called Cost Audit.

Meaning

Audit‘ may be described as a systematic examination of the books, vouchers and records of a business to enable the auditor to satisfy himself and to report whether the accounts thereof are properly drawn up so as to exhibit a true and fair view of the state of affairs of the business.

Initially, the scope of the audit was limited to the verification of the transactions of financial nature but in recent times, it has been extended to other fields also Cost audit ts one of them. Cost audit is concerned with the vinification of the correctness of the cost records or cost accounts maintained in a business concern.

The Institute of Cost & Works Accountants of India defines ‘cost audit‘ as “an audit of efficiency of minute details of expenditure While work is in progress and not a post-mortem examination. Financial audit is a ‘fait accompli’. Cost Audit is mainly a preventive measure, a guide for management policy and decision, in addition to being a barometer of performance”.

The Institute of Cost and Management U K has defined ‘Cost Audits’ as “the verification of the correctness of cost accounts and a check on the adherence to the cost accounting plan”.

According to Smith and Day, “By the term, ‘Cost-Audit’ is meant the detailed checking of the costing system, techniques and accounts to verify their correctness and to ensure adherence to the objective of cost accounting”.

In the words of R W Dobson, “Cost Audit is the verification of the correctness of cost accounts and of the adherence to the cost accountancy plans”.

On the basis of the analysis of the above definitions, it can be said that cost audit is the detailed checking as well as the verification of the correctness of costing techniques, systems and cost accounts. In any manufacturing concern or in a service organisation, it is generally felt necessary to compute the correct cost of or services so as to charge the customers correctly.

For this purpose, cost accounts or costing records are maintained. But, only the maintenance of cost accounts is not sufficient. In order to ascertain the true and accurate cost of products and services, it is necessary to ensure that these records are accurate and correct. As such, there is a need to get the costing records properly audited and checked by a properly qualified and trained professional.

Also Check:  Procedure of Cost Audit

Explanation

Cost Audit is an audit of the efficiency of minute details of expenditure while the work is in progress and not a post-mortem examination. The cost auditor can be appointed by the Board of Directors by taking prior permission of Central Government. The Cost Auditor enjoys all such rights as of Financial Auditor. The Cost Audit is useful for decision making, price determination, internal control and internal efficiency.

Objectives of cost audit

The following are the objectives of the Cost Audit:

(A) Prospective Aspects

(i) This aspect will deal with proper ascertainment and control of costs.
(ii) Detection of Errors, omission and commission and there check on its repetition.
(iii) Verifying that cost accounts are correctly maintained in conformity with accepted Cost Accounting principles adopted in the industry.
(iv) Ensuring that the Cost Account routine laid down is properly carried out.

(B) Constructive Aspect

A great deal will depend upon the attitude of management or the appointing authority and the scope of Audit. Auditor will work in an advisory capacity for the well-being of the owners of the company. His functions may thus extend to judge:

(i) Whether or not the existing procedures are adequate and effective to the management for making decisions.
(ii) Whether or not the projected expenditure could give optimum result.
(iii) Whether the money invested in one type of investment could be more profitably invested in another.
(iv) Whether return from capital employed is adequate if not, whether it can be bettered.

Summary of Objectives

Let us sum up these objectives as:

(i) To verify the Arithmetical Accuracy of cost books.
(ii) To keep Accounts as per costing principles.
(iii) To follow pre-determined norms and concepts of Cost Accounting.
(iv) To provide all data relating to cost records to the management for decision-making.
(v) To detect errors and frauds.
(vi) To make internal control more effective.

Objectives from the viewpoint of Government

(i) Is any specific industry needs special attention.
(ii) Is protection be given to specific industry.
(iii) How is the management of the industry?
(iv) Is the closure of industry beneficial to the management.
(v) Is that industry suitable to the public or not.
(vi) To recommend a reasonable selling price to the consumers.

Merits of Cost Audit

The chief merits of cost audit are as under:

(i) The Cost Audit checks the misuse of Raw Materials and Labour.
(ii) The Cost Audit is useful in checking inefficiencies.
(iii) The Cost Audit is very useful in highlighting irregularities and frauds.
(iv) It is useful for checking inefficiencies and uneconomic activities.
(v) The Cost Audit provides all information for immediate action.
(vi) This will facilitate Budgetary and standard cost technique.
(vii) It is very useful in the valuation of inventory and work-in-progress.
(viii) It is useful for cordial relation between employees and top management.
(ix) It recommends a reasonable price to the consumers.
(x) It highlights the good as well as the week points of organisation. Thus corrective action is suggested.

Also Check:  Need and Scope of Management Audit

Qualifications of Cost Audit

The Cost Auditor can be appointed from the following persons.

(i) Any person who is According to Cost and Works Accountant Act is a Cost Accountant.
(ii) Any person who is a Charted Accountants according to Charted Accountant Act and is a practicing Charted Accountant.
(iii) He should be a member of Institute of Chartered Accountant
(iv) He should be a fellow of 10 years standing.
(v) He should be practicing while appointed as Cost Accountant.

Disqualifications

The main disqualifications are as under.

(i) A person cannot be appointed as Cost Auditor who According to company Act 1956 U/S 226 is not competent to be appointed as Cost Auditor.
(ii) Any person who is appointed as Auditor of a company cannot be appointed as Cost Auditor of the same company.
(iii) Any person who becomes incompetent after his appointment as Cost Auditor he should stop working as cost Auditor since that date.

Scope of Cost Audit

The scope of cost audit has two important aspects viz.,

(i) Propriety Audit.
(ii) Efficiency Audit.

Propriety Audit:

This aspect of audit is concerned with actions and plans of management which affect the finance and expenditure of the business concern. Under this aspect, the cost auditor is required to ensure that an item of expenditure is sanctioned or approved by the proper authority. It is done with the help of documents and vouchers. In addition, the cost auditor has to ensure that the item of expenditure is proper and reasonable on the grounds of propriety.

Thus, the cost auditor has to report:

(a) Whether or not the planned expenditure could give optimum results.
(b) Whether or not the size or channels of investment were designed to produce the best results.
(c) Whether the return from investment in certain channels could be bettered by some alternative plan of action.

Efficiency Audit:

This aspect of cost audit is concerned with the evaluation of performances. It covers the verification of the facts that the expenditure has been incurred according to the plan and the results obtained have also been according to the plan. It covers the examination of the plan prepared in the form of budgets (financial and functional) and the comparison of the actual performance with the budgeted performance and analysing the reasons for variances.

Also Check:  Management Audit

Thus, the efficiency audit ensures that:

(a) every rupee invested in capital or in other fields gives the optimum return; and
(b) investment in different spheres of the business has been so balanced that it gives maximum results.

Therefore, the cost auditor plays the role both as consultant and financial adviser. He assists the Chief Executive of the business concern in judging the soundness of the financial plans and performances by co-ordinating the results of actions of heads of various departments.

Difference between cost audit and financial audit

The main differences between cost and financial audit are as below:

Cost AuditFinancial Audit
Where to use: Where Cost Accounting techniques are used such as Manufacturing organisations there cost Audit is needed. Where Financial Accounts are prepared. It is applied there.
Object: The object of cost audit is to see how to reduce cost of output.The object of financial audit is to see that books of account are accurate.
Variation of What: In cost Audit, total cost and per unit cost of output is shown or varified.The Financial Audit lays stress that Financial Position is shown true and fair.
Related to: It is only related to per unit cost of
output.
Financial Audit is related to total income and expenditure.
Laws: The Cost Audit is related to test working efficiency of the organisation.Financial Audit is to see whether laws and formalities are carried on or not.
Who does it: This Audit can be done by external parties such as Government, customer Trade Associations, Tribunals etc.The Financial Audit is done by owners of the organisation.
Valuation of closing stock: Here Cost Audit sees that the stock is not more than the required quantum.It is the duty of Financial Auditor to see whether the proper valuation of the stock is done or not.
Report: Here the report is submitted to the Government/Owner/Company Law Board.In this, Audit report is submitted to shareholders.
Scope: The Cost Audit is confined to Factory/Works.The Financial Audit is confined to the office.
Interest: This Audit protects the interest of Government and Producers.It protects the interest of shareholders.
Period: Its report not confined to any specific period but related to objectives.It is generally after one year or related to some special time.
Appointment: The Cost Audit is appointed with the prior permission of the Central Government or by the Board of Directors.The Financial Auditor is appointed in General meeting of the company.
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