NEW YORK (CNN/Money) -
The best performing online retailer this holiday shopping season might not be the stock you'd expect: it's not Amazon.com, and it's not eBay, either.
A relatively small company called Overstock.com (its market value is about $325 million) has become a bit of a Wall Street darling in the past week and a half. The stock's up more than 35 percent since the day before Thanksgiving.
Overstock runs an online "close-out" store that sells brand-name merchandise at deep discounts, usually excess inventory that manufacturers are unloading. So it's similar to "brick and mortar" retailers such as Big Lots and Tuesday Morning.
Shares of Overstock (OSTK: up $1.67 to $19.28, Research, Estimates) surged 24 percent on Dec. 2 after the company announced that sales for the Thanksgiving weekend came in at $6 million, a 300 percent increase from the same weekend a year ago.
One weekend is not the whole quarter
Being a bit of a skeptic, when a stock moves 24 percent in a day, I can't help but wonder if the surge is a fluke. And that may very well be the case. So investors would be wise to not get blinded by the recent momentum.
For starters, one strong weekend does not an entire strong quarter make.
News of strong Thanksgiving weekend sales have lifted shares of Overstock.com
"The sales numbers that Overstock released are certainly eye-opening, but people may have jumped to conclusions a bit too quickly," said Derek Brown, an analyst with Pacific Growth Equities.
Plus, even though analysts are predicting a 137 percent increase in sales from a year ago, they are also expecting a loss of 15 cents a share for the fourth quarter. Overstock posted a profit of 6 cents a share in last year's fourth quarter.
The company is raising awareness with a new ad slogan, "Have you discovered the secret of the Big O?" (Pretty risqué stuff for a company based in Salt Lake City.) But commercials cost money and Overstock's expenses are also increasing as it rolls out new search technology on its site and adds other features, such as a discount travel service.
Rob Wilson, an analyst with Tiburon Research Group, an independent firm focusing on retailing, said much of Overstock's recent success is from selling books, music and video at a discount, products with low gross margins.
While bargains may attract some customers who would have otherwise bought "Let It Be...Naked" and "The Da Vinci Code" at Amazon, it's not going to help Overstock get back to profitability unless these customers spend on higher-priced items as well. "The emphasis on books, music and video could lead to a declining level of profitability with increasing sales," said Wilson.
An overabundance of Overstock short sellers
Of course, Amazon started out with a similar plan, selling books and music, building a brand name and eventually branching out into other items.
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But Overstock has a long way to go before it's as efficient as Amazon (AMZN: up $0.61 to $49.81, Research, Estimates). Short sellers have been betting against Overstock since big inventory problems led to disappointing sales growth and a wider net loss in the first quarter.
Patrick Byrne, Overstock's CEO, said the company was too conservative last holiday season and wound up selling most of its inventory in December and January. And since it's a closeout retailer, it takes about four to six weeks to refill warehouses. "By February, inventory was half of what it should have been, and that choked off sales in February and March," he said.
The number of Overstock shares being held short mushroomed from 1.1 million as of mid-February to 2.9 million as of mid-November. That works out to a whopping 43 percent of the company's available shares.
But short sellers -- who borrow stock and sell it, hoping to profit by buying it back more cheaply later -- can get caught if good news boosts the stock, a so-called short squeeze. Which looks like exactly what happened following Overstock's strong Thanksgiving weekend sales report.
In fact, Byrne admits that squeezing the shorts was one possible motive behind releasing the strong sales figures. "When opportunities come along where we can knee the shorts in the groin, that's always good for fun and amusement. That's just icing on the cake," Byrne said.
Wow. That's a type of comment that you normally don't hear from CEOs, who tend to spout jargony, non-controversial statements as a matter of course. But there's a downside to taking on short sellers.
If the recent rally was mostly from a short squeeze, the buying isn't as much of a sign that Wall Street is bullish about the company -- meaning the stock's rise may be short-lived. It also puts more pressure on Overstock to deliver a really big fourth quarter.
And until the Big O is capable of generating the Big E known as earnings, then there's no reason the shorts won't keep targeting this stock.
Analysts quoted in this story do not have a position in Overstock and their firms have no investment banking ties to the company.
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