Management Accounting

Vendor Allowances Could Trip Office Depot

A quarterly earnings report is delayed and the company may have to make material restatements.
Stephen TaubOctober 29, 2007

Office Depot has delayed Tuesday’s scheduled release of its third-quarter earnings, and a related conference call and webcast, after an internal review into vendor allowances identified potential problems with the timing of their recognition.

The company did not disclosure further information, but Credit Suisse analyst Gary Balter reportedly warned clients in a note Monday that based on past history with other companies, such an event “may involve restatements, sometimes of a material nature.”

As a result, Balter slashed his price target for Office Depot stock by about 30 percent, to $17 from $24, and cut his rating to “underperform” from “neutral.”

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Vendor allowances have been a continuing sore spot for corporations over the past few years. Most recently, in early September Saks Inc. settled Securities and Exchange Commission charges that, from the mid-1990s until 2003, it intentionally understated to vendors the sales performance of their merchandise and collected millions of dollars in allowances to which it wasn’t entitled.

As a result, the company overstated earnings from 1999 through 2002.The SEC asserted that the improper accounting resulted from Saks’ aggressive financial targets for the division; the belief by some Saks buyers that they were expected to achieve their targets by deceptive means if they needed to; and the company’s lack of adequate internal controls.

Under its vendor-allowance method, Saks and its vendors shared the risk that goods wouldn’t sell at full price. That helped Saks hit minimum profit margins, according to the complaint. “The more Saks had to mark down the vendor’s merchandise in order for it to sell, the more the vendor was expected to compensate Saks in additional vendor allowance,” the commission said.

The SEC alleged that more than a employees took part in the practice, which continued from 1996 until 2003. Saks was accused of overstating net income by 7 percent for the fiscal year ended February 3, 2001; by 32.3 percent for fiscal 2002; 42.6 percent for fiscal 2003; and 3.6 percent for fiscal 2004.