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Overstock's phantom menace
The online retail liquidator's CEO is waging an extraordinary campaign against short-sellers.
November 1, 2005: 8:04 AM EST
By Bethany McLean, Fortune senior writer and Corey Hajim, Fortune reporter

NEW YORK (Fortune) - Patrick Byrne, the 42-year-old CEO of online retail liquidator Overstock.com, is under growing pressure to deliver numbers that prove his business will make money.

Certainly the third-quarter results, announced on Friday, Oct. 28, did not help his cause. Once again Overstock.com (Research) lost far more than analysts were expecting.

"Q3 was rough. My bad," Byrne said. He added, "Some will criticize me for taking my eye off the ball to pursue a jihad." The story of his jihad is one that is full of passion and includes heroes of the little guy, evil doers, conspiracy and accusations of illegal activity.

Even hardened denizens of Wall Street were shocked by a conference call that Byrne held on Aug. 12. "I want to get something off my chest," Byrne announced. Then he launched into a rant about a "miscreants ball" in which he mentioned hedge funds, journalists, investigators, trial lawyers, the SEC, Eliot Spitzer, and a conspiracy led by a character he calls the "Sith Lord."

The day before that August conference call, his company and one of its shareholders filed a lawsuit against a well-known hedge fund and short-selling firm called Rocker Partners; its two top executives, David Rocker and Marc Cohodes; and a research firm called Gradient Analytics, along with its two founders.

In the lawsuit, Overstock alleges that the defendants "orchestrated a wide-scale predatory campaign of knowingly distributing false, and covertly biased, written reports about Overstock in order to disparage Overstock and enrich themselves." All the parties named in the lawsuit deny any wrongdoing, and David Rocker says he is preparing a dismissal motion and countersuit.

Perhaps nothing illuminates the growing strangeness surrounding Overstock better than an incident involving an Overstock senior vice president named Stormy Simon. Through the gossip mill, David Rocker heard that she was unhappy. So he got word to her that she should call him. She wasn't planning on complaining, but Byrne wanted to see what Simon could learn -- he had heard that former employees were being paid to divulge information about Overstock.

Simon's phone rang while she was in her office in Salt Lake City with Byrne. She put Rocker on the speakerphone so that Byrne could listen and told Rocker that she was in Philadelphia, close to his New Jersey office.

They agreed to meet the following morning -- she had to take the redeye to Newark to make the appointment. Simon told Rocker that she could "sink Byrne, I can sink his ship today." ("She showed him some thigh," Byrne says.)

Rocker wasn't sure whether to believe her. He told her that if she had valid concerns, she should get a lawyer and should take them to the SEC.

While some disparage Byrne's campaign against his perceived enemies, it has made him something of a hero to those who believe that short-sellers are predators who destroy companies through innuendo, bullying, political connections -- and sometimes through a practice known as "naked shorting," which involves a truly black-box part of the market.

Ordinarily, when someone wants to short a stock, he is required by law to borrow actual securities first. In naked shorting a short-seller registers a trade without actually borrowing the shares. In theory this means that there is no limit on the pressure a short-seller could apply to a stock. The practice is illegal in most cases.

Byrne says he's not out to save just himself, or even his company, but the entire system. As he wrote on a Motley Fool message board: "For many months I have gone to bed knowing somewhere in America there is a grandmother eating dog food tonight so that some ass ... on Wall Street can drive a new Porsche." (You can follow the story by logging on to Motley Fool's Overstock message board, and the blogs by Mark Cuban, Bob O'Brien and Jeff Matthews.)

Byrne's support comes from various fronts. His board does not waver. "He is a business genius," says John Fisher. "The board loves Patrick," says his father who is also chairman. A group called the National Coalition Against Naked Shorting, or NCANS (www.ncans.net), has rallied around him.

Attorney John O'Quinn, who made his name winning billions for the state of Texas from the tobacco companies, claims that naked shorting has bankrupted many companies. His firm has filed more than two dozen lawsuits against Wall Street firms in seven states.

Naked short-selling makes for great conspiracy theories because it is so difficult to disprove -- in fact, many on Wall Street agree that it happens to some degree.

But there are two old maxims on the Street: One, you can't destroy a fundamentally healthy company through market manipulation -- push the stock low enough, and someone will step in and buy it. And two, if a company begins to complain about short-sellers, watch out, because something else is very wrong.

Whatever the result of the lawsuits and accusations, the fourth quarter, which includes the all-important holiday season, will be another moment of proof.

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Click here for the full Fortune story on Overstock.

Is Overstock the new Amazon? Click here.

Confused about short-selling? Click here.  Top of page

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