About ECC

Profiles

Examination Significant Findings
Introduction

Held Credits

Pledging of Ineligible Credits

Lack of Accurate Reporting for
Agricultural Commodity Inventory

Equipment in Posession
of Vendors

Splitting of Cash Flows Among
Multiple Debt Facilities

LC Transfer Arrangements

Supplier Perfomance Bonds

Retail Inventory Falsification

Duplication of Collateral
Reported to Multiple Lenders

Scheduling

Employment

Contact ECC

Significant Finding: The lender noted past-due payroll taxes during the prospect exam. These were to be paid upon funding. Upon re-examination, the examiner discovered that payroll, sales, and store rents were extremely past due and that liquidity was severely strained. While comparing inventory levels among the prior exam, a prior like period, and the current exam, examiner noted an unexplainable rise in inventory levels outside the normal seasonal trends. On further investigation, the examiner determined that the company had changed a code on the inventory listing to book all on-order inventories as received, thus raising inventory levels by approximately $5MM. At the time of the increase, the account officer was approached by the company for a line increase to accommodate the inventory increase. The examiner found that the company had purposely booked all inventory on-order from its vendors (mostly overseas vendors providing private-label goods), thus creating the fictitious inventory. The examiner corroborated this with the controller who stated that the company booked the inventory transaction to increase liquidity through the revolving line of credit. The CFO, who had apparently decided to book the entries, stated that it was an accounting oversight.

To corroborate that the “fictitious” inventory had not been received, the examiner then went to the distribution center and noted other large discrepancies with inventory counts (40% +). When asked, the warehouse personnel noted that the company’s point-of-sale and inventory ledger systems had either never been linked or had lost their integration. On hearing these results, the lender directed the examiner to do full store counts on six stores. These counts revealed discrepancies similar to those noted at the distribution center. When these results were shown to inventory and accounting personnel, they noted that the company’s public accountant had found similar inventory discrepancies and suggested a large inventory write-down as a result ($2MM +). The controller noted that the company did not agree with the inventory write-down and worked to “negotiate” the write-down amount, noting that full counts would be done and that an accurate tally would lead to the appropriate inventory adjustments. The public accounting firm agreed and approved a relatively small (>$500M) adjustment instead. Neither the adjustment nor the store counts were ever completed, and thus the inventory was left in its inaccurate, overstated status. The accounting firm never followed up to ensure that   the smaller adjustment was made or that the full test counts were completed.

Impact on Transaction: The inventory overstatement created approximately $3MM in availability that the company used for working capital needs other than the payment of past-due taxes or rent. The additional inaccuracies noted in the inventory created an additional reserve of $1.5MM. The resultant adjustments to the borrowing base provided for a $6MM over-advance.  The lender stopped advancing after these discrepancies were noted. Almost simultaneously the mall property managers where the stores were operated began eviction proceedings on several stores because of rent nonpayment. The company entered into bankruptcy one week later and was eventually liquidated via a going-out-of-business sale.