Pharmacare Laboratories (Pvt) Ltd.

Cost AccountingProject 1

Presented to:Ms. Maheen Khan

Presented by:Mahira IftikharM Tanzeel MohsinNida Zahid ButtTaimoor FakharUsman Omer

Contents1.Introduction11.1.Product Portfolio21.2.Vision Statement21.3.Mission Statement22.Production Flow Chart23.Job order Costing34.Trend Analysis35.Horizontal Analysis56.Vertical Analysis67.Ratio Analysis77.1.Ratios to orient the outsiders77.1.1.Current Ratio77.1.2.Acid-Test Ratio87.1.3.GP Margin87.1.4.EBT/Sales87.1.5.ROCE97.2.Ratios to orient the insiders97.2.3.Manufacturing cost per unit: (CGM/units manufactured)107.2.4.Average cost per unit sold: (Cost of goods sold/units sold)118.Conclusion119.Recommendations1210.Limitations1211.Appendix13Figure 1. Trend Analysis13Figure 2. Horizontal Analysis14Figure 3. Vertical Analysis15

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2. IntroductionThe Pakistan Pharmaceutical Industry meets around 70% of the country's Demand. The Pharmaceutical Industry in Pakistan has grown during the last few decades. At the time of the independence in 1947, there were few production units in the country. Currently Pakistan has about 400 low technology, large volume, pharmaceutical formulation units mainly running on Chinese equipment, including those operated by 25 multinationals present in the country. Pharmaceutical industry is overlooked by Drug Regulatory Authority of Pakistan and it is considered as the most regulated industry in Pakistan.

Pharmacare Laboratories is one of the leading Pharmaceutical Companies of Pakistan, engaged in manufacturing pharmaceutical drugs since 1985. Mr. Babar Mehmood Chaudhry, CEO of Pharmacare worked for over a decade in pharmaceutical industry in Spain. He returned to Pakistan later to set up Pharmacare along with his 4 brothers who then by their professional approach and un-tired efforts built Pharmacare into a Pharmaceutical industry of tremendous potential.

The quality of all the drugs formulations manufactured complies with the international required standards like United States Pharmacopeia standard, and British Pharmacopoeia standard. The company follows Good Manufacturing Practices (GMP), and current good manufacturing practices (CGMP). The firm is ISO 9002 certified. The high end services of Pharmacare stretches from consistent high quality, constantly expanding portfolio to timely deliveries etc. conforming to the most stringent as well as demanding International Standards.

Pharmacare has always remained active to meet the health care need of patients with the help of their qualified and experienced workforce. Company is committed to make use of highest level of scientific knowledge, changing technology and continuous innovation to discover, develop and deliver innovative, cost effective quality medicines second to none to the consumers.

Pharmacare continues to serve their customers and contribute towards improving health care in Pakistan. Company sets the standards for quality, efficacy, and safety of medicines. The trust of consumers on companys quality medicines, treatment and cure of diseases in key therapeutic areas, allow Pharmacare Laboratories to become one of the leading Pharmaceutical manufacturing company in Pakistan. Company has a wide spread network of distribution which allows them to reach consumers in areas far from the production facility efficiently.

2.1. Product PortfolioPharmacare currently has a portfolio of over 100 products which has been growing over years. Company has characterized their products into 4 broad categories; Suspension; Capsule; Tablets; Injections. They currently deals in 7 Therapeutic classes; Antianxiety, Analgesic, Antiulcer, Hypolipidemic; Antiatheroma; Antiplatelet; Hematinic. The product under our study is Pharfen, and the most common name used in market is Brufen for this as the main salt is Ibuprofen.

2.2. Vision StatementWe aspire to be recognized globally as reliable, trusted and most valued healthcare company.

2.3. Mission StatementTo walk through the path of new technology, pursuing scientific Knowledge, continuous Research and Development, innovation and quality assurance discover, develop and deliver innovative, cost effective and quality medicines that help patients to prevail over serious diseases. Thus ensure benefit to the society at large.

3. Production Flow Chart

Production of any drug begins after the sales teams complete their survey and provide production manager with forecasted sales figure. Production managers after receiving forecasted figure, prepares a Raw material requisition sheet for batch production. Once its prepared, company releases stock for production, which by law has to pass through Quality Control (QC) department to ensure the optimum quality of salts used for manufacturing drugs. After a green signal from QC department, production begins where salts are mixed and put in shape with the help of mechanical equipment and requires less labor effort. In the subsequent stage, drugs are put into containers and labelled which is labor intensive process. Lastly finished drug is inventoried for sale over the next year.

4. Job order CostingPharmacare is currently using job order costing as they have a wide portfolio of above 100 products and to set a price for each product, they have to compute the cost associated with its manufacturing. For the calculation of total cost of Pharfen, Company applies 15% factory overhead rate to prime cost for calculation of factory overhead. 5% wastage of actual raw material of drug is taken in advance and added to total cost of raw material to account for wastage of raw material. 3% wastage of packaging material is also taken in advance and added to cost of packaging material to account for waste of packaging material.

5. Trend AnalysisFigure 1 in appendix represents the trend analysis of the CGS statement of Pharmacare Pharmaceuticals for the years 2012-2014 where 2012 is considered as a base year. The increase or decrease in the values of components of CGS statement is analyzed in comparison with the base year. Direct material used in the production remained same in the year 2013, whereas a slight increase in year 2014 can be seen. This may be attributed to the fact that sales have increased in 2014 and to sell more, company had to produce in greater amount so more of the direct material was required for production. Another possible reason for this can be the rising prices of raw material. As most of the raw material for pharmaceutical industry is imported so the change in international price effects heavily. Fluctuation in price of dollar also has an effect on prices of raw material. Direct labor price increased from 2012 to 2013 because the government of Pakistan in their budget increased labor wage as a result of which company had to pay higher wages to the working labor in the factory. In 2014, labor wage remained the same whereas the supervisor wage increased. As a net effect of direct material and direct labor, prime cost in 2013 has remained same as of 2012 whereas, in 2012 it is 109%. This is mainly due to rise in the use of direct material. Factory overheard is divided further into 7 components. Travelling and transportation expense increased to 119% in 2013, and it further increased to 146% in 2014. This is due to the fact that petrol prices in Pakistan has been rising since 2012 and it 2013 petrol price was around PKR 90 whereas in 2014, increased to all time high of PKR 115. Furthermore, to increase sales more effort was required from sales team so sales team had to travel more which increase the expenses. Factory equipment and maintenance cost has also increased from 2012 to 109% in 2013 and to 118% in 2014. This can be attributed to the fact that the company was incorporated in 1985 and machine and equipment since then has been upgraded only once. So, as the time is passing by, machines are getting older thus requiring more maintenance. Energy prices in Pakistan have seen the highest percentage rise over last 2 years which is why the company expenses on energy have risen to 137% in 2013 and then 183% in 2014. Insurance cost has seen a declining trend, 91% in 2013 and 89% in 2012. Over the last decade, insurance companies have grown like mushrooms and as a result competition has risen so the insurance premium charged to consumers have decreased. As a result of the fall in insurance premiums, company insurance expense has reduced. Provision for expired stock has been kept almost constant for three years. Since medicines have an expiry of about three years, company has to ensure first in first out policy strictly but still if some medicine expires with the retailer, company has to buy it back. Other expenses of the company increased in 2013 to 127% and then declined back to 112% in 2014 but were still higher than 2012. Other expenses included renovation cost of the factory area in 2013 which resulted in such a high rise as compared to 2012. Total factory overheads as result of the components have seen a rising trend and it increased to 127% in 2013, and 143% in 2014. Such a high rise can be contributed to many components but the most standing our component is energy cost and travelling and transportation cost. Total manufacturing cost and cost of goods manufactured as a result of increase in direct material, direct labor and factory overheads has also seen a rising trend and increased to 104% in 2013, and 113% in 2014. Beginning finished goods has seen a hyper increasing trend to 748% in 2013 and 1131% in 2014. This hyper increase in finished goods is a result of low quality drug case that was filed in 2013 in Pakistan, when a drug took lives of consumers because of poor standard of a certain raw material being imported. This made consumers to lose their trust in national pharmaceutical companies and they shifted to multinationals or imported drugs. Because of this, Pharmacare inventory rose, which is why theres such a high percentage rise in finished goods inventory. As a result of such a high percentage of beginning finished goods, cost of goods available for sales also rose to 110% in 2013 and 124% in 2014. However, ending finished goods inventory has declined in 2014 to 62%. This is because the company produced less number of medicines in comparison to last year to clear the previously inventoried stock. Combining the effect of all of these components, CGS has experienced a rising trend as well to 107% in 2013 and 129% in 2014.

6. Horizontal AnalysisFigure 2 in Appendix represents the horizontal analysis of the Cost of Goods Sold Statement of Pharmacare Laboratories Pvt. (Ltd.) for the years 2013 and 2014. The sales of the company have increased by 1% from 2012 to 2013 and by 26% from 2013 to 2014. An increase in sales have resulted in an increase in the cost of direct materials used in the production process. The prime cost which consists of direct material component and the direct labor component has remained almost same in 2013 while it increased from 2013 to 2014 by 9%. The direct material cost remained almost same in 2013 as it was in 2012, but increased by 9% in 2014. This increase is attributed to an increase in the prices of raw materials purchased as well as the foreign exchange factor involved in the import of these materials. The direct labor cost increased by 4% from 2012 to 2013. This was because of an increase in the wage rate by the government which drove up the prices of factory workers directly involved in the production process. The factory overhead are the costs that are incurred during the manufacturing process, but do not include direct materials and direct labor. The factory overhead costs for Pharmacare Laboratories Pvt. Ltd. include a total of 7 components. The travelling and transportation expenses increased from 2012 to 2013 by 19% and rose by a further 22% in 2014. This increase was attributed to an increase in the petrol prices as well as transportation expenses. As mentioned earlier, the prices of petrol increased over the two years resulting in an increase in the energy costs. The costs incurred to maintain the factory equipment increased by 9% from 2012 to 2013 and by 8% from 2013 to 2014. The company has started to upgrade its facility which results in a lesser maintenance cost for the equipment. The highest percentage of increases in the factory overheads were related to energy. A continuous increase in energy prices has resulted in an increase from 2012 to 2013 by 37% and from 2013 to 2014 by 33%. The manufacturing process is highly automated and thus the machinery required in the production process consumes energy. An increase in the energy prices has resulted in an increase in the percentage increase over the two years. The insurance costs related to factory have seen a downward trend. The insurance costs decreased by 9% from 2012 to 2013 and by 3% from 2013 to 2014. This decrease was due to a fall in the insurance policies caused by greater competition in the market as mentioned earlier. The depreciation expenses related to factory equipment has increased significantly by 15% from 2012 to 2013. This increase is due to the fact that the equipment used is being highly worn and torn. The expense was however, was controlled slightly in the year 2014 and the increase from the previous year was only 5%. This is because the company has started to upgrade its equipment. The provision for expired stock has seen a minor increase of 1% from 2012 and 2% from 2013. Whereas, other expenses related to the factory increased significantly from 2012 to 2013 by 27%. However, the company was able to manage these costs in the following year and there was a decrease by 11% from 2013. In total, the factory overheads increased by 27% from 2012 to 2013 and by 13 % from 2013 to 2014. The prime costs and factory overheads summed up to cause an increase in the total manufacturing costs of about 4% in 2013 and 9% in 2014.Lastly, there was a significant increase in the beginning inventory of finished goods from 2012 to 2013. The finished goods beginning inventory increased by 648% in 2013. This increase was due to the piling up of inventory not being converted to a turnover due to insufficient demand. However, it increased by only 51% in 2014. The ending inventory however, first increased by 51% in 2013 but then decreased by 59% in 2014 because fewer units were being produced in order to clear out the previous inventory first. Lastly, the net effect on the cost of goods sold was such that it increased by 7% in 2013 and by 21% in 2014. The gross profit of the company calculated by deducting the cost of goods sold from sales decreased by 22% in 2013 but increased substantially by 51% in 2014.

7. Vertical AnalysisThe most common use of vertical analysis in a cost of goods sold (CGS) statement is to show the various expense line items as a percentage of CGS. The information provided by this CGS statement format is useful not only for spotting spikes in expenses, but also for determining which expenses are so small that they may not be worthy of much management attention.The vertical analysis of cost of goods sold statement (Figure 3. Appendix) shows that the companys CGS is mainly comprised of only three costs that are direct material, direct labor and factory overheads. The DM used was highest in 2012 with a percentage to CGS of 90%, which decreased in the following years. Direct Labor has remained constant over the three years at 3%. This goes on to show that CGS is mainly comprised of the Prime Cost of the firm with the firm recording 93% to CGS in the year 2012. The factory overhead in comparison to CGS was comparatively stable in all three years with slight fluctuations and the highest being 17% in 2013 compared to 14% and 16% in the years 2012 and 2014 respectively. Looking further into the factory overheads, energy cost contributed most to factory overhead compared to CGS and was highest in 2014 at 8%. Other expenses account for 4% of the cost in the factory overheads and 6% and 5% respectively in 2013 and 2012. Expenses such as insurance and deprecation are minimal and are not worthy of much management attention.Cost of goods manufactured was the highest in 2012 at 107% and decreased to 104% and 94% in the following years translating into ending finished goods of only 4% of CGS in 2014. The cost of goods available for sale was highest in 2013 and higher than costs of goods manufactured at 112%.

8. Ratio Analysis

8.1. Ratios to orient the outsiders

8.1.1. Current Ratio201420132012

Current Ratio (CA/CL)1.461.591.41

The current ratio of the company for last three years has been good. Ideal current ratio for any company is 1.5, which means that company has almost 1.5 assets to pay 1 liability. The current ratio of Pharmacare was 1.41 in 2012. However in 2013, the current ratio of the company became 1.59 which is a good sign for the company. In 2013, the rise in ratio was mainly caused by drastic decrease in liabilities for the company. Current assets also decreased during the same year but decrease in current liabilities had a much greater impact on current ratio. The current ratio in 2014 again decreased to 1.46 mainly due to increase in liabilities of the company up to Rs95.192 Million.

8.1.2. Acid-Test Ratio201420132012

Acid Test Ratio ((CA-Stock)/CL)1.351.281.24

Acid test Ratio eliminated the most illiquid assets from the current assets to present better picture regarding liquidity of the company. Pharmacare had Stocks as illiquid asset. Acid test ratio of Pharmacare shows different trend as compared to trend of current ratio. The ratio was 1.24 in 2012 but in 2013 ratio slightly increased to 1.28 mainly due to increase in current liabilities for the company and due to increase in value of stocks of the company. While in 2014, ratio again showed an upward moving trend as it moves to 1.35. This upward movement was caused by increase in increase in current assets of the company although stocks of company were lowest in the recent year and liabilities also increased from last year but value of current assets increased by greater margin.

8.1.3. GP Margin201420132012

GP margin (GP/Sales)19.72%16.36%21.02%

Gross profit margin is calculated by dividing sales of the company with gross profit. From 2012 to 2013, ratio decrease to 16.36% from 21.02% because of decrease of gross profit of the company. This decrease in gross profit was caused by increase in CGS for the company over last year. In recent most years, ratio again increased to 19.72% mainly due to increase of sales for the company. Although CGS also increased in recent year but magnitude of increase in sales was higher than that of CGS.

8.1.4. EBT/Sales201420132012

EBT/Sales9.35%12.40%17.20%

The ratio of EBT/Sales has been continuously decreasing from last years at higher rate. Initially it was 17.20% but in following year it decreased to 12.40% mainly due to decrease in earnings before tax. Sales of 2012 and 2013 have somehow remained same but change in this ratio was caused by change in earnings of the company before tax. The ratio further decreased to 9.35% in recent most year as earning have slightly decrease from last year but there is significant increase in sales of the company. This ratio is showing decreasing trend over the years mainly because of two reasons. Firstly, there is steady increase in cost of goods sold over last 3 years and secondly liabilities of the company are increasing which increases interest payments for the company.

8.1.5. ROCE201420132012

ROCE (NI/TA)7.07%7.77%10.29%

This ratio is calculated by dividing total assets of the company with net income of the company. The ratio was been showing decreasing trend in last 3 years. It was highest in 2012, 10.29% mainly because of higher net income of the company. Total assets of the company has somehow remain same over the years but Net income was been decreasing over the years. In 2013, the ratio declined to 7.77% due to decrease of both total asset and net income and in recent most year the ratio further declined to 7.07% because of decrease in net income of the company and increase in total assets of the company.

8.2. Ratios to orient the insiders

8.2.1. Average cost per unit in beginning finished goods inventory: Cost of beginning finished goods/units of beginning finished goods201420132012

Cost of beg FG/Units of beg FG25.3923.3223.25

Average cost per unit of beginning finished goods inventory has been highest in 2014 whereas in 2013 and 2012, it is almost the same with a difference of just 0.07 PKR/Unit. This increase is due to the fact that ending units in finished goods increased by 38.9% in 2014. However the rise in the cost of finished goods inventory is about 51.1% in 2014 from previous year. So the net affect is 8.9% rise in the ratio. In 2013, units of finished goods saw a hyper increase of 645% and the rise in cost of beginning finished goods was 648% which explains the rise of 0.07 PKR/Unit. The hyper rise in finished goods inventory as explained earlier was due to loss of trust of consumer in national pharmaceuticals manufacturers.

8.2.2. Average cost per unit in ending finished goods inventory: (Cost of ending finished goods inventory/ units in ending finished goods inventory)201420132012

Cost of end FG/Units of end FG176.6325.3923.32

In 2013, Cost of ending finished good inventory per unit increased by 8.8% which is a result of rise of 51% in the cost of ending finished goods inventory and a rise of 38.8% increase in the number of units in finished goods inventory. So the net effect of numerator and denominator comes out to 8.8% rise. In 2012, a drastic change can be seen where the change is about 596%. This is due to the fact and ending finished goods decreased by 94% as company was able to sell out most of their inventory with heavy expenses in marketing and sales. On the other cost the finished good inventory also decrease by 59%.

8.2.3. Manufacturing cost per unit: (CGM/units manufactured)201420132012

CGM/Units Manufactured10.309.308.91

The manufacturing cost per unit has shown an increasing trend over the last three years and one of the most basic reason to describe this trend is the phenomenon of inflation that has led to increase in prices of raw material and energy costs mainly. In 2013, CGM increased by 3.61% whereas the number of units manufactured decreased by 0.66% which is a negligible increase so as a net the change between 2012 and 2013 is about 1.64%. In 2014, CGM increased by about 9.45% whereas the number of units manufactured decreased by 1.23% so the net effect comes out 3.96% increase in manufacturing cost per unit. The decrease in number of units manufactured is because of the fact that companys inventory was rising so company manufactured less number of medicines as compared to previous year to clear the stock in hand before the stock hit expiry dates and becomes a sunk cost for company.

8.2.4. Average cost per unit sold: (Cost of goods sold/units sold)201420132012

CGS/Units sold10.519.058.24

Cost of goods sold per unit has also been rising since 2012 due to same reasons as of rising cost of goods manufactured such as inflation which results in increase in prices of raw material and energy costs mainly. In 2013, CGS increased by 6.76% whereas the units sold decreased by 2.75% compared with 2012. The net effect of rise in CGS and decrease in units sold comes out to be 3.46% which is the change in CGS per unit from 2012 to 2013. In 2014, CGS increased by 20.55% and number of units sold also increased by 3.77%. The net effect of both values is 5.76% which is the rise in CGS per unit. The decline in the number of units sold is 2013 is due to the fact that generally the sales in industry fell due to identification of inappropriate raw material available in market which resulted in deaths of few citizens. In 2014, sales of the company picked up because of the aggressive marketing by sales force of the company.

9. ConclusionPharmacare has been operating since 1985, when pharmaceutical industry in Pakistan was in its early stages and all those that took the lead in setting up pharmaceutical manufacturing units have flourished their businesses. Pharmacare sales have been increasing over the last years but at a very slow pace. Only recently have they been able to increase their by a relatively greater margin as a result of aggressive marketing via sales force. Since many unethical means are used in this to convince doctors to prescribe the companys medicine, it increase companys cost of selling the product to consumers. The company has to also the rising CGS as its a serious matter of concern. Raw material prices contribute maximum to CGS which is imported from China and India, so the company has to invest to start manufacturing the raw material as it reduces companys cost significantly and maximizes profits. The inventory management of the company is well up to standards as they are able to clear most of its stock. Companys ROCE is also decreasing which tells the story that company is not able to utilize their assets to maximum potential and thus not operating at idle capacity. Overall the company statements doesnt reflect a good picture for the company as company is also unable to make impact in the market and relies heavily on generic drugs that are common drugs produced by number of companies.

10. RecommendationsCompany needs to invest in R&D department as they currently have none. Without taking risks company will not be able to secure patents which add value to company assets. With patent, no other company is able to use the same formula of drug until the patent lasts after which the drug becomes generic drug. Secondly, company should try shifting to solar energy which would require huge capital that can be borrowed from banks to minimize the effect of rising energy prices. Company can increase profitability by tapping into backward areas of the country where they will have to give relatively less gifts to doctors compared with doctors in urban cities that demand huge commissions and gifts.

11. LimitationsCompany CEO refused to hand over the financial statements and asked to take the data that we required right in front of him. This led us to believe that company is hiding its activities and actual profits from the outsiders. Company provided other figures for CGS statement reluctantly as well as they stated they were highly confidential and its the only factor that provides these small manufacturing units competitive advantage over others.

PHARMACARE

COST OF GOODS SOLD STATEMENT - TREND ANALYSIS

201420132012

Sales127%101%100%

Direct Material Used109%100%100%

Direct Labor105%104%100%

Prime Cost109%100%100%

Travelling and Transportation expenses146%119%100%

Factory equipment maintenance cost118%109%100%

Energy183%137%100%

Insurance89%91%100%

Depreciation120%115%100%

Provision for expired stock102%101%100%

Other expenses112%127%100%

Factory Overhead143%127%100%

Total Manufacturing Cost113%104%100%

Cost Of Goods Manufactured113%104%100%

Beginning Finished Goods1131%748%100%

Cost Of Goods Available For Sale124%110%100%

Finished Goods62%151%100%

Cost Of Goods Sold129%107%100%

12. AppendixFigure 1. Trend Analysis

Figure 2. Horizontal AnalysisPHARMACARE

COST OF GOODS SOLD STATEMENT - HORIZONTAL ANALYSIS

20142013

Sales26%1%

Direct Material Used9%0%

Direct Labor1%4%

Prime Cost9%0%

Travelling and Transportation expenses22%19%

Factory equipment maintenance cost8%9%

Energy 33%37%

Insurance -3%-9%

Depreciation 5%15%

Provision for expired stock 2%1%

Other expenses -11%27%

Factory Overhead13%27%

Total Manufacturing Cost9%4%

Cost Of Goods Manufactured9%4%

Beginning Finished Goods51%648%

Cost Of Goods Available For Sale12%10%

Finished Goods -59%51%

Cost Of Goods Sold21%7%

Figure 3. Vertical Analysis201420132012

Sales125%120%127%

Direct Material Used76%84%90%

Direct Labor3%3%3%

Prime Cost79%87%93%

Travelling and Transportation expenses1%1%1%

Factory equipment maintenance cost1%1%1%

Energy 8%7%6%

Insurance 0%0%1%

Depreciation 0%0%0%

Provision for expired stock 0%0%0%

Other expenses 4%6%5%

Factory Overhead16%17%14%

Total Manufacturing Cost94%104%107%

Cost Of Goods Manufactured94%104%107%

Beginning Finished Goods10%8%1%

Cost Of Goods Available For Sale104%112%108%

Ending Finished Goods 4%12%8%

Cost Of Goods Sold100%100%100%

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