CU-MCOM-SEM-III-Advanced Auditing (1)

___________________________________________________________________________ ____________________________________________________________________ 2. Analyse the compensation trend in IT industry of last few years. ___________________________________________________________________________ ____________________________________________________________________ 6.8 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. Total strength of the Board of Directors of a company is ten. How many directors are liable to retire by rotation at the next annual general meeting? 2. Can a director be paid compensation for loss of office? Comment. 3. Do you think Government also plays an important role in removal of the managerial personnel on a reference made to the CLB? Justify. 4. The directors of a company borrow ` 50000/- from A on a transaction which is ultra vires the company. Discuss the rights of A against the company and its directors. 5. You are interested in getting appointed as the secretary of a company. Elucidate the qualifications you must possess for appointment as a company secretary Long Questions 1. Are company directors’ trustees or agents of the company? Comment. 2. Examine the criteria for the disqualifications of a person for appointment as the director of a company 3. Examine the critical situation under which a director would vacate office. 4. ABCD Co. Ltd. wants to make a contract with a partnership. Four of the five directors of the company are partners of such partnership. How can the contract be executed? 5. Elucidate the requirements of the Companies Act with respect to contracts in which particular directors are interested. 101 CU IDOL SELF LEARNING MATERIAL (SLM)

B. Multiple choice Questions 102 1. Investigation of books of accounts and records is: a. Not legally compulsory b. Compulsory c. Compulsory as per companies act d. Compulsory as Income Tax Act 2. Duties of an auditor is _______. a. Statutory duties imposed by the Companies Act b. Duties imposed by legal or court decisions c. Duties arising out of professional etiquette d. All of these 3. Statutory liabilities of an auditor include ________. a. Liability under Companies Act 2013 b. Liability under the Indian Penal Code c. Both A&B d. None of these 4. The duties of internal auditor are prescribed by a. Companies act b. Company law board c. Management d. ICAI CU IDOL SELF LEARNING MATERIAL (SLM)

Answers 1 – a, 2 – d, 3 – c, 4 – c, 6.9 REFERENCES  Arens and Lobbecke, Auditing and integrated approach  Bubbard and Johnson, Auditing  Gupta, K., Contemporary auditing, Tata McGraw Hill  Knechel, R. W., Auditing, South-Western College Publishing.  Woolf–McDonald, E. and Evans, Advanced auditing and Investigation 103 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 7 - MEANING OF TRUE AND FAIR VIEW IN AUDIT Structure 7.0 Learning Objectives 7.1 Audit of branches 7.2 Joint audits 7.3 Concept of true and fair and materiality and audit risk with respect to audit of companies 7.4 Audit Reports 7.5 Summary 7.6 Key Words 7.7 Learning Activity 7.8 Unit End Questions 7.9 References 7.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Describe nature of Meaning Of True And Fair View In Audit  Identify scope of Meaning Of True And Fair View In Audit  Benefits of Meaning Of True And Fair View In Audit  Process of Meaning Of True And Fair View In Audit 7.1 AUDIT OF BRANCHES As per the Companies Act, 2013 every Registered Company has to maintain the books of accounts and other relevant documents for its every branch, in addition to the books of accounts of its Head Office. The Books of accounts, documents and other relevant documents shall be maintained in the same manner as of the head office for every financial year which gives a true and fair view of the state of the affairs of the company. 104 CU IDOL SELF LEARNING MATERIAL (SLM)

Such Books of accounts shall be audited either by the Company Auditor or the Company may appoint a separate auditor to this effect and such auditor shall be called Branch Auditor. What is Branch Office? Section 2 subsection 14 of the Companies Act, 2013 defines a branch office. As per the section “branch office”, in relation to a company, means any establishment described as such by the company. Process for Appointment of Branch Auditor There shall be no separate procedure for appointment of the branch auditor. The Process shall be the same as applicable for the appointment of the Statutory Auditor of the company. Provisions relating to Branch Audit As per Section 143(8): Where a company has one or more branch office, the accounts of that office/offices shall be audited either by the company’s auditor himself or by any other person, who is qualified to be appointed as an auditor as per the provisions of the Act to act as branch auditor according to section 139 of the Companies Act, 2013. Branch Situated outside India Where the branch office of the Company is situated in a country outside India, the accounts of the branch office shall be audited either by the company’s auditor or by an accountant or by any other person duly qualified to act as an auditor of the accounts of the branch office in accordance with the laws of that country. The duties and powers of the company’s auditor in relation to the audit of the branch and also the branch auditor, if any, shall be such as may be prescribed. Duties and Powers of Branch Auditor Section 143(1) to Section 143(4) and Rule 12 of the Companies (Audit and Auditors) Rules, 2014 define the Powers and Duties of the Branch Auditor. The Powers of the Branch Auditor shall be as defined as per subsection (1) to Subsection (4) of section 143 i.e. he shall have right of access at all times to books of accounts, Vouchers, and other relevant documents, whether kept at the branch office or elsewhere. 7.2 JOINT AUDITS Most of the industries carry out multiple production in their factories. Two or more products can be produced simultaneously from the use of a single raw material. There are many industries which produce Joint Product and By Products. Some examples of industries where Joint 105 CU IDOL SELF LEARNING MATERIAL (SLM)

Products and By Product are produced are as under : Industry Joint Products and By products Oil Oil Cakes Dairy Butter, Cream, Ice-cream Steel Iron, Steel Sugar Sugar, Paper, Country Liquor. Joint Products: When two or more products are separated in the course of processing, each having a sufficiently high saleable Value, these are called joint products. Thus a joint product is any output of a manufacturingprocess producing multiple products that add significantly to the total market value of all output. Joint products require simultaneous common processing. They have a physical relationship and processing of one of the joint products simultaneously results in the processing of the other joint products. Joint products are the primary objectives of manufacturingprocess. By Products : By products is a product which is recovered incidentally from the material used in the manufacture of main product. The value of Byproduct is generally less than the values of main products. Thus, a product which is secondary to the main product and obtained during the course of manufacture of main product is a By-product. By-product is generally subject to further processing after separation from the main product. When income from By product is negligible, it is treated as miscellaneous income. However, when the income from by product is considerable, the market value of the By- product after deducting costs and expenses incurred from the point of separation to the actual sales should be credited to the main product process account. If the by product is sold after further processing the main product process cost account must be credited with 106 CU IDOL SELF LEARNING MATERIAL (SLM)

the market value of the By-product after deducting the further processing charges from the point of separation. 7.3 CONCEPT OF TRUE AND FAIR AND MATERIALITY AND AUDIT RISK WITH RESPECT TO AUDIT OF COMPANIES: Definition True and fair view in auditing means that the financial statements are free from material misstatements and faithfully represent the financial performance and position of the entity. Explanation Although the expression of true and fair view is not strictly defined in the accounting literature, we may derive the following general conclusions as to its meaning: True suggests that the financial statements are factually correct and have been prepared according to applicable reporting framework such as the IFRS and they do not contain any material misstatements that may mislead the users. Misstatements may result from material errors or omissions of transactions & balances in the financial statements. Fair implies that the financial statements present the information faithfully without any element of bias and they reflect the economic substance of transactions rather than just their legal form. Application & Importance Preparation of true and fair financial statements has been expressly recognized as one of the responsibilities of the directors of companies in the corporate law of several countries such as in the Companies Act 2006 in the UK. Auditors must therefore consider whether directors have fulfilled their responsibility for the preparation of true and fair financial statements when providing an audit opinion. Company law of certain jurisdictions require the auditors to expressly state in their audit report whether in their opinion the financial statements present a true and fair view of the financial performance and position of the entity. 7.4 AUDIT REPORTS Working papers should record the audit plan, nature, timing and extent of auditing 107 CU IDOL SELF LEARNING MATERIAL (SLM)

procedures performed, and the conclusions drawn from theevidence obtained. The form and content of working papers are affected by matters such as:  Nature of the engagement.  Form of the auditor’s report.  Nature and complexity of the client’s business.  Nature and condition of the client’s records and degree of reliance oninternal controls.  Need in particular circumstances for direction, supervision and review ofwork performed by assistants. Working papers should be designed and properly organized to meet the circumstances of each audit and the auditor’s needs in respect thereof. The standardization of working papers ( for example, checklists, specimen letters, standard organisation of working papers) improves the efficiency with which they are prepared and reviewed. It also facilitates the delegation of work while providing a means to control its quality. Working papers should be sufficiently complete and detailed for an auditor to obtain an overall understanding of the audit. The extent of the documentation is a matter of professional judgement since it is neither necessary nor practical that every observation, consideration, consideration or conclusion is documented by the auditor in his working papers. A Permanent Audit File A permanent audit file normally includes  Information concerning the legal and organizational structure of the entity. In case of a company, this includes the memorandum and Article of association. In the case of a statutory corporation, this includes the act and regulations under which the corporation functions.  Extracts or copies of important legal documents, agreements and minute relevant to the audit.  A record of the study and the evaluation of the internal controls related to the accounting system. This might be in the form of narrative descriptions, 108 CU IDOL SELF LEARNING MATERIAL (SLM)

questionnaires or flow charts, or some combination thereof.  Copies of audited financial statements for previous years.  Analysis of significant ratios and trends.  Copies of management letters issued by the auditor, if any.  Record of communication with the retiring auditor, if any, before acceptance of the appointment as auditor.  Notes regarding significant accounting policies.  Significant audit observations of earlier years. The Current File The current file normally includes  Correspondence relating to acceptance of annual reappointment.  Extracts of important matters in the minutes of board meetings and general meetings as relevant to audit.  Evidence of the planning of the audit and audit programme.  Analysis of transactions and balances.  A record of the nature, timing and extent of auditing procedures performed, and the results of such procedures.  Evidence that the work performed by assistants was supervised and reviewed.  Copies of communication with other auditors, experts and other third parties.  Letters of representation or confirmation received from the client.  Conclusions reached by the auditor concerning significant aspects of the audit, including the manner in which exceptions and unusual matters, if any, disclosed by the auditor’s procedures were resolved ortreated.  Copies of the financial information being reported on the related audit reports. MAIN FUNCTIONS/ IMPORTANCE 109 CU IDOL SELF LEARNING MATERIAL (SLM)

i. It provides guidance to the audit staff with regards to the manner ofchecking the schedules. ii. The auditor is able to fix responsibility on the staff member who signeach schedule checked by him. iii. It acts as an evidence in the court of law when a charge ofnegligence is brought against the auditor. iv. It acts as the process of planning for the auditor so that he canestimate the time that may be required for checking the schedules. The auditor should adopt reasonable procedures for custody and confidentiality of his working papers and should retain them for a period of time sufficient to meet the needs of his practice and satisfy any pertinent legal or professional requirement of record retention. Clarification On The Auditor’s Rights Where Clients And Other Auditors Seek Access To Their Audit Working Papers. 1. Auditing and Assurance standard (AAS) 1, “Basic principles governing an audit”, states in para6: “The auditor should respect the confidentiality of information acquired in the course of his work and should not disclosed any such information to a third party without specific authority or unless there is a legal or professional duty to disclosed”. Auditing and Assurance standard (AAS) 3, “Documentation” (paragraph 13), states: ‘working papers are the property of the auditor. The auditor may at his discretion, make portions of or extracts from his working papers available to his client. “AAS 3 further requires (paragraph 14)”,inter alia, that the “auditor should adopt reasonable procedures for custody and confidentiality of his working papers.” 2. Part l of the second schedule to the chartered Accountants Act, 1949, provides that “A Chartered Accountant in practice shall be deemed to be guilty of professional misconduct, if he disclosed information acquired in the course of his professional engagement to any person other than his client, without the consent of his client or otherwise than asrequired by any law for the time being in force.” 3. Request are sometime received by the members of the institute, who have/had been performing the duties as the auditor of an enterprises, to provide access to their audit working papers. The request may be made by the clients or other auditors of the 110 CU IDOL SELF LEARNING MATERIAL (SLM)

enterprise or its related enterprise such as a parent enterprise. 4. It is hereby clarified that except to the extent stated in para 5 below, an auditor is not required to provide the client or the other auditors of the same enterprise or its related enterprise such as a parent or a subsidiary, access to his audit working papers. The main auditors of an enterprise donot have right of access to the audit working papers of the branch auditors. In the case of a company, the statutory auditor has to consider the report of the branch auditor and has a right to seek clarifications and/or to visit the branch if he deems it necessary to do so for the performance of the duties as auditor. An auditor can rely on the work of another auditor, without having any right of access to the audit working papers of the other auditor. For this purpose, the term ‘auditor’ includes ‘internal auditor’. 5. As stated in para 4, the client does not have a right to access the working papers of the auditor. However, the auditor may, at his discretion, in case considered appropriate by him, make portions of or extracts fromhis working papers available to the client. FEATURES As audit working papers are quite useful they should be preparedproperly. They should have the following essentials: a) Standard form - they should be prepared in a standard form. The subject matter should be arranged under various heading and sub- headings. b) Proper layout – there should be proper design and layout of the working papers. This will bring uniformity into the maintenance of working papers. c) Space for margins – there should be enough space for margin after each note for noting down the auditor’s remarks and decisions. d) proper organisation and arrangement – the working papers should be properly organized and arranged. In other words the working papers should be so organized and arranged that the auditor will be able to locate any particular matter easily. e) Completeness – the audit working papers should be complete in all respects. They should contain detailed information on all essential facts or points. f) Clarity and Accuracy – the working papers should be quite clear and self- explanatory. The information contained in the working papers should be accurate. 111 CU IDOL SELF LEARNING MATERIAL (SLM)

g) Good quality paper – paper of good quality should be used for working papers as they are subject to frequent handling further the paper used should be of uniform and convenient size so that they canbe easily filed. OWNERSHIP, AND CUSTODY OF WORKING PAPERS Working papers are the property of the auditor. The auditor may, at his discretion may, at his discretion, make portions of or extracts from his working papers available to his client. Audit working papers are the property of the auditor and he is entitled to retain them. (chantery martin& co. v. martin). 7.5 SUMMARY In a situation where the auditor concludes that it is important to draw the attention of users of the financial statement to a particular reported item, he/she may include an Emphasis of Matter paragraph in his / her audit report. In this case, the auditor is not required to modify his / her opinion. The paragraph is added when the issue is not a key audit matter and only requires disclosure for a better understanding of the financial statements. 7.6 KEY WORDS/ABBREVIATIONS  Articles of Association: These are a company’s bye laws and regulations, which govern the management of its internal affairs and the conduct of its business.  Doctrine of Constructive Notice: This doctrine enunciates that any person dealing with the company is presumed to have read its memorandum and articles.  Doctrine of Indoor Management: This doctrine enunciates that any person dealing with the company is entitled to assume that he provisions of the article have been observed by the company.  Inter se: The provision of articles which bind the members one to another so far as rights and duties arising from the articles are concerned.  Public Company: It means a company which is not a private; has a minimum paid-up capital of ` 5 lakhs. 112 CU IDOL SELF LEARNING MATERIAL (SLM)

7.7 LEARNING ACTIVITY A company, in which the directors hold majority of the shares, altered its articles so as to give power to directors to require any shareholder, who competed with the company’s business, to transfer his shares, at their full value, to any nominee of the directors. S had some shares in the company. Is S bound by the alteration? ___________________________________________________________________________ ____________________________________________________________________ 7.8 UNIT END QUESTIONS A. Descriptive Questions Short Questions 1. What is true & fair 2. What is standard form 3. Auditing and Assurance standard (AAS) Long Questions 1. Explain Features of Audit Paper 2. Explain concept of true and fair and materiality and audit risk with respect to audit of companies. 3. Discuss Joint Audits in detail B. Multi Choice questions 1. ______ is the medium through which an auditor expresses his opinion on the state of affairs of the client’s business. a. Audit report b. Audit certificate 113 CU IDOL SELF LEARNING MATERIAL (SLM)

c. Audit programme d. Audit planning 2. _______ is the specific guidelines and directions for efficient and effective completion of the audit work on timely and daily basis, so as to minimize audit risk. a. Audit planning b. Audit report c. Audit programme d. Audit certificate 3. _______ are the documents prepared or obtained by the auditors in connection with the audit. a. Audit notes b. Audit working papers c. Audit report d. All of these 4. Working papers helps in proper _______ of audit. a. Planning b. Performance c. Planning and performance d. Execution 5. Auditor report is addressed to the members of the company and is considered at the________ of the company. a. Board Meeting (BM) 114 CU IDOL SELF LEARNING MATERIAL (SLM)

b. Annual General Meeting (AGM) c. Extraordinary General Meeting (EGM) d. All of these Answers: 1 – a, 2 – d, 3 – d, 4 – a, 5 – b, 7.9 REFERENCES  Arens and Lobbecke, Auditing and integrated approach  Bubbard and Johnson, Auditing  Gupta, K., Contemporary auditing, Tata McGraw Hill  Knechel, R. W., Auditing, South-Western College Publishing. 115 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 8 - MANAGEMENT AUDIT Structure 8.0 Learning Objectives 8.1 Introduction 8.2 Measuring 8.3 Scope and Necessity 8.4 Summary 8.5 Key Words 8.6 Learning Activity 8.7 Unit End Questions 8.8 References 8.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Describe nature of Management audit  Identify scope of Management audit  Benefits of Management audit  Process of Management audit 8.1 INTRODUCTION Management audit refers to analysis and assessment of competencies and capabilities of a company’s management in order to evaluate their effectiveness, especially with regard to the strategic objectives and policies of the business. The objective of a management audit is not to appraise individual executive performance, but to evaluate the management team in relation to their competition. Management audits are often necessitated by major changes in a business. Some of the events that call for a management audit are top management changes, mergers and acquisitions, and succession planning. Concept of Management Audit 116 CU IDOL SELF LEARNING MATERIAL (SLM)

Management audit is an emerging concept of auditing. It has been originated from America. Management audit is an act of evaluation of all the activities of all the departments with a view to provide appropriate suggestions to the management to help their work. In other words, management auditing is a future oriented task which evaluates timely in all the levels of management like production management, sales management etc. The main objective of management audit is to improve the profit earning capacity, work of management, objectives of program, social objectives and human resource development so that organizational goal can be easily attained. It refers to the existence of control system, compliance of rules and regulations, process of managerial decisions etc. Three basic evaluation methods exist for any work activity: inspection, compliance auditing and management auditing. The first method, inspection, measures a process’s output against certain characteristics. These characteristics, generally identified as form, fit and function, are specified, and the process output either possesses those characteristics or it doesn’t. As a result, an inspection’s outcome is always binary: pass or fail. In contrast, compliance audits check on the implementation of written manuals, procedures and work instructions. The compliance audit evolved in the 20th century as business practices became more complex. The first use of compliance auditing appeared in financial transactions, because tax collectors and bank examiners needed assurance that the financial data were correct. This concept of verifying compliance was picked up by the quality profession in the 1960s and applied to the military and the nuclear power industry. Compliance audits are still used in high-risk activities; where there is a desire to verify that the activities are being performed in strict compliance to approved requirements. Third-party registration audits, regulatory inspections and most supplier audits measure compliance. The application of a compliance audit results in stability and assurance that rules are being followed. The management audit is a more recent concept. It focuses on results, evaluating the effectiveness and suitability of controls by challenging underlying rules, procedures and methods. Management audits, which are generally performed internally, are compliance audits plus cause-and-effect analysis. When performed correctly, they are potentially the most useful of the evaluation methods, because they result in change. Management Audit is the systematic recognition, analysis and assessment of competencies and the actual behaviour of both individual executives as well as complete executive teams 117 CU IDOL SELF LEARNING MATERIAL (SLM)

particularly with regard to the business’ strategic requirements. The basis of Management Audit is structured interviews and reference checks conducted by external experts to be documented in expert opinions. Management Audits focus on personal attributes and business skills. Personal attributes can be sub-divided into: 1. Ethical values and attitudes 2. Intellectual Capability 3. Charisma Business skills can be sub-divided into: 1. Professional and methodical competencies 2. Leadership behaviour 3. Entrepreneurship The management audit is now widely accepted in the business field. For more than 40 years, corporations and non-profit organizations have utilized the management audit as a comprehensive tool. In 1932 T. G. Rose, a lecturer in management at Cambridge University and former manager for Leyland Motors, embraced the concept of an annual organizational and management audit; Queens University School of Business professor William P. Leonard followed suit, urging a comprehensive examination of the business entity. Additional credibility stemmed from the General Accounting Office of the federal government, an office charged with independent audits of government agencies. The management audit is defined by its scope and objectives. The scope is broad and generally includes all functions of the organization, including objectives and strategy, corporate structure, organizational planning, the budgeting process, human and financial resources management, decision making, research and development, marketing, equipment and operations, and management information systems. This breadth extends to recent, present, and future operations and covers external issues as well as internal concerns. Objectives of the management audit include the development of recommendations and improvements, as well as increased awareness of the credibility and acceptance of the audit’s results. The process is more an audit of management, in order to enhance corporate profits and financial stability. 118 CU IDOL SELF LEARNING MATERIAL (SLM)

The audit follows a logical, step-by-step format, including initial interviews with key managers. A study team uses the interview process to define the scope of the audit, including the areas or functions to be studied. Next, the team requests various forms of documentation, including budgets, planning documents, corporate reports, financial statements, policy and procedure manuals, biographical material, and various other documents. Following this stage, the study team then prepares a schedule and detailed plan of study, all aimed at proceeding to the internal fact finding step. Fact-finding relies once again on interviews, documentation, and personal observation of facilities and organizational work patterns. By the time these steps are completed, the study team develops a thorough understanding of organizational structure and operations. The team generally turns next to an external review, using interviews to determine the opinions and attitudes key people outside the organization have about its operations. Examples of those interviewed are customers, representatives of financial institutions, and employees of federal agencies having contact with the audited organization. These interviews provide the team with more objective evaluations, and lead to an analysis of all the information and data now gathered. Organizational performance is profiled, then efficiency and effectiveness are evaluated and compared against industry norms. While many criteria can be measured quantitatively, team members have to use sound judgment and objectivity when evaluating issues that cannot be measured. In turn, the organization’s management has to be receptive to the audit process and demonstrate clear acceptance of audit findings. The study team then develops conclusions and recommendations which are communicated to the organization’s management. These final two stages—conclusions/recommendations and communication—are essential to the management audit process. The audit is expected to identify corporate strengths and weaknesses, sources of problems, and potential problem areas. Recommendations for correction are presented to top management. The final report comes in the form of an overall plan of action, which includes prioritized recommendations, the specific units and individuals expected to carry out the recommendations, a schedule for action, and expected results. When conducted with thoroughness, objectivity, and timeliness, the management audit becomes a powerful tool for corporate and organizational executives who seek to improve effectiveness and efficiency. An important aspect of the management audit is the composition of the study team. Both internal and external analysts are frequently used on audit teams; the composition depends on 119 CU IDOL SELF LEARNING MATERIAL (SLM)

several factors, including the need for independent appraisal, the lack of human or financial resources to conduct the audit, and the need to provide an external audit to contrast against internal findings. In some instances, associations such as the American Institute of Management (AIM) provide audit teams. The AIM has developed ten categories of the management audit, and many audits apply these same categories. They include: 1. Economic function 2. Corporate structure 3. Health of earnings 4. Service to stockholders 5. Research and development 6. Directorate analysis 7. Fiscal policies 8. Production efficiency 9. Sales vigour 10. Executive evaluation Management audits are not limited to business corporations. Non-profit organizations— including educational institutions, hospitals, and churches—often use the management audit to attempt to improve operations. 8.2 MEASURING A management audit is an essential tool that is used to determine the efficiency, functions and accomplishments and achievements of the company. It is also an independent and systematic analysis that evaluates the company's overall activities and performances. 120 CU IDOL SELF LEARNING MATERIAL (SLM)

The main objective of this type of audit is to identify errors in the management activities and also suggest possible changes if needed. It guides the management in managing the operations most efficiently and productively. In other words, a management audit performs the evaluation and assessment of the management system and information in different departments of the company. It also reviews the system and subsystem, authorization, accountability, procedure, quality of generated data, quality of personnel, etc. 1. Studying the prescribed organisation: Renewing formal organisation structure, personal interrelationships, policies, procedures, information systems and flows, and decision centres in order to determine what management has established as optimum arrangements for running an entity. 2. Evaluating the ‘live-entity’: Determining such problems as what operating people are really trying to accomplish, the schedules and routines they have established to attain objectives, and a measure of the results achieved in the light of predetermined goals and standards of performance. 3. Searching for profit inhibitors: Uncovering poor organisational structuring and responsibility assignment, break-downs in operations, programming and work flow inadequate and ineffective communication, evaluation and measurement, and disclosing results that fall significantly below established standards. Since the concept of management audit requires the appraisal and assessment of total organisation or management processes and examines in depth the functioning of the system and its performance, its scope is synonymous with the appraisal areas identified by the American Institute of Management. These are as follows: 1. Economic function vis-a-vis social responsibility: This involves appraising the public esteem value of the company in relation to different interests like shareholders, employees, creditors, distributors, consumers, and the community in which it operates. 2. Corporate structure: 121 CU IDOL SELF LEARNING MATERIAL (SLM)

The appraisal is made through testing measures like flow of information, span of supervision, authority relations, and centralisation/decentralisation of authority. 3. Health of earnings: This requires appraising the extent to which the resources have realised the profit in real and tangible terms. 4. Service to shareholders: The assessment is made mainly on three basic criteria: (a) Risk minimisation to investment, (b) Reasonable return on investment, and (c) Reasonable appreciation of capital over a period of time. 5. Research and development: The extent to which these activities carried on in the past was successful in the company’s past progress and was contributory to the future development. 6. Analysis of the board of directors: The assessment on three fundamental elements, viz.: (a) Quality of each Director and his contribution, (b) Team work, and (c) Trusteeship role. 7. Fiscal and financial policies: The evolution of capital management system, dividend policy, fiscal policy and controls and their application in different areas of corporate activity. 8. Production efficiency: The evaluation of the management sub-systems relating to materials, labour, waste control, machinery, production policy and the achievements in terms of quantity and quality. 9. Sales vigour: 122 The measurement and evaluation of the criteria, such as: (a) Development of sales personnel, CU IDOL SELF LEARNING MATERIAL (SLM)

(b) Attainment of past sales potentials, and (c) Current sales policies to realise further sales potential. 10. Executive evaluation: The assessment of personnel qualities as being elements for business leaders, e.g., ability, industry and integrity. 8.3 SCOPE AND NECESSITY The management of business at present becoming more and more complex. The use of specialised techniques such as operational research, statistical sampling, electronic data processing, production control etc. require the services of experts. The directors are not experts in every field of Management. If anything goes wrong then directors have to face the criticism. This has necessitated the need for management consultancy. The management auditors are often called upon to advise the firm as to how to maximise the production of quality goods. Management audit or consultancy helps in improving the operations of the business. The benefits derived from his service are for more than the cost incurred on it following are some of the benefits of Management Audit. The need for management Audit can be felt by studying the following points: 1. Useful for performance appraisal: Management audit enables appraisal of performance of various managers. The standards for every manager are predetermined and their performance has to be judged in view of these targets. There should be a regular system of evaluation for keeping efficiency standards. Various Incentive plans may also be linked with such reports. 2. Result oriented: Management audit is result oriented. The performance is judged on the basis of rates of inputs and outputs. It does not give much importance to the procedures followed and formalities completed which is generally said that when Management audit is introduced then managers be more particular about completing the file work only. 3. Satisfies Financial Institutions: When a concern approaches various financial institutions for loans then they will like to see the performance of the business. Management Audit System is already undertaken then lending institutions will not find any difficulty in taking a 123 CU IDOL SELF LEARNING MATERIAL (SLM)

decision. Moreover, outside agencies will feel satisfied that the management is constantly evaluating its performance. 4. Helpful in entering Foreign Collaborations. Whenever there is a proposal to enter into a foreign collaboration then collaborators will not find any difficulty in assessing the managerial potentials of the party. They can be provided with management audit report which will enable the parties to form a judgement about the concern. 5. Necessary for Government Organisations. There is an urgent need for management audit in government organisations. The present system of audit is not useful in curbing inefficiency. It gives more importance to formalities and ignores performance. Management audit will emphases results and when performance be judged pre-determined standards then officials will try to improve their efficiency. 6. Basis for Critical Evaluation. Management Audit is needed for dynamic management to know what are the deficiencies and how to get them to remove. 7. Mirror of Organisation Progress. The management Audit is useful in knowing the reasonable retum on capital employed. 8. The Management Audit needed for Change. The cost Audit is very useful for knowing the effect of changes in organisational structure such as : change is useful or not. 9. Helpful in Loan/Advances. The management Audit is working like a guide to a person who wants to give loan or invest his money in any company. 10. Knowledge of efficiency and Productivity. The management Audit is useful in knowing the efficiency and Productivity of any organisation. When these are not within the satisfactory limit the suggestions for efficient running can be suggested. 11. Helpful of Foreign Collaboration. The management Audit is useful to foreign investors: They can know the profitability of the organisation can take decision regarding investment. 12. Suitable to Public Sector Units. The study of management Audit is very desirable to public sector units, these can improve their working efficiency for their existence. Technique of Management Audit Before starting the work of management Audit, the Auditor should special note of the following: Aims and objects of the organisation, policies and procedures, planning, communication and its effectiveness, managerial control devices. 124 CU IDOL SELF LEARNING MATERIAL (SLM)

Audit Programme (i) The management Audit should make sure of the policies that these are suitable or not in achieving organisational objectives. (ii) He should make sure that all levels of management are following these policies or procedures. (iii) He should test the effectiveness of the system of communication. (iv) He should also see that all levels of management follows the techniques of management control. (v) He should give special attention to the following.  Policies with regard to capital expenditure.  Policies with regard to purchases.  Policies with regard to selection, Recruitment and training.  Price policies of commodities and services.  Effectiveness of Research and Development.  Return on capital employed.  Internal check to control errors and fraud.  Proper insurance coverage of Assets.  Inventory management, Product Planning, and Product control, Marketing Management Personnel Records etc. Scope of Management Audit The primary object of Management audit is to find out the efficiency of every segment, from low level to high level of the business. Thus, the study of each and every aspect of the enterprise. The following aspects of Management Audit. 1. Study of Demand of Business: The present organisational structure is reviewed in relation to current and prospective demands of the business. The study of organisation should be undertaken in relation to the aims and objectives of the enterprise to be cherished. 2. Study return on Capital employed: It will include the study of present return on investors capital. Whether the return is adequate, fair or poor should be determined by the Management auditor. 125 CU IDOL SELF LEARNING MATERIAL (SLM)

3. Established relation to outsiders: Management audit also requires the study of relationship of the business with the shareholders and investing public in general. 4. Performance Comparison: The performance of the organisation should be compared with other firms in the same field. The ratios like operating returns on sales and return on Capital should be compared to find out the Comparative position of a similar organisation. 5. Study Management duty: The aims, objectives and duties of the management should also be studied by management auditor. This exercise should be undertaken at the Board of Directors level to keep them within the limit. 6. Financial Planning: The study of financial planning and control also forms the part of management audit. The efficacy of sources of finance and the use of funds for capital and other expenditure should be evaluated to determine the efficiency in raising and utilising the funds. The cost of each source of capital be taken into account. 7. High Right production and sale: The review of production and sales function is also an important aspect of management audit whether the production is as per schedule or not similarly, then the performance of sales department should be judged by looking at its post- performance and future possibilities. The sales should be quick and efficient and distribution channels should be as economical as possible to meet the demand of pre-set and prospective buyers. 8.4 SUMMARY  The management audit is a comprehensive and thorough examination of an organization or one of its components. The audit is implemented to identify problems or significant weaknesses in the organization or corporation, thus providing management with a tool to address and repair the problem area.  Management audits are not limited to business corporations. Non-profit organizations—including educational institutions, hospitals, and churches—often use the management audit to attempt to improve operations. When conducted effectively, and when recommendations are applied properly, the management audit has proved its usefulness as a management technique. 8.5 KEY WORDS  CARO: Companies (Auditor’s Report) Order, 2003. 126 CU IDOL SELF LEARNING MATERIAL (SLM)

 Financial Audit: A financial audit, or more accurately, an audit of financial statements, is the review of the financial statements of a company or any other legal entity (including governments), resulting in the publication of an independent opinion on whether those financial statements are relevant, accurate.  Management Audit: Simply defined, the management audit is a comprehensive and thorough examination of an organization or one of its components. The audit is implemented to identify problems or significant weaknesses in the organization or corporation, thus providing management with a tool to address and repair the problem area.  MAOCARO: Manufacturing and other Companies (Auditor’s Report) Order, 1988. 8.6 LEARNING ACTIVITY 1. Identify different steps carrying out by cost auditor in performing cost audit. ___________________________________________________________________________ ____________________________________________________________________ 8.7 UNIT END QUESTIONS (MCQ AND DESCRIPTIVE) A. Descriptive Questions Short Questions 1. What is the need for management audit? 2. How to conduct management audit? 3. What are the key areas in which management audit can be undertaken in co-operatives? 4. What is cost audit? Explain in brief. 5. What functions are performed by auditor in cost audit? Long Questions 1. Explain Necessity of Management Auditing 2. Explain Scope of Management Auditing 3. What is meant by Management Auditing? 4. How management audit can be defined by its scope and objectives? 127 CU IDOL SELF LEARNING MATERIAL (SLM)

5. Explain the composition and role played by an audit team. B. Multi Choice Questions 1. Management auditor should have a thorough knowledge of a. Financial Accounting b. Production techniques c. Costing systems d. All of these 2. A management auditor can recommend the most suitable system of flow of information _______. a. Internally b. Externally c. Internally and externally d. None of these 3. Management auditor should be well versed with a. Management by exception b. Management by objectives c. Principles of delegation of authority d. All of these 4. Which of the following statements are true about management audit? 128 a. The management audit is made compulsory and statutory b. Management audit is a programme of one year c. Management audit cannot be conducted by an independent person d. No time limit can be fixed for submission of the report under management audit Answers 1- d, 2 – a, 3 – d, 4 – b CU IDOL SELF LEARNING MATERIAL (SLM)

8.8 REFERENCES  Arens and Lobbecke, Auditing and integrated approach  Bubbard and Johnson, Auditing  Gupta, K., Contemporary auditing, Tata McGraw Hill  Knechel, R. W., Auditing, South-Western College Publishing. 129 CU IDOL SELF LEARNING MATERIAL (SLM)

UNIT 9 - COST AUDIT Structure 9.0 Learning Objectives 9.1 Introduction 9.2 Maintenance of Cost Record 9.3 Study of cost accounting 9.4 Environmental audit 9.5 Energy Audit 9.6 Special Features of Audit of Banks 9.7 Special Features of Insurance Companies 9.8 Summary 9.9 Key Words 9.10 Learning Activity 9.11 Unit End Questions 9.12 References 9.0 LEARNING OBJECTIVES After studying this unit, you will be able to:  Describe nature of Cost Audit  Identify scope of Cost Audit  Benefits of Cost Audit  Process of Cost Audit 9.1 INTRODUCTION At present, the Companies Act contains provisions relating to maintenance of Cost Records under section 209 (1) (d) and Cost Audit under section 233B of the Companies Act in respect of specified industries. The Audit Committee felt that Cost Records and Cost Audit were important instruments that would enable companies make their operations efficient and exist in a competitive environment. The Committee noted that the present corporate scenario also 130 CU IDOL SELF LEARNING MATERIAL (SLM)

included a sizeable component of Government owned enterprises or companies operating under administered price mechanism or a regime of subsidies. It would be relevant for the Government or the regulators concerned with non-competitive situations to seek costing data. The Committee, therefore, took the view that while the enabling provision may be retained in the law providing powers to the Government to cause Cost Audit; legislative guidance has to take into account the role of management in addressing cost management issues in context of the liberalized business and economic environment. Further, Government approval for appointment of Cost Auditor for carrying out such Cost Audit was also not considered necessary. 9.2 MAINTENANCE OF COST RECORD: 1 The Rules have prescribed that cost accounting records are required to be maintained in accordance with the \"generally accepted cost accounting principles\" and the \"cost accounting standards\" issued by the Institute of Cost Accountants of India to the extent these are relevant and applicable. The rules do not prescribe any specific format of cost statement and the company is free to adopt a system suitable to provide cost information. 2 There cannot be any exhaustive list of cost records that are required to be maintained. This would depend on the particular situation, structure of the company and the activities that the company is engaged in. What is intended is to ensure maintenance of such records and details in a structured manner on a regular basis so that the accumulation is possible on a periodical basis to arrive at the cost of a particular cost object. Such analysis of individual cost components and relating it to the activity for which the same is incurred would help the company in taking proper management decisions. 3 It should be kept in mind that in a manufacturing organisation, the operations include certain repetitive processes resulting in a particular “product” that can be measured in finite manner. In a construction activity, each project or operation can be different and distinct and there is a need to define the “cost object” in relation to which the costs are required to be accumulated and reported. 4 Reference is also drawn to the product group classification notified by the Ministry of Corporate Affairs where the construction industry has been classified under the following service groups: a) Construction of residential buildings 131 CU IDOL SELF LEARNING MATERIAL (SLM)

b) Construction of non‐residential buildings c) Construction of highways, road, bridges etc. d) Construction of industrial and non industrial plants, structures and facilities e) Laying of pipelines, communication and power lines f) Other construction activities not elsewhere specified g) Real estate development activities h) Architectural and engineering services i) Construction and Real Estate Related Services 5 Exemption from applicability of Companies (Cost Accounting Records) Rules 2011, to the construction Industry: Companies engaged in construction business as contractors or sub‐ contractors wherein they are paid only the conversion charges (MCA Circular No. F. No. 52/1/CAB‐2012 dated 25th May 2012); Joint Ventures that are non‐corporate entities [i.e. not companies registered under the Companies Act] or to unlisted companies that are below the specified threshold limits or to a body corporate governed by any special Act. (MCA Circular No F. No. 52/1/CAB‐2012 dated 25th May 2012); 6 Companies which have not commenced their business are exempt for maintenance of cost records till their business operations commence. The term ‘commencement of business’ is to be read in context of section 149 of the Companies Act 1956. In case of a manufacturing company, commencement of commercial operation means the plant has been commissioned on a commercial scale. In other context, commencement of business operations is to be read as defined under the above section. Applicability of CARR for various construction projects modals is given below: PPP model The primary business model is Build, Operate and Transfer. CARR will be applicable from the time the Company starts building or constructing the project (either by themselves or through contractor) after getting necessary approvals for commencement of work from appropriate government / local authorities. 132 CU IDOL SELF LEARNING MATERIAL (SLM)

EPC Contracting Model The business model is primarily Engineering, Procurement and Construction. CARR will be applicable from the initial stage of Engineering or Procurement or construction activity, as applicable. Real Estate Development Model: The business model is primarily development and sale of real estate. CARR will be applicable from the start of development /construction activity on getting necessary approvals for commencement of work from appropriate government / local authorities. Construction involving in‐house fabrication or manufacturing: The business model involves engineering, procurement, manufacturing / fabrication, construction and / or installation / commissioning. Hence CARR will be applicable from the initial stage of Engineering or Procurement or Construction activity, as applicable.” 6These rules will not apply to construction activity which is not meant for sale or for commercial use. For example, a company not engaged in construction business, but constructing staff quarters for its employees or erecting manufacturing plant, will not be covered under the maintenance of CARR relating to Construction activity. 8 Nature of cost accounting records for construction activity Companies are to maintain books of accounts as per section 209 of the Companies Act 1956, including cost accounting records on going concern basis. Therefore even if a company has not commenced any project or activity, still records are required to be maintained. In case of companies engaged in manufacturing or production of items for self-consumption then: (a) Valuation of product which are covered under CETA, shall be in accordance with Central Excise Valuation (Determination of Price of Excisable Goods) Rules, 2000 read with CAS‐4 (Cost Accounting Standard on Cost of Production for Captive Consumption), wherein valuation is to be based on cost of production plus 10% for determining the assessable value under the above rules. (b) For determining the value of inter‐unit transfer of items for captive consumption whether excisable or not, the value shall be only at cost of production. (c) Detailed records for other elements like research and development cost, quality control cost, pollution control cost etc. shall be captured, if material. The 133 CU IDOL SELF LEARNING MATERIAL (SLM)

developer of a construction project, many a times, subcontracts the entire construction activity to one or many contractor/(s). In such circumstances, the records relating to utilisation of material / labour / other items of costs are maintained by the contractor. The developer will maintain the contractor account with the details of bills submitted by the contractor / certification of work done / payment made to contractor etc. These records enable the developer to keep a control on the work done by contractor / work yet to be done / quality of work done etc.” 9. Cost Object The Companies (Cost Accounting Records) Rules 2011 requires records to be kept on regular basis in such manner so as to make it possible to calculate per unit cost of production or cost of operations, cost of sales and margin for each of its products and activities for every financial year on monthly/quarterly/half‐yearly/annual basis. Hence, it is necessary to define cost object in relation to a construction activity. In a manufacturing activity, there is a well-defined product that emanates out of the manufacturing/production process which is uniform across the product range of that product. In case of construction activity, each activity and sub‐activity involved in the process of attaining the final output is unique and the final output would also be different from one to the other. For example: (A) A company engaged in construction of residential flats may have different types of flats in the same building, and in blocks of flats, the buildings containing those flats may be different in structure and construction. The Project in the context of construction activity is to be considered as the cost object. (B) A company is constructing 3 residential projects A, B & C in 3 different places. Project A consists of 3 buildings, Project B consists of 5 buildings and Project C consists of 2 buildings each of such building containing different types of flats. The company is also engaged in Project D which is construction of a 15 KM stretch of road which also includes a Bridge. Project E of the company is construction and erection of a Power Plant. The company has received the contract of road and bridge construction as 2 separate projects (say Projects D1 and D2). 134 CU IDOL SELF LEARNING MATERIAL (SLM)

For maintenance of cost accounting records, the company would be required to maintain specified records in respect of Projects A, B, C, D1, D2 and E as its distinct and individual cost objects. 9.3 STUDY OF COST ACCOUNTING: Way back to 15th Century, no accounting system was there and it was the barter system prevailed. It was in the last years of 15th century Luca Pacioli, an Italian found out the double entry system of accounting in the year 1494. Later it was developed in England and all over the world up to 20th Century. During these 400 years, the purpose of Cost Accounting needs are served as a small branch of Financial Accounting except a few like Royal wallpaper manufactory in France (17th Century), and some iron masters & potters (18th century). The period 1880 AD- 1925 AD saw the development of complex product designs and the emergence of multi activity diversified corporations like Du Pont, General Motors etc. It was during this period that scientific management was developed which led the accountants to convert physical standards into Cost Standards, the latter being used for variance analysis and control. During the World War I and II the social importance of Cost Accounting grew with the growth of each country’s defence expenditure. In the absence of competitive markets for most of the material required for war, the governments in several countries placed cost-plus contracts under which the price to be paid was cost of production plus an agreed rate of profit. The reliance on cost estimation by parties to defence contracts continued after World War II. In addition to the above, the following factors have made accountants to find new techniques to serve the industry: -  Limitations placed on financial accounting  Improved cost consciousness  Rapid industrial development after industrial revolution and world wars  Growing competition among the manufacturers 135 CU IDOL SELF LEARNING MATERIAL (SLM)

 To control galloping price rise, the cost of computing the precise cost of product / service  To control cost several legislations passed throughout the world and India too such as Essential  Commodities Act, Industrial Development and Regulation Act...etc Due to the above factors, the Cost Accounting has emerged as a specialised discipline from the initial years of 20th century i.e., after World War I and II. In India, prior to independence, there were a few Cost Accountants, and they were qualified mainly from I.C.M.A. (now CIMA) London. During the Second World War, the need for developing the profession in the country was felt, and the leadership of forming an Indian Institute was taken by some members of Defence Services employed at Kolkata. However, with the enactment of the Cost and Works Accountants of India Act, 1959, the Institute of Cost and Works Accountants of India (Now called as The Institute of Cost Accountants of India) was established at Kolkata. The profession assumed further importance in 1968 when the Government of India introduced Cost Audit under section 233(B) of the Companies Act, 1956. At present it is under Section 148 of the Companies Act, 2013. Many times we use Cost Accounting, Costing and Cost Accountancy interchangeably. But there are differences among these terms. As a professional, though we use interchangeably we must know the meaning of each term precisely. Cost Accounting : Cost Accounting may be defined as “Accounting for costs classification and analysis of expenditure as will enable the total cost of any particular unit of production to be ascertained with reasonable degree of accuracy and at the same time to disclose exactly how such total cost is constituted”. Thus Cost Accounting is classifying, recording an appropriate allocation of expenditure for the determination of the costs of products or services, and for the presentation of suitably arranged data for the purpose of control and guidance of management. Cost Accounting can be explained as follows :- 136 CU IDOL SELF LEARNING MATERIAL (SLM)

Cost Accounting is the process of accounting for cost which begins with recording of income and expenditure and ends with the preparation of statistical data. It is the formal mechanism by means of which cost of products or services are ascertained and controlled. Cost Accounting provides analysis and classification of expenditure as will enable the total cost of any particular unit of product / service to be ascertained with reasonable degree of accuracy and at the same time to disclose exactly how such total cost is constituted. For example it is not sufficient to know that the cost of one pen is ` 25/- but the management is also interested to know the cost of material used, the amount of labour and other expenses incurred so as to control and reduce its cost. It establishes budgets and standard costs and actual cost of operations, processes, departments or products and the analysis of variances, profitability and social use of funds. Thus Cost Accounting is a quantitative method that collects, classifies, summarises and interprets information for product costing, operation planning and control and decision making. Costing: Costing is defined as the technique and process of ascertaining costs. The technique in costing consists of the body of principles and rules for ascertaining the costs of products and services. The technique is dynamic and changes with the change of time. The process of costing is the day to day routine of ascertaining costs. It is popularly known as an arithmetic process. For example If the cost of producing a product say ` 200/-, then we have to refer material, labour and expenses accounting and arrive the above cost as follows: Material ` 100 Labour ` 40 Expenses ` 60 Total ` 200 137 CU IDOL SELF LEARNING MATERIAL (SLM)

Finding out the breakup of the total cost from the recorded data is a daily process. That is why it is called arithmetic process/daily routine. In this process we are classifying the recorded costs and summarizing at each element and total is called technique. Cost Accountancy: Cost Accountancy is defined as ‘the application of Costing and Cost Accounting principles, methods and techniques to the science, art and practice of cost control and the ascertainment of profitability’. It includes the presentation of information derived there from for the purposes of managerial decision making. Thus, Cost Accountancy is the science, art and practice of a Cost Accountant. It is a science because it is a systematic body of knowledge having certain principles which a cost accountant should possess for proper discharge of his responsibilities. It is an art as it requires the ability and skill with which a Cost Accountant is able to apply the principles of Cost Accountancy to various managerial problems. Practice includes the continuous efforts of a Cost Accountant in the field of Cost Accountancy. Such efforts of a Cost Accountant also include the presentation of information for the purpose of managerial decision making and keeping statistical records. Objectives of Cost Accounting  The following are the main objectives of Cost Accounting :-  To ascertain the Costs under different situations using different techniques and systems of costing  To determine the selling prices under different circumstances  To determine and control efficiency by setting standards for Materials, Labour and Overheads  To determine the value of closing inventory for preparing financial statements of the concern  To provide a basis for operating policies which may be determination of Cost Volume 138 CU IDOL SELF LEARNING MATERIAL (SLM)

relationship, whether to close or operate at a loss, whether to manufacture or buy from market, whether to continue the existing method of production or to replace it by a more improved method of production....etc Scope of Cost Accountancy The scope of Cost Accountancy is very wide and includes the following:- (a) Cost Ascertainment: The main objective of Cost Accounting is to find out the Cost of product / services rendered with reasonable degree of accuracy. (b) Cost Accounting: It is the process of Accounting for Cost which begins with recording of expenditure and ends with preparation of statistical data. (c) Cost Control: It is the process of regulating the action so as to keep the element of cost within the set parameters. (d) Cost Reports: This is the ultimate function of Cost Accounting. These reports are primarily prepared for use by the management at different levels. Cost reports helps in planning and control, performance appraisal and managerial decision making. (e) Cost Audit: Cost Audit is the verification of correctness of Cost Accounts and check on the adherence to the Cost Accounting plan. Its purpose is not only to ensure the arithmetic accuracy of cost records but also to see the principles and rules have been applied correctly. To appreciate fully the objectives and scope of Cost Accounting, it would be useful to examine the position of Cost Accounting in the broader field of general accounting and other sciences. i.e., Financial Accounting, Management Accounting, Engineering and Service Industry. Financial Accounting and Cost Accounting: Financial Accounting is primarily concerned with the preparation of financial statements, which summarise the results of operations for selected period of time and show the financial position of the company at particular dates. In other words Financial Accounting reports on the resources available (Balance Sheet) and what has been accomplished with these resources (Profit and Loss Account). Financial Accounting is mainly concerned with requirements of creditors, shareholders, government, prospective investors and persons outside the management. Financial Accounting is mostly concerned with external reporting. 139 CU IDOL SELF LEARNING MATERIAL (SLM)

Cost Accounting, as the name implies, is primarily concerned with determination of cost of something, which may be a product, service, a process or an operation according to costing objective of management. A Cost Accountant is primarily charged with the responsibility of providing cost data for whatever purposes they may be required for. The main differences between Financial and Cost Accounting are as follows: Financial Accounting Cost Accounting It provides the information about the (a) It provides information to the management (a) business in a general way. i.e., Profit and Loss for proper planning, operation, control and Account, Balance Sheet of the business to owners decision making. and other outside partners. (b) It classifies, records and analyses the (b) It records the expenditure in an objective transactions in a subjective manner, i.e., manner, i.e., according to the purpose for according to the nature of expense. which the costs are incurred. It lays emphasis on recording aspect (c) It provides a detailed system of control for (c) without 140 CU IDOL SELF LEARNING MATERIAL (SLM)

attaching any importance to control. materials, labour and overhead costs with the help of standard costing and budgetary control. It reports operating results and It gives information through cost reports (d) financial (d) to position usually at the end of the year. management as and when desired. Cost Accounting is only a part of the (e) Financial Accounts are accounts of the (e) financial whole business. They are independent in accounts and discloses profit or loss of each nature. product, job or service. (f) Financial Accounts records all the (f) Cost Accounting relates to transactions commercial transactions of the business connected with Manufacturing of goods and include all expenses i.e., and services, means expenses which enter Manufacturing, Office, Selling etc. into production. (g) Financial Accounts are concerned with (g) Cost Accounts are concerned with internal external transactions i.e. transactions transactions, which do not involve any cash between business concern and third party. payment or receipt. 141 CU IDOL SELF LEARNING MATERIAL (SLM)

Only transactions which can be measured Non-Monetary information likes No of (h) in (h) Units / monetary terms are Hours etc are used. recorded. Cost Accounting deals with partly facts (i) Financial Accounting deals with actual (i) and figures and facts only. figures and partly estimates / standards. Cost Accounts provide valuable (j) Financial Accounting do not provide (j) information information on efficiencies of various on the efficiencies of employees and Plant workers/ & Plant & Machinery. Machinery. (k) Stocks are valued at Cost or Market price (k) Stocks are valued at Cost only. whichever is lower. Financial Accounting is a positive science Cost Accounting is not only positive (l) as (l) science it is subject to legal rigidity with regarding but also normative because it includes to preparation of financial statements. techniques of budgetary control and standard costing. (m)These accounts are kept in such a way to (m) Generally Cost Accounts are kept 142 CU IDOL SELF LEARNING MATERIAL (SLM)

meet the requirements of Companies Act voluntarily to meet the requirements of the 2013 as per Sec 128 & Income Tax Act, management, only in some industries Cost 1961 Accounting records are kept as per the Companies Act. Sec 44AA. Cost Accounting and Management Accounting: Management Accounting is primarily concerned with management. It involves application of appropriate techniques and concepts, which help management in establishing a plan for reasonable economic objective. It helps in making rational decisions for accomplishment of these objectives. Any workable concept or techniques whether it is drawn from Cost Accounting, Financial Accounting, Economics, Mathematics and Statistics, can be used in Management Accountancy. The data used in Management Accountancy should satisfy only one broad test. It should serve the purpose that it is intended for. A Management Accountant accumulates, summarizes and analysis the available data and presents it in relation to specific problems, decisions and day-to-day task of management. A Management Accountant reviews all the decisions and analysis from management’s point of view to determine how these decisions and analysis contribute to overall organizational objectives. A Management Accountant judges the relevance and adequacy of available data from management’s point of view. The scope of Management Accounting is broader than the scope of Cost Accountancy. In Cost Accounting, primary emphasis is on cost and it deals with its collection analysis relevance interpretation and presentation for various problems of management. Management Accountancy utilizes the principles and practices of Financial Accounting and Cost Accounting in addition to other management techniques for efficient operations of a company. It widely uses different techniques from various branches of knowledge like Statistics, Mathematics, Economics, Laws and Psychology to assist the management in its task of maximising profits or minimising losses. The main thrust in Management Accountancy is towards determining policy and formulating plans to achieve desired 143 CU IDOL SELF LEARNING MATERIAL (SLM)

objective of management. Management Accounting makes corporate planning and strategy effective. From the above discussion we may conclude that the Cost Accounting and Management Accounting are interdependent, greatly related and inseparable. Advantages of Cost Accounting Cost Accounting has manifold advantages, a summary of which is given below. It is not suggested that having installed a system of Cost Accounting, a concern will expect to derive all the benefits stated here, the nature and the extent of the advantages obtained will depend upon the type, adequacy and efficiency of the cost system installed and the extent to which the various levels of management are prepared to accept and act upon the advice rendered by the cost system. The Cost Accounting System has the following advantages:-  A cost system reveals unprofitable activities, losses or inefficiencies occurring in any form such as  Wastage of man power, idle time and lost time.  Wastage of material in the form of spoilage, excessive scrap etc., and  Wastage of resources, e.g. inadequate utilization of plant, machinery and other facilities.  Cost Accounting locates the exact causes for decrease or increase in the profit or loss of the business. It identifies the unprofitable products or product lines so that these may be eliminated or alternative measures may be taken.  Cost Accounts furnish suitable data and information to the management to serve as guides in making decisions involving financial considerations.  Cost Accounting is useful for price fixation purposes. Although sale price is generally related more to economic conditions prevailing in the market than to cost, the latter serves as a guide to test the adequacy of selling prices.  With the application of Standard Costing and Budgetary Control methods, the optimum level of efficiency is set. 144 CU IDOL SELF LEARNING MATERIAL (SLM)

 Cost comparison helps in cost control. Comparison may be period to period, of the figures in respect of the same unit or factory or of several units in an industry by employing Uniform Costs and Inter- Firm Comparison methods. Comparison may be made in respect of cost of jobs, process or cost centres.  A cost system provides ready figures for use by the Government, wage tribunals and boards, and labour and trade unions.  When a concern is not working to full capacity due to various reasons such as shortage of demands or bottlenecks in production, the cost of idle capacity can readily worked out and repealed to the management. Introduction of a cost reduction programme combined with operations research and value analysis techniques leads to economy. Marginal Costing is employed for suggesting courses of action to be taken. It is a useful tool for the management for making decisions. Determination of cost centres or responsibility centres to meet the needs of a Cost Accounting system, ensures that the organizational structure of the concern has been properly laid responsibility can be properly defined and fixed on individuals. Perpetual inventory system which includes a procedure for continuous stock taking is an essential feature of a cost system. The operation of a system of cost audit in the organization prevents manipulation and fraud and assists in furnishing correct and reliable cost data to the management as well as to outside parties like shareholders, the consumers and the Government. Limitations of Cost Accounting system Like any other system of accounting, Cost Accountancy is not an exact science but an art which has developed through theories and accounting practices based on reasoning and commonsense. Many of the theories cannot be proved nor can they be disproved. They grownup in course of time to become conventions and accepted principles of Cost Accounting. These principles are by no means static, they are changing from day to day and what is correct today may not hold true in the circumstances tomorrow. 145 CU IDOL SELF LEARNING MATERIAL (SLM)

Large number of Conventions, Estimates and Flexible factors: No cost can be said to be exact as they incorporate a large number of conventions, estimations and flexible factors such as :- Classification of costs into its elements. Materials issue pricing based on average or standard costs. Apportionment of overhead expenses and their allocation to cost units/centres. Arbitrary allocation of joint costs. Division of overheads into fixed and variable. Cost Accounting lacks the uniform procedures and formats in preparing the cost information of a product/ service. Keeping in view this limitation, all Cost Accounting results can be taken as mere estimates. Installation of Cost System or Cost Accounting System From what has been stated in the preceding sections, it will be seen that there cannot be a readymade cost system suitable for a business. Such system has to be specially designed for an undertaking to meet its specific needs. Before installing a cost system proper care should be taken to study and taken into account all the aspects involved as otherwise the system will be a misfit and full advantages will not be realized from it. The following points should be looked into and the prerequisites satisfied before installing a cost system: - The nature, method and stages of production, the number of varieties and the quantity of each product and such other technical aspects should be examined. It is to be seen how complex or how simple the production methods are and what is the degree of control exercised over them. The size, layout and organisation of the factory should be studied. The methods of purchase, receipt, storage and issue of materials should be examined and modified wherever considered necessary. The wage payment methods should be studied. 146 CU IDOL SELF LEARNING MATERIAL (SLM)

The requirements of the management and the policy adopted by them towards cost control should be kept in view. The cost of the system to be installed should be considered. It is needless to emphasize that the installation and operation of system should be economic. The system should be simple and easy to operate. The system can be effectively run if it is appropriate and properly suited to the organisation. Forms and records of original entry should be so designed and to involve minimum clerical work and expenditure. The system should be so designed that cost control can be effectively exercised. The system should incorporate suitable procedure for reporting to the various levels of management. This should be based on the principles of exception 9.4 ENVIRONMENTAL AUDIT Environmental audit is defined as basic management tool which comprises a systematic, documented, periodic and objective evaluation of how well organization, management systems and equipment are performing. A good environment management policy requires that there should be a constant effort to analyse and monitor various industrial working system and processes to generate and transmit this information for the inspecting authority such as exercise which generates necessary information on analysis of pollution being generated or will be generated and completion of annual estimate has been termed as environmental audit. Generally following are the 3 phases when an environmental audit is taken up for an industry:  phase: Preaudit activity- pertaining to collection of information.  phase: Activity at site pertaining to evaluation of information collected.  phase: Post audit activity pertaining to drawing conclusion and identifying areas of improvement if any. Objectives: Environment audit needs for an industry are internal as well as external value 147 CU IDOL SELF LEARNING MATERIAL (SLM)

External needs serve to achieve compliance standards and establish a report with regulatory bodies for implementation of environment management policies. Internal need serves the industry as well as self-evaluation tool for the process and technology. It helps in pollution control, improves production safety and health conservations of nocturnal resources by the way of ensuring waste prevention and reduction, assessing compliance with regulatory requirement, placing environmental information to the public. Advantages: EA report provides the necessary information on how well the management systems are performing to keep place with sustainable level of development. It provides performance evaluation of industrial working facilities and its possible effect in the surrounding. It refers to compliance with local, regional and national laws and regulation Potential areas for reduction in raw material consumption leads to cost saving Provide an up to date environmental data to the inspecting authority. 9.5 ENERGY AUDIT An Energy Audit, or Review, is an investigation of all facets of an organisation’s historical and current energy use with the objective of identifying and quantifying areas of energy wastage within the organisation’s activities. It is best carried out by an Accredited Energy Masters Auditor. An Energy Audit establishes the baseline for any improvements in an organisation's energy use. It provides a comprehensive and systematic method for targeting cost effective efficiency gains. There are many examples where clients have been able to make savings without requiring any significant capital investment. An Auditor should work with their clients to ensure those savings are achieved and sustained in the long term. The objective is to have all identified improvement projects “pay out” within two to four years, equivalent to a return on investment of between 25 - 50%. Anybody receiving an accredited Energy Audit should expect to receive recommendations for savings between 5 - 15% as a typical starting point. 148 CU IDOL SELF LEARNING MATERIAL (SLM)

Audit Phases There are generally three phases to an Energy Audit, depending on the complexity and detail required by the client: 1. Investigation Phase 2. Monitoring Phase 3. Analysis & Reporting Phase Types of Energy Audit Type 1 / Level 1 - Basic Energy Audit Type 1 / Level 1 audits provide a quantitative overview that is typically suitable for smaller sites with lower energy expenditures, or as a scoping audit for larger sites. Type 1 defines the minimum level of detail for an audit required to comply with the Standard. Type 1 / Level 1 audits provide a quantitative overview of energy performance and identify low cost and no-cost opportunities with payback periods of up to 2 years. The accuracy of costs and benefits would generally only be sufficient for low cost operational expenditures or as a method for prioritising opportunities for more detailed assessment. Type 2 / Level 2 - Detailed Energy Audit Type 2 / Level 2 audits provide detailed analysis of energy performance to quantify the full range of opportunities for a site. Type 2 defines a detailed level of audit involving a comprehensive review and analysis of equipment, systems, and operational characteristics of the whole building to enable quantifiable energy savings recommendations. Type 2 / Level 2 audits are required to include financial analysis of recommended energy performance improvement actions, using estimates that are of sufficient accuracy for operational expenditures or medium-scale capital investments. Type 2 / Level 2 audits of commercial buildings as a whole are often referred to as 'Investment Grade' audits in that context. Type 3 / Level 3 - Precision Subsystem Audit Type 3 / Level 3 audits are detailed audits of specific subsystems, with additional data gathering and measurement to provide a higher level of accuracy. Audits of this type are 149 CU IDOL SELF LEARNING MATERIAL (SLM)

typically focussed on a process or subsystem level, such as for HVAC, building management systems, compressed air or lighting, rather than a whole site. Type 3 / Level 3 audits involve onsite measurements to monitor energy data over a period long enough to capture the various operating conditions and relevant variables, in order to be able to quantify costs and benefits to a level sufficient to meet the site’s capital expenditure process requirements. Type 3 / Level 3 Audits of Industrial and related operations are often referred to as 'Investment Grade' audits in that context. 9.6 SPECIAL FEATURES OF AUDIT OF BANKS There are several areas in banking, cooperative banking and insurance accounting and finance, both at the corporate level and operational level that need an auditor’s focused attention and critical review. A banking company requires maintaining the books of account in accordance with section 209 of the Companies Act, 1956. Banking generally includes a sound internal control system in their day to day transaction. The auditor has to evaluate such system carefully. The fundamental requirement of an audit, as regards reporting on statement of account can be discharged from the examination of the internal checked and verification of assets and liabilities by making a comparison and reconciliation of balance with those in the year and that of amount of income and expenses by application of test checks. The Banking Regulation Act casts greater responsibilities on the directors of banks as compared to those of other companies in the matter of supervision over their working. Therefore, they exercise, or are expected to exercise greater supervision over the affairs of bank. The auditor is entities to rely on such supervision and to limit his checking to test checks. The financial position of a bank is depended on the condition of assets, loan, investment, cash balanced and those of its liabilities and fund. Their verification forms an important part of the balance sheet. Most of the banks have their own internal audit or inspection department entrusted with the responsibilities of checking the account of various branches. The statutory auditor may not, therefore, duplicate work. It would be fitting to conclude that Auditing is an art as well as a Science in as much as one need to apply the principles to the actual realities in an innovative manner. While the regulatory prescriptions and bank’s own policy guidelines form the boundaries within which 150 CU IDOL SELF LEARNING MATERIAL (SLM)