Chapter 9 Question 54

Data Analytics Using Excel: A Case in the Context of the Pharmaceutical Industry

(LO 5 - Describe how to use planning analytical procedures to identify possible material misstatements for revenue cycle accounts, disclosures, and assertions., 8 - Determine and apply sufficient appropriate substantive audit procedures for testing revenue cycle accounts, disclosures, and assertions.)

This case will enable you to practice conducting planning and substantive analytical procedures for accounts in the revenue cycle. When analyzing the financial data, you may assume that the 2015 information is unaudited, while prior year data is audited.

As you complete this case, consider the following features of and trends in the pharmaceutical industry and for PharmaCorp specifically:

• After a long period of industry dominance by companies in the United States, the United Kingdom, and Europe, these companies are facing increasing competition from companies domiciled in emerging economies, such as Brazil, India, and China.
• There exists significant uncertainty in the market because of recent regulation covering health-care and government payouts for certain procedures and related pharmaceuticals.
• Health-care policy makers and the government are increasingly mandating what physicians can prescribe to patients.
• Health-care policy makers and the government are increasingly focusing on prevention regimes rather than treatment regimes, thereby leading to shifts in the demand for various pharmaceuticals.
• The global pharmaceutical market is anticipated to grow by 5% to 7% in 2016 compared with a 4% to 5% growth rate in 2015, according to a leading industry analyst publication.
• Beginning in 2014, PharmaCorp initiated and executed a significant company-wide cost reduction initiative aimed at improving manufacturing efficiency, cutting back on research and development expenses, and eliminating unnecessary corporate overhead.
• PharmaCorp's policies for extending credit to customers has remained stable over the last three years. PharmaCorp's credit-granting policies are considered stringent within the industry, and analysts have sometimes criticized the company for this, contending that such policies have hindered the company's revenue growth relative to industry peers.
• Two of PharmaCorp's popular pharmaceuticals, Selebrax and Vyvox, came off patent during the fourth quarter of FYE 2015. These pharmaceuticals now face competition in the generic drug portion of the overall industry market.

1. Step 4 and Step 5: Define and Identify Significant Unexpected Differences. Refer to the guidance in Chapter 7 on overall materiality, performance materiality, and posting materiality. Apply those materiality guidelines to Step 4 of planning analytical procedures in the revenue cycle for PharmaCorp, to define what is meant by a significant difference. Explain your reasoning. Also, comment on qualitative materiality considerations in this context. Now that you have determined what amount of difference would be considered significant, calculate the ratios identified in Step 1 (and any additional ratios or trend analyses that you suggested), based on PharmaCorp's recorded financial statement amounts. Identify those ratios where there is a significant unexpected difference.

1. Step 6 and Step 7: Investigate Significant Unexpected Differences and Ensure Proper Documentation. Complete Step 6 of planning analytical procedures by describing accounts or relationships that you would investigate further through substantive audit procedures. Explain your reasoning. To complete Step 7, describe what information should be included in the auditor's workpapers.

Step 6: The accounts that should be investigated further should be, first cash and cash equivalents. This account has a very high increase from 2014 to 2015, as well as having a material amount in the account. It would need to be supported from documents such as cash receipts that Pharma corp has that much liquid cash on hand. Another account that needs to be investigated is inventories. It is very easy to misstate that PharmaCorp has the rights to inventory. Even though they believe it is their inventory they may not have received ownership of it. A relationship to investigate would be PharmaCorp's gross margin. Gross margin can be compared across the pharmaceutical field and see how PharmaCorp compares to other companies of similar size. If their gross margin is similar to others in the field it will show that they are recognizing costs and revenues in line with others. If it is not similar and the gross margin is higher they could be over reporting revenues and if gross margin is lower they could be over reporting costs to avoid tax.

Step 7 The information provided in the auditor's working papers should include. How the audit was planned by the auditing team. What process the team used to carry out for example how documents were procured, meetings with client management, etc. Who the supervisor of the audit was to ensure that the audit was completed properly and that the team performing it was skilled enough to complete the audit. Also, in the information included should be the evidence that supports the conclusion and opinion the audit team came to.