A vital measure for cost containment policies in
By Syed Jamil Ahmed Rizvi,
Nov 13 - 19, 2000
Sector producing items of mass use in loss making companies
need to be subject to a thorough Cost Audit. Cost Audit should be taken up both
in letter and spirit. Cost audit is not punitive in nature. It is rather
suggestive and derives its force from the maxim, 'prevention is better than
cure'. It identifies areas of weaknesses, invisible losses and unaccounted
inefficiencies which ultimately result in adverse effects on the financial
health of an organization. Cost audit helps in getting early warning signal for
remedial actions. It can be done under Section 258 of the Companies Ordinance,
1984 which is quoted below:
Section 258: Audit of Cost Accounts. — (1) Where any
company or class of companies is required under clause (e) of sub-section (1) of
Section 230 to include in its books of account the particulars referred to
therein, the Federal Government may direct that an audit of cost accounts of the
company shall be conducted in such manner and with such stipulations as may be
specified in the order by an auditor who is a chartered accountant within the
meaning of the Chartered Accountants Ordinance, 1961 (X of 1961), or a cost and
management accountant within the meaning of the Cost and Management Accountants
Act, 1966 (XIV of 1966); and such auditor shall have the same powers, duties and
liabilities as an auditor of a company and such other powers, duties and
liabilities as may be prescribed.
The legal provision also provides penalty for non-compliance
which is also given below:
Section 259: Penalty for non-compliance with
provisions by companies. If default is made by a company in complying with any
of the provisions of sections 252 to 254 or 256 to 258, the company and every
officer of the company who is knowingly and wilfully a party to the default
shall be punishable with fine which may extend to two thousand rupees.
Advantages of implementing cost audit in all big industries
would go a long way to contain tax evasions, improve tax collection, reduce
cost, counter inflation, increase profitability and dividend declaration,
consequently boosting investment in the industry, which will ultimately help in
development of self-sustaining macro economy of the country.
Mandatory Cost Audit has proved a very successful experience
in development of macro economies of SAARC countries such as India and
Corporate laws dealing with Mandatory/Statutory Compulsory
It is stated that under Section 233-B of the Companies Act,
1956 of India, the Central Government may direct an audit of cost accounts of
the company by "an auditor who shall be a Cost Accountant within the
meaning of Cost and Works Accountants Act, 1959 (23 of 1959).
The success of economic development in India and their lower
competitive cost in the international market is mainly due to vigilant and
implementation of cost accounting records in 44 industries covered under Cost
Accounting Records Rules as on 1-4-1998.
Having realised the importance of cost control after Indo-Pak
war of 1965, the Government of India started implementing Cost Accounting
controls w.e.f. 1-1-1967 and as a result industrial production cost in India has
come down after the post-war period.
The experience of cost audit in India has been very
excellent, as it is evident from the record of corporate governance, dividend
pay outs, modest level of price of industrial products and its competitive edge
in the export market, which speak volumes of the benefit of cost audit which
have accrued to the Indian economy.
Bangladesh Cost Audit (Reports) Rules, 1997
Section 2(c) Cost Auditor means Cost and Management
Accountants under Ordinance 1997 (LIII of 1997), thereafter Management
Accountant and any Cost Audit Firm shall be included as mentioned and defined in
this notification SRO 265-Law/97, Tuesday, November 18, 1997.
Section 3: Maintenance of Accounts Book/Ledger book
for some heads.
A company engaged in production, distribution,
transportation, processing crop grinding, preparation, powdering, mining and
lifting of minerals shall maintain cost account book for using materials,
instruments, labour and other overhead expenditure incurred for the above
Section 4. Audit of cost accounts by a Cost Auditor.
— Cost Accounting Accounts books of each and every company shall have to be
audited by a Cost Auditor and this audit will be additional to an audit by an
auditor appointed under section 210.
Section 5. Appointment of Cost Auditor.
(1) As per clause 220(1) upon the order of the Government the
Board of directors of a company fixing the fees, shall appoint Cost Auditor
within 30 days at the end of each financial year.
(2) As per sub-clause (1) the auditor, appointed by a company
as Cost Auditor shall intimate the Government his date of joining within 15 days
of his appointment.
Section 6. No body can be appointed as a Cost Auditor
if one is not a Cost and Management Accountant as defined in this notification:
on the conditions that no Cost & Management Accountant can be appointed if
he did not obtain certificate of practice from the Institute of Cost &
Management Accountants of Bangladesh as per this notification.
Cost Audit - An Experience of South East Asian
The history of Cost Audit traces back to the period of 1st
world war, when a large number of contracts were awarded on cost plus basis
which compelled the contractors to maintain cost accounting records and keep the
same open for scrutiny or audit by the Government.
Defence Suppliers and Contractors in USA have to maintain
cost accounting records in accordance with the Cost Accounting Standards laid
down by the Cost Accounting Standards Board (CASB). Same position exists in one
form or the other in other countries of the world. In case of monopolistic
situations it is generally made obligatory for certain specified industries to
maintain cost accounting records in accordance with the cost accounting
standards to facilitate the government to fix their prices on cost plus basis to
protect the interest of consumers. The above cost accounting records are
invariably checked or audited either by the Government Department or by the Cost
Auditor appointed by the Government.
In Corporate Sector, the regime of audit commenced from
statutory audit or financial audit which requires verification of business
transactions in order to form an opinion that the financial statement present
true and fair view of the affairs of the company. The emphasis is on the
priority or genuineness of business transactions. The financial audit is not
required to evaluate qualitative aspect of the performance of the company with
regard to Cost of Production or Sale. The format of profit and loss statement
prescribed by the regulatory authority require the Companies to disclose the
information on cost of production in a note which usually takes not more than
half a page. The financial health of any company largely depends on the cost of
production which constitutes a very substantial cash outlet of the company.
Readers of this financial statement can not evaluate whether the company has
performed in the most efficient manner in the given or prevailing circumstances.
The above shortcomings gave rise to the need to examine the
accounts of manufacturing concern with a view to ascertain whether the company
has been able to (a) achieve optimum level of production (b) eliminate or
minimize wastages (c) control consumption ratio of materials and energy (d) cut
down overhead expenses (e) deploy available manpower in the most efficient
manner (f) consider diversification of production wherever feasible and (g)
perform well in the given level of competition existing in the market. These
analysis are necessary not only from the point of investors but also from the
point of view of the government particularly in developing countries to ensure
that the scarce resources of the country are being deployed in the most
As mentioned earlier India has promulgated cost audit record
in selected industries. Uptil lst April 1998 a number of 44 types of industries
have been subjected to mandatory cost audit, covering thousands of companies. In
Pakistan cost audit rules were enforced in 1998, whereas in Bangladesh cost
audit was enforced in 1997.
Before approving cost audit in any specific industry, the
Securities and Exchange Commission of Pakistan (SECP) circulate cost accounting
records for public opinion. After receiving comments the SECP issues
Notification of cost accounting records order in simplified formats for adoption
by the specific industry. Reason being for implementing cost audit is that
Pakistan economy suffered badly since last decade and shattered in such a way
that at this critical juncture it has become a challenge for the government to
balance its industrial growth and promote its sales so as to bring harmony in
their factors of production and GDP.
Input cost of industrial sector in Pakistan is comparatively
higher than other countries in SAARC region. The high cost of domestic
production has rendered our export uncompetitive in the international market.
Manufacturing growth for large-scale industry in 1998-99 was
2.7 per cent while Small and Medium Enterprises (SMEs) grew 8.4 per cent in
1998-99 (July 98 to June 99). On this basis growth of large-scale industry
projected 4.3 per cent for the current year. At the same time projection of 8.4
per cent of growth for small scale manufacturing sub-sector for the current year
1999-2000 was made.
The growth performance of overall manufacturing in general
and large-scale manufacturing in particular has been lackluster at best in the
1990's. After growing at an average rate of 8.2 per cent in the 1980's, the
growth of large scale-scale manufacturing slowed to an average of 4.7 in the
first half and further to 2.5 per cent in the second half of the 1990s. During
the first 9 months period from July 1999 - March 2000 of the current fiscal
year, overall manufacturing has grown by 1.6 per cent as against 4.7 per cent of
the corresponding period of the last year. The perfommance of large-scale
manufacturing when viewed in term of statistics, has been weak during July -
March 1999-2000. As against 2.7 per cent growth of comparable period of last
year, the largescale manufacturing has registered an almost Zero growth this
Cost audit reports prescribed by the Securities and Exchange
Commission of Pakistan contain analysis and evaluation of following major areas
(a) production efficiency ratio (b) capacity utilization (c)
cost accounting, budgetary control and internal audit systems (d) Raw material
and energy consumption ratios (e) Direct and Indirect labour cost (f) Indirect
materials consumption and other repairs and maintenance (g) depreciation charges
(h) Overhead expenses (i) Financial charges (j) cost of production (k)
profitability analysis etc.
In order to focus on the economic competitiveness and to
balance the factors of production in manufacturing sector and safeguard against
economic exploitation with the global economic policies persued under WTO it is
strongly suggested that cost audit should be implemented in a very fast manner
just in the same way as it was done in India and Bangladesh who achieved the
desirable results arising out of the effective implementation of cost audit.
Cost audit under Section 258 of the Companies Ordinance
should be implemented at a faster speed for revival of macro economic activities
in the country. It is needless to mention that we have experienced a horrible
national indebtness, massive default of bank loans and failure of corporate
sector on account of mismanagement of national resources.
Cost Audit rules and compulsory maintenance of cost
accounting records for maximum number of industries, in line with the national
cost accounting models in other countries will prove to be a great help in this
The advent of 'mandatory cost audit' has not only been able
to culmination of 25 years of efforts of ICMAP, but also an important event in
the history of Cost and Management Accounting profession in Pakistan. Statutory
'cost audit', however involves statutory obligations. In performing Cost Audit
practicing CMA members do observe IFACs international audit Standards" and
also observe IFAC's Code of Ethics, 'applicable to professional accountant in
Further Cost Audit Handbook compiled by Institute of Cost and
Management Accountants of Pakistan is a guidance source for its practicing
According to an estimate the prices throughout the country
will shoot up by about 20% due to the recent devaluation of Pak rupee and its
mutilplier effect compounted by lack of financial sovereignty of Government of
Pakistan as well as increase in world prices of crude oil. Under this situation
prevailing in the country all industries are facing a big challenge to monitor
cost containment policies and gain comparative economic advantage over SAARC and
South Asian countries whose macro economies are picking and developing on the
basis of self- sustaining policies of their governments.
In costing structure of every product or activity there are
controllable and un-controllable factors whose behaviour determine the pattern
of product cost. Product cost increases due to uncontrollable factors such as
upward trend in inflation rates compounded by increase in utility charges,
increase in tax rates and frequent declining parity of Pak rupee especially to
US$ and other currencies in the international forex basket. Though these factors
are called as uncontrollable but to some extent these are controllable. For
example rates of electricity, gas, water, telephone may not need to increase
every year, if utilities companies exercise vigilant and effective cost control,
which also includes cost saving and cost reduction programmes. Tax rates should
consistently be used and increases of yearly tax rates and complicated /
regressive taxation systems be avoided so that corporate plans are not affected
and their profitability is not distorted due to inconsistent policies of the
government. The more difficult taxation system, the more will be the tax
evasion. The writer had observed simple taxation systems in various countries of
Private sector companies can keep their strength of human
resources at a bare minimum level and also keep their wages, salaries and labour
related benefits within the absorption limits of their products simultaneously
to implementation of cost savings and cost reduction programmes.
Cost pattern for the export of products should be changed
from the full absorption costing method to variable or marginal cost basis and
marginal profit should be fixed until such time the situation improves. Capacity
utilization should be increased to lower down the unit cost of product.
Productivity should be improved with keeping efficient human manpower on market
In order to achieve the above objective for controlling the
cost of product with their competitive advantage over other neighbouring
countries, professionals like cost and management accountants can be hired by
all industries, who will definitely play their pivotal role in this critical
juncture. Pakistan is facing tough competition for export of its' products in
the international markets due to higher and un-competitive cost of its products.
The financial audit does not evaluate the performance of the
company with regard to cost of production. It has greater emphasis on compliance
of law. Cost audit lays emphasis on performance evaluation and with analytical
review of cost data, detects the reasons of visible and invisible losses,
inefficiencies, unusual wastages and cost variances with the past performance,
and / or industry averages. By applying various management accounting
techniques, cost audit results in reduced cost of production, added competitive
advantage, and profit maximization. At the macro level, it improves tax
collection, counter inflation, and give a fillip to dividend, investment and
The writer is Director Research of Institute of Cost and
Management Accountants of Pakistan (ICMAP).