ICMA WEEK 2014

THEME: BUSINESS SUSTAINABILITY AND COST MANAGEMENT

TOPIC: AUGMENTING TCM THROUGH COST AUDIT by CMA K. Jagadish Rao

Agenda

• Total Cost Management – A new approach• What is Cost Audit• Audit Committee Role in corporate Governance• Enterprise Risk Management

Approaches to TCM

• Life cycle cost, Target cost, Kaizan cost, • JIT cost, Benchmarking cost, Lean

manufacturing,• Value engineering, Activity based costing and

Operation research

INTRODUCTION – Cost audit

“It is the detailed checking of the costing system, technique and accounts to verify their correctness and to ensure adherence to the objective of cost accountancy.”-ICMA LONDON

“An audit of efficiency ,minute details of expenditure while the work is in progress and not a post –mortem .cost audit is mainly a preventive measure ,a guide for management policy and decision ,in addition to being barometer of performance “- ICMA INDIA

OVERVIEW• India was the first country in South Asia (and perhaps in the

world) to make cost audit mandatory for some of its business sectors. The Institute of Cost and Works Accountants of India (ICMA) refers to cost audit as an audit of efficiency of minute details of expenditure while the work is in progress and not a post-mortem examination.

• Objectives of cost audit include the determination and control of cost together with providing data for making judgements and decisions on various matters, such as operational efficiency.

• GOI has added industries involved in the manufacturing of plantation products together with the petroleum and telecommunication industries in 2002 to the list of industries requiring mandatory cost audits.

OBJECTIVES1. From the perspective of management: Cost audit detects errors, frauds and misappropriation and hence

enhances efficiency. 2. From the perspective of shareholders: Cost audit ensures that the valuation of closing stock and work-in-

progress are correct, hence helps in the computation of more accurate profit figures.

3. From the perspective of the government: To curb the profiteering by the manufacturing concerns and help in

the decision to provide tariff protection to any industry. 4. From the perspective of customers: Customers may obtain more benefit if the cost is reduced due to

effective control, implemented as a result of a cost audit. 5. From the perspective of cost accountants: Cost accountants, who are employees of a company, obtain a share

of all benefits derived by the company from a cost audit.

Two aspect of Cost Audit

• Propreity audit :” audit of executive actions and plans which have bearing on finance and profitabilty of the concerns”

• Efficiency audit:”appraisal of performance of to ascertain whether plan have been executed efficently “.audit is conducted to ensure that :

COST AUDIT PROGRAMME

The Cost Auditor should pay his attention to the following records:

• Record of Materials• Labour Records• Record of Overhead Charges• Depreciation• Work-in-Progress Records• Incomplete Records• Stores and Spare Parts Records

Cost Audit Techniques and Procedure

• Ascertain internal control• Vouching• Checking and ticking• Test checking• Valuation and verification• Questionnaires

Advantages of Cost Audit to management

• Provides reliable data for managerial decision• Helps management to regulates production• Acts as detection tool for error• Helps in comparing actual results and

budgeted result• Helps in finding profitability of different unit

Advantages of Cost Audit to shareholders

• Ensure proper recording of cost data• Helps to evaluate managerial efficiency• Ensures a true picture of company’s state of

affair

Advantages of Cost Audit to consumers

• Reveals true cost of production

• Justify the price

Advantages of Cost Audit to Goverment

• Helps “tariff board”• Help to measure and improve the efficiency of

sick industrial unit• Reveal fraudulent intention of management

What is Risk?Risk, in traditional terms, is viewed as a ‘negative’. The Chinese give a much better description of risk

• The first is the symbol for “danger”, while

• the second is the symbol for “opportunity”, making risk a mix of danger and opportunity.

• Risk- let’s get this straight up front – is good. The point of Risk management is not to eliminate it; that would eliminate reward. The point is to manage it – that is, choose to place bets, where to hedge bets, and where to avoid betting together.” - Thomas A. Stewart

Risk & Risk Management

• In economic terms, profit is the reward for

entrepreneurship or “Risk Taking”

• As a lay investor, our investment planning is based on risk

perception – bank deposits, life insurance, debentures

and GoI bonds, Mutual Funds, Shares, Private Equity….

• Risk management is an attempt to identify, measure and

monitor risks– so as to manage uncertainty

Risk Management

• Understand the nature and extent of risks facing the company

• Understand the extent and categories of risks which it regards as acceptable for a company to bear

• Understand the likelihood of risks concerned materializing

• Company’s ability to reduce the incidence and impact on business of risks that do materialize

Classification of Risks

– Strategic

• A strategic risk is a risk that a company is exposed to when pursuing its business objectives, or likely loss arising from a poor strategic business decision. e.g. Too much dependence on one line of business; or a failed acquisition

– Operational

• Operational risk as the risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events. e.g. Frauds in Banking; Risk of poor planning e.g. Funds constraint

– Compliance

• Risks a company is exposed to because of breach of law / regulatory requirement. e.g. Non compliance in foreign country due to ignorance.

The Need for Risk Management

• Complex, ever changing macro environment

• Sustainable, profitable growth to meet stakeholder expectation

• Trend towards greater transparency & enhanced levels of corporate governance

•

• # Move from survival to competitive advantage

Eight Components of COSO ERM Model

Eight Components of COSO ERM Model

ERM ProcessObjective SettingStrategic Objectives – Related Objectives – Selected Objectives – Risk Appetite – Risk Tolerance

Event Identification Events – Factors Influencing Strategy and Objectives – Methodologies and Techniques Event InterdependenciesEvent Categories – Risks and Opportunities

Risk Assessment Inherent and Residual Risk – Likelihood and Impact Methodologies and Techniques – Correlation Risk ResponseIdentify Risk responses – Evaluate Possible Risk Responses – Select Responses – Portfolio View

Information & CommunicationInformation – Strategic and Integrated Systems – Communication Monitoring Separate Evaluations – Ongoing Evaluations

Control ActivitiesIntegration with Risk Response – Types of Control Activities – General Controls Application Controls – Entity Specific

Rank Risk

1 Regulation and compliance

2 Access to credit

3 Slow recovery or double-dipRecession

4 Managing talent

5 Emerging markets

6 Cost cutting

7 Non-traditional entrants

8 Radical greening

9 Social acceptance risk andcorporate social responsibility

10 Executing alliances andtransactions

Top 10 Risks–EY2010 Business Risk Report

Board Disclosures –Risk management (Clause 49)

1. It shall put in place procedures to inform Board members about the risk assessment and minimization procedures. These procedures shall be periodically reviewed to ensure that executive management controls risk through means of a properly defined framework.

2. Management shall place a report certified by the compliance officer of the company, before the entire Board of Directors every quarter documenting the business risks faced by the company, measures to address and minimize such risks, and any limitations to the risk taking capacity of the corporation. This document shall be formally approved by the Board.

Audit Committee

1. Company to constitute an audit committee with terms of reference

2. At least three members- two thirds independent

3. Chairman to be independent- must attend every AGM to answer shareholder queries

4. All members financially literate & at least 1 member to be accounting or related financial management expert

5. May meet with or without executives – generally CFO & CEO are invited

6. Must meet at least 4 times a year - quorum = greater of 2 members or 2/3rd and at least 2 independent

Audit Committee’s role – Clause 49

1. Oversee financial reporting process

2. Recommend to the Board the hiring and firing of statutory auditors and confirming their remuneration

3. Review the adequacy of internal control system

4. Reviewing the adequacy of structures, staffing and examining the scope of internal audit department

5. Discussing significant findings and follow ups with internal auditors

6. Review of financial and risk management policies

7. To review working of whistle blower mechanisms

8. Other functions specified in terms of reference

Review of information by Audit Committee

The Audit Committee shall mandatorily review the following information:

1. Financial statements and draft audit report, including quarterly / half-yearly financial information;

2. Management discussion and analysis of financial condition and results of operations;

3. Reports relating to compliance with laws and to risk management;

4. Management letters / letters of internal control weaknesses issued by statutory / internal auditors; and

5. Records of related party transactions

6. The appointment, removal and terms of remuneration of the Chief internal auditor shall be subject to review by the Audit Committee

Expectation from Risk Management

• Avoidance of Surprises• Effective evaluation of cost of control• Protection of the Reputation• Proper allocations of resources • Higher probability of meeting targets• More informed decision making• Recognizing opportunities and focusing on areas for improvement ….Leading to competitive advantage

Thank Youkjraobtl@yahoo.co.in