Grant Thornton to SEC: Overstock.com Is Lying

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Patrick Byrne of Overstock.comUPDATE: Overstock.com just issued a press release in which Patrick Byrne calls Grant Thornton a bunch of liars. Add them to his list of “miscreants.”

No longer can Patrick Byrne, wacky CEO of Overstock.com (NASDAQ:OSTK) claim that those pointing out his lies and materially misleading financial statements are just “miscreants,” operatives of an imaginary “Sith Lord,” or [insert any of a number of Jewish slurs that Byrne is prone to use].  Now national auditing firm Grant Thornton is calling Patrick Byrne and his clowns liars. He’s collecting quite a slew of admirers.

Yesterday, Overstock filed an 8-K with the Securities and Exchange Commission regarding their firing of Grant Thornton. Here’s what Overstock.com has to say about the accounting issue that led to the firing, and I have placed in bold the most important part:

On October 1, 2009, the Company received a comment letter from the Division of Corporation Finance of the Securities and Exchange Commission (“SEC”) regarding the Company’s 2008 Form 10-K/A and June 30, 2009 Form 10-Q. In consultation with both its prior independent registered public accounting firm, PricewaterhouseCoopers LLP (“PWC”) and its then current independent registered public accounting firm, Grant Thornton, the Company prepared and submitted to the SEC its responses to the comment letter on October 16, 2009 and October 21, 2009. The SEC reviewed the Company’s responses, and on November 3, 2009 the SEC responded with a follow-up comment letter which requested additional information or clarification regarding, among other matters, a fulfillment partner overpayment (which the Company recovered and recognized $785,000 as income in 2009 as it was received), fulfillment partner under billings (which the Company recovered and recognized $580,000 as income in 2009 as it was received), overbillings by a freight carrier in 2008 (which the Company recognized $301,000 in income in 2009 when the refunds were received) and an adjustment related to redeemable shares of the Company’s common stock  (which the Company reclassified $705,000 in 2009 from stockholder’s equity to redeemable common stock).

When the fulfillment partner underbillings and overpayments were originally discovered, the Company determined that the recovery of such amounts was not assured, and that consequently the potential recoveries constituted a gain contingency.  Accordingly, the Company determined that the appropriate accounting treatment for the potential recoveries was to recognize their benefit only when such amounts became realizable (i.e., an agreement had been reached with the other party and cash had been received from future sales).

The Company then began to assemble information in response to the SEC’s November 3, 2009 comment letter, again in consultation with its prior and then current independent registered public accounting firms. During such consultation, the Company was informed by Grant Thornton, that upon further consultation and review within the firm, Grant Thornton had revised its earlier position of agreement with the Company’s accounting treatment for a $785,000 recovery in 2009 of overpayments to a fulfillment partner during 2008 and that the Company should revise its financial statements to reflect the recovery as an asset in the financial statements for the year ended December 31, 2008 as opposed to recognizing the amount when recovered during 2009. On November 13, 2009, as detailed in Item 4.02 below, Grant Thornton advised the Company that disclosure should be made or action should be taken to prevent future reliance on its March 31, 2009 financial statements and June 30, 2009 financial statements filed in those respective Form 10-Q’s.The Company and its prior independent registered public accounting firm, PWC, continue to believe the amount was properly recognized in the first quarter of 2009 and consequently believes that those prior financial statements may be relied upon.

Much to Patrick Byrne’s dismay, the company had to include with their filing a copy of Grant Thornton’s letter about the accounting issues, in which they say that Overstock has been lying. The following is an excerpt of their letter, with the most important parts placed in bold:

We disagree with the Company’s statement in paragraph 7 “that upon further consultation and review within the firm, Grant Thornton revised its earlier position” regarding the previously filed 2009 interim financial statements. This statement is not accurate. The Company brought the overpayment to a fulfillment partner to Grant Thornton’s attention in October. After additional discussions with the Company, the predecessor auditor and receipt of additional documentation from the Company we determined that the Company’s position as to the accounting treatment for the overpayment to a fulfillment partner was in error. Further the Company’s statement does not address the fact that the consultation noted in paragraph 5 was in relation to the ongoing incomplete review of the September 30, 2009 interim financial statements.

We have also read Item 4.02 of Form 8-K of Overstock.com, Inc. (“the Company”) dated November 16, 2009 and disagree with the statements concerning our Firm contained therein. During the course of our incomplete review of the Company’s September 30, 2009 financial statements, we advised the Company that disclosure should be made to prevent future reliance on its March 31, 2009 and June 30, 2009 financial statements. We advised the company to make the disclosure because we became aware that material modifications should be made to the previously filed 2009 interim financial statements to conform with US GAAP. Such modifications are necessary due to the Company having reduced its cost of goods sold in the first quarter of 2009 by receipt of a refund of an overpayment to a fulfillment partner. Further, the Company had additional items which we discussed that were still unresolved at the time we were dismissed, that could have a material impact on the first and second quarter financial statements for 2009. These items are identified by the Company in Paragraph 5 in item 4.01 of the Company’s Form 8-K.

Just for fun, let’s all repeat together: “This statement is not accurate.”

Yes, dear readers, the 5th or 6th largest U.S. accounting firm (depending on which ranking you consult) has just called out Overstock.com and CEO Patrick Byrne as liars.

And Gary Weiss raises an excellent issue… did Byrne lie too about what PriceWaterhouse supposedly said about the issue??? Might want to check with them!

The issue? Overstock.com had not previously disclosed to Grant Thornton all the details surrounding this accounting issue. Once Overstock.com started filling them in, the auditors realized that the prior quarterly financial statements were inaccurate. Grant Thornton signed off on the reviews of the Quarter 1 and Quarter 2 financial statements without all the information they should have been provided.

Here’s what it appears happened. (Remember, though, after considering the fact that Overstock.com has never filed an accurate financial statement the first time around with the SEC, has restated certain financial statements twice, and has been called out for lying by Grant Thornton… that it’s hard to deem credible any information provided by Overstock.com.)

In Overstock’s 10-Q for the quarter ended 3/31/09, they reported:

In the first quarter of 2009, we reduced total cost of goods sold by $1.9 million for billing recoveries from partners who were underbilled in 2008 for certain fees and charges that they were contractually obligated to pay, and a refund due of overbillings by a freight carrier for charges from the fourth quarter of 2008.

According to this, the $1.9 million reported is a number that nets out (a) the partner billing recoveries (i.e. increased income) and (b) a refund from a freight carrier who bills Overstock.com (i.e. a reduction of expenses).  This statement does not make any reference to Overstock also including in this number $785,000 which was the money refunded to Overstock by a fulfillment partner who had overbilled them in prior years.

Now in Overstock’s recently filed 8-K, they’re apparently coming clean about the details of what they really did with teh financial statements for the first quarter of 2009:

In late Q1 2009, we received $785,000 relating to the partner overpayment discussed in point 1 above (even though the other issue with that partner remained unresolved).  Thus, we recognized $785,000 in our 2009 Q1 Form 10-Q financials, which Grant Thornton reviewed as our auditors.  In addition we highlighted $1.9 million (of which the $785,000 was a part) attributable to the collected overpayment, certain partner under-billing collections, and a freight carrier’s refund of overcharges in one-time, non-recurring income in that quarter’s earnings release, earnings conference call and Form 10-Q.

To make it easier to compare the two disclosures above in the indented sections, I’ve changed the color of certain portions of the text. You can see there is both pink and red text in each of the indented sections. There is only blue text in the second indented section, and that’s because this portion in blue is what Overstock.com failed to disclose in their original 10-Q.

Overstock.com has gone on record as saying “… Grant Thornton had revised its earlier position of agreement with the Company’s accounting treatment for a $785,000 recovery in 2009 of overpayments to a fulfillment partner during 2008…”

Except it’s clear that Grant Thornton did not even know about the $785,000 included in the original financial statements, as this was not disclosed in those financial statements. As Grant Thornton’s letter confirms, they did not know about this $785,000 until October 2009.

Grant Thornton also made mention in their letter of other unresolved issues with Overstock.com.  Sam Antar says there is at least $438,000 related to Overstock’s accounting problems that is still unexplained. I wouldn’t be surprised if there’s even more going on than that. Overstock has a well-documented recent history of using cookie jar reserves to manipulate their financial statements. I would say it’s likely that this situation was used by Overstock to mask a number of accounting problems… with management throwing in everything and the kitchen sink, netting it all out, and using one fairly general explanation for all of it (rather than being forced to explain why one company’s accounting system can have so many errors).

Patrick Byrne tried to minimize the cookie jar accounting issue in their recent conference call about this debacle:

I’m going to add one more thing on just as — that the idea that this is cookie jar accounting is absurd. It’s — because cookie jar accounting is when people leak something into their earnings, when — it’s really for two reasons — when they leak something into their earnings when they want to leak it. And in this case, it wasn’t leaked in when we wanted; it was — it showed up on our balance sheet when we actually got the money.

And secondly, cookie jar accounting is opaque. It’s — the whole thing is to be opaque. We disclosed this; when we got this money, we put it all in the Q1, in the Q1 10-Q. I don’t think we (multiple speakers) —

Except “leaking.. something into their earnings when they want to leak it…” is exactly what Overstock did. Byrne pats himself on the back because they “…disclosed this; when we got this money…”

The problem with what Byrne is saying is that Overstock.com is not on cash basis accounting!!! The cash basis recognizes income and expenses when money changes hands. Overstock doesn’t use that method. They are supposed to use accrual basis accounting, which recognizes income and expenses when they are earned or incurred, regardless of when money changes hands.

Patrick Byrne’s final Hail Mary on this issue in the recent conference call was saying that the issue is immaterial. He’s saying the dollars are so small compared to the overall sales and assets of Overstock.com, that the issue doesn’t really matter in the big picture. Under other circumstances, I might agree with him. If this was a simple case of an error that was corrected and properly reported, it could easily be dismissed as immaterial.

Unfortunately, that’s not the case here. Now we’ve got a situation in which Overstock.com executives were concealing information from their auditors and lying about what their auditors knew and did not know. That escalates it to a whole new level. When management is lying and actively concealing, you can’t just dismiss the situation as “immaterial” because the dollar amounts are low.

At least Grant Thornton can’t say they weren’t warned. Sam Antar wrote a detailed open letter to them in March 2009, giving plenty of information on Overstock and Patrick Byrne, and their history of lying and manipulating financial statements.

12 thoughts on “Grant Thornton to SEC: Overstock.com Is Lying

  1. Tracy, I understand that it was improper for Overstock to recognize the money it received when in the period it received it. What exactly would have been the correct action? Would it have been to file an amended 10-Q for the period(s) during which the relevant transactions had actually taken place, reducing COGS for those periods?

  2. Tracy Coenen

    Well, there are two possible correct choices:

    1. They can go back and restate prior quarters
    2. They can book it in the quarter in which it’s discovered, possibly also booking an offsetting reserve if there is some uncertainty about it

    There’s obviously a real problem if a company is expected to go back and restate financial statements every time an error is discovered by them or someone doing business with them. Doing so just wouldn’t make any sense. However, the company at least has to consider whether that might be the route to go.

    In this situation, I simply don’t know which would have been correct, mainly because Overstock has been lying and concealing information. (And partly because I don’t have all the nuances of the many zillions of accounting rules memorized, and I haven’t had the desire to research it yet.)

    What is NOT an option is booking something on the basis of when the cash was received.

  3. Scott

    Jeez, enough with the Overstock stuff already. Isn’t there any other company out there doing some nefarious things that could be reported? I find it interesting to read about scam companies but it seems all I read about here is Overstock and that mortgage paydown MLM. Variety keeps things interesting.

  4. Tracy Coenen

    Scctt – Seems you may need to take a better look around. I see 10 articles on the front page. 3 are about Overstock, since they’ve got some really serious and newsworthy things going on. None are about the “mortgage paydown MLM.” 7 are on other topics. I think having 70% of the last ten articles not about what you’re complaining about is plenty of variety. Thanks for reading!

  5. Tracy Coenen

    And just for fun, I took a look at the last 30 articles posted here. 4 are about Overstock. 2 are about United First Financial. 24 are about other topics. 80% not on topics you’re complaining about. Again, it looks like there’s plenty of variety! Happy reading!

  6. Alanis

    Isn’t it ironic that the quarterly slop in their accounting system is an order of magnitude worse on a relative basis than the slop in the market settlement system (FTDs) that Byrne crusades against. That slop is deeply criminal. His slop isn’t for some reason.

    Which leads me to a question. Couldn’t they just create a category called “accounting slop” and just be done with trying to make 2+2=4? Math is hard, you know. I suppose they could call the category FTDs. Failure to Debit.

  7. Tracy Coenen

    What amuses is me is that the accounting for a retail business isn’t even that complicated! There are zillions of retail outlets completing their accounting easily on a daily basis.

    There is nothing complex about the accounting “issues” at Overstock.com, yet they still can’t produce an accurate financial statement to save their lives.

    Are there still actually people who are long OSTK? I mean sane, rational ones? How on earth can they evaluate their investment decision? Certainly not on the basis of any of the financial information produced by Overstock!

  8. Scott

    I have this blog on an RSS feed coming up in my Google reader. It seems like all I have seen lately is Overstock; obviously I was mistaken. Thanks for the clarification.

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