[Asia Economy Reporter Park Jihwan] Financial authorities have completed discussions at the audit committee regarding the Celltrion Group and are expected to hold a Securities and Futures Commission meeting within this month to finalize sanctions, including whether accounting fraud occurred, imposition of fines, and referral to prosecution.
The core issue in the Celltrion Group accounting fraud controversy, which began with a financial authority investigation at the end of 2018, is the appropriateness of inventory asset valuation at Celltrion Healthcare. The Celltrion Group operates a business structure where Celltrion develops biosimilar drugs, and Celltrion Healthcare pre-purchases these drugs to stock as inventory before selling them in overseas markets.
As of the end of the third quarter last year, Celltrion Healthcare's inventory assets amounted to KRW 2.1549 trillion, which is more than its total equity of KRW 2.0274 trillion for the same period. This is why the valuation of inventory assets can be directly linked to corporate value.
The financial authorities believe that Celltrion Healthcare inflated profits by partially not reflecting impairment of inventory assets. In particular, they are reportedly concerned that accounting treatment did not consider the possibility of disposal of pharmaceutical inventory nearing expiration dates.
Among experts, opinions are divided between the financial authorities’ view that losses should be recognized immediately through inventory asset valuation and revenue recognized if the expiration date is extended, and the view that it is more appropriate to recognize loss accounting when the expiration date is actually near.
An accounting industry official said, "The most important issue in this case appears to be the inventory asset valuation of Celltrion Healthcare," adding, "If it has been customary in the industry for expiration dates to be extended continuously, it seems more appropriate for accounting stability to recognize impairment losses only when it is truly difficult to sell inventory according to the extended expiration date, rather than recognizing losses and reversals annually."
Another significant point of controversy is the treatment of proceeds from the sale of domestic drug distribution rights that Celltrion Healthcare sold to Celltrion as revenue. In June 2018, Celltrion Healthcare recorded KRW 21.8 billion in revenue by selling Celltrion’s domestic sales rights for biopharmaceuticals back to Celltrion.
At that time, Celltrion Healthcare posted an operating profit of KRW 15.2 billion in the second quarter, but without the revenue from the sales rights, it would have recorded an operating loss. The financial authorities argue that Celltrion Healthcare sold the domestic sales rights to Celltrion and recorded it as revenue rather than non-operating income (other income) to avoid operating losses, which constitutes accounting fraud.
On the other hand, there is an opinion that buying and selling distribution rights is part of operating activities for companies distributing pharmaceuticals. Celltrion Healthcare receives royalties by transferring exclusive sales rights to overseas distributors, so this is directly related to operating activities.
An accountant well-versed in external audits of bio companies said, "Celltrion Healthcare purchases pharmaceuticals from Celltrion and sells them through global distributors," adding, "Since its business purpose is pharmaceutical distribution and sales rights transactions, it seems appropriate accounting treatment to recognize the sales rights contract transferred to Celltrion as operating revenue."
A professor of accounting stated, "Overall, since there is no impact on net income and the issue is whether it is operating profit or loss, it is difficult to consider this accounting fraud," adding, "It does not appear that Healthcare intentionally engaged in aggressive accounting treatment."
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