Overstock's "Likely" Breach of Debt Covenants

Yesterday, Overstock.com (NASDAQ: OSTK), also known as O.co, issued a press release and surprised investors by reporting a third quarter $7.8 million net loss (diluted earnings per share of negative $0.33) compared to a net loss of $3.4 million (diluted earnings per share of negative $0.15) in the previous year’s third quarter. Its net loss was $0.10 per share higher than was projected by Wall Street analysts. Third quarter revenues declined 2% to $239.7 million, compared to $245.4 million in the previous year's third quarter.

Overstock also filed a separate 10-Q report with the Securities and Exchange Commission and buried even worse news deep inside the footnotes on page 43. The company revealed "it is likely" that it won't comply with certain key terms of  its Master Lease Agreement (sale-leaseback transaction) with U.S. Bank at December 31, 2011 (the end of its fourth quarter), unless "current trends improve substantially." The 10-Q report was filed 27 days into its 92 day fourth quarter. The company owes U.S. Bank $20.329 million under the Master Lease Agreement.

Overstock.com has two loan agreements with U.S. Bank, a Financing Agreement (line of credit) and a Master Lease agreement (sale-leaseback transaction). The Master Lease Agreement requires the company to maintain certain minimum financial benchmarks. See below:

The Master Lease Agreement requires us to maintain a minimum Total Fixed Charge Coverage annualized ratio of at least 1.20:1.00, based on operating results, measured at the end of each fiscal quarter. “Total Fixed Charge Coverage” is defined as our EBITDAR (which is defined to mean earnings before interest expense, tax expense or benefit, depreciation expense, amortization expense and rent (defined as payments for real property leases and other operating leases)) less the aggregate amount of federal, state, local and/or foreign income taxes accrued less declared dividends less 50% of depreciation expense divided by our (rental expense plus interest expense plus required principal payments including capitalized leases, excluding principal payments made for retirements of Senior Notes, on a trailing twelve-month basis). The “annualized ratio” shall be based on a four-quarter, rolling average of the current fiscal quarter and the immediately preceeding three fiscal quarters. [Emphasis added].

The company disclosed that "it is likely" that it won't be able to maintain the minimum financial benchmarks required under the Master Lease Agreement. See below:

U.S. Bank has the contractual right to demand payment of all amounts outstanding under the Financing Agreement and Master Lease Agreement if we fail to comply with certain loan covenants. At September 30, 2011 our Total Fixed Charge Coverage annualized ratio was in excess of the required 1.20:1.00. However, based on the results for the first three quarters of 2011, it is likely that we will be out of compliance with the Total Fixed Charge Coverage ratio at December 31, 2011 unless current trends improve substantially. We have held initial and collegial discussions with U.S. Bank regarding this potential non-compliance. [Emphasis added].

Whether or not Overstock.com will be able to modify the terms of its Master Lease Agreement, it is clearly worried about the current trend of its fourth quarter numbers, even though that quarter is supposed to be its best quarter.

Overstock.com also has to contend with an ongoing investigation by the Securities and Exchange Commission into securities law violations after this blog exposed it fabricating its earnings.

The company is being sued by District Attorneys from seven California District Attorneys who are alleging consumer fraud. The Judge in that case had to compel an uncooperative Overstock.com to turn over information to the California District Attorneys.

Last week, Overstock.com CEO Patrick Byrne, Deep Capture LLC, and Mark Mitchell, a writer for Deep Capture, were sued in a Canadian court for defamation. Deep Capture LLC is an affiliate of Overstock.com and its website was used to promote Byrne's delusional conspiracy theories and libel company critics. The judge ordered the Deep Capture website shut down.

Written by,

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could.

If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today.

There is a saying, "It takes one to know one." Today, I work very closely with the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities.

I do not seek or want forgiveness for my vicious crimes from my victims. I plan on frying in hell with other white-collar criminals for a very long time. My past sins are unforgivable.

I do not own any Overstock.com securities long or short.