To BIDZ.com CFO Lawrence Kong: Is BIDZ reporting inventory in compliance with GAAP?

To Lawrence Kong (BIDZ.com CFO):

Hopefully you read my previous blog item that raised a question if BIDZ.com (NASDAQ: BIDZ) is complying with GAAP in reporting inventory. I listened to BIDZ.com's presentation at Citibank’s Small & Mid-Cap Conference. You explained BIDZ.com’s inventory reserve disclosures as follows:

We record a reserve equal to difference between the lower of cost of inventory and the average selling price. This means that if the average selling price for an item is less than our cost we will record a reserve. We also reserve 100% against any inventory that is over one year old. And this is fairly standard practice. [Emphasis added.]

Sorry Lawrence, you cannot write down inventory to the "average selling price" under GAAP. You can use net realizable value (estimated selling price less costs of completion and disposal) to determine the lower of cost or market in valuing inventory, if net realizable value is lower than cost. BIDZ.com may use net realizable value (not average selling price) only when the current replacement cost of such inventory exceeds net realizable value. Did BIDZ.com even consider current replacement cost when valuing inventory at the lower of cost or market? Why did BIDZ.com use "average selling price" instead of net realizable value?

In addition, you cannot arbitrarily take a 100% reserve against inventory just because BIDZ.com held it for more than one year, too. Are you claiming that all inventory held over one year suddenly becomes completely worthless in the matter of a single day (from day 365 to day 366)?

You claim that BIDZ.com uses “fairly standard practice” in valuing inventory held for more than one year. Take a look at Securities and Exchange Commission Staff Accounting Bulletin No. 99:

GAAP Precedence Over Industry Practice

Some have argued to the staff that registrants should be permitted to follow an industry accounting practice even though that practice is inconsistent with authoritative accounting literature. This situation might occur if a practice is developed when there are few transactions and the accounting results are clearly inconsequential, and that practice never changes despite a subsequent growth in the number or materiality of such transactions. The staff disagrees with this argument. Authoritative literature takes precedence over industry practice that is contrary to GAAP. [Emphasis added.

So please don’t give me that "standard practice" nonsense. Public companies are required to follow GAAP – PERIOD.

By the way, I was reading BIDZ.com's SEC Form S-1 dated March 17, 2006 for the company's initial public offering. The prospectus contained the following inventory disclosure:

Inventories:

Inventories consist of merchandise purchased for resale and are stated at the lower of first-in, first-out cost (FIFO) or market. We record reserves against our inventory for estimated obsolescence or damage equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. We record reserves of 50% of the value of inventory held for more than six months and 100% of the value of inventory held for more than one year. If actual market conditions are less favorable than those projected by us, specific reserves or additional inventory write-downs may be required. [Emphasis added.]

BIDZ.com’s inventory disclosure for financial statements contained in the S-1 report (above) seems arbitrary and not in compliance with GAAP, too. Did the value of inventory held over six months suddenly drop 50% in a single day? Did BIDZ.com compute the market value (as required under GAAP) for inventory held less than six months? Did BIDZ.com actually compute the current replacement cost and net realizable value of inventories disclosed the the above S-1 report? What factors and computations did BIDZ.com use in reporting a 50% drop in value for inventory held more than six months? The same questions apply to inventory held for more than one year, too.

In addition, you should know that intentional departures from GAAP, even if they are immaterial, are not permitted by SAB No.99. As I detailed in my previous blog item, SAB No. 99 states:

Facts: A registrant's management intentionally has made adjustments to various financial statement items in a manner inconsistent with GAAP. In each accounting period in which such actions were taken, none of the individual adjustments is by itself material, nor is the aggregate effect on the financial statements taken as a whole material for the period. The registrant's earnings "management" has been effected at the direction or acquiescence of management in the belief that any deviations from GAAP have been immaterial and that accordingly the accounting is permissible.

Question: In the staff's view, may a registrant make intentional immaterial misstatements in its financial statements?

Interpretive Response: No. In certain circumstances, intentional immaterial misstatements are unlawful. [Emphasis added.]

One more thing. During the conference you said that BIDZ.com had "a clean accounting opinion." Please don't hide behind your accounting firm. As a crook, I ran circles around my auditors. Therefore, you, your audit committee, and your auditors are respectfully requested to carefully review all of BIDZ.com's accounting disclosures from day one in light of the questions I have raised.

Kindest regards,

Sam E. Antar (I am not the Sith Lord but I am a criminal mastermind from the 1980s and a convicted felon)

PS: To the analysts attending investment conferences. Grow a pair of balls and ask smart questions. Softballing is a career hazard. You have been warned by a convicted stock swindler.