John

As someone who used to short a lot of technology stocks, my experience was this sort of financial chicanery invariably showed up in the balance sheet. Kudos to Lou and Gene for doing such a clever job in masking their trail.

For example, almost invariably, stuffing the channel manifests itself as a bloated receivables line, but not in this case because Lou made sure to either factor the receivables or actually get paid for stuffing the channel. (While he managed to get paid for selling excess inventory, you can be sure there was some sort of quid pro quo here. Note the reference to accounting for customer credits.)

Inventory accounting is another area area ripe for manipulation. Improper costing of goods typically manifests itself as higher gross margins and higher inventories. Again, we didn’t see it here.

In the last six months that Lou & Co. were there, the company reported combined SG&A and R&D expenses of $77.7mm. Now we are told that number is more like $82.5mm. That’s a pretty big swing. But we don’t see the commensurate cash burn. Adding insult to injury, we learn that “true revenues” should have been about $3.8mm lower, for a total P&L swing of almost $9mm. Pretty impressive, huh?

Remember, companies like VTSS can’t predict their quarterly business with any degree of accuracy. There are too many variables and too many moving parts. If a company comes out at the beginning of the quarter, as VTSS did, and says we are looking for $60.5mm in revenues (Q3:04), and they actually come in at that level, it is purely coincidental or management is playing the distribution channel like a fiddle.

Herb Chen