Green Mountain Coffee Roasters’ Growing Inventory Levels: Is It a Fumble or a Fraud?

Has Green Mountain Coffee Roasters (NASDAQ: GMCR) fumbled in managing its inventory or has it engaged in an inventory fraud to inflate earnings?

Background

As the criminal CFO of Crazy Eddie, I learned that the overstatement of inventory levels was the easiest way to inflate earnings. Auditors don't always supervise the counting of each and every physical inventory item to confirm their existence. Even if the auditors confirm the physical existence of all inventory items, they don't always trace how every single item arrived in a company's storage facilities. Therefore, the same inventory items can be moved from location to location and counted several times to inflate earnings.

In September 2010, the Securities and Exchange Commission started a probe of Green Mountain Coffee's revenue accounting practices. Shortly afterwards, a class action lawsuit was filed against the company alleging that it engaged in securities fraud by inflating its inventory numbers to overstate its reported earnings. According to the amended class action lawsuit, several confidential witnesses who worked for Green Mountain Coffee allege that it moved around its inventory from location to location without a document trail to overstate inventory counts and inflate earnings. For example, paragraph 79 of the amended complaint alleges that:

CW7 [confidential witness 7], a lower-level employee in the Company's shipping department in Knoxville Tennessee, who worked at the Company from August 2009 through August 2011, also witnessed GMCR improperly transferring product from one plant to the next for no apparent reason. [Bracketed information added for clarity.]

In October 2011, money manager David Einhorn slammed Green Mountain Coffee's and noted "odd material movements" of inventory to possibly confound its auditors.

If there is inventory growth that is higher than revenue growth over extended periods of time combined with declining inventory turnover trends, it is considered to be a red flag for the possible inflation of inventory numbers and overstatement of earnings. For example, before the Crazy Eddie fraud was uncovered, independent analyst Thornton L. O’glove noted that its inventory levels were growing much faster than revenues. He was suspicious that Crazy Eddie was fraudulently inflating its inventories to overstate its profits. Unfortunately, most investors and analysts ignored the red flags that he spotted. (Source: Wall Street Journal – By the Numbers: How One Analyst Scores Big by Finding the Dark Side, by Jeffrey A. Tannenbaum and Lee Berton, August 4, 1987).

Is Green Mountain Coffee another Crazy Eddie?

Green Mountain Coffee's inventory levels have grown much faster than its growth in revenues in the last seven quarters since the S.E.C started its probe. Therefore, Green Mountain Coffee's inventory turnover rate declined in each quarter reflecting longer periods of time to sell its products. A comparison of Green Mountain Coffee's financial reports reveal that ever larger amounts inventory on hand are required to sell relatively less products quarter-after-quarter and year-after-year. See the chart below comparing Green Mountain Coffee's reported revenue increases compared to its reported increases in inventories. (Click on the table image below to enlarge it.)

Likewise, Crazy Eddie's had a similar pattern of inventory increases that exceeded revenue increases over an extended period of time resulting in declining inventory turnover. It seemed like Crazy Eddie needed ever larger amounts of inventory to sell relatively less product. For example, in fiscal year 1987 Crazy Eddie's reported revenues increased 34% while its inventories increased 82% when compared to the previous fiscal year. Its reported inventories grew at more than twice the rate of reported revenues. In November 1987, new management ousted the Antar's from Crazy Eddie and discovered that most of the inventory on its books did not exist!

Similarly, Green Mountain Coffee's reported inventories grew at more than twice the rate of revenues in the last two quarters. In the most recent quarter ended June 23, 2012, its reported revenues grew 21% while its inventories grew 60% when compared to the previous fiscal year's comparable quarter. In the quarter ended March 24, 2012, Green Mountain Coffee's reported revenues grew 37% while its reported inventories grew 100% when compared to the previous fiscal year's comparable quarter.

Consistent decline in inventory turnover

In each the last seven quarters, Green Mountain Coffee's inventory turnover has decreased when each quarter’s numbers are compared to the same quarter of the previous fiscal year. For example, in the latest quarter ended June 23, 2012, it took Green Mountain Coffee an average of 102.04 days to sell its inventory compared to 72.12 days in the same quarter of the previous fiscal year. In the quarter ended June 26, 2010 it took Green Mountain Coffee an average of only 64.89 days to sell its inventory. (Click on table images below to enlarge them.)

Green Mountain Coffee has claimed that it stocked up on inventories in each quarter in order to meet anticipated customer demand. However, in each of the last seven quarters, Green Mountain Coffee's rate of inventory buildup exceeded its own estimates of anticipated revenues. When it beat its own revenue projections, its inventory turns should have increased because it ended the period with fewer inventories on hand than it had anticipated. However, Green Mountain Coffee's inventory turnover still decreased in those periods.

When Green Mountain Coffee failed to meet its revenue projections, inventory turnover understandably decreased because it had more inventory on hand than it had anticipated. However, even if it had made up for the shortfall in sales by selling more products and depleting more inventory to match its revenue projections, its inventory turnover rate still would have decreased. Therefore, Green Mountain Coffee's consistent decline in inventory turnover rates cannot be explained by its failure to meet revenue projections. In any case, its inventory buildup appears to defy rational explanation.

Inventory turnover declined even when Green Mountain Coffee beat minimum and maximum revenue expectations

In four of the last seven quarters, Green Mountain Coffee's reported revenues exceeded both the minimum and maximum guidance it gave to investors several weeks before the close of the quarter (see green highlighted areas in the table above). Inventory turnover should have been higher because the company pushed its product out the door faster to meet unexpected excessive demand from its customers. However, Green Mountain Coffee’s inventory turnover decreased, reflecting a longer time to sell its inventory despite reporting revenues that exceeded its minimum and maximum projections.

When Green Mountain Coffees sales fell below expectations, inventory turns would have still declined if it had met expectations

In two of the last seven quarters, Green Mountain Coffee failed to meet both its minimum and maximum revenue projections it gave investors just a few weeks before the end of each quarter. Therefore, a decline in inventory turns would be expected because it sold fewer products than it anticipated to its customers and had more inventory on hand than it anticipated at the end of the period. However, even if the company had matched its revenue projections by selling more merchandise, its inventory turnover would have still declined in those same quarters. The decline in inventory turnover cannot be explained by a failure to meet revenue expectations, (See red highlighted areas in the tables above and below).

For example, in the quarter ended March 24, 2012 Green Mountain Coffee’s reported revenues of $885.052 million were $54.052 million short of its minimum revenue expectation and $86.435 million short of its maximum revenue expectations. Green Mountain Coffee reported a gross profit on revenues of 35.37% in that quarter. Therefore, the cost of product that it sold to customers was 64.63% of revenues.

To meet its minimum revenue projection, Green Mountain Coffee needed to sell an additional $54.052 million of products costing it approximately $34.934 million ($54.052 million multiplied by 64.63%). To meet its maximum revenue projection, Green Mountain Coffee needed to sell an additional $86.435 million of products costing it approximately $55.863 million ($86.435 million multiplied by 64.63%).

Even if Green Mountain Coffee had achieved its minimum revenue estimate for the quarter ended March 24, 2012, it would have still taken the company 88.0 days to sell its inventory compared to only 64.06 days in the previous fiscal year. If Green Mountain Coffee had met its maximum revenue estimate for that quarter, it would have still taken the company 83.55 days to sell its inventory compared to only 64.06 days in the previous fiscal year. (Click on the table image below to enlarge it.)

Latest quarter

In the latest quarter ended June 23, 2012, Green Mountain Coffee’s reported revenues exceeded its minimum revenue guidance, but fell short of its maximum revenue guidance. It took an average of 102.04 days to sell its inventory compared to only 72.12 days in the same third quarter of the previous fiscal year. Its revenues increased 21% while its inventory levels increased by 60%. The company had projected a revenue increase of 20% to 25% for the quarter. Even if it had met its maximum 25% increase in revenue projection, it still would have taken an average of 97.55 days to sell its inventory compared to 72.12 days in the previous fiscal year. See the yellow highlighted areas in the tables above and below:

During a conference call with investors, Green Mountain Coffee CFO Fran Rathke attempted to deflect criticism over inventory levels by explaining that it was stocking up on brewers far in advance of the holiday season:

Because of the time it takes to ship brewers to the US from our contract manufacturers in Asia, we must have on hand all of the brewers we expect to sell during holidays by early October to ensure availability on retailer shelves. It is this timing dynamic that necessitates that we begin building brewer inventory starting in Q3 toward anticipated demand.

Green Mountain Coffee reported that total inventory at the end of the quarter had jumped 60% to $667.0 million compared to only $417.5 million in the previous year's comparable quarter. The brewer and accessory portion of the total inventory increased 73% to $301.5 million compared to $174.2 million in the previous year's comparable quarter. However, the balance of the total inventory excluding brewers and accessories grew still grew at 50% over the previous year. As I detailed above, revenues for the quarter only increased by 21% over the previous year's comparable quarter. Brewer and accessory sales increased only 32%, single serve pack sales increased only 31%, and other sales categories declined when compared to the previous fiscal year. Therefore, inventory turnover decreased in every revenue category.

Portfolio manager Ben Strubel took issue with Rathke and noted that the purported buildup in brewer inventories ahead of the holiday season was much higher than the buildup in the previous year taking into account anticipated revenue projections by the company.

On June 6, 2012, Green Mountain CEO Larry Blanford told investors at a Piper Jaffray Consumer Conference:

…But should something like that happen we have a number of tactical responses, one of which could in fact be deciding to raise the price of the K-Cup brewing system.

It appears that both Rathke and Blanford were fibbing to investors. On Tuesday September 26, 2012, Green Mountain Coffee announced that it was offering $50 rebates for its brewers. Investor Daniel Yu noted in his blog that:

GMCR is offering up to a $50 rebate in Keurig brewers, after saying they might raise prices just a few months ago. Should Larry Blanford, CEO of GMCR/Keurig, change his middle name to ‘liar’? Larry Liar Blanford?

Apparently, Green Mountain Coffee had too many brewers on hand ahead of the holiday season and must now cut prices to move them, contrary to previous comments by Rathke and Blanford. Fibbing by management aside, still the question remains as to whether Green Mountain Coffee also inflated its inventory numbers to create fictitious profits. Green Mountain Coffee's inventory buildup does not appear to be solely the result of mismanagement. Its unusual growth in reported inventory levels could be the result of intentional inflation to overstate earnings as alleged in the class action lawsuit.

Was it a fumble or fraud?

No matter how you slice and dice it, Green Mountain Coffee’s troubling growth in inventory levels is not a single quarter fluke. As evidenced by the consistent decline in inventory turnover over the last seven quarters, the company continues to build excessive layers of inventory on top of previous excessive layers of inventory.

The S.E.C. is investigating whether Green Mountain Coffee’s excessive growth in inventory levels resulted from mismanagement or a fraud. However, I caution them that claiming incompetence is the last refuge of the white-collar criminal. Fraudsters know that stupidity is not a crime.

Was it a fumble or fraud? Maybe it is both.

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. More recently, I've helped the AICPA Fraud Task Force develop better methods for detecting fraud. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

I do not own any Green Mountain Coffee Roasters securities long or short.

Is Green Mountain Coffee's Inventory Approaching Toxic Levels?

In four of the last five quarters since the beginning of fiscal year 2011, Green Mountain Coffee’s (NASDAQ: GMCR) reported revenues exceeded the revenue guidance it gave investors just weeks before the close of each quarter. In those quarters, its inventory turnover should have increased compared to the same quarter of the previous year because it delivered more products than anticipated to its customers before the close of each quarter to meet unexpected excess demand. Instead, Green Mountain Coffee’s inventory turns decreased, reflecting a longer time to sell its inventory despite reporting revenues that exceeded it projections.

Furthermore, in every quarter since the start of fiscal year 2011, Green Mountain Coffee's inventory turns have increased when each quarter’s numbers are compared to the same quarter of the previous fiscal year. It's taking Green Mountain Coffee longer to sell its inventory when you compare each quarter to the same quarter of the previous fiscal year.

See the chart below and calculations here. Click on image to enlarge:

Additional Note: The yellow highlighted areas are periods when Green Mountain Coffee's revenues exceeded projections its projections. I compared each quarter to its previous year comparable quarter. For example, the first quarter of fiscal year 2012 (quarter ended December 24, 2011) was compared to the first quarter of fiscal year 2011 (quarter ended December 25, 2010). Dollar amounts in $000s.

On September 20, 2010, the Securities and Exchange Commission started a probe of Green Mountain Coffee’s accounting practices. Afterwards, the company restated its financial reports from fiscal year 2006 to fiscal year 2010 to correct certain violations of Generally Accepted Accounting Principles (GAAP). Those violations caused the company to overstate its reported earnings in previous fiscal years.

A class action lawsuit was filed against the company that cited information provided by over a dozen informants who allege that it manipulated earnings and committed securities fraud in fiscal year 2010 and prior years. The amended complaint cites certain forensic accounting analysis provided in this blog detailing violations of accounting rules by the company before and after the S.E.C. started its probe. In addition, it cites a scathing report issued by money manager David Einhorn and analysis provided in other financial blogs.

Excessive increases in inventory levels coupled with declining inventory turnover are generally considered to be a red flag for possible inflation of inventory numbers and overstatements of earnings among forensic accountants. In every quarter after the S.E.C. started probing Green Mountain Coffee's accounting practices, its inventory turns have decreased reflecting longer periods to sell its product, even in quarters where its revenues exceeded its projections.

For example, on November 9, 2011, 46 days into the 91 day first quarter of fiscal year 2012, Green Mountain Coffee projected a revenue increase of 85% to 90% over the previous fiscal year’s comparable quarter. The company later reported that its revenues increased 101.7% to $1.158 billion in the first quarter of fiscal year 2012 compared to $574.148 million reported in the previous fiscal year first quarter. Its first quarter fiscal year 2012 revenues exceeded its low end guidance by $67.335 million and it exceeded its high end guidance by $96.042 million.

Based on Green Mountain Coffee's gross profit on revenues of 29.1% in the first quarter of fiscal year 2012, it delivered an estimated extra $68 million of product (at cost) above its low end guidance or $48 million of product (at cost) above its high end guidance to meet unexpected excess customer demand. However, its inventory increased 125.2% to $606.679 million at the end of the first quarter of fiscal year 2012 compared to only $262.132 million at the end of the first quarter of fiscal year 2011.

Green Mountain Coffee’s inventory turns decreased to 1.28 times in the first quarter of fiscal year 2012 compared 1.62 times in the first quarter of fiscal year 2011. It took an average of 70.83 days for the company to sell its inventory in the first quarter of fiscal year 2012 compared to 56.17 days in the first quarter of fiscal year 2011 (14.66 days or 26% longer to sell its inventory).

Two years ago, in the quarter ended December 26, 2009, it took Green Mountain Coffee an average of only 45.43 days to sell its inventory. It took 25.40 days longer (a 56% longer period of time) for Green Mountain Coffee to sell its inventory in the quarter ended December 24, 2011 compared to the quarter ended December 26, 2009.

Does Green Mountain Coffee Roasters have a problem managing its inventory levels or is the company inflating its inventories to overstate its reported profits as alleged in the class action lawsuit? The S.E.C. probe of the company is ongoing.

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. My past sins are unforgivable.

I do not own any Green Mountain Coffee Roasters securities long or short.

New Allegations of Fraud Against Green Mountain Coffee Roasters in Amended Class Action Complaint

Yesterday, class action lawyers filed a proposed second amended complaint against Green Mountain Coffee Roasters (NASDAQ: GMCR) alleging violations of various federal securities laws. In January 2012, the Judge dismissed that class action lawsuit, but allowed the plaintiff's lawyers to re-file an amended complaint. The proposed amended complaint cites additional allegations of fraud by the company. Most important, it provides new and more detailed information from various confidential witnesses who claim to have direct knowledge of certain alleged frauds that was not contained in the previous complaint. In addition, the amended complaint cites certain forensic accounting analysis provided by this blog, a report by money manager David Einhorn, and analysis provided by other bloggers. The Securities and Exchange Commission is investigating the company. A marked copy of the proposed amended complaint can be downloaded here and is available for reading below.

2012 03-27 Horowitz vs Green Mountain Coffee Roasters - Proposed Second Consolidated Amended Class Action C...


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. My past sins are unforgivable.

I do not own any Green Mountain Coffee Roasters securities long or short.

Is Green Mountain Coffee’s Management Team Milking Shareholders For Every Last Penny?

In an interview last Monday with veteran investigative reporter and best-selling author Gary Weiss, I described how executives at Green Mountain Coffee Roasters (NASDAQ:GMCR) apparently received higher bonuses in 2011 because computations for annual cash incentive rewards did not take into legal and accounting expenses relating to an ongoing Securities and Exchange Commission probe into its financial reporting and class action litigation alleging securities fraud. Those executives are already indemnified for legal fees to defend themselves in any S.E.C. investigation and class action lawsuit.

It’s equivalent to management double dipping into corporate coffers at the expense of shareholders. While the company has the burden of paying for the ongoing S.E.C. probe and management’s legal defense in class action lawsuits, their bonuses don’t take into account such costs. It’s like tossing a coin and if it lands on heads, management wins, or if it lands on tails, investors still loose.

In addition, the cash incentive plan does not factor in acquisition-related expenses and the cost of amortizing identifiable intangible assets related to those acquisitions. Therefore, management is encouraged to overpay for acquisitions since such costs are not included in calculating annual cash incentive rewards, while they are still borne by the company. The executives running Green Mountain Coffee seem to be milking the company for every last penny they can get in compensation.

Background

On September 28, 2010, Green Mountain disclosed that the SEC started an informal inquiry into its revenue accounting practices and relationship with a certain fulfillment vendor eight days earlier. On that same day, the company reported that it discovered an accounting error involving its K-Cup margin percentages during the preparation of its financial report for the period ended September 25, 2010. Within days, class action lawsuits were filed against the company and certain officers alleging securities fraud.

On November 19, 2010, Green Mountain disclosed that it found four new accounting errors. On that date, the company said it would restate its financial reports issued from 2007 to the period ended June 26, 2010 to correct its errors and conceded that there were material weaknesses in internal controls.

Since then, this blog has detailed ongoing accounting rule violations by the company. Its so-called restated numbers still don’t appear to add up. More recently, money manager David Einhorn has uncovered serious improprieties at the company.

2011 cash incentive rewards plan

On January 17, 2012, Green Mountain Coffee’s preliminary proxy statement revealed details of its “annual incentive awards” paid for key executives (page 18):

We use these two metrics to determine the amount of annual incentive awards earned. For fiscal 2011, these results translated into an achievement of 122% of the bonus targets set for the year, with net sales for fiscal 2011 of $2.7 billion exceeding the prior year’s target by 9% and non-GAAP operating income of $428 million exceeding the prior year’s target by nearly 14%. The Compensation Committee set these targets at challenging levels that it believed would incentivize the executives to perform at the highest levels. [Emphasis added.]

Furthermore, the company disclosed (see page 26):

Consistent with prior years, the Compensation Committee again chose challenging net sales and non-GAAP operating income (as defined in the GAAP to non-GAAP Reconciliation of Consolidated Statements of Operations table as set fourth [spelled incorrectly] in Exhibit 99.1 on the Company’s current report on Form 8-K filed November 9, 2011.) targets as the financial targets against which to measure any annual incentive compensation payable to the named executive officers. Under the Company’s annual incentive plan for fiscal 2011, for any payout to have occurred, the Company’s net sales and non-GAAP operating income had to have been at least equal to the “threshold” amounts as set forth below. At the “threshold,” 20% of an individual’s target bonus opportunity would have been paid. If the Company’s net sales and non-GAAP operating income met the “target” level as set forth below for fiscal 2011, then 100% of the individual’s target opportunity would have been paid. Finally, if the Company’s net sales and non-GAAP operating income for fiscal 2011 had reached the “maximum” levels, as set forth below, then, all else being equal, 150% of the individual’s target bonus opportunity would have been paid. The amounts below are in thousands.

For fiscal 2011, the Compensation Committee set the target percent of base salary for each of our named executive officers to be consistent with the Company’s compensation philosophy and the competitive marketplace data, which are shown below. In addition, the table also shows the target and maximum annual incentive opportunity and the actual annual cash incentive paid to the named executive officers as a result of the Company’s achievement of 122% of the financial goals set by the Compensation Committee at the beginning of the fiscal year. [Emphasis added.]

The company was able to pay higher bonuses to its executives in part because its non-GAAP operating income of $428,693 for the fiscal year ended September 24, 2011 exceeded the $376,100 target set for that year. According to Exhibit 99.1 of the 8-K report referenced in the proxy statement detailed above, non-GAAP operating income excluded legal and accounting expenses related to the S.E.C. inquiry and pending litigation which increased non-GAAP operating income by $7.9 million to $428 million. Therefore, executive bonuses were higher because such costs do not count in computing their annual incentive rewards. See below. (Click on image to enlarge.):

The company’s incentive compensation calculation ignores the cost it incurred due to management incompetence, negligence, and possibly fraud. The company had to restate its financial reports from the beginning to 2007 to June 26, 2010 due to inadequate internal controls and material accounting errors and it now faces on ongoing S.E.C. probe and class action lawsuits.

Chief Executive Officer Lawrence Blanford and Chief Financial Officer Frances Rathke received 18.8% and 15.4% respective raises in base compensation despite signing inaccurate Sarbanes-Oxley certifications claiming that adequate internal controls existed from 2007 to 2010. Their raises were bigger than raises received by other executive officers who did not sign such certifications. So far, no key executive has been held accountable for the company’s financial reporting and legal troubles. See below. (Click on image to enlarge.):

Furthermore, the 2011 cash incentive plan did not take into account acquisition-related expenses and the amortization of identifiable intangibles from those acquisitions. The cash incentive plan encourages management to overpay for acquired companies, since such costs resulting from acquisitions are not included in the calculation of their annual rewards.

Under the 2010 cash incentive plan, the amortization of identifiable intangibles was included in the calculation of cash incentive rewards, unlike the current 2011 plan. Therefore, the 2011 plan was apparently richer for executives than in 2010 because it did not factor in certain costs that were used to calculate annual incentive rewards in the prior year. That contradicts its disclosure that the plan was "Consistent with prior years...." (See Proxy page 26.)

On a lighter note, Green Mountain Coffee’s high-paid executives and high-priced lawyers are advised to use a spell-checker before preparing reports such as the latest proxy statement detailed above. On page 26, they misspelled “forth” as “fourth” in language describing the incentive compensation plan. My Microsoft Word spell-checker was able to flag that error right away.

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. Furthermore, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities.

I do not own any Green Mountain Coffee Roasters securities long or short.

Open Letter to the Securities and Exchange Commission (Part 8): Bring Enforcement Action Against Overstock.com for False and Misleading Disclosures

The SEC must get Patrick Byrne sober

Updated at 9:42 PM Eastern

To Mary Schapiro (Chairperson of the Securities and Exchange Commission):

I respectfully recommend that the Securities and Exchange Commission bring an enforcement action against Overstock.com (NASDAQ: OSTK) for violations of securities laws and retaliation against its critics. Otherwise, the SEC will send a clear message that violations of Generally Accepted Accounting Principles (GAAP), making false and misleading statements to investors, and retaliation against critics who uncover financial reporting irregularities will be tolerated and go unpunished.

On January 29, 2010, Overstock.com disclosed that the company was restating its financial reports for the third time in three years. In Overstock.com's recently filed 2009 10-K report, the company falsely tried to place the entire blame for its recent restatement of financial reports on the following:

We lacked a sufficient number of accounting professionals with the necessary knowledge, experience and training to adequately account for and perform adequate supervisory reviews of significant transactions that resulted in misapplications of GAAP.

Information technology program change and program development controls were inadequately designed to prevent changes in our accounting systems which led to the failure to appropriately capture and accurately process data.

I doubt that Overstock.com, led by CEO Patrick M. Byrne, will ever come clean with investors and admit that they deliberately violated GAAP and other SEC disclosure rules. As I will summarize below, the above disclosure omits material information in violation of Rule 10-5.

In addition, Overstock.com made false disclosures and certain corporate officers made false claims in violation of Rule 10b-5 to support the company's improper accounting for recoveries from underbilled and overpaid fulfillment partners. The company deliberately failed to correct those GAAP violations, after being notified by me.

Instead, CEO Patrick Byrne orchestrated a vicious retaliation campaign against me by smearing me, interfering in my divorce, and pretexting me, my family, and other critics. Overstock.com fired Grant Thornton as its auditors after they recommended that the company restate its financial reports to comply with GAAP, as I recommended.

If anyone at Overstock.com should be held fully responsible for the company's GAAP violations, it is the Audit Committee, CEO Patrick Byrne, and company President Jonathan E. Johnson. They all kept their positions at Overstock.com, while apparently scapegoating former CFO David Chidester and former Treasurer Rich Paongo, both who are no longer employed by the company.

From its inception in 1999 to date, each and every initial financial report for every reporting period has violated GAAP or some other SEC disclosure rule. Overstock.com even increased bonuses in 2009, while KPMG, its auditors, cited the company for material weaknesses in internal controls over financial reporting.

Brief Background

Starting on February 4, 2009, I correctly reported in my blog that Overstock.com violated Generally Accepted Accounting Principles (GAAP) in its accounting for recoveries of amounts due from underbilled fulfillment partners. Overstock.com should have restated its financial reports to reflect income when it was actually earned from those fulfillment partners, less a reasonable estimate for uncollectable amounts (See SFAS No. 154 and SFAS No. 5).

Instead, Overstock.com 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 other words, Overstock.com took income that should have been reported in prior reporting periods (Q3 2008 and before) and moved it to future reporting periods (Q4 2008 and later) to materially overstate its financial performance in those later reporting periods. In effect, Overstock.com created an illegal "cookie jar" reserve to inflate its future financial performance.

I correctly reported that Overstock.com ridiculously claimed that the collection of the entire amount of its underbillings (every single penny) “was not assured” and instead falsely claimed that a "gain contingency" existed, rather than make a reasonable estimate of uncollectable amounts as required under SFAS No. 5.

I correctly reported that Overstock.com's improper accounting for recoveries from underbilled fulfillment partners resulted in the company reporting Q4 2008 profit, rather than a properly reported Q4 2008 loss.

Starting in February 2009, I sent emails to Overstock.com that were cc'd to the Securities and Exchange Commission, expressing my concerns about the company's GAAP violations. Instead of listening to me in February 2009, Overstock.com continued to violate GAAP in its Q1, Q2, and Q3 2009 financial reports.

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

In September 2009, the SEC Enforcement Division re-opened its investigation of Overstock.com followed by a parallel probe by the SEC Division of Corporation Finance.

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. Overstock.com used the same false "gain contingency" excuse again to justify the company's improper accounting treatment for its recovery of the overpayment.

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.

In November 2009, Overstock.com even fired Grant Thornton as its auditors and both Patrick Byrne and Jonathan Johnson publicly vilified them when they recommended that the company restate its financial reports to comply with GAAP, as I recommended in my blog and emails to Overstock.com that were cc'd to the Securities and Exchange Commission.

On January 29, 2010, Overstock.com finally admitted that its accounting for recoveries from underbilled and overpaid fulfillment partners was "inappropriate" and that no gain contingency existed, as I previously reported in my blog.

On March 31, 2010, Overstock.com's 2009 10-K report restated the company's Q4 2008 financial report to show a properly reported net loss rather than an improper net profit, as I correctly said it should in my blog more than a year earlier.

In other words, this convicted felon, who Patrick Byrne has called on many occasions "Sam the crook", was right about Overstock.com's GAAP violations and the company's former auditors PricewaterhouseCoopers, its Audit Committee, and its management team were all wrong.

Overstock.com Corporate Sponsored Campaign to Intimidate Me and Family Members

Soon after I started exposing Overstock.com's recent GAAP violations in my blog, Patrick Byrne responded by escalating his vindictive corporate sponsored retaliation campaign against me, other critics who agreed with my correct analysis, and others he perceived as being part of his deluded conspiracy theory involving the "Sith Lord."

In April 2009, Patrick Byrne sent his paid cyberstalker Judd Bagley to interfere with my divorce proceeding and attempted to blackmail me into settling that case and even tried to contact my ex-spouse in an attempt to intimidate me.

Starting around May or June 2009 Judd Bagley "Facebook friended" me, journalists, bloggers, and other critics on Facebook to collect personal information on them and their family members and violated their terms of service by using a false identity. Bagley even attempted to "Facebook friend" my son and family members of other critics, too.

In December 2009, Judd Bagley posted the names of over 7,000 critics and their "Facebook friends" which included family members under age 18 (including my minor relatives) on Byrne's funded and controlled Deep Capture website as part of his pretexting scheme to harass and intimidate Overstock.com's critics.

Note: More details provided in: How Patrick Byrne Stalked Critics and the Media on Facebook by Gary Weiss

I tried to call into Overstock.com's quarterly conference calls to ask relevant questions about accounting issues, only to be refused access and ridiculed by Byrne on those same calls.

False Statements and Innuendo Made by Certain Corporate Officers to Justify Overstock.com's Improper Accounting

Soon after I correctly indentified certain GAAP violations by Overstock.com, Patrick Byrne and Jonathan Johnson made certain false statements to investors, as described below.

On February 6, 2009, Patrick Byrne responded to my original February 4 blog post identifying the GAAP violations described above on the InvestorVillage message board by claiming that:

Antar's ramblings are gibberish. Show them to any accountant and they will confirm. He has no clue what he is talking about.

A September 25, 2009, Salt Lake Tribune article quoted Patrick Byrne as saying:

"Gary Weiss and Sam Antar are goniffs," Byrne declared, using a yiddish term that he says means "a con man, a hustler and a scoundrel."

If the SEC is listening to them, their next step is to let Bernie Madoff write their indictment of me." Byrne was referring to the mastermind, now in prison, of a multibillion-dollar fraud whose case helped show how laissez faire Wall Street regulators had become.

On November 18, 2009, during a conference call with analysts and investors, Patrick Byrne falsely claimed:

In fact, we as I understand it, this doesn't change any positive quarter to a negative quarter or any negative quarter to a positive quarter.

In a November 25, 2009 Salt Lake Tribune article, company President Jonathan Johnson was quoted as saying:

None of these changes that they [Grant Thornton] are talking about, or that people at the SEC are now asking about, make any of our quarters go from negative to positive or from positive to negative.

As it turns out, all of the above explanations claimed by Patrick Byrne and Jonathan Johnson were false, misled investors into believing that Overstock.com properly complied with GAAP, and violated Rule 10b-5. The company actually lost money in Q4 2008 rather than make a profit as previously claimed. Overstock.com deliberately violated GAAP and as evidenced by its ridiculous "gain contingency" claim, its retaliation against me and other critics, and false statements made by Byrne and Johnson to support the company's improper accounting treatment for recoveries from underbilled and overpaid fulfillment partners.

Conclusion

As the criminal CFO of Crazy Eddie, I respected the SEC as an adversary, even as it brought me to my knees. Unfortunately, the public has lost confidence in the SEC because of its failure to listen to Harry Markopolos about Bernie Madoff and David Einhorn about Lehman Brothers and Allied Capital. The SEC has an excellent chance on its second investigation of Overstock.com to regain that lost public confidence by bringing a successful enforcement action against Overstock.com, its Audit Committee, and its management team for securities law violations, including Rule 10b-5.

In addition, you have an excellent opportunity to show that issuer retaliation by public companies against critics will not be tolerated. If you fail to address that issue, you are warned that America will be deprived of future independent whistleblowers like Ralph Nader and books like "Unsafe at Any Speed."

From a former adversary and respectfully,

Sam E. Antar

Update: Associated Press reporter Paul Foy permitted Patrick Byrne to continue lying to investors in an article published today about Overstock.com's GAAP violations, even though I documented Byrne's lies when interviewed by Foy and in our emails. The article states:

Byrne, who owns nearly 30 percent of the company's shares, says Overstock's accounting errors were generally conservative. The latest involved 0.1 percent of revenue and gave the company no advantage, he said.

"No advantage," he says? That is a flat out lie and Foy permitted Byrne to say it unchallenged in the article, even though he had information from Overstock.com's own SEC filings and from me showing that Byrne lied.

Nowhere does the article mention that Overstock.com's GAAP violations enabled the company to improperly report a Q4 2008 net profit, rather than a properly reported net loss. The article fails to mention that Overstock.com restated its Q4 2008 financial report to correct those GAAP violations and changed its previously reported net profit to a properly reported net loss.

Patrick Byrne went on to personally attack me. The AP article quotes Byrne as saying:

Byrne responds that "it's like hearing Bernie Madoff say I'm a bad guy."

No matter what Patrick Byrne calls me whether it is "Sam the crook" or "Bernie Madoff", this convicted felon was right about Overstock.com's GAAP violations and the company, its Audit Committee, its management including Byrne, and its auditors were all dead wrong.

At the very least, Overstock.com should immediately retract Byrne's false remarks so that investors reading the Associated Press article will not be misled about the real scope of the company's accounting errors.

Patrick Byrne will continue lying to investors unless the SEC puts a stop to his shenanigans and holds him accountable for his actions.

For additional information, please read Gary Weiss blog here and Going Concern blog here.

Note to Readers: Please order "Selling America Short: The SEC and Market Contrarians in the Age of Absurdity" by Richard Saurer and especially read Chapter Twelve: The Overstock Flame Wars.

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

01/03/10: Open Letter to the Securities and Exchange Commission Part 6: Conflicting Disclosures by Overstock.com Reveal Improper Audit Opinion Shopping

02/02/10: Open Letter to the Securities and Exchange Commission Part 7: Why Overstock.com and David Chidester Parted Ways

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 fifth rate crooks like Patrick Byrne in hell.

In any case, exposing Overstock.com's financial reporting violations is a lot of fun and analyzing the company's financial reporting is a forensic accountant's wet dream.

Not yet "Yipikaye" for Overstock.com CEO Patrick Byrne

On Friday, Overstock.com (NASDAQ: OSTK) announced that the Securities and Exchange Commission issued the company two no-action letters. In those no-action letters the SEC office in Utah recommended no enforcement action against Overstock.com and its executives after slightly more than two years of investigating the company. According to Overstock.com’s press release, Patrick Byrne, CEO, was ecstatic and self-congratulating in claiming that:

"I know that the SEC has an obligation to look into allegations it receives about any company -- even when those allegations are false," said Patrick Byrne, Overstock.com's chairman and chief executive officer. "I believe that this inquiry was initiated, and persisted, because of false allegations made by a cohesive group of short sellers and a few financial journalists who dutifully serve them. In this case, I believe these folks fomented the SEC investigation against Overstock.com then tried to claim that the existence of an SEC investigation was evidence of wrong doing. We knew that was false."

Byrne added, "Yipikaye."

Unfortunately for Patrick Byrne, it is not “Yipikaye,” just yet. The Securities and Exchange Commission’s no-action letters do not preclude them from re-examining Overstock.com’s financial disclosures and taking possible future action against the company and him despite the SEC’s recent actions. In other words, the SEC no-action letters do not close the book on Overstock.com’s misdeeds as Patrick Byrne has would like investors to believe.

The SEC has not endorsed Overstock.com accounting practices and financial disclosures. The SEC has not “sprinkled holy water” on Overstock.com’s accounting practices and disclosures as claimed by Byrne. Any representation by Overstock.com, Patrick Byrne, and its management to the contrary is unlawful and in violation of Section 23 of the Securities Act of 1933 and Section 26 of the Securities Exchange Act of 1934.

I respectfully disagree with the SEC’s no-action letters

I have great respect for the Securities and Exchange Commission, based both on working closely with them in recent years and as an adversary during my criminal Crazy Eddie years. However, my respect for the SEC does not preclude me from disagreeing with their actions and conclusions from time-to-time. In the specific case of Overstock.com, I respectfully disagree with the SEC’s no-action letters and I still adamantly believe that Overstock.com has violated many securities laws as carefully detailed and documented in my blog. Therefore, I plan on continuing my research and exposure of the false and misleading statements, inconsistent and contradictory disclosures, lies and misconduct by Overstock.com and its unprincipled management team.

SEC issued a no-action letter to Gradient Analytics

Patrick Byrne disagrees with the February 2007 SEC no-action letter sent to Gradient Analytics, which also recommended no enforcement action regarding Gradient. Therefore, Byrne should have no issue with my disagreement with the SEC no-action letters issued to Overstock.com and certain executives, especially in light of the issues carefully detailed and documented in my blog. Unlike Byrne, I agree with the SEC’s no-action letter regarding Gradient and I respectfully disagree with their no-action letters regarding Overstock.com and its executives. Overstock.com’s lawsuit alleging wrongdoing by independent research firm Gradient Analytics and short seller Copper River Partners, formerly Rocker Partners, still continues despite the SEC no-action letter issued to Gradient recommending no enforcement action against Gradient. Both Gradient and Copper River have filed countersuits alleging misconduct by Overstock.com, its executives, and directors
.
Patrick Byrne does not seem to understand is that even well meaning and hard working people at the SEC can make mistakes from time-to-time. Unlike me, Patrick Byrne has wrongfully disparaged the SEC and its personnel, for example, by questioning their motives and calling them a “captured regulator.” However, unlike Patrick Byrne’s irrational ranting about a “captured” SEC and corrupt regulators, I will not unreasonably question the SEC’s motives and I will not disparage them with false accusations and innuendos. Instead, I respectfully disagree with their actions based on my documentation of Overstock.com's misdeeds as carefully detailed in my blog.

David Einhorn’s new book

Recently, I read David Einhorn’s, co-founder of Greenlight Capital, new book, “Fooling some of the People All of the Time,” about his battle with Allied Capital. In his book, David Einhorn stated:

As you read, you may ask the same questions I ask myself: Where are the regulators? Where is the Securities and Exchange Commission (SEC)? Who works at these government agencies that are so uncaring about the misuse of taxpayer money? What is Congress doing? What are the prosecutors doing? And finally, where are the investigative reporters and their editors who are incapable of digging into a tough story and blowing the whistle?

Einhorn goes on to detail the failings of investment banks and Wall Street analysts, too.
While I agree with many of David Einhorn’s conclusions and I recommend that everyone read his fascinating and informative book, I respectfully disagree with Einhorn on one key point in regards to the SEC. The SEC, in general, is overwhelmed with investor complaints and has too few resources to appropriately and fully investigate all cases of wrongdoing, especially in complicated cases. It is the duty of our President and Congress to provide the SEC with enough resources to thoroughly and fully investigate all cases of wrongdoing. Without adequate resources, the SEC cannot be expected to appropriately investigate all complicated securities fraud cases, despite their best efforts.

Like David Einhorn, I agree that too many investment bankers, Wall Street analysts, accounting firms, audit committees, and journalists have dropped the ball by missing out and failing to adequately address many red flags. Worst yet, particularly in the case of Overstock.com, many brave people who dig deep enough and find possible wrongdoing are subject to brutal reprisals, harassment, intimidation, and humiliation. Recently, Gary Weiss observed in his blog, "Byrne, issuing a typically gloating press release, can now be expected to redouble his efforts to deceive investors and lie and stalk his critics, thanks to the SEC." I agree with both David Einhorn and Gary Weiss that the SEC has utterly failed to address the issue of reprisals by issuers against analysts, journalists, and others who take great personal risks to expose many red flags by public companies. The SEC seems to be unwilling or unable to protect such whistleblowers from retaliation.

Overstock.com’s recent press release and previous action by the SEC

Overstock’s press release paints a picture of a company unfairly subjected to the wrath of false allegations that caused the SEC to begin investigating Overstock in May 2006; which investigation finally ended with the SEC’s decision not to recommend any enforcement action against Overstock.

However, the press release does not tell the whole story of the SEC’s investigation of Overstock.com. As detailed in this blog and elsewhere, I believe that Patrick Byrne’s erratic and utterly despicable behavior, his outright lies, misinformation, and false and misleading statements drew the initial attention of the SEC. In addition, I believe that the SEC was concerned about Overstock.com’s contradictory, inconsistent, and false and misleading disclosures in its financial reports filed with the SEC, too. The SEC Division of Corporation Finance has at least forced Overstock.com to comply with GAAP in certain revenue accounting practices, revise some of the company’s confusing financial disclosures, and correct other false and misleading financial disclosures that were relied upon by investors and analysts.

Overstock.com’s self-congratulatory press release does not disclose that during the SEC investigation, a separate review by the SEC Division of Corporation Finance discovered that the company was intentionally not presenting its revenues and related financial disclosures in compliance with federal securities law, including Generally Accepted Accounting Principles (“GAAP”). The correspondence that the SEC Division of Corporation Finance sent to Overstock.com revealed that the company was, as correctly alleged by some individuals, presenting some of its financial information and metrics in violation of GAAP. Upon notice by the SEC of the above, Overstock had to either address the SEC’s findings and change the prohibited accounting practices or the SEC would bring a formal action against Overstock. In order to disagree with the above, we would have to accept, as true, the proposition that Overstock is permitted (under federal securities law) to accept or reject, solely at Overstock’s discretion, the SEC’s directed changes.

If the SEC is in possession of information that leads it to believe that an issuer is operating in violation of federal securities law, the SEC has two initial options: (1) It can communicate with the issuer detailing its findings (violations) and give the issuer the opportunity to correct the violations or (2) the SEC can bring a formal action against the issuer in an effort to force its compliance with federal securities law.

The SEC’s duty is to protect the investing public by causing issuers to present information in regulatory filings in compliance with federal securities law. The SEC can communicate with the issuer and give such issuer the opportunity to correct the violations discovered by the SEC. This often used course of action utilizes considerably less of the SEC’s limited resources than bringing a formal action. In Overstock.com’s case, the SEC found violations of federal securities law and the company was faced with the decision to either make the changes necessary to comply with the law or wait for notice from the SEC that a formal action has been commenced against it.

Patrick Byrne admits that the SEC was only doing its job only after it forced certain disclosures in Overstock.com’s regulatory reports to be reported in compliance with federal securities law. However, as detailed above, Overstock.com omits any mention of the SEC’s actions from its press release. Additionally, Patrick Byrne was so ecstatic only after the SEC forced Overstock.com to correct some of its false and misleading information in financial reports in order to settle this matter for now as he pounded his chest with a triumphant “Yipikaye”.

Not yet “Yipikaye”

Contrary to claims espoused by Byrne in the past, at least some of the allegations made to the SEC have so far been proven to be true. Many other allegations, such as Gradient’s reports from 2003 to 2005 detailing certain troubling accounting practices and financial disclosures by Overstock.com were probably correct and will likely be adjudicated in Gradient’s favor, if Overstock.com’s litigation against Gradient and Copper River continues to trial. More recent new details of what I believe are securities law violations by Overstock.com, as carefully detailed in my blog, were not the initial subject and focus of the original SEC’s subpoenas to the company and Byrne way back in May 2006. In any case, the SEC is not precluded from re-examining any of Overstock.com’s older disclosures or investigating any of the company’s more recent disclosures and taking any future action against the company.

This blog will continue to inform investors, Wall Street, the SEC, and others about what I continue to believe are Overstock.com’s violations of securities laws. I stand behind the accuracy of my blog and I see no reason to question the integrity and hard work of the SEC, even while I disagree with them at times. It is not “Yipikaye” yet for Patrick Byrne. Stay tuned.

Written by:

Sam E. Antar (former Crazy Eddie CFO and a convicted felon)

Disclosure: Not long or short Overstock.com and no affiliation with Gradient Analytics and Copper River Management.