NAKED SHORT SELLING - Frequently Asked Questions

Failure to Deliver (a.k.a. Naked Short Selling)
Overstock.com's Performance

Failure to Deliver (a.k.a. Naked Short Selling)

Q: What is a "failure to deliver"?

A: A failure to deliver occurs when someone sells a share of stock, but does not deliver it to the purchaser - even after the purchaser has paid for the share.

Q: What is "naked short selling?"

A: Naked short selling is an illegal stock manipulation tactic whereby a short seller sells a share of stock without borrowing it, thus creating a failure to deliver and phantom shares in the stock market. Done in volume, naked short selling can dilute shares of a target company's stock, artificially driving down its stock price.

Q: How do you know failures to deliver are occurring and that Overstock's stock is being naked shorted?

A: Both the NYSE and NASDAQ say that it is. The SEC now requires the NYSE and NASDAQ to publish a list, updated daily, of companies whose stocks have unusually high volumes of trades that fail to deliver. The list is called the Reg SHO Threshold list, and under Reg SHO, no company should be on the list for more than 13 days: Overstock has been on the list for more than 200 days.

NASDAQ Reg SHO Threshold Security List

NYSE Reg SHO Threshold Security List

There are other indications as well. Recently, Overstock's president, Patrick Byrne, and its Chairman, Jack Byrne, each purchased several thousand shares of Overstock, but their brokers could not settle the trades over several weeks.

Q: How big of a problem is naked short selling?

A: We don't know - the SEC, NASDAQ, and the DTCC all refuse to disclose the daily volume of failures to delver in Overstock's stock, or in the overall market. We know Overstock has sold just over 19 million shares to the world, but that the world seems to own between 35 to 40 million shares of Overstock. The SEC has also acknowledged that there are at least $6 billion worth of failed trades in U.S. capital markets every day. The amount of abusive naked short selling occurring could be vast.

Q: If it is illegal, why aren't regulators trying to stop it?

A: We've learned that state and federal agencies are looking into abusive stock trading practices, naked shorting being one of them, and the people behind it. We do not know the nature or extent of their investigations.

Q: Isn't it really just the case that you're trying to silence your critics?

A: No. We have many critics and welcome honest criticism. We're standing up to criminals engaged in illegal activities that harm Overstock, Overstock investors, and our capital markets.

Q: Is it that you're angry with short sellers?

A: Short selling is a legitimate and legal investment strategy; naked short selling is illegal. Likewise, collusion among "independent" analyst firms, hedge funds, and reporters, is also illegal.

Q: How does naked short selling affect Overstock?

A: It does not affect Overstock's operations. However, the affect is this: Overstock has sold just over 19 million shares to the world, but the world seems to own 35 to 40 million shares. If that is so, shares held by legitimate owners of Overstock are potentially worth half their true value. We feel a fiduciary duty to fix that.

Q: How do failures to deliver and naked short selling relate to your lawsuit against Gradient Analytics and Rocker Partners?

A: It doesn't. Naked short selling and Overstock's lawsuit against Gradient Analytics, Rocker Partners, et al. are two separate matters - at least until we learn more in discovery.

Overstock.com's Performance

Q: How can short-sellers/hedge funds push down the valuation of a stock unless the company has some fundamental weaknesses?

A: One way would be through false rumors, misinformation and innuendo distributed by compliant analyst firms such as Gradient and business journalists such as Herb Greenberg; another way could be through creating failure to delivers, which causes artificial dilution of a company's stock price.

Both are illegal regardless of Overstock's performance, and both can artificially push a stock lower than the natural market would price it.

Think of it this way. Company X reports bad news and some investors decide to sell. In a natural market the stock might decline to $N: with the added affect of failing to deliver, the stock can be artificially pushed down to $N-1, $N-2, or to almost any price the miscreants desire. While it is true the company's stock declined due to market forces, the illegal manipulation drives the price down even further and it is no less illegal.

Q: How do you respond to the sentiment, "When I hear CEOs complaining about their stocks being shorted, I wonder why they're not doing a better job of tending to their business?"

A: We have never complained about our stock being shorted - short selling is a legitimate and legal investment strategy. Our lawsuit claims that Gradient timed the release of false, negative reports (paid for by Rocker and reviewed and edited by Rocker prior to release) so that Rocker could profit on trades.

Separately, Overstock's president, Patrick Byrne, has spoken out about naked short selling because he believes it harms ordinary investors and entrepreneurship in America. Both, by the way - failing to deliver and collusion among analyst firms, hedge funds and reporters are illegal regardless of how Overstock performs. Thus, the statement and the question are misguided. Moreover, the SEC issued subpoenas on its own, so it must know something the rest of us do not.

Q: What is Dr. Byrne's response when Greenberg and others say he is raising alarms about short-sellers, naked trading and crooked journalists only to distract attention from the company's troubled financial performance?

A: Respectfully, that is absurd. Overstock is a public company: we are audited and required to report our results quarterly. In addition, Patrick writes lengthy letters to shareholders describing in detail what happened to their business each quarter. If Gradient, Rocker, Greenberg, hedge funds, and the DTCC were all required to be as transparent as we are, everything would be right in the world (and investors could have confidence in our capital markets again).

I would also argue with the position that Overstock's financial performance is troubled. In just six years, Overstock has grown from $1.8 million in sales (1999) to $804 million in sales (2005), while losing under $100 million: that is remarkable. Few companies have achieved such growth so efficiently and on as little capital. In fact, when Amazon.com passed the $1 billion mark, it lost $720 million on sales of $1.6 billion, and had $1.4 billion in debt; while at $800 million in sales, Overstock lost only $25 million and ended 2005 with $75 million of debt. We couldn't be more proud of our accomplishments.

Q: How much should Overstock's stock be worth?

A: That is for the market to decide - a fair, untainted, transparent market, not miscreants manipulating it.