Thursday, January 28, 2010

Former Overstock.com Insider David Chidester in the Hot Seat

Hopefully, David Chidester will not allow himself to be made into the fall guy by Overstock.com (NASDAQ: OSTK) and its CEO Patrick Byrne and as the Securities and Exchange Commission continues its investigation of the company. David Chidester is certainly now in the "hot seat." As I will detail below, David Chidester was a ten year veteran insider at Overstock.com. Chidester certainly knows where the black holes are to be found in Overstock.com's financial reporting. He is sure to face tough questioning by the SEC as its investigation expands.

David Chidester's tenure of Overstock.com CFO

During Chidester's tenure as CFO, every single initial financial report for every reporting period issued by Overstock.com from the company's inception to date has violated Generally Accepted Accounting Principles (GAAP) and other SEC disclosure rules. Overstock.com restated its financial reports two times due to accounting errors.

In February 2006, Overstock.com restated its financial reports from Q1 2002 to Q3 2005 due to inventory accounting errors.

In February 2006, the SEC Division of Corporation Finance discovered that Overstock.com's revenue accounting violated Generally Accepted Accounting Principles (GAAP) since the company's inception.

In October 2008, Overstock.com restated its financial reports from Q1 2003 to Q3 2008 due to customer refund and credit errors. It was the second time in two years that Overstock.com had to restate its financial reports due to accounting errors.

From Q2 2007 to Q2 2008 Overstock.com violated SEC Regulation G by using an improper EBITDA calculation that materially overstated it financial performance. When I confronted management about its improper EBITDA calculations, Patrick Byrne, Jonathan Johnson, and David Chidester lied about the company's compliance with SEC Regulation G during quarterly conference calls. In Q3 2008, Overstock.com finally corrected its improper EBITDA calculation by calling it "adjusted EBITDA" when it restated financial reports and amended its filings with the SEC to correct certain GAAP violations involving customer refund and credit errors described above (Details here).

In January 2009 David Chidester was replaced by Steve Chesnut as CFO and was moved to the postion of Senior Vice President Internal Reporting and Information. In addition, Grant Thornton replaced PricewaterhouseCoopers as Overstock.com's auditors.

In September 2009, the SEC Enforcement Division started investigating Overstock.com after reports in this blog detailed how the company used an improper "cookie jar" reserve to material inflate its financial performance from Q4 2008 to Q3 2009.

In November 2009, Overstock.com fired Grant Thornton after new accounting errors were uncovered during a separate probe by the SEC Division of Corporation Finance. Grant Thornton wanted Overstock.com to restate its financial reports, like I have called for in my blog. Instead, Overstock.com fired Grant Thornton and filed an unreviewed Q3 2009 10-Q report.

On December 23, 2009, Overstock.com hired KPMG to replace Grant Thornton.

Roddy Boyd article

On January 19, 2010, The Big Money published an article by investigative reporter Roddy Boyd that exposed how Overstock.com purposely withheld information from investors during 2005 and 2006 about its inadequate internal controls and engaged in a New York State sales tax dodge scheme known as "Operation Heist and Freeze."

My separate examination of Overstock.com's SEC filings found that CEO Patrick Byrne and CFO David Chidester both signed Sarbanes-Oxley certifications for financial reports claiming that the company had effective internal controls over financial reporting, while internal company documents obtained by The Big Money contradict their representations to investors.

Those same financial reports that were certified by Byrne and Chidester were later restated two times: in February 2006 due to inventory accounting errors and in October 2008 due to customer refund and credit errors. Apparently, both Byrne and Chidester signed Sarbanes-Oxley certifications that were knowingly false.

The SEC is certainly going to expand its investigation to include false filings to investors by Byrne and Chidester. In addition, Overstock.com faces an investigation by the New York State Department of Corporation Finance for its sales tax dodge scheme reported by Boyd and known inside the company as "Operation Heist and Freeze."

Why Overstock.com and David Chidester parted ways

A day after Roddy Boyd's article was published, Overstock.com and David Chidester parted ways by "mutual agreement." In a tersely worded statement, the company disclosed:
On January 20, 2010 Mr. David K. Chidester left by mutual agreement, effective immediately, from his position as Senior Vice President, Internal Reporting and Information, of Overstock.com, Inc. (the “Company”).

Unlike other departures of key insiders, there were no words of praise for Chidester from Byrne or the company.

Apparently, the term "mutual agreement" means that Overstock.com does not want David Chidester to be readily available to KPMG during the year-end audit and Chidester does not want to be readily available to respond to KMPG's inquiries while an SEC investigation of Overstock.com is going on.

Perhaps Overstock.com is taking the "ignorance is bliss" approach to dealing with KPMG, its new auditors. Current CFO Steve Chesnut, who joined the company in January 2009, was not around during most of the improprieties being investigated by the SEC. While Patrick Byrne does not want Chidester, who knows where the bodies are buried, to stay around.

Other issues SEC is probably considering

In September 2009, the SEC also subpoenaed Overstock.com for documents related to those two prior restatements in 2006 and 2008 before Roddy Boyd broke his damning article. In June 2008, the SEC concluded an earlier investigation of Overstock.com and took no enforcement action against the company. In that earlier investigation, the SEC subpoenaed documents relating to Overstock.com's 2006 restatement of financial reports. Therefore, the SEC is taking a second look at Overstock.com's 2006 restatement of its financial reports.

Was the SEC tipped off by an insider with personal knowledge of black holes in Overstock.com's financial reporting? In any case, it's reasonable to assume that the SEC believes that Overstock.com's management "pulled the wool over their eyes" in its earlier investigation of the company.

On the hot seat

While David Chidester certainly has personal knowledge of improprieties at Overstock.com, I view him as a weak minded follower and not a leader type. According my sources, Chidester is "yes man" who eagerly catered to the whims of his ego centric boss Patrick Byrne. Therefore, investigators will probably put Chidester under tough scrutiny and enormous pressure in order to get him to cooperate and provide testimony implicating Byrne and others. I personally think it's just a matter of time before Chidester cuts a deal. How long is anyone's guess.

Written by,

Sam E. Antar

Disclosure:

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

If it weren't for the 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.

I do not own Overstock.com securities short or long. My research on Overstock.com and in particular its lying CEO Patrick Byrne is a freebie for securities regulators and the public in order to help me get into heaven, though I doubt that I will ever get there anyway. I will probably end up joining corporate miscreants such as Patrick Byrne in hell. In any case, exposing corporate crooks is a lot of fun for a forcibly "retired" crook like me and analyzing Overstock.com's financial reporting is a forensic accountant's wet dream.

KPMG has sponsored at least two of my free speaking engagements to universities and colleges.

Wednesday, January 27, 2010

Unusual Timing of Medifast Auditor Resignation Announcement

Updated to include certain corrections

Today, Medifast (NYSE: MED) announced that Bagell, Josephs, Levine & Company, LLC (BJL) resigned effective January 22, 2010 as the company's independent auditors. BJL had merged with Friedman LLP on January 1, 2010 and Friedman was engaged as Medifast's new auditors. The company claims that:

During the two years ended December 31, 2008 and from December 31, 2008 through January 21, 2010, there were no (i) disagreements between the Company and BJL on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements, if not resolved to its satisfaction, would have caused BJL to make reference to the subject matter of such disagreements in connection with its report, or (ii) “reportable events,” as described in Item 304(a)(1)(v) of Regulation S-K.

On January 25, 2010, Medifast announced its unaudited Q4 2009 financial results, but failed to disclose the resignation of BJL as its auditors and Friedman taking over as the company's auditors, three days earlier. That day, the stock shot up $2.36 to close at $21.24 per share. Would the stock have popped up if investors knew what Medifast already knew three days earlier? Before I initially posted my blog today at 2:16 PM ET, Medifast's stock was down $2.10 per share and trading at $18.43 per share in reaction to BJL resigning and Friedman LLP taking over as auditors.

Note: In an earlier version of this blog post, I neglected to mention that Friedman succeeded BJL as Medifast's auditors due to my misreading of the company's 8-K and I apologize for the error.

Disclosure:

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

If it weren't for the 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.

I do not own Medifast securities short or long. From time-to-time, I do research on scam companies for Fraud Discovery Institute which has been critical of Medifast's business model and financial disclosures. Barry Minkow is a short seller.

Written by:

Sam E. Antar

Open Letter to KPMG: The Ties That Bind Overstock.com and Patrick Byrne With Deep Capture LLC

To KPMG:

You must investigate Overstock.com’s (NASDAQ: OSTK) relationship with Deep Capture LLC as part of your continuing audit of the company and take steps to require management to make disclosures under Statement of Financial Accounting Standards No. 57 (SFAS No. 57) governing "Related Party Disclosures."

At the direction of Overstock.com CEO Patrick Byrne, the company has used Deep Capture's resources, such as its web site, as a conduit to intimidate, harass, threaten, smear, and pre-text company critics. For example, Deep Capture Managing Partner Judd Bagley violated Facebook's Statement of Rights and Responsibilities and deceptively posed as "Larry Bergman" in an effort to gather personal information and spy on Overstock.com 's and Patrick Byrne's critics, including me (See Item 3 Safety and Item 4 Registration and Security).

Altogether, Judd Bagley posted on DeepCapture.com the names of 7,483 "Facebook friends" of Patrick Byrne's critics and that list included spouses, minor children, and other people that have nothing to do with Overstock.com, Patrick Byrne, or Byrne's delusional short selling conspiracy theories. Judd Bagley, posing as an imposter, even tried to "Facebook friend" minor children!

Note: For additional details, please read Gary Weiss blog, Felix Salmon's Reuters blog, and Barry Ritholtz's The Big Picture blog. Overstock.com fails to make material related party disclosures In a recent "unreviewed" Q3 2009 10-Q report filed with the SEC, Overstock.com claimed the following risk factor:

We and our chief executive officer, Patrick M. Byrne, have from time to time made public statements regarding our or his beliefs about matters of public interest, including statements regarding naked short selling. Some of those public statements have been critical of the Securities and Exchange Commission and other regulatory agencies. These public statements may have consequences for us, whether as a result of increased regulatory scrutiny or otherwise.

If the above claimed risk factor is actually for real, Overstock.com has failed to disclose a more likely and significantly more material risk factor: the fact that certain predatory and retaliatory actions taken by Deep Capture managing partner Judd Bagley, such as pre-texting of company critics, at the direction and blessing of Patrick Byrne may lead to "increased regulatory scrutiny" of the company and significant material legal liabilities in the future. To date, Overstock.com has not disclosed to investors its close financial relationship with Deep Capture LLC anywhere in financial reports filed with the Securities and Exchange Commission.

SEC Staff Accounting Bulletin No. 99 (SAB No. 99) "Materiality" notes that:

The Supreme Court has held that a fact is material if there is –
a substantial likelihood that the . . . fact would have been viewed by the reasonable investor as having significantly altered the "total mix" of information made available.

As I will describe below, investors relying on Overstock.com's financial reports are being kept in the dark about the relationship between Overstock.com and Deep Capture LLC and the potential material legal consequences of the company's use of Deep Capture as a platform to attack its critics. Deep Capture LLC is in substance an affiliate of Overstock.com and is in substance controlled by the company, despite certain legal maneuvers made to disguise the true nature of the relationship between the entities. First, let's review certain accounting standards on "related party disclosures."

Related Party Disclosures under Generally Accepted Accounting Principles (GAAP)

Statement of Financial Accounting Standards No. 57 (SFAS No. 57) entitled "Related Party Disclosures" provides some "examples of related party transactions" such as:

transactions between... (d) an enterprise and its principal owners, management, or members of their immediate families; and (e) affiliates.

SFAS No. 57 defines an affiliate as:

A party that, directly or indirectly through one or more intermediaries, controls, is controlled by, or is under common control with an enterprise.

In addition, SFAS No. 57 defines control as:

The possession, direct or indirect, of the power to direct or cause the direction of the management and policies of an enterprise through ownership, by contract, or otherwise.

Furthermore, SFAS No. 57 defines related party transactions to include "services received or furnished" between such related entities. Deep Capture LLC furnishes services to Overstock.com in the form of retaliation against company critics.

How Patrick Byrne tried to conceal his control Deep Capture LLC

On April 17, 2008, investigative journalist, bestselling author, and blogger Gary Weiss reported that Deep Capture LLC is controlled by High Plains Investments LLC which is 100% owned by Patrick Byrne and owned 23.5% of the Overstock.com's common shares (See Proxy Report). See the filing below:


Note: Click on images to enlarge

Later in his blog post, Gary Weiss noted that the Deep Capture website was registered by Patrick Byrne and is "operated over Overstock servers." See below.



On June 19, 2008, Gary Weiss reported that Patrick Byrne took steps to conceal his ownership and control of Deep Capture by substituting High Plains Investments LLC as a principle with two former Overstock.com employees: Judd Bagley and Evren Karpak. See the filing below:



In addition, Patrick Byrne anonymized Deep Capture's registration. However, Deep Capture's website was still hosted on Overstock.com's servers. See below:



Sometime later, Overstock.com servers stopped hosting the Deep Capture web site.

Financial relationship between Overstock.com, Patrick Byrne, and Deep Capture LLC

Most, if not all, of the funding for Deep Capture LLC comes from Overstock.com which is controlled by Patrick Byrne and directly from Byrne himself. As I described above, two of its managing partners, Judd Bagley and Evren Karpak, are former Overstock.com employees. Patrick Byrne claims to moonlight as a "journalist" for Deep Capture. Mark Mitchell has described Byrne as a "business associate."

Currently, Deep Capture claims that:

The Deep Capture website was created to bypass the “captured” institutions that mediate our nation’s discourse. It was initially funded by Patrick Byrne, CEO of Overstock.com, but it is not part of Overstock. It functions as a separate, limited liability media company, whose co-owners and managers are Judd Bagley, Evren Karpak, and Mark Mitchell.

Overstock.com's heavily promotes DeepCapture.com on its website. Deep Capture receives commissions from customers who purchase merchandise from Overstock.com through referrals from its website to the company. However, such income from Overstock.com is not enough to fund Deep Capture's operations. Apparently, Patrick Byrne funds Deep Capture's operating deficit.

A January 12, 2010 article in the New York Observer quoted Patrick Byrne as saying:

I put in about $500,000, and I think I made one additional smaller infusion.

Examples of how Overstock.com and Patrick Byrne use Deep Capture as a platform to attack critics of the company

On October 31, 2009, I sent Patrick Byrne an email and asked to participate in Overstock.com’s Q3 2009 earnings call, so I could ask questions about Overstock.com's violations of GAAP and other SEC disclosure rules. In response, Patrick Byrne responded with an angry anti-Semitic diatribe, called me a “gonif” (Hebrew/Yiddish word for thief), and posted my email on the Deep Capture website, despite previous claims that Deep Capture is unrelated to Overstock.com (See Gary Weiss blog for more details).

On November 18, 2009, I sent Patrick Byrne another email asking to participate in Overstock.com's Q3 2009 conference call where it was going to discuss its filing of an "unreviewed" 10-Q. Again, Byrne posted my email on his Deep Capture site and again referred to me as a "gonif."

On January 13, 2010, investigative journalist Roddy Boyd sent Patrick Byrne an email asking him about Overstock.com's failure to make certain material disclosures about its cash problems and internal control problems. In addition, Boyd asked Byrne about Overstock.com's New York sales tax dodge known as "Operation heist and freeze." See Roddy Boyd's article in The Big Money here).

Byrne responded by posting Boyd's emails on Deep Capture's web site and posted the following tantrum:



If Deep Capture is "not part of Overstock" as it claims:

1. Why did Patrick Byrne post on the Deep Capture web site my emails to him asking to participate in various Overstock.com conference calls and personally attack me with anti-Semitic slurs?

2. Why did Patrick Byrne have to respond to Roddy Boyd's requests for information on Overstock.com's failure to disclose certain material information and a tax dodge scheme by posting his vile rant on Deep Capture?

Certainly, the above issues relate to Overstock.com.

Judd Bagley has refused to answer my emailed questions (cc'd to the SEC) asking him as a "Managing Partner" whether or not and he or others approve Patrick Byrne's blog posts prior to publication on DeepCapture.com. In addition, Judd Bagley has refused to answer questions about whether or not Deep Capture has a "conflict of interest" policy and if he approves of Patrick Byrne calling his critics, who happen to be Jewish like me and Gary Weiss, "gonifs."

Why is Judd Bagley so afraid to answer such questions about Patrick Byrne's activities at Deep Capture?

Apparently, Judd Bagley does not want to answer any questions because it is not in his interests or the interests of his real employers, Overstock.com and Patrick Byrne.

As I will describe below, Deep Capture LLC is a corporate public relations entity doing Overstock.com's bidding by attacking critics of the company.

The Society of Society of American Business Editors calls Deep Capture a "corporate public relations" entity

The Society of Society of American Business Editors and Writers denied Deep Capture membership to its organization because Patrick Byrne's activities as a self-proclaimed "journalist" and "those of DeepCapture seem closer to corporate public relations." See the email below posted by Byrne on Deep Capture's web site:

From: Kevin Noblet

Sent: Monday, January 26, 2009 9:01 AM

To: Patrick Byrne

Cc: Donna Dare

Subject: RE: Regarding Your Application for SABEW Membership

Patrick:

Donna forwarded your message to me. In SABEW’s view, not all business blogs qualify as news publications just as all writing and editing doesn’t qualify as journalism. From its standpoint your activities and those of DeepCapture seem closer to corporate public relations, and SABEW isn’t open to PR professionals _ or of course to retail business executives.

I hope this makes the decision clearer.

Donna also had forwarded me Judson Bagley’s message and I responded to him along similar lines.

Regards,

Kevin Noblet

Secretary and Membership Committee Deputy Chair SABEW

Conclusion

As I described above, Overstock.com and Deep Capture LLC service each other hand-in-hand. Overstock.com and Patrick Byrne provides just about all of Deep Capture's funding. Steps were taken to conceal the true nature of the relationship between the two entities.

Statement of Auditing Standards No. 45 (SAS No. 45) cautions that:

...the auditor should be aware that the substance of a particular transaction could be significantly different from its form and that financial statements should recognize the substance of particular transactions rather than merely their legal form.

Therefore, KPMG should examine the substance of the relationship between Overstock.com and Deep Capture LLC and not be fooled by the smoke and mirrors used by Patrick Byrne to conceal his control over Deep Capture.

In addition, SFAS No. 57 cautions that:

Transactions between related parties are considered to be related party transactions even though they may not be given accounting recognition. For example, an enterprise may receive services from a related party without charge and not record receipt of the services.

Even if Overstock.com does not directly compensate Deep Capture LLC to carry out its agenda, Deep Capture is providing services in the form of issuer retaliation against critics of the company and those services are considered "transactions between related parties" under accounting rules. Those services are funded by Overstock.com through commissions and by Patrick Byrne, simply by writing out a personal check.

Please note that this open letter has been sent to the Securities and Exchange Commission to assist it in its investigation of Overstock.com.

Respectfully,

Sam E. Antar

Other information:

January 25, 2010: Open Letter to KPMG: A Warning About Overstock.com, Your New Audit Client

Disclosure:

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

If it weren't for the 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.

I do not own Overstock.com securities short or long. My research on Overstock.com and in particular its lying CEO Patrick Byrne is a freebie for securities regulators and the public in order to help me get into heaven, though I doubt that I will ever get there anyway. I will probably end up joining corporate miscreants such as Patrick Byrne in hell. In any case, exposing corporate crooks is a lot of fun for a forcibly "retired" crook like me and analyzing Overstock.com's financial reporting is a forensic accountant's wet dream.

KPMG has sponsored at least two of my free speaking engagements to universities and colleges.

Monday, January 25, 2010

Open Letter to KPMG: A Warning About Overstock.com, Your New Audit Client

Updated to include today's anouncement of David Chidester leaving the company

To KPMG:

Recently, your firm was naive enough to become Overstock.com’s (NASDAQ: OSTK) new auditors, after the company fired and publicly vilified Grant Thornton rather than properly follow Generally Accepted Accounting Principles (GAAP) as recommended by them. Prior to firing Grant Thornton, the Securities and Exchange Commission started investigating your new audit client as a result of reports in this blog detailing how the company improperly setup “cookie jar” reserves to materially inflate its financial performance in future accounting periods (Q4 2008 and thereafter).

Roddy Boyd's exposed new troubling issues in the Big Money

Overstock.com faces a probable investigation by the New York State Department of Taxation and Finance for its sales tax dodge scheme known as “Operation Heist and Freeze” that was exposed by investigative journalist Roddy Boyd in The Big Money.

In addition, the SEC will widen its investigation of Overstock.com based on internal company documents obtained by the Big Money that show that CEO Patrick Byrne and former CFO David Chidester knowing signed false Sarbanes-Oxley certifications. The Big Money obtained internal Overstock.com documents that revealed that the company's "software system couldn’t track its inventory well, its accounting staff had trouble deciphering how much it owed and whom it had to pay." Those documents contradict Sarbanes-Oxley certifications signed by CEO Patrick Byrne and former CFO David Chidester claiming that Overstock.com had effective internal controls over financial reporting.

Overstock.com and David Chidester part ways

A day after Boyd's article was published, Overstock.com and David Chidester parted ways by "mutual agreement." Just this morning, Overstock.com announced that:

On January 20, 2010 Mr. David K. Chidester left by mutual agreement, effective immediately, from his position as Senior Vice President, Internal Reporting and Information, of Overstock.com, Inc. (the “Company”).

In addition to signing false Sarbanes-Oxley certifications, Chidester made false claims to investors about Overstock.com's compliance with SEC Regulation G, governing non-GAAP financial measures, as I will describe in more detail later in this blog post.

The term "mutual agreement" usually means that the company does not want David Chidester around to answer your questions and Chidester does not want to be readily available to respond to your inquires. After all, David Chidester knows where the "black holes" are to be found in Overstock.com's financial reporting irregularities.

Fate seems to bring us together again

It seems like fate that our paths must cross again. Many years ago, KPMG was Crazy Eddie’s auditors.* While, I scammed you, your audit team was grossly negligent. Your eagerness to please us as an audit client made committing fraud quite easy at Crazy Eddie.

Unlike you, Grant Thornton was not eager to please Overstock.com by going along with its financial reporting charades. Grant Thornton was fired and vilified by the Overstock.com, for telling the company to restate its financial reports and comply with GAAP.

Note: KPMG's predecessor firms Main Hurdman and Peat Marwick Main were Crazy Eddie's auditors. They are the "M" and the "P" in KPMG.

Personal advice

Personally, I believe that you should cut your potential exposure and resign. Some clients are simply not worth the risk. Since I don't believe that you will resign, I feel that I owe you some advice just for old time’s sake to avoid another audit meltdown similar to what happened at Crazy Eddie. However, I have my doubts that any firm can properly audit Overstock.com given its apparent lack of effective internal controls, its management integrity issues, and its continued willingness to violate GAAP and SEC disclosure rules.

Statement of Auditing Standards No. 99 - Consideration of Fraud in a Financial Statement Audit

In particular, you must consider Statement of Auditing Standards No. 99 entitled, “Consideration of Fraud in a Financial Statement Audit” in both the planning and execution of your Overstock.com audit engagement. KPMG was hired by the company only eight days before its fiscal year ended. It is quite easy for Overstock.com's dishonest management team to lie to you, to mislead you, and conceal transactions from you as its auditors because you arrived late on the scene. Hopefully, you paid careful attention to the requirements of SAS No. 99, in particular the following guidance provided below:

Creating a Culture of Honesty and High Ethics

It is the organization's responsibility to create a culture of honesty and high ethics and to clearly communicate acceptable behavior and expectations of each employee. Such a culture is rooted in a strong set of core values (or value system) that provides the foundation for employees as to how the organization conducts its business. It also allows an entity to develop an ethical framework that covers (1) fraudulent financial reporting, (2) misappropriation of assets, and (3) corruption as well as other issues.

Setting the Tone at the Top

Directors and officers of corporations set the "tone at the top" for ethical behavior within any organization. Research in moral development strongly suggests that honesty can best be reinforced when a proper example is set—sometimes referred to as the tone at the top. The management of an entity cannot act one way and expect others in the entity to behave differently.

In many cases, particularly in larger organizations, it is necessary for management to both behave ethically and openly communicate its expectations for ethical behavior because most employees are not in a position to observe management's actions. Management must show employees through its words and actions that dishonest or unethical behavior will not be tolerated, even if the result of the action benefits the entity. Moreover, it should be evident that all employees will be treated equally, regardless of their position.

For example, statements by management regarding the absolute need to meet operating and financial targets can create undue pressures that may lead employees to commit fraud to achieve them. Setting unachievable goals for employees can give them two unattractive choices: fail or cheat. In contrast, a statement from management that says, "We are aggressive in pursuing our targets, while requiring truthful financial reporting at all times," clearly indicates to employees that integrity is a requirement. This message also conveys that the entity has "zero tolerance" for unethical behavior, including fraudulent financial reporting.

The cornerstone of an effective antifraud environment is a culture with a strong value system founded on integrity. This value system often is reflected in a code of conduct. The code of conduct should reflect the core values of the entity and guide employees in making appropriate decisions during their workday.

The “tone at the top” at Overstock.com is set by its CEO and major shareholder Patrick M. Byrne, who has lied to investors about the company’s financial performance dating as far back as the year 2000 and continues his unabated lies to them today.

Every single initial financial report for every reporting period issued by Overstock.com from the company's inception to date has violated GAAP and other SEC disclosure rules. So called "clean" audit opinions issued by PricewaterhouseCoopers (predecessor auditor to Grant Thornton) turned out to be wrong as the company has already restated its financial reports two times in the last three years. Overstock.com now faces a third restatement of such reports as a result of its improper use of "cookie jar" reserves under investigation by the SEC.

Rather than comply with GAAP and SEC disclosure rules, the company stubbornly continued to violate such rules and engaged in a campaign of harassment, intimidation, smears, threats, and pretexting directed at me and other critics (Details from my blog here and here and from investigative journalist and blogger Gary Weiss here). Overstock.com's independent audit committee has failed to enforce the company's Code of Business Conduct and Ethics and rein in management's improper and illegal behavior.

Therefore, I believe that it is nearly impossible for you to adequately increase the scope of your field work to conduct a proper audit of Overstock.com, as required by SAS No. 99. There are simply too many management integrity issues. The company's management has continuously lied to investors and has shown a willingness to issue financial reports that violate GAAP and SEC disclosure rules. On top of that, you cannot make up for the fact that you arrived on the scene only eight days before the fiscal year ended.

Below is a summary of management's continuous pattern of lying to investors and willful failure to follow GAAP and SEC disclosure rules.

Lies by Patrick Byrne prior to Overstock.com's initial public offering in 2002

From December 2000 to March 2002, Patrick Byrne lied about Overstock.com’s financial performance in a series of interviews on national television and in various publications prior to the company’s initial public offering in March 2002. Patrick Byrne deceptively used pro forma non-GAAP “gross value merchandise value sales” (instead of the lower GAAP commission revenue) to hype the company’s top-line performance in order to falsely claim that Overstock.com was profitable, when it never was profitable (Details here).

Overstock.com violated SEC Regulation G governing non-GAAP financial measures

From Q2 2007 to Q2 2008 Overstock.com improperly computed EBITDA by starting its calculation with operating income and adding back interest, taxes, depreciation, amortization, and stock based compensation. In other words, Overstock.com improperly defined EBITDA as operating income before interest, taxes, depreciation, amortization, and stock based compensation.

However, SEC Regulation G requires EBITDA to be computed as net income (not operating income) before interest, taxes, depreciation, and amortization (and not stock-based compensation). Therefore, Overstock.com was not permitted by Regulation G to use operating income as the starting point to compute EBITDA and the company was not allowed to eliminate stock-based compensation from its EBITDA calculation.

Since Overstock.com had reported losses from discontinued operations in various reporting periods, by improperly using operating income as the starting point to calculate EBITDA, it was materially overstating EBITDA by the amount of loss from discontinued operations. Likewise, by Overstock.com improperly eliminating stock-based compensation from its EBITDA calculation, the company was materially overstating its reported EBITDA by such amount in each reporting period.

When I confronted management about its EBITDA violations, Patrick Byrne, Jonathan Johnson, and David Chidester lied about the company's compliance with SEC Regulation G during quarterly conference calls and Byrne vilified me for raising the issue. In Q3 2008, Overstock.com finally corrected its improper EBITDA calculation by calling it "adjusted EBITDA" when it restated financial reports and amended its filings with the SEC to correct certain GAAP violations involving customer refund and credit errors described below. However, the company improperly failed to disclose in amended SEC filings that the reason for changing its EBITDA calculation was because of violations of Regulation G (Details here).

Overstock.com's history of GAAP violations

In February 2006, Overstock.com restated financial reports dating from Q1 2002 to Q3 2005 to correct its improper inventory accounting.

In February 2008, the SEC Division of Corporation Finance discovered that Overstock.com's revenue accounting violated GAAP from the company's inception to Q3 2007 (Details here).

In October 2008, Overstock.com restated its financial reports from Q1 2003 to Q2 2008 due to customer refund and credit errors. However, the October 2008 restatement did not include corrections arising from underbilled offsetting costs and reimbursements that were already earned from its fulfillment partners during those same corresponding periods, less a reasonable estimate of uncollectable amounts.

In other words, Overstock.com should have gone back and corrected or restated its financial reports to properly reflect income it already earned from offsetting costs and reimbursements due from its fulfillment partners, less a reasonable estimate for uncollectable amounts. Instead Overstock.com violated GAAP by improperly moving income that the company already earned in Q2 2008 and prior reporting periods to Q4 2008 and future reporting periods. In effect, Overstock.com improperly created a "cookie jar reserve" to materially inflate future earnings or reduce future losses (Details here).

In February 2009, I alerted both the Securities and Exchange Commission and Overstock.com's audit committee and management about the company’s improper use of a "cookie jar" reserve to inflate its financial performance in future reporting periods. Overstock.com continued to stubbornly refuse to restate its financial reports to comply with GAAP.

In September 2009, the SEC Enforcement Division and later the Division of Corporation Finance started parallel probes of the company.

In October 2009, the SEC Division of Corporation Finance discovered that Overstock.com overpaid a fulfillment partner $785,000 during 2008. The company recovered that overpayment in Q1 2009 and improperly reported the overpayment recovery as income in that same quarter, rather than properly restate its 2008 financial reports to correct that error. In addition, Overstock.com improperly concealed the recovery of the overpayment by including that amount in recoveries from underbilled fulfillment partners in Q1 2009 instead of separately disclosing the overpayment recovery in its financial reports (Details here).

Grant Thornton claimed that it did not know about the 2008 overpayment and Q1 2009 recovery from the fulfillment partner until October 2009. After learning about the overpayment, Grant Thornton told Overstock.com that it must restate its prior financial reports to correct that error and comply with GAAP. On November 13, 2009, Overstock.com fired Grant Thornton, rather than restate its financial reports and later filed an "unreviewed" Q3 2009 10-Q that finally disclosed the overpayment to the fulfillment partner. (See details here).

SAS No. 99 clearly states:

The cornerstone of an effective antifraud environment is a culture with a strong value system founded on integrity.

If company management can lie to investors, what makes you think that they won't lie to you in their efforts to violate GAAP and SEC disclosure rules? Therefore, if you decide to maintain Overstock.com as your client, proceed at your own risk.

Warmest regards,

Sam E. Antar

Disclosure:

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

If it weren't for the 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.

I do not own Overstock.com securities short or long. My research on Overstock.com and in particular its lying CEO Patrick Byrne is a freebie for securities regulators and the public in order to help me get into heaven, though I doubt that I will ever get there anyway. I will probably end up joining corporate miscreants such as Patrick Byrne in hell. In any case, exposing corporate crooks is a lot of fun for a forcibly "retired" crook like me and analyzing Overstock.com's financial reporting is a forensic accountant's wet dream.

KPMG has sponsored at least two of my free speaking engagements to universities and colleges.

Wednesday, January 20, 2010

Roddy Boyd Article Will Cause SEC to Expand Investigation of Overstock.com and Probably Result in Sales Tax Investigation by New York

The Big Money published an article by investigative reporter Roddy Boyd will result in an expanding Securities and Exchange Commission of Overstock.com (NASDAQ: OSTK) and probably a new investigation by the New York State Department of Taxation and Finance for possible tax evasion by the company. Big Money obtained internal Overstock.com documents showing how the company withheld material information from investors about the company's internal control problems and liquidity problems in 2005 and 2006. The article details how CEO Patrick Byrne systematically intimidated, harassed, and attacked his critics to cover up mounting problems at the company. Perhaps the most surprising revelation of Roddy Boyd's article is Overstock.com's efforts to evade paying New York State sales tax in what was known as "Operation Heist and Freeze."

New Issues for SEC to Investigate

The Securities and Exchange Commission, which started investigating Overstock.com after this blog exposed its improper use of "cookie jar" reserves to inflate its financial performance, will surely expand its investigation based on information provided in Roddy Boyd's article. For example, the article details that internal Overstock.com documents revealed that the company's "software system couldn’t track its inventory well, its accounting staff had trouble deciphering how much it owed and whom it had to pay."

However, my examination of Overstock.com's SEC filings finds that CEO Patrick Byrne and CFO David Chidester both signed Sarbanes-Oxley certifications for financial reports claiming that the company had effective internal controls over financial reporting, while internal company documents obtained by The Big Money contradict their representations to investors.

It later turned out that those financial reports were restated two times: in February 2006 due to inventory accounting errors and in October 2008 due to customer refund and credit errors. Overstock.com faces a third restatement of those same financial reports due to its improper use of "cookie jar" reserves that were exposed in this blog and are being investigated by the SEC. Therefore, Patrick Byrne's and David Chidester's Sarbanes-Oxley certifications were not only false, apparently they were deliberately false based on documents obtained by The Big Money!

In any case, the SEC investigation is already heating up. Just two days ago, Carol Remond from Dow Jones Newswires reported that the SEC subpoenaed Copper River for discovery documents obtained from Overstock.com during its legal battle with the company. Apparently, the SEC hopes that documents obtained by Copper River will help its investigation of financial reporting violations by Overstock.com.

Probable Tax Evasion Investigation by New York State

As I detailed above, Roddy Boyd's article provides damning evidence of possible tax evasion by Overstock.com. After speaking to New York State Department of Taxation and Finance, I am sure that they will be looking into this matter. See excerpt from Roddy Boyd's article below:

Another instance of Overstock critics having the correct instincts, but getting some of the details wrong, is in the confusion surrounding the announcement of Overstock’s design-your-own-jewelry initiative in 2006. Pitched as a value-conscious alternative to online jewelry leader Blue Nile, and offering better quality than Wal-Mart—“For what you would spend elsewhere, you can get her a lot more diamond here,” went the slogan—Overstock dove into the bitterly competitive online jewelry market in January 2005.

What caught the attention of critics was its announcement in the first quarter 10-Q filing in May of 2005 that it had set up a “variable interest entity” to engage in these transactions. The entity had agreed to lend Overstock up to $10 million—$8.4 million of which had been extended in November 2004—for which it received a below-market interest rate of 3.75 percent and a 50 percent claim to all profits. Overstock also had an option to buy the 50 percent it did not own.

Jeff Matthews, a hedge-fund manager, author, and blogger who had long been critical of Overstock and Byrne, immediately seized on the unusual structure of the transaction. He wondered why Byrne, who had discussed the great opportunities they were seeing (and participating in) within the diamond market that January, had not disclosed something as material as the joint venture.

Gradient, in a research note on May 16, 2005, offered a more detailed criticism. The report raised several questions about the deal, including whether the deal was structured as a variable interest entity to “report the top line benefits of the jewelry business without reporting 100% of the unit’s losses.” For a company whose losses, even before the debacle of the software upgrade, were mounting, this was—to Gradient at least—a plausible scenario.

But the truth is much simpler: The deal seems to have been a tax dodge. The joint venture, struck with Moshe Krasnanski and his brother-in-law Mayer Gniwisch—a pair of veteran diamond merchants whom Byrne referred to as “Our Lubbavitcher friends”—had nothing to do with efforts to minimize accounting losses. In an e-mail to the board of directors, Byrne dubbed the process of recruiting the pair, who had set up the profitable online diamond-seller Ice.com, “Operation Heist and Freeze.” According to a memo, Overstock general counsel Jonathan Johnson prepared for the board of directors on July 13, 2005, the company’s VIE was designed to avoid a “nexus in the State of New York for sales tax purposes,” which means that the company would not have to collect, and pay out, sales taxes in the state. The diamond sales effort never really went anywhere for Overstock, and it was closed out during the holidays of 2006 with about $567,000 in accumulated losses, according to an internal balance sheet for the joint venture.

Note: Bold print and italics added by me.

Having done battle with New York's sales tax auditors as the criminal CFO of Crazy Eddie, I learned the hard way that they are more tenacious than mob collectors in retrieving monies owed - no offense to the SEC, FBI, or IRS. Under New York law, company officers are not protected by the corporate veil and are personally liable for any sales tax deficiency.

Written by:

Sam E. Antar

Other blogs covering Roddy Boyd's article:

Gary Weiss: Suspicious Trading Ahead of Devastating Article on Overstock.com's Sales Tax Dodge

Barry Ritholtz: Is Patrick Byrne America's Nasiest Dumbest CEO?

Disclosure:

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

If it weren't for the 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.

I do not own Overstock.com securities short or long. My research on Overstock.com and in particular its lying CEO Patrick Byrne is a freebie for securities regulators and the public in order to help me get into heaven, though I doubt that I will ever get there anyway. I will probably end up joining corporate miscreants such as Patrick Byrne in hell. In any case, exposing corporate crooks is a lot of fun for a forcibly "retired" crook like me and analyzing Overstock.com's financial reporting is a forensic accountant's wet dream.

I have done free training for New York State Department of Taxation and Finance in the past.

Tuesday, January 12, 2010

Open Memo to Medifast Chief Executive and CFO Michael S. McDevitt: Cut the BS and Address Troubling Issues Raised by Barry Minkow

See update at bottom of blog post

Open Memo to Medifast Chief Executive and CFO Michael S. McDevitt:

I read Medifast’s (NYSE: MED) self-serving proclamations attacking my friend convicted felon turned fraud fighter Barry Minkow (co-founder of Fraud Discovery Institute or FDI) in both its Q3 2009 10-Q issued last November and reiterated in today’s press release detailed in part below:

An Independent Committee composed of distinguished members of the Board of Directors of Medifast, Inc. (NYSE: MED) was constituted in February, 2009 to review public allegations of a third party, convicted felon Barry Minkow, and his network of alleged independent experts, posted on Minkow's website alleging illegal activities of Take Shape For Life, Inc., a direct selling company and a subsidiary of Medifast, Inc.

The independent Directors' Committee, after investigation of facts and information concluded the allegations were false, misleading, and/or without merit. The same is true for the re-issue of the report posted January 8, 2010 – the allegations are false, misleading, and/or without merit.

The company has made a formal complaint to the United States Securities and Exchange Commission and the Maryland Securities Commissioner.

Note: I added links to Fraud Discovery's Medifraud.net web site and reports for clarity.

While Medifast's so-called “independent” directors may meet the legal tests of independence under New York Stock Exchange rules as you claim, they are certainly less independent than Bagell, Josephs, Levine & Company, the company's so-called independent auditors. Each director holds stock or stock options in Medifast, unlike the company's auditors who cannot own stock in an audit client (Source: Medifast Proxy Statement dated August 25, 2009). In any case, your auditors seem to have their own share of independence and competency issues, too (detailed here).

However, Medifast is attempting in smear Barry Minkow because he has publicly disclosed that he is a short seller and his company Fraud Discovery Institute has issued various reports raising serious issues about Medifast's questionable financial disclosures, business model, and marketing practices backed up with an outside expert's report and other data made fully available to the public for examination. According to Fraud Discovery's recent rebuttal:

According to FDI Co-Founder Barry Minkow, “there is only one problem with the above statement. Neither FDI nor myself made the detailed allegations in previous reports released on the official FDI website. On the contrary, FDI sought the outside opinion of nationally recognized, multi-level marketing expert Robert Fitzpatrick, who has testified for law enforcement on numerous occasions about these kinds of schemes. Mr. Fitzpatrick is not a short-seller and has never had a financial interest in Medifast’s stock at any time nor would Mr. Fitzpatrick, for the nominal fee paid for his analysis of the Medifast business model, make up out of thin air the specific problems inherent with the company.

In contrast, Medifast has utterly failed to issue any detailed line-by-line rebuttal of any issues raised in Fraud Discovery Institute's reports concerning the company. Simply disclosing that Medifast issued a “formal complaint to securities regulators” without issuing a detailed public rebuttal of FDI's reports seems like an attempt to scare off Minkow with threats of a government investigation, rather than transparently address the serious issues raised in those reports. In addition, I remind you that Barry Minkow has a first amendment right to critique your company, notwithstanding the fact that he publicly disclosed that he holds a short position in your company and is a convicted felon.

Back in November 2008, Medifast claimed that it made a “formal complaint to the United States Securities and Exchange Commission and the Maryland Securities Commissioner.” However, Barry Minkow informs me that he has not been contacted by either regulator regarding your formal complaints.

I can assure you that Barry Minkow would welcome scrutiny from any regulator along with their concurrent scrutiny of Medifast’s questionable financial disclosures, business model, and marketing practices. Minkow is unafraid to defend FDI's detailed case that your company is a scam preying on the hopes and dreams of thousands of unsuspecting gullible people who buy into your multi-level marketing scheme, never to collect any net profits on their investments.

Here’s a suggestion. Why don’t you publicly debate Barry Minkow in front of TV cameras (without lawyers to sanitize your communications) about the issues raised in his reports? In other words, cut the BS and show some balls: put up or shut up.

Respectfully,

Sam E. Antar

Leading securities litigation law firm Barack, Rodos, & Bacine announced that it is investigating Medifast's financial disclosures for possible violations of federal securities law as a result of reports issued by Fraud Discovery Institute. Read the press release here.

Suggested reading:

Fraud Files Blog: Medifast multi-level marketing scheme called into question by expert

Disclosure:

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

If it weren't for the 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.

I do not own Medifast securities short or long. From time-to-time, I do research on scam companies for Fraud Discovery Institute. However, this open letter is an unsolicited freebie. In any case, please feel free to add my name to any allegations you make to securities regulators and see if I give a damn.

Sunday, January 03, 2010

Open Letter to the Securities and Exchange Commission (Part 6): Conflicting Disclosures by Overstock.com Reveal Improper Audit Opinion Shopping

Open Letter to the Securities and Exchange Commission:

After carefully examining certain conflicting and contradictory disclosures by Overstock.com (NASDAQ: OSTK), I recommend that you should also investigate whether the company engaged in improper audit “opinion shopping” in hiring both Grant Thornton, who replaced PricewaterhouseCoopers (PWC) as the company's auditors and KMPG, who replaced Grant Thornton after they were fired by the company.

Brief Background

In October 2008, Overstock.com restated its financial reports from Q1 2003 to Q2 2008 due to customer refund and credit errors. However, the October 2008 restatement did not include corrections arising from underbilled offsetting costs and reimbursements that were already earned from its fulfillment partners during those same corresponding periods, less a reasonable estimate of uncollectable amounts. In other words, Overstock.com should have gone back and corrected or restated its financial reports to reflect income already earned from offsetting costs and reimbursements due from its fulfillment partners, less a reasonable estimate for uncollectable amounts.

Instead, Overstock.com violated Generally Accepted Accounting Principles (GAAP) and improperly deferred income that it earned but underbilled its fulfillment partners during prior reporting periods (Q3 2008 and before) by moving such income to future reporting periods (Q4 2008, Q1 2009, Q2 2009, and Q3 2009). In effect, Overstock.com improperly created a "cookie jar reserve" to materially inflate future earnings or reduce future losses (Details here).

In February 2009, I wrote two blog posts (details here and here) about Overstock.com’s improper establishment of an improper "cookie jar reserve" and I immediately contacted both the company and the SEC. Since both Overstock.com and the SEC were parties to those emails, the company was fully aware that I was communicating with the SEC.

In March 2009, Overstock.com fired PricewaterhouseCoopers as its auditors and hired Grant Thornton to replace them.

In September 2009, the SEC Enforcement Division re-opened a previously closed investigation of Overstock.com's financial reporting irregularities and a few weeks later, the SEC Division of Corporation Finance started a similar probe.

SEC Division of Corporation Finance discovers previously undisclosed overpayment error

In responding to questions from the SEC Division of Corporation Finance, Overstock.com disclosed that in February 2009 the company learned it overpaid a fulfillment partner $785,000 during 2008. The company recovered the overpayment in Q1 2009 and improperly reported the overpayment recovery as income in that same quarter, rather than properly restate its 2008 financial reports to correct that error. In addition, Overstock.com improperly concealed the recovery of the overpayment by including that amount in recoveries from underbilled fulfillment partners in Q1 2009 instead of separately disclosing the overpayment recovery in its financial reports.

Grant Thornton claimed that it did not know about the 2008 overpayment and Q1 2009 recovery from the fulfillment partner until October 2009. After learning about the overpayment, Grant Thornton told Overstock.com that it must restate its prior financial reports to correct that error and comply with GAAP. On November 13, 2009, Overstock.com fired Grant Thornton, rather than restate its financial reports and later filed an "unreviewed" Q3 2009 10-Q that finally disclosed the overpayment to the fulfillment partner. (See details here).

Overstock.com disputes Grant Thornton by apparently claiming that it shopped for its audit opinion before hiring them as their auditors

Overstock.com claims that Grant Thornton knew about the 2008 overpayment and Q1 2009 recovery from the fulfillment partner before they hired. Overstock.com claimed that Grant Thornton provided "guidance on the accounting for the $785,000 fulfillment partner overpayment" and was "comfortable" with the company's "past accounting practices."

If Overstock.com's story is to be believed, than the company is apparently admitting to improper audit "opinion shopping" since it was concerned about hiring a new auditor who did not agree with its accounting treatment of recoveries from underbilled and overpaid fulfillment partners. At the time Overstock.com hired Grant Thornton, the company already knew that I was communicating directly with the SEC about its financial reporting violations since they were a party to such emails and sent me "read receipts" acknowledging that they read the emails. Therefore, Overstock.com was concerned about the issues I raised with the SEC when it decided to hire Grant Thornton as the company's new auditors.

Below, I will detail conflicting disclosures by Overstock.com about its hiring and firing of Grant Thornton and its hiring of KPMG to replace Grant Thornton. I will describe how if earlier disclosures by the Overstock.com are truthful, than later disclosures by the company cannot be truthful or if later disclosures are truthful, than earlier disclosures cannot be truthful.

Overstock.com’s 8-K disclosure about hiring Grant Thornton to replace PricewaterhouseCoopers as its auditors

When Overstock.com hired Grant Thornton, the company made the following 8-K/A disclosure:

Also on March 23, 2009, the Audit Committee selected and engaged Grant Thornton LLP as the Company’s independent registered public accounting firm as its auditor of record for the fiscal year ending December 31, 2009. This selection is the result of a competitive bid process. During the Company’s two most recent fiscal years ended December 31, 2008 and 2007 and through March 23, 2009, neither the Company nor anyone on its behalf consulted Grant Thornton LLP regarding either (i) the application of accounting principles to a specified transaction, either completed or proposed, or the type of audit opinion that might be rendered on the Company’s financial statements, and no written report or oral advice was provided to the Company that Grant Thornton LLP concluded was an important factor considered by the Company in reaching a decision as to the accounting, auditing or financial reporting issue; or (ii) any matter that was the subject of a disagreement or reportable event as defined in Regulation S-K, Item 304(a)(1)(iv) and Item 304(a)(1)(v), respectively.

Note: Bold print and italics added by me:

In other words, Overstock.com originally claimed that it never consulted Grant Thornton prior to hiring them about "application of accounting principles to a specified transaction, either completed or proposed" or, in particular, the company's accounting treatment for recoveries from underbilled or overpaid fulfillment partners.

Later disclosures by Overstock.com after the company fired Grant Thornton conflict with the company’s original disclosure about its hiring of Grant Thornton as detailed above

If the original disclosure by Overstock.com is truthful, then later disclosures by the company cannot be truthful. As I will describe in more detail below, it turns out that Overstock.com later claimed that before Grant Thornton was hired by the company, they "provided guidance on the accounting for the $785,000 fulfillment partner overpayment" and was "comfortable" with the company's "past accounting practices." In other words, Overstock.com claimed that Grant Thornton was consulted about "the application of accounting principles to a specified transaction, either completed or proposed" before it was hired, contrary to the company's previous disclosures.

On November 13, 2009, Overstock.com fired Grant Thornton after they recommended that the company's prior financial reports should be restated to correct the overbilling error. Grant Thornton properly concluded that the Q1 2009 recovery of a 2008 overpayment to a fulfillment partner materially overstated Overstock.com's financial performance in 2009 by improperly shifting income from 2008 to 2009. Overstock.com claimed that Grant Thornton changed its position on the company’s accounting for the overpayment recovery from the fulfillment partner.

The company made the following disclosure in its 8-K report (paragraph 6):

On several occasions Grant Thornton discussed with and provided guidance on the accounting for the $785,000 fulfillment partner overpayment during and prior to October in the following respects:

a. The accounting for this transaction required significant judgment and interpretation of the facts and circumstances — which others with 20/20 hindsight might later question. Weighing all the facts and circumstances at the time, we decided it would be a mistake to book this overpayment as an asset as of December 31, 2008, deciding instead to recognize the sums as we recovered the money (that is, we thought the conservative position was the correct position). Our auditors at the time, PricewaterhouseCoopers (“PwC”), agreed with this course of action, and we prepared our 2008 Form 10-K on the basis of this decision.

b. Although PwC had given us eight years of fine service, after we filed our 2008 Form 10-K, we ran a formal RFP process for selecting our 2009 auditors as a reflection of my belief that changing auditors every decade or so might be healthy. Grant Thornton won that RFP, and the Audit Committee selected Grant Thornton as our 2009 auditor.

c. Before Grant Thornton took our audit engagement in Q1 2009, it reviewed our filed 2008 Form 10-K and told us it was comfortable with our past accounting practices.

Note: Bold print and italics added by me.

During a November 18, 2009 conference call, Jonathan Johnson reiterated the company's claim in its 8-K:

We wound up -- our Audit Committee wound up engaging Grant Thornton.

Prior to the engagement, Grant Thornton reviewed our 2008 10-K; told us that they were comfortable -- comfortable with the accounting.

Note: Bold print and italics added by me.

Overstock.com’s original 8-K disclosure about its hiring of Grant Thornton claimed that the company had not "…consulted Grant Thornton LLP regarding…the application of accounting principles to a specified transaction, either completed or proposed" before Grant Thornton was hired. However, that disclosure cannot be true if we believe Overstock.com's later disclosure that Grant Thornton "provided guidance on the accounting for the $785,000 fulfillment partner overpayment" and was "comfortable" with the company's "past accounting practices."

It is not unusual for Grant Thornton to review Overstock.com financial disclosures prior to its audit engagement. Such information is used to help prospective auditors determine if they should accept an engagement and not to render an opinion to prospective audit clients about their disclosures (especially accounting irregularities) prior to being hired by them for such a purpose. If Grant Thornton did give Overstock.com an opinion about such disclosures before they were hired, than the company had in fact "consulted" with Grant Thornton and it should have been disclosed.

If Grant Thornton had advised Overstock.com that it was uncomfortable with the company's financial disclosures, it is doubtful that the company would have hired them as their auditors based on the company’s later conduct. Grant Thornton appropriately recommended that Overstock.com restate its 2009 financial reports because an accounting error originating in 2008 materially overstated the company's financial performance in Q1 2009. Instead, Overstock.com fired Grant Thornton, rather than restate its financial reports to comply with GAAP. The company took the unusual step of filing an unreviewed Q3 2009 10-Q report with the SEC.

Apparently, Overstock.com felt screwed when it claimed that Grant Thornton changed its position on the company's prior accounting treatment of its recovery from the overpaid fulfillment partner and fired them as their auditors. During the November 18, 2009 conference call, an embittered Patrick Byrne expressed his utter contempt for Grant Thornton saying:

I am dissing [is people on the scene] -- I mean, I think Grant Thornton -- we're not going to be exchanging Christmas cards.

Overstock.com’s later claim that Grant Thornton was “comfortable” with the company’s “past accounting practices” was in fact an "important factor considered by the Company in reaching a decision as to the accounting, auditing or financial reporting issue" since it continued to recognize recoveries from underbilled or overpaid fulfillment partners as income when they were received.

By its own definition, Overstock.com shops for an audit opinion by hiring KPMG

On December 28, 2009 Overstock.com hired KPMG as its auditors to replace Grant Thornton, despite previous assurances by CEO Patrick M. Byrne and company President Jonathan E. Johnson that they would not hire new auditors until after the SEC Division of Corporation Finance completed its review of certain financial reporting irregularities. See quotes from the November 18, 2009 conference call transcript below:

Willis Taylor - Gagnon Securities - Analyst

Since you've dismissed your auditor for a very specific accounting choice, when you go to select a new auditor, how do you prevent yourself from being accused of opinion shopping?

Jonathan Johnson - Overstock.com - President

That's a great question, Louis, and that's part of the reason that we've decided not to select a new auditor until this -- until we resolve this issue with the SEC.

We do not want to be accused of opinion shopping. We'd like the SEC to help us figure out -- we'd like them to say we've done it the right way or we've done it the wrong way. Once they say one of those two, we don't need to opinion shop.

Patrick Byrne - Overstock.com - Chairman and CEO

But, so, I would even say to the point that when people have contacted us, we have discouraged any communication on the grounds that we got -- for just that reason -- well, I have the -- no matter who we talk to now, then whoever we ultimately pick, people are going to say, well, you did this because you opinion shop.

So we're really not having discussions with anybody. It's nice to get phone calls, but we're not talking to anybody until we get through this just to prevent -- just as a prophylactic measure.

Thank you, Willis. Did you have another question?

In other words, Overstock.com did exactly what it said it would not do. By Jonathan Johnson's own definition, the company engaged in audit "opinion shopping." As I detailed above, Jonathan Johnson said, "... we've decided not to select a new auditor until this -- until we resolve this issue with the SEC. We do not want to be accused of opinion shopping." Overstock.com selected KPMG as its new auditor and did not wait until it resolved its issues with the SEC as Johnson said the company would do during the conference call.

Respectfully,

Sam E. Antar

My previous open letters to the SEC (please note that each letter is based on Overstock.com's deliberately vague, incoherent, and inconsistent, and often contradictory disclosures at the time each one was issued):

08/05/09: Open Letter to the Securities and Exchange Commission: Stop Overstock.com GAAP Violations Now!

11/22/09: Open Letter to the Securities and Exchange Commission Part 2: New Information on Overstock.com's GAAP and SEC Disclosure Violations

11/23/09: Open Letter to the Securities and Exchange Commission Part 3: Overstock.com Lied About Grant Thornton and Concealed Error

11/26/09: Open Letter to the Securities and Exchange Commission Part 4: Patrick Byrne Ignores Real Issues As He Vilifies Grant Thornton

12/14/09: Open Letter to the Securities and Exchange Commission Part 5: Issuer Retaliation Complaint Against Overstock.com

Disclosure:

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

If it weren't for the 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.

I do not own Overstock.com securities short or long. My research on Overstock.com and in particular its lying CEO Patrick Byrne is a freebie for securities regulators and the public in order to help me get into heaven, though I doubt that I will ever get there anyway. I will probably end up joining corporate miscreants such as Patrick Byrne in hell. In any case, exposing corporate crooks is a lot of fun for a forcibly "retired" crook like me and analyzing Overstock.com's financial reporting is a forensic accountant's wet dream.

KPMG's predecessor firms Main Hurdman and Peat Marwick Main were Crazy Eddie's auditors. KPMG has sponsored at least two of my free speaking engagements to colleges and universities.