Avigilon Accounting Issues Alert

An independent investment research firm which specializes in forensic accounting has issued an Accounting Alert for Avigilon, calling out specific risks factors.

In this note, we examine them and explain the potential impact of these risks.

The company, Veritas, shared the following excerpt with us from the 14 page report:

• In our view, the key “accounting” issues that could jeopardize the Avigilon growth story are channel stuffing and premature revenue recognition.
• We believe there is a higher-than-average risk of improper revenue recognition due to high management turnover, deep relationships and collaboration between Avigilon and its channel intermediaries, changes to revenue recognition disclosures and uncommon auditor review practices.

We found the strongest part of the report to be the review of lower level accounting issues, such as:

• Change in revenue recognition policy
• Turnover in auditors
• Lack of quarterly audits
• Financial ratio changes

The one big miss on the report was not knowing that the former CFO started a new job in June which strongly undermines Avigilon claims about sickness and greed.

Channel Stuffing

The most serious and central concern raised was the risk of channel stuffing, which is the process by which a company "inflates its sales figures by forcing more products through a distribution channel than the channel is capable of selling to the world at large."

Avigilon, as it repeatedly has told investors, is focused on growth. And channel stuffing supercharges growth rates.

No manufacturer in the surveillance industry has such a loyal and well controlled channel as Avigilon so they certainly have the foundation to do so if they pursued it. And with their aggressive territorial expansion, they could, if they wanted, push product to integrators that is not immediately needed for sale to end users.

That said, veteran sales people will realize that some form of channel stuffing is often pursued by many manufacturers, especially at the end of quarters to make / beat numbers.

Impact

Whether or not Avigilon channel stuffs, clearly the products are competitively strong and well respected (as shown by our tests and integrator surveys on favorite products). What is in question is the rate of growth.

This impacts the valuation of the company. If channel stuffing was significant, this could mean the true growth rate was notably lower. Correspondingly, this would likely also mean net profits are lower (because it would imply fewer sales on the same base costs).

Companies with lower growth and profits have lower share prices, often dramatically so.

Just like Avigilon benefited from the rapid rise in its stock price over the past few years (including raising $160+ million to fund acquisitions and expansions), a drop in the stock price could create significant operational problems for the company.

Trust the Numbers?

The bull case for Avigilon has been to focus on how strong the growth numbers are, ignoring management's conduct and internal concerns.

The Veritas report, coming from a respected independent firm specializing in forensic accounting, opens a new and serious chapter in Avigilon's evolution, where the numbers, their here-to-fore core strength, are coming under increasing scrutiny.