July 16, 2007
Overstock.com v. Gradient (and the Rest of the World)
Posted by Christine Hurt

While the blogosphere (even here) has been debating the propriety (and legality) of the CEO of a publicly-held corporation to anonymously tout his company and denigrate a potential acquisition target, I've been following a story that sounds different, but has some commonalities.  Overstock.com (and several shareholders) sued Gradient Analytics, Inc. and Rocker Partners for shorting Overstock shares, publishing false negative analyst reports, then profiting as the share price drops.  The actual causes of action are libel, intentional interference with prospective economic advantage and various other California statutes.  Many in the financial community pooh-poohed this as another example of CEO Patrick Byrne's tilting at windmills, but so far a California court says there is something to it.  Yes, Byrne seems to be paranoid about Wall Street, but that doesn't mean someone isn't out to get him!

In the lawsuit, Overstock alleges (and has affidavits from Gradient employees supporting the allegations) that Rocker Partners approached Gradient Analytics about creating reports about Overstock.com.  Apparently, much of Gradient's business model centered around customers subscribing for tens of thousands of dollars a year and getting the opportunity to request negative reports on companies of their choice.  Gradient even touted to potential customers how much a negative report on Gradient could cause the share price of a company to drop.  At the request of Rocker Partners, Gradient published no fewer than 24 reports in a six-month period, and Gradient was able to approve and request changes to those reports before their release.  Neither Rocker Partners nor Gradient deny the reports or the fact that Rocker was short selling Overstock shares.  Their defense is that the reports are free speech.  Under California law, they moved to dismiss the suit under California's anti-SLAPP law.  This motion was denied by the trial court and upheld by the appellate court (2007 WL 1545611, May 30, 2007).  (I will discuss the "free speech" aspects of the case in a different post.)  In the opinion, the court stated that the plaintiffs in all probability would prevail on the merits, given what was in the pleadings, and stated "The malice is in the very business model and practices that preordain negative reports and provides probative evidence that Gradient acted in reckless disregard of the truth in making the false statements and implications that it did."  All of the legal documents are collected at Overstock.com's investor relations hub here.

And yes, Byrne has been railing against shortsellers for years as the share price of Overstock.com has declined, and most of written off those (somewhat bizarre) rants.  Indeed, Byrne has also filed a lawsuit against major Wall Street investment banks for being part of a vast short-selling conspiracy against his company.  The short-selling conspiracy story does make one shake one's head, though; Overstock.com has been on the naked short-selling watch list for over 500 days.  For some reason, this company is not only sold short more than any other company, it is sold short for pure speculation, with the bettors skirting the law not to actually borrow the shares they are shorting.  In any given day, more shares of Overstock.com are shorted than are in the public float.  Whether that mystery will ever be resolved to uncover illegal machinations remains to be seen; however, this very discrete and particular case against Gradient and Rocker Partners seems to have some teeth.

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