Determining Unit Cost:
- Cost Accounting systems differ from industry to industry. The system under which the data may be processed manually or on a computer would also differ to some extent from company to company, according to the interpretation of the management and cost control requirements of the management of the company. Basically different cost accounting systems are followed for job processing, batch processing and continuous processing industries. Job costing is generally adopted where specific jobs have to be individually costed and completed, like aircraft manufacturing. Batches are processed in industries like pharmaceutical. Textile and cement are examples of continuous process industries.
- Both in batch costing and continuous process industries, cost per unit in the batch or in the production process run is determined by averaging the total cost of the batch or the production process run over the units produced.
- Cost accounting is needed both for ascertaining cost of a product or operation, as well as for exercising cost control. However, there should be some benchmark or yardstick against which actual cost can be measured. Such a yardstick may be estimated cost, standard cost, budget cost or activity based cost. Cost auditors are familiar with all such cost measurement and cost control techniques. Standard costing and activity based costing are complete systems. Under the standard costing, standard costs are used instead of actual costs and then variances are analyzed and adjusted. Under activity-based costing, costs are ascertained on the basis of activities, which are cost drivers.
- Financial accounting has been a mandatory requirement ever since corporate laws were framed to regulate corporate business. Cost accounting records, in earlier times and in some cases even now, are maintained in an informal manner in memorandum form, which in small industries meet the basic managerial control requirements. Even when cost data is compiled in memorandum form for providing managerial control information, the cost data is reconciled with financial accounting data. Financial accounting data being subject to mandatory audit, is usually considered more reliable and comprehensive. Units of such industry as are covered by the cost accounting record order/rules, have to maintain proper and adequate cost accounting records, in order to provide cost accounting information in the prescribed schedules and annexure.
- The cost auditor has to judge and give his opinion on whether or not the cost accounting records maintained are adequate for the cost accounting of important elements of cost, specifically mentioned and explained in the cost accounting record order/rules.
Cost Accounting System:
- Under para 2 of Appendix III to the Companies (Audit of Cost Accounting) Rules 1998, the cost auditor has to offer brief comments “on the cost accounting system and its adequacy or otherwise to determine correctly the cost of the product under reference”. It is always appropriate to give a brief description of the cost accounting system being followed by the unit under audit, before offering any comments on it. The cost auditor, in his comments, should highlight changes, which may have been made in the cost accounting system, since last year.
Adequacy of Cost Accounting System:
- Although the rules refer only to the adequacy of the cost accounting system in arriving at the cost of production, it is necessary to examine the adequacy of the system from the angle of arriving at the marketing costs as well. This is necessary in view of the provisions that are generally included in the cost accounting record orders that the cost accounting shall be kept in such a way as to make it possible to calculate from the particulars entered therein, the cost of production and cost of sales of each of the products under reference, during the financial year.
- The term cost of production must be taken to include cost of processing activities. For example, when cost accounting record rules are issued to cover an industry like Textile, the textile processing company which processes textile produced by another manufacturer, will also be covered by those record rules. Similarly, some cement manufacturing units may buy Clinker produced by a different cement plant. Both making clinker as well as processing clinker to produce cement are covered by the cost accounting record rules, applicable to the cement industry. In such cases, all processing companies have to get their cost accounts audited by Cost Auditors for the processes involved.
Requirement of Cost Accounting Record Rules:
- It is advisable for the cost auditor to keep the requirements of Schedule 1 of the relevant cost accounting record rules in his files and review the existing cost accounting system being followed by the unit under audit, in the light of that analysis. Important elements of cost, like raw materials, labour, employee related cost, power, fuel, stores and spares, repairs and maintenance, other overheads and depreciation, which are generally specifically mentioned and explained in the cost accounting record order/rules and for which adequate cost accounting records have to be maintained, have been discussed in the preceding classes.
Comment on Cost Accounting System:
While offering comments on the cost accounting system, the cost auditor should keep the following points in mind:
- The manufacturing process of the unit;
- Control aspects distinct from cost ascertainment;
- Other activities of the organization in addition to operation relating to product under review with particular reference to the reasonableness of allocation and apportionment of common expenses;
- Joint cost ascertainment and process of assessment;
- Evaluation of component/inputs made by the company using own facilities;
- Standard cost and adjustment of variances; and
- Management information system and how the same is linked to functions, and to financial and cost data collection.
Scheme of Cost Centers:
- The logical scheme of cost centers should also be examined to see whether or not the scheme provides an appropriately effective cost control. There should be a balance between the cost of controlling procedures and the benefits derived there from. Evaluation of this and such other aspects of the cost accounting and control system shall largely depend on the judgment of the cost auditor.
Integrated Cost Accounting System:
- With the introduction of electronic data processing, the days of maintaining cost accounting records separately, in memorandum form, are over. Cost accounting records are now also based on the same data from which financial accounts are prepared, even though the data may not be processed by the computer. Such integration is possible by adding a secondary classification in the accounting code, with which all cost and management accountants are familiar.
- With integrated cost and financial accounting, the cost and financial statements can be more conveniently prepared and reconciled. Expenses which are recorded according to the their nature in financial accounts, are sub-divided through a secondary classification according to various cost centers. Expenditure which has been recorded in financial accounts according to its nature and then classified according to purpose or cost centers, can be identified and reconciled. However, if say salaries and wages appearing in the accounts of various cost centers do not add up to the total amount shown in the financial accounts, entries in the financial account which have not so been subdivided will have to be separately marked and suitably commented upon.
Reconciliation with Financial Accounts:
After the financial or corporate auditor submits his report for the year, the cost auditor “shall submit a supplementary report on reconciliation with financial accounts to the directors, before the date fixed for holding the Annual General Meeting of the company” (para 15, Appendix III of the Companies (Audit of Cost Accounts) Rules, 1998. The requirement of reconciling with financial account considerably enlarges the scope of the cost auditor’s report. The cost auditor has to go beyond the cost of production and cost of sales and examine such items as appear in
the financial accounts, but not in the cost accounting records, for the reconciliation purpose. This aspect of the cost auditor’s report has been further explained hereinafter.