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Cost and Management Audit · Operational Audit and Internal Audit under Companies Act, 2013

Operational Audit: Meaning, Objectives and Approach

Updated 11 October 2026 · Fact-checked

Operational audit is a systematic review of an organisation's operations to judge whether resources are used economically, efficiently and effectively. You solve a question by naming the area, stating the 3 Es, applying the phases (planning, fieldwork, reporting, follow-up), finding gaps against criteria, and recommending action.

Understand Operational Audit: Concept, Objectives and Approach

Start with a simple idea. A financial audit asks, "Are the accounts true and fair?" An operational audit asks, "Are the operations well run?" It looks at how a function, process or department works, not only at what it records.

The test is the 3 Es. Economy means acquiring resources of the right quality at the lowest reasonable cost. Efficiency means getting the maximum output from the inputs used. Effectiveness means achieving the goals and intended results. A plant can be efficient (low cost per unit) and still ineffective (making a product nobody wants).

The objectives are to assess performance against set criteria, find waste and control weaknesses, check compliance with policies, and recommend improvements. The scope is wide: production, purchasing, stores, marketing, HR, IT or any process. It is not limited to accounting records. The audience is mainly management, so the output is advice, not an opinion on financial statements.

The approach follows phases. In planning, you understand the area, set objectives and criteria. In fieldwork, you collect evidence through observation, interviews, flowcharts, data analysis and comparison with standards or benchmarks. In reporting, you state findings, causes, effects and recommendations. In follow-up, you check whether management acted.

Differences matter in exams. Financial audit is backward-looking, statutory for companies, and focused on true and fair view. Internal audit is performed by or for the entity and covers controls, risk and governance. Operational audit is a type of review that can be done by internal auditors, cost auditors or outside experts. Its focus is performance, and it is forward-looking. Under the Companies Act, 2013, section 138 provides for an internal auditor (a chartered accountant, a cost accountant or another professional decided by the Board) for prescribed classes of companies. Section 177(4) lists the Audit Committee's terms of reference, which include evaluating internal financial controls and risk management systems. Operational audit findings can feed into both.

Key rules to remember

The 3 Es
Economy = lowest reasonable cost of inputs; Efficiency = output ÷ input; Effectiveness = actual results ÷ intended results
Use these as tests for every finding. Efficiency and effectiveness can be measured as ratios if data is given.
Phases of operational audit
Planning → Fieldwork → Reporting → Follow-up
Some books split planning into preliminary survey and detailed planning. Keep the order.
Audit finding structure
Criteria → Condition → Cause → Effect → Recommendation
Write each finding in this order to earn marks for application.

How to solve Operational Audit: Concept, Objectives and Approach questions

Use this method for any question on operational audit, whether it is theory or a short case.

  1. 1Define operational audit in one line: a review of operations for economy, efficiency and effectiveness.
  2. 2Identify the area under review in the case (stores, production, purchase and so on).
  3. 3Set the criteria: budgets, standards, norms, benchmarks or policy.
  4. 4Compare the facts given with the criteria and label each gap as an economy, efficiency or effectiveness issue.
  5. 5State the cause and the effect of each gap, in rupees if figures are given.
  6. 6Give practical recommendations with an owner and a follow-up check.
  7. 7If asked for differences, use points such as objective, focus, time, reporting and users, and keep the pairs matched.

Quickest way: 3 Es plus 4 phases

When to use it: Use when you have little time or the question is a short note or MCQ.

  1. Write the three Es with one-line meanings.
  2. Write the four phases in order.
  3. Add one example from the case area.
  4. Add one line on how it differs from financial audit (performance versus true and fair view).

Common mistakes in Operational Audit: Concept, Objectives and Approach

  • Treating operational audit as a financial audit of a department.

    Students are used to verifying accounts and vouching.

    Fix: Say the focus is performance and use of resources. It does not give an opinion on true and fair view.

  • Mixing up efficiency and effectiveness.

    Both sound like 'doing well'.

    Fix: Efficiency is about inputs versus outputs. Effectiveness is about whether goals were achieved. Give one example of each.

  • Ignoring economy.

    Students remember only two Es.

    Fix: Always cover all three. Economy relates to cost and quality of inputs, such as purchase price and wastage.

  • Writing findings without criteria or recommendations.

    Students list problems like a complaint note.

    Fix: Use criteria, condition, cause, effect and recommendation for each finding.

  • Saying operational audit is the same as internal audit.

    Internal auditors often perform it.

    Fix: Internal audit is a function with wider scope covering controls, risk and governance. Operational audit is a type of review that can be done within it or by others.

  • Leaving out follow-up.

    Students stop at the report.

    Fix: Add follow-up as the final phase to confirm that agreed actions were implemented.

Worked examples

Example 1

Explain operational audit and its objectives. Distinguish it from financial audit on any four points.

Show the solution
  1. Define: operational audit is a systematic review of an entity's operations to assess economy, efficiency and effectiveness and suggest improvements.
  2. Objectives: assess performance against criteria; identify waste and weak controls; check policy compliance; recommend improvements to management.
  3. Difference on objective: financial audit gives an opinion on true and fair view; operational audit evaluates performance.
  4. Difference on time focus: financial audit is mainly historical; operational audit also looks ahead to improvement.
  5. Difference on scope: financial audit covers financial statements; operational audit covers any function or process.
  6. Difference on users: financial audit serves owners and other stakeholders; operational audit serves management.

Answer: Operational audit reviews operations for the 3 Es and advises management. It differs from financial audit in objective (performance versus true and fair view), time focus, scope and users.

Example 2

A stores audit of an Indian manufacturing company finds: raw material was bought at ₹520 per kg when a reliable supplier offered ₹480 for the same quality; 5,000 kg was bought. Also, the store's output target was 10,000 units from the materials issued but only 9,000 units were produced. Identify the 3 E issues and quantify where possible.

Show the solution
  1. Economy: the price paid was higher than the available price. Excess cost = (₹520 − ₹480) × 5,000 = ₹40 × 5,000 = ₹2,00,000.
  2. Effectiveness: target 10,000 units, actual 9,000 units. Achievement = 9,000 ÷ 10,000 = 90%, so the target was missed by 10%.
  3. Efficiency: the same materials produced 9,000 instead of 10,000 units, so output per kg fell by 10%. The cause may be wastage or poor handling and needs investigation.
  4. Recommend: use competitive quotations and approved supplier lists; set wastage norms; investigate the 1,000-unit shortfall; follow up in the next quarter.

Answer: Economy: excess purchase cost of ₹2,00,000. Effectiveness: 90% of target achieved. Efficiency: output per unit of material is 10% lower than planned. Recommendations: competitive buying, wastage control and a follow-up review.

Exam tips

  • Always write the 3 Es by name and tie each point in a case to one of them.
  • For differences, give at least four matched points. Marks are lost on one-sided answers.
  • In case questions, quantify gaps in rupees or percentages and then recommend.
  • If asked about links to the Companies Act, 2013, mention section 138 for internal auditors and section 177(4) for the Audit Committee's role in internal financial controls and risk management systems.
  • Mention follow-up. Many answers skip it.

Practice questions from Operational Audit and Internal Audit under Companies Act, 2013

Operational Audit: Concept, Objectives and Approach in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Operational Audit: Concept, Objectives and Approach: frequently asked questions

What are the 3 Es in operational audit?

They are economy, efficiency and effectiveness. Economy is about the cost of inputs, efficiency is about output per unit of input, and effectiveness is about achieving the intended goals.

What is the difference between operational audit and financial audit?

Financial audit gives an opinion on whether the financial statements show a true and fair view. Operational audit assesses how well operations perform and recommends improvements to management.

What are the steps in an operational audit?

The usual phases are planning, fieldwork, reporting and follow-up. Planning sets objectives and criteria, fieldwork gathers evidence, reporting presents findings and recommendations, and follow-up checks action taken.

Is operational audit the same as internal audit?

No. Internal audit is a wider function covering controls, risk and governance. Operational audit is a performance-focused review that internal auditors often carry out, but others can too.