Better Accounting Controls Would Likely Have Prevented Inventory Fraud at Jewelry Company

The Securities and Exchange Commission (“SEC”) filed a claim stating that DGSE Companies Inc. (“DGSE”) and its former chief financial officer (“CFO”) engaged in accounting fraud by manipulating inventory accounts.  DGSE transacts in jewelry, diamonds, fine watches, rare coins, precious metals and other collectibles and valuables.  DGSE’s CFO allegedly made numerous false accounting entries that served to overstate inventory values by anywhere from 99 – 227 percent during 2009-2011.

The SEC alleged that the CFO’s journal entries inappropriately make it appear that DBSE owned inventory that was actually under a consignment arrangement (ie it belonged to someone else but was offered for sale by DGSE on the owner’s behalf).

The SEC specifically cited DGSE’s “weak internal control environment” as having allowed the CFO to “intentionally manipulate its public filings” and described how “deficiencies in DGSE’s accounting systems and controls led to problems that significantly compromised the integrity of the company’s financial data”.

The deficiencies allowed the CFO to:

  • Improperly record intercompany transactions such as inventory transfers between stores, thereby allowing intercompany accounts to be out of balance by millions of dollars
  • “Correct” the out of balance intercompany accounts by writing up inventory by millions of dollars via claiming ownership of consigned goods
  • Provide the outside auditors with contrived inventory detail listings
  • Sign the misleading public filings and management certifications

Companies have an obligation to maintain appropriate accounting systems, policies, procedures and controls.  Inventory controls are especially critical in organizations involved with high value goods.

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