Do You Still Have That Contract?

Assume that Joe manufactures wooden furniture. 80% of his wood supply comes from one distributor- Carl’s Wood Supply. Having a consistent supply of wood is critical to Joe’s business. As a result, Joe receives a copy of Carl’s annual financials. If Carl is in financial trouble, Joe may need to consider another supplier. What if Carl’s financials are misstated?
A recent example of financial misstatement in the news was Gemstar. This company’s stock performed well during the tech boom of the late 1990s. It merged with TV Guide in July of 2000. The founder and CEO began to make “seemingly untenable promises to Wall Street” on financial projections. The SEC alleges that the CEO began to manipulate financial results. One tactic was “recording phantom revenue under expired contracts”.
A deal requiring Scientific-Atlanta to pay royalties to Gemstar expired in 1999 (Scientific-Atlanta is now a division of Cisco Systems). Gemstar “continued booking the revenue as if the contract hadn’t expired. Between 2000 and 2002, Gemstar recorded $113 million in revenue that was not actually billed or collected”. The CEO went so far as to provide written assurance to the outside auditors that the funds would be collected. Later on, the auditors refused to sign off on the 2001 audited financials, which led to a large financial misstatement to remove the uncollected revenue.
The Lesson: What if Gemstar was one of your key suppliers? How might you be affected by a large supplier with financial problems? Owners should insist on additional disclosure from any supplier that handles a large portion of their business. Check credit history, ask for financials and find out about their business reputation in the community.
Your Homework: Review your business operations for any suppliers that handle a large percentage of your business.
(Source: “TV Drama: As Fraud Case Unravels, an Executive Is At Large”, Wall Street Journal 4/25/07)