QUESTION 2
You are an audit senior at Trumps Auditors Incorporated (B&K), currently involved in the
finalisation stage of the statutory annual audit of Pfixer and its two subsidiaries, Moderney
Medical Scheme and Lohnson and Lohnson which produced vaccines for Covid 19,
Monkey pox and the HIV virus for the financial year ended 30 June 2024.
All the pharmaceuticals are listed on the Johannesburg Stock Exchange (JSE) listed
company in the health care industry of South Africa with Moderney being on the
Alternative Stock Exchange (AltX). They recently branched off their operations to invest
in Neural ink, a brain chip that would help the crippled and visually impaired. Quite
recently a paraplegic had gained full function of their arms, back and legs due to this new
technology.
The final materiality for the 2024 statutory annual audit is set at R3 billion for Moderney
was R1,2 billion for Lohnson and Lohnson for the consolidated financial statements of
Pfixer.
Moderney is an independent non-profit medical scheme governed by the Medical
Schemes Act and regulated by the Council for Medical Schemes. It has assisted United
nations in various wars in the Democratic Republic of Congo, Palestine, Ukraine and
Libya. It has a good record of diligently paying their clients’ qualifying medical costs and
providing excellent service to its members.
By separating medical scheme and administration functions between Moderney and
Lohnson, the Pfixer group of companies has been able to gain a significant competitive
advantage by expanding its offerings to the health care market without contravening the
Medical Schemes Act. These services and products include for example the purchase
and repackaging of vitamins as well as endorsed weight management products leading
to huge profit margins.
Several pharmaceuticals entered into the market reducing Pfixer profit margin. In order
to secure their share prices, Pfixer doubled the actual value of their earnings per share.
You found discovered that the CEO of Pfixer Lucius Black substituted important
ingredients in their vaccines with cheaper less efficient ones. Moreover, they had
exaggerated the efficacy of their vaccines. A decision was taken at a board meeting
before year end, to procure the necessary repackaging and labelling old drugs and
marketing them as new innovations that would cure mental illness. Lucius had a 25 % of
Pfixers while his son held 10%. Lucius emoluments were not disclosed in the notes to
financial statement.
His best friend Vivek headed the audit committee. Lucius and Vivek had extravagant
holidays spending up to R1 million which they justified as necessary since they brought
in billion dollar revenues. Hunter his stepson owned the marketing company that
rebranded and advertised the old drugs as new, exaggerating their efficacy. Hunter gave
his father a lucrative discount. A whistleblower working in the laboratories recently died
in a car crush.
REQUIRED
(a) Determine whether a reportable irregularity exists in terms of the Auditing Profession
Act regarding Pfixers operations (13)
(b) Recommend an audit engagement strategy suitable for this scenario(13)
(c) Discuss the audit evidence and sampling techniques you would use in this case
study(10)
(d) Show how you will use information technology throughout the audit process(9
(a) In this scenario, several red flags have been raised regarding potential reportable irregularities at Pfixer. These include:
- Substitution of important ingredients in vaccines with cheaper, less effective ones
- Exaggeration of the efficacy of vaccines
- Procurement of repackaged old drugs marketed as new innovations
- Lack of disclosure of CEO's emoluments
- Questionable relationships and conflicts of interest among key personnel
- Suspicious circumstances surrounding the death of a whistleblower
Based on the information provided, it is likely that a reportable irregularity exists in terms of the Auditing Profession Act. It is important for the audit team to conduct further investigation and gather additional evidence to substantiate these concerns.
(b) In order to address the potential irregularities at Pfixer, the audit engagement strategy should include:
- Conducting a thorough investigation into the allegations raised
- Reviewing internal controls and governance structures to identify weaknesses
- Performing additional audit procedures to verify the accuracy and reliability of financial information
- Seeking external expert assistance if needed
- Reporting findings to the appropriate regulatory authorities if irregularities are confirmed
(c) In this case study, the audit evidence and sampling techniques that could be used include:
- Review of internal documents, contracts, and correspondence related to vaccine ingredients and drug procurement
- Interviews with key personnel involved in the decisions and transactions under scrutiny
- Analysis of financial statements, including income statements, balance sheets, and cash flow statements
- Examination of supporting documentation such as invoices, purchase orders, and shipping records
- Re-performance of calculations and comparisons to industry standards and benchmarks
(d) Information technology can be utilized throughout the audit process in the following ways:
- Data analysis tools can be used to perform analytical procedures and detect anomalies
- Electronic workpapers can be created and maintained for documentation and review
- Audit management software can help coordinate and track audit procedures and findings
- Digital imaging and scanning can be used to store and retrieve relevant documents
- Anti-fraud software can be employed to identify potential financial irregularities and discrepancies