Assignment Question

PharmaCorp will be used as the main analytical procedure tasks you will want to focus on for this assignment. The other companies, Novartell, and AstraZoro will be used as industry comparisons. The opportunity exists, in this case, to perform planning and substantive analytical procedures for accounts in the acquisition and payment cycle. You may assume that the 2015 financial information is unaudited, but the information from 2014 has been audited. Consider the following trends and characteristics of the pharmaceutical industry and for PharmaCorp in particular as you work on this case: Following many years of dominant financial performance by companies in the United States, Europe, and Canada, increased competition is arising from organizations in emerging economies such as Brazil, India, and China. Significant uncertainty exists in the industry due to regulations covering healthcare and government reimbursements related to certain procedures and prescribed pharmaceuticals. Policymakers in the industry and governments increasingly: Mandate necessary prescripts for patients Focus on prevention instead of treatment regimes, thereby leading to changes in demand for some products Anticipated growth in the industry is expected to be 5% to 7% in 2016 compared with 4% to 5% in the prior year as stated by leading industry analysts. PharmaCorp’s credit policies have remained the same over the past several years. Their credit policies are considered stringent in their industry, and they have been criticized on occasion for these policies in relation to their competitors. Two of the company’s most popular pharmaceuticals, Sistosis and Vigarvox, are no longer patented as of the last quarter of 2015 and are now facing competition from generic alternatives. Information specific to the Acquisition and Payment Cycle Raw materials inventory required in the businesses are purchased from numerous suppliers. No serious shortages or delays of raw materials inventory were encountered in 2015, and none are expected in 2016. PharmaCorp has successfully secured the raw materials inventory necessary to meet its requirements where there have been short-term imbalances between supply and demand, but generally at higher prices than those historically paid. A risk that companies in this industry face with respect to the acquisition and payment cycle is that there is a possibility of failing to maintain the integrity of supply chains, possibly resulting in intentional and criminal acts such as product diversion, product theft, and counterfeit raw materials inventory. In response to pricing pressure, several major suppliers changed their policy with respect to discounts for early payment of amounts due on credit sales. In response, PharmaCorp changed its policy of paying within two weeks to paying within four weeks since it is no longer monetarily beneficial to do so from a cash management perspective. Required: Part I: Planning Analytical Procedures Step 4 and Step 5: Define and Identify Substantial Unanticipated Variances. Refer to the text for guidance on materiality. Apply those guidelines to Step 4 of planning the analytical procedures as part of the acquisition and payment cycle for Pharmacorp. Define the meaning of a significant difference. Discuss your reasons for these choices. Discuss the qualitative materiality considerations in relation to this case. Once you have determined the levels of difference you would consider noteworthy, calculate the Step 1 ratios (and any additional trend or ratio analysis you deemed necessary), based on Pharmacorp’s financial statement figures. Identify the ratios where you expect a significant difference. Note: Refer to Step 1 in your Module 3 Critical Thinking assignment for the ratios. Step 6 and Step 7: Investigate Substantial Unanticipated Variances and Ensure Appropriate Documentation. Discuss the accounts or relationships you feel should be investigated further using substantive audit procedures. Discuss your reasons for these choices. Describe the information that should be a part of the auditor’s report or files. Y

Answer

Introduction

PharmaCorp, a prominent pharmaceutical company, stands as the focal point of our analytical procedures, while Novartell and AstraZoro serve as industry benchmarks. This paper delves into planning and executing substantive analytical procedures for accounts within the acquisition and payment cycle, building upon the assumption that the 2015 financial data is unaudited, whereas the 2014 data has undergone auditing. The pharmaceutical industry, particularly PharmaCorp, faces a dynamic landscape, influenced by factors such as emerging market competition, healthcare regulations, and shifting consumer preferences. This paper will provide a detailed analysis of PharmaCorp’s acquisition and payment cycle, focusing on defining significant differences, selecting ratios for analysis, investigating variances, and documenting audit procedures.

Planning Analytical Procedures

Step 4: Define and Identify Substantial Unanticipated Variances

Materiality plays a crucial role in planning analytical procedures, allowing auditors to identify significant differences that warrant further investigation (Whittington & Pany, 2017). In this case, materiality considerations should account for the uncertainties and competitive pressures within the pharmaceutical industry. PharmaCorp’s credit policies are notably stringent, a characteristic that sets it apart in the industry. The decision to maintain these policies has generated some criticism. Given this, it is essential to consider whether any variances in credit policies might lead to substantial differences in financial performance. Additionally, the expiration of patents for Sistosis and Vigarvox may affect profitability. Thus, we should closely monitor the revenue and profit margins associated with these products.

Qualitative materiality considerations in this case should address the competitive landscape and evolving industry regulations. As emerging market players introduce competition, PharmaCorp must navigate new challenges. Materiality considerations should weigh the potential impact of this increased competition and the expiration of patents on the company’s financial statements. Once materiality levels are determined, specific ratios should be selected for analysis. Key ratios include liquidity ratios (current ratio and quick ratio), profitability ratios (gross margin and net profit margin), and efficiency ratios (inventory turnover and accounts payable turnover). We expect significant differences to emerge in the liquidity ratios due to changes in credit policies, while profitability ratios may reflect the impact of generic competition (Alvin & Parisi, 2021).

Step 6: Investigate Substantial Unanticipated Variances

To identify and investigate substantial variances, we must focus on accounts and relationships that could be affected by the factors discussed earlier. The accounts to investigate further include accounts receivable, accounts payable, and inventory. In particular, accounts payable may be influenced by changes in payment terms, which could affect liquidity and working capital. For accounts receivable, we need to determine if changes in credit policies have affected the aging of receivables or the allowance for doubtful accounts. The inventory turnover ratio can help us gauge the impact of the expiration of patents on Sistosis and Vigarvox. Slower inventory turnover may signify decreased demand for these products.

In the case of accounts payable, it is crucial to investigate the impact of extended payment terms on working capital. Auditors should confirm whether the change from paying within two weeks to paying within four weeks is reflected in the financial statements. If this change is not properly accounted for, it could misrepresent the company’s liquidity position.

Step 7: Ensure Appropriate Documentation

Proper documentation constitutes a cornerstone of the audit process, serving as an indispensable element in maintaining transparency and accountability. The thorough documentation of audit procedures is crucial for both auditors and stakeholders. The auditor’s report and files must encompass comprehensive details regarding the entire audit journey. In these files, auditors meticulously record the specific procedures conducted during the audit. This documentation outlines the steps taken to assess various aspects of the company’s financial statements. The objective is to provide a clear record of the processes followed and the data reviewed, facilitating a comprehensive understanding of the audit’s scope and rigor. Furthermore, effective documentation extends to the evidence obtained during the audit. This includes all relevant documents, records, and information that support the auditor’s findings and conclusions. By meticulously cataloging evidence, auditors establish a solid foundation upon which to base their assessments, ensuring accuracy and credibility in the audit process.

In addition to procedure details and evidence, the auditor’s report is a critical component of documentation. The report communicates the audit’s outcomes, summarizing key findings and conclusions. It also highlights any material misstatements or irregularities detected during the audit, thus acting as a red flag for stakeholders and an assurance of accuracy. In essence, the auditor’s report not only conveys the audit’s findings but also contributes to the overall transparency and trustworthiness of financial reporting. By summarizing and highlighting key issues, it provides stakeholders with a clear and concise overview of the audit’s impact on the company’s financial statements. This transparency is a fundamental aspect of ensuring the integrity and reliability of financial information in the pharmaceutical industry, reinforcing trust among investors and the broader public.

Conclusion

Analyzing PharmaCorp’s acquisition and payment cycle requires a meticulous planning of analytical procedures, considering materiality and industry-specific factors. Auditors must define significant differences and select relevant ratios to monitor. Investigating substantial variances in accounts receivable, accounts payable, and inventory is crucial to understand the impact of changing policies and generic competition. Effective documentation ensures transparency and accountability in the audit process, ultimately safeguarding the integrity of financial reporting.

References

Whittington, R. O., & Pany, K. (2017). Principles of auditing and other assurance services. McGraw-Hill Education.

Alvin, M., & Parisi, R. (2021). Pharmaceutical Industry Analysis. Investopedia.

Frequently Asked Questions (FAQ)

Q1: What is the focus of the paper on PharmaCorp’s acquisition and payment cycle analysis?

A1: The paper primarily centers on the planning and execution of analytical procedures for PharmaCorp’s acquisition and payment cycle, considering industry-specific factors.

Q2: Why is materiality essential in planning analytical procedures?

A2: Materiality is crucial because it helps auditors identify significant differences in financial data that warrant further investigation.

Q3: Which specific accounts should auditors investigate in the acquisition and payment cycle analysis?

A3: Auditors should focus on accounts receivable, accounts payable, and inventory to understand the impact of changing policies and generic competition.

Q4: What role does proper documentation play in the audit process?

A4: Proper documentation is vital for transparency and accountability, ensuring that all audit procedures and findings are well-documented and available for review.

Q5: How can auditors safeguard the integrity of financial reporting in the pharmaceutical industry?

A5: Auditors can safeguard financial reporting by rigorously planning, investigating variances, and documenting their audit procedures while considering industry-specific factors.