Knobias Clip Report (11-09-2007)

Submitted By Knobias ClipReport

IEAM: Accounting Issues Abound; Shares Plunge

Friday’s session again saw the bears win again for the fourth day this week after Wachovia fueled the subprime fire by raising their loan loss provisions. The action was just another of the large banks to admit to over exposure to the risky mortgage market.

Technology names were experiencing some selling pressure as Qualcomm Inc. released some disappointing guidance for the coming months. Economic data released included the Michigan consumer index which fell further in the month to 75.0 from 80.9 in October.

Signs are pointing to a slowdown in many areas of the market. Some caused by the subprime and others unrelated, but for the time being, many equities aren’t the place for investors looking for quick gains. Instead, long term investors should be looking for bargain buys after the recent pullbacks that might or might not continue in the near term.

One small cap name that could fit the bill is Industrial Enterprises of America Inc. (IEAM). The Company focuses on automotive aftermarket chemicals and oil and is a leading supplier in the space.

Through its wholly owned subsidiaries, the Company specializes in producing “Value Brands” within the automotive aftermarket. These value products include; motor oil, antifreeze, washer and brake fluids, lighter fluid and automotive additives and chemicals as well as refrigerant kits and fire suppressants. The Company’s brands include: Phoenix, Nu-Energy, TMP, Unifide, and Pitt Penn.

According to the Automotive Aftermarket Industry Association (AAIA), “U.S. motor vehicle aftermarket sales grew by 5 percent last year to $267.6 Billion.” And the Company had been growing their share of this market through organic means and acquisitions.

In May, the Company reported their third quarter revenue of $17.6 million as compared with $9.0 million for the same period in fiscal 2006. The increase in revenue over last year was partially due to the inclusion of the Pitt Penn Group, acquired January, 2006, and more importantly due to increased production capabilities. GAAP EPS was a loss of (47c) versus a loss of ($1.60). But some of the loss was due to an accounting change. The Company switched inventory accounting methods from the Average Cost Method to First in First Out. The latter has sometimes been used to prop up inventory and thus asset levels at the expense of accurate readings on the income and balance sheet. The Company also incurred approximately $9,300,000 in non-cash charges during the quarter.

Over the next few months, management changes arose from the appointment of Dan Redmond to COO and the hiring of Jorge Yepes as CFO due to Dennis O'Neill’s incapacitation due to health.

In July, the Company reported an increase in share count due to convertible debt being converted, warrants being exercised, and other debt being paid with equity. The number of outstanding was noted as being 19 million but would be combated with an increased buyback program which was upped to $25 million.

Between that time and September, more organization changes began to take place causing accounting difficulties and the establishment of a reserve account to pay recent layoffs, litigation charges, and organization reconfigurations. The Company noted a delay in filing their 10-K.

In October, another accounting discrepancy arose, and the Company announced they were reviewing its accounting practices regarding revenue recognition practices regarding "bill and hold" transactions. Also noted was the review of past financial statements regarding the accounting treatment on financing transactions with variable conversion prices for 2006, hence management noted that their 10-KSB for 2006 should not be relied upon by investors. Again, management announced the continuation of share buybacks facilitated through a new revolving line of credit.

During this time frame from June to October, shares fell from the $5.40 range to $3.00 at the end of October. Then on Nov. 7th, the Company announced an increase in their reserve for current litigation by a large $9.5 million to $13.5 million, an admission of using non GAAP revenue recognition procedures regarding revenue recognition using the “Bill and Hold” techniques, a settlement of litigation by issuing additional shares and a $500 thousand cash payment, the reimbursement of litigation expense paid by CEO John Mazzuto with the additional issuance of shares and another admission that the expense wasn’t recorded on the Company’s financial statements.

The result was an increase in shares outstanding by 9 million to 26 million. Additionally, the Company announced that the stock buyback would still continue but at a “slow and consistent pace”.

In another release on the same day, the Company announced the suspension of newly hired CFO, Jorge Yepes, and that the board would conduct an integrity review for possible violations of policies and procedures.

The announcements culminated in share depreciation from $6’s in May to 67c for a Company with obvious accounting difficulties but one that did have growing revenues and EBITDA before the news. With a clean up of the accounting difficulties, a management re-focus on growing top and bottom lines, and a continuation and acceleration of their share buyback which would give investors a vote of confidence in the long term prospects for the name, and the name possibly becomes a cheap one to follow. Investors would be wise to watch.



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