Serious Business

It’s been amusing, I admit, to report on Overstock.com CEO Patrick Byrne in these pages.

After all, how hard is it to poke fun at a guy who touts his new auction site as taking off “far faster” than eBay, only to have it hit the proverbial wall, and then says “This may become a long war of attrition with eBay”?

Of course, it’s deeper than just “poking fun.”

From “The Mystery of the 38 Diamonds,” in which we broke the story that Overstock had in fact wholesaled a slug of diamonds rather than sell them one at a time on its “Build Your Own Jewelry” site…through our fictional “Grandma” and her quest to untangle the “decrapitation” of what Byrne had previously touted as Overstock’s “scaleable” and “leading edge” technology, we have, in my opinion, exposed plenty of faulty wiring capable of sparking a short circuit in a company that some on Wall Street still believe is firing on all cylinders.

But now it gets serious.

The Overstock first quarter 10Q came out last week, and, as with the 10K, it contains facts not disclosed in Patrick Byrne’s shareholder letters, press releases, or earnings conference calls with Wall Street, relating to Overstock’s diamond purchase—the “steal of a lifetime.”

On January 28th, 2005, Overstock.com CEO “Doctor” Patrick Byrne described the diamond purchase this way during the company’s earnings call:

We did do a very large diamond buy, sort of a deal of a lifetime diamond buy at the end of the year. Nobody questioned him on it at that time.

On April 22nd, 2005, Byrne described the diamond purchase in more detail, explaining it as an opportunistic, “overnight” deal that came to Overstock via “a friend of a friend” and was turned around in the space of two weeks.

First, in his shareholder letter on that date, Byrne wrote to investors:

We got lucky with a diamond buying opportunity that came to us just before we launched DYOJ [Design Your Own Jewelry, launched January 28th, 2005].

Second, during the conference call on that date, Byrne said:

1. “This deal came about because two people in the diamond business were splitting and they asked a friend of mine to value the inventory. Actually that’s a friend of a friend…. And they were having a nasty split.”

2. “They called…and we went in and said yes, we will pay it. We paid 7.2 million and I think we took a turnaround the next two weeks [sic]. So we came up with a wire for 7.2 million and got it. And it was on (an) overnight basis.”

3. “That’s how we got the diamonds. And we could I’m sure flip them…for 8 million. We can probably piece them out in fairly large blocks for 8.5 million, but instead, we decided to sit on it.”

4. “It is with a colleague, not a shareholder partner…but it’s with somebody we’ve done business before—quite a bit of business…So that’s the story of the diamonds.”

Yet based on Overstock’s own SEC filings that is not the whole story of the diamonds. Based on Overstock’s 2004 10K and recent Q1 2005 10Q filing, the story of the diamonds really began in August of 2004, when Overstock established the mechanism by which it would buy up to $10 million worth of inventory.

This is how Overstock described the set-up for the diamond purchase in the 10Q that came out Friday:

1. In August 2004, the Company entered into an agreement which allows the Company to lend up to [$10 million] to an entity for the purpose of buying inventory, primarily to supply a new category within our jewelry store which allows customers purchasing diamond rings to select both a specific diamond and ring setting.

2. In November 2004, the Company loaned the entity [$8.4 million]. In plain English, Overstock.com set up an agreement with a legal entity to make the diamond purchase in August, and loaned money to that entity in November.

Here we go again…Patrick Byrne tells shareholders the company did the diamond deal “at the end of the year.” He says it “came to us just before we launched” on January 28th, 2005. He says the deal’s “turnaround” took “two weeks” after “they called” and “we went in and said yes.” He tells investors “we got lucky.”

Meanwhile, over in the 10Q…Overstock appears to have prepared for the deal in August, well before the rainbow broke through the cloudy skies and planted the magical pot of diamonds into Patrick Byrne’s lap “at the end of the year.”

But here’s the capper: Overstock apparently does not own the company that owns the diamonds. Overstock merely lent it money—$8.4 million, for which it receives 3.75% annual interest and 50% “of any profits of the entity”—due next year.

It appears, based on the 10Q, that Overstock simply has a ten year option to buy 50% ownership of the company.

So many questions, so little information.

But instead of me asking the questions, I’m going to let you, our readers, post the questions that we would like to see Overstock.com, or Patrick Byrne, or Wall Street’s Finest answer.

Remember, this is not a message board: no infantile message board language, no fluff. Just the questions this disclosure should raise.

Have at it.

Jeff Matthews I Am Not Making This Up

The content contained in this blog represents the opinions of Mr. Matthews. Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations.