Nu Skin Inventory Red Flags Remain Even After $50 Million Impairment Charge

On July 22, 2014, I warned investors that Utah-based multi-level marketing company Nu Skin Enterprises' (NYSE: NUS) surging inventory levels might lead it "to recognize a material impairment charge against inventory in a future period." On August 4, 2014, in a follow-up blog post co-authored with Zac Prensky, we warned investors about a massive inventory pile up in Mainland China. On August 6, 2014, Nu Skin reported its second quarter 2014 financial results and recorded "a $50 million write-down of Mainland China inventory." However, even after the $50 million inventory impairment charge, the pile of remaining unimpaired inventory is equal to enough merchandise to fulfill 335 days of sales versus only 146 days of sales in the comparable second quarter of the previous year. Therefore, there is a high risk that Nu Skin may have to reduce gross margins to clear out excessive inventories and there remains a high risk that it may have to report another material inventory impairment charge.


Background

Days-Sales-in-Inventory (DSI) measures the number of days it takes for a company to turn its inventory into sales. DSI is computed as follows: (Ending inventory/Cost of goods sold during the period) X number of days in the period. If the DSI number grows over time it indicates that a company's inventory turnover is decreasing because it is taking longer periods of time for a company to turn its inventory into sales. A continuously growing DSI can indicate one or more of the following: inventory mismanagement, potential inventory impairment, OR an overstatement of inventories to inflate profits

Second quarter financial results

In the second quarter of 2014, Nu Skin reported $650.0 million of revenues compared to $671.3 million in the second quarter of 2013. Its revenues were $50 million below the $700 million of guidance it gave investors on May 6, 2014. During the second quarter earnings call, CFO Ritch N. Wood said:

So while we reported gross margin for the quarter 76% without this $50 million inventory charge, gross margin would have been a solid 83.7% that's compared to 83.4% in the prior year.

Ritch Wood was quick to offer up pro forma numbers purporting that Nu Skin's gross profit margins would have been higher excluding the $50 million inventory impairment charge. However, he did not offer the flipside of those same pro forma numbers showing that gross inventory levels continued to grow larger excluding the same impairment charge. Without the impairment charge, inventories would have increased to a record $439.7 million in second quarter of 2014 compared to $410.7 million in the previous first quarter. More significantly, days-sales-in-inventory (DSI) would have grown 158% higher to a record 377 days in the second quarter of 2014 versus 146 days in the comparable second quarter of 2013.

Even if we take into account the $50 million inventory impairment, at the end of the second quarter of 2014 Nu Skin carried enough unimpaired inventories to fulfill 335 days of sales versus only 146 days in the comparable second quarter of 2013. Its days-sales-in-inventory was 129% higher in 2014 compared to 2013.

Note: Days-sales-in-inventory (DSI) excluding the effect of the inventory impairment is calculated as follows: [Ending inventory/ (cost of goods sold - impairment charge)] X 91 days. Cost of goods sold - impairment charge = cost of goods sold for unimpaired inventory. Ending inventory reported by Nu Skin is the same as the carrying value of unimpaired inventory.

Risk of reduced gross margins and another material inventory impairment charge

After inventory is impaired, it still physically exists until it is disposed of by the company. It is merely carried on a company's books at its market value. Initially, a company records its inventory at cost. When the value of inventory declines below cost, the company makes the following entries on its books: (1) increase cost of goods sold and (2) increase inventory reserve account. The inventory reserve account is a "contra-asset account" and it reduces the gross value of inventory reported on a company's balance sheet. The inventory value reported on a company's balance sheet is the net of its gross inventory (at cost) less its inventory reserve account (impairment).

In the second quarter 2014, 10-Q report page 14, Nu Skin disclosed "adjustments" to its inventory "carrying value" but did not make it clear whether the impaired inventory was still on hand for future sale (albeit to recover costs) or was actually discarded (trashed as unsaleable):

14. ADJUSTMENT TO INVENTORY

During the second quarter of 2014, the Company made a determination to adjust its inventory carrying value. Heightened media and regulatory scrutiny in Mainland China in the first part of 2014, and the voluntary actions the Company took in response to such scrutiny, had a negative impact on the size of the Company's limited-time offer in June, which significantly reduced its expectations for plans to sell TR90 in a limited-time offer later in 2014 or the beginning of 2015. This resulted in a $50 million write-down of estimated surplus inventory in Mainland China. Total adjustments to the Company's inventory carrying value as of June 30, 2014 and December 31, 2013 were $58.0 million and $5.9 million, respectively. [Emphasis added.]

If Nu Skin still intends to sell its impaired inventory to recover costs, the age of its other unimpaired inventory will invariably grow longer. Even if we assume that Nu Skin trashed $50 million of impaired inventory as unsaleable, the days-sales-in-inventory on its remaining unimpaired inventories will likely continue to grow since it is carrying an excessive level of merchandise while it is projecting significant declines in second half revenues.

Nu Skin projected third quarter 2014 revenues in the range of $620 million to $640 million compared to $908.3 million revenues in same quarter of 2013. It projected fourth quarter 2014 revenues in the range of $650 million to $675 million compared to $1.056 billion in the same quarter of 2013. Its revenue guidance amounts to a decline in second half 2014 revenues of 33% to 35%. At the beginning of the second half of 2014, Nu Skin carried $389.7 million of inventories compared to $178.2 million at the beginning of the second half of 2013. It carried 118.7% more inventories going into the second half 2014. Therefore, it appears that Nu Skin is excessively overstocked at a time when its revenues are expected to significantly decline. That's a significant red flag.

Written by:

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the CFO of Crazy Eddie, I helped mastermind one of the largest securities frauds uncovered during the 1980's. Today, I advise federal and state law enforcement agencies about white-collar crime and train them to identify and catch the crooks. Often, I refer cases to them as an independent whistleblower. I teach about white-collar crime for government entities, businesses, professional organizations, and colleges and universities. I perform forensic accounting services for law firms and other clients.

I do not own any Nu Skin securities long or short.

Why Nu Skin Must Come Clean on Troubling Inventory Red Flags

Co-authored by Sam E. Antar and Zachary Prensky

This coming Wednesday morning, Utah based multi-level marketing company Nu Skin Enterprises (NYSE: NUS) is scheduled to report its second quarter earnings. In its Q1 2014 10-Q report issued in May, major questions were left unanswered as inventories ballooned to $410 million. This pile of inventory is equal to enough merchandise to fulfill 346 days of sales – compared to only 149 days of sales in the comparable first quarter of the previous fiscal year. It's an increase of 132% over the prior year – an enormous red flag that shareholders would have expected management to explain in significant detail.

Rising inventory levels don't square with management's explanation

In its Q1 2014 10-Q report (page 17), Nu Skin claimed that, "we built a large amount of inventory during the first quarter for planned product launches in 2014...." However, Nu Skin’s excuse does not square with its own reported numbers. In reality, the inventory buildup had been going on for some time.

Since 2011, there is a clear and growing trend of inventory pileup – even as management consistently beats its most optimistic revenue guidance. See the chart below:

In the second half of 2013, Nu Skin introduced its ageLOC TR90 weight management system through limited-time offerings in each of its regions. Those sales were carefully choreographed with local management to maximize short term purchases of ageLOC TR90 under the rubric of a limited-time offer (LTO). On the surface, the new product introductions appeared to be highly successful. Revenues during the second half of 2013 rose 78.7% to $1.96 billion compared to $1.099 billion in the second half of 2012 fueled most by growth in Mainland China. In the 2013 10-K report (page 55), management had this to say about ageLOC TR90’s contribution to revenues:

In the second half of 2013, the successful limited-time offers of ageLOC TR90 generated approximately $550 million in revenue with over half of this volume coming from the Greater China region.

However, despite a huge growth in revenues and beating its most optimistic revenue guidance during that period, the amount of time it took Nu Skin to sell its inventory increased 30.2% to 190 days as of 12/31/13 compared to 146 days on 6/30/13, at the start of its launch of ageLOC TR90. This trend took a major ramp in the first quarter of 2014, where for the first time in the company’s history its warehouses are holding enough merchandise to cover practically the next 12 months of sales (346 days). Despite management’s claim that inventory ballooned because of planned product launches, Wall Street analysts seem unimpressed as their most recent consensus estimates call for year-over-year revenue declines during the remainder of 2014.

Inventory purchase obligations compound problem

Companies the size of Nu Skin can’t exactly turn off the manufacturing lines for six months while they whittle down inventory to normalized levels. According to its most recent 10-K report (page 2), Nu Skin utilizes a number of 3rd party contract manufacturers, mainly located in the US (except for China, where the company does its own manufacturing).

Nu Skin must work closely with its raw material suppliers and US contract manufacturers to plan ahead for inventory production as factories of this size cannot be turned on or off on a dime. As disclosed in the 2013 10-K (page 65), at year-end Nu Skin had $155.9 million of minimum outstanding purchase obligations as compared to 2013’s company-wide cost of goods sold of $505.8 million. Curiously, this figure like many important inventory-related metrics is deliberately not disclosed on a quarterly basis.

What has gone largely unnoticed is that in December 2012 the amount of purchase obligations was $32.1 million as compared to 2012's company-wide cost of goods sold of $353.2 million (See 2012 10-K report, page 59). This is a five-fold jump between 2012 and 2013 – yet overall cost of goods sold grew only 43% year-over-year. There is only one geographic location whose revenue grew at more than 100%+ year-over-year and could be responsible for this massive growth in future obligations – China.

What is the composition of Nu Skin's inventory and where is it located?

Nowhere in the 2014 Q1 10-Q report or in the accompanying management call with shareholders on May 6th did the company disclose (a) where the bulk of its inventory is located, and (b) what products comprise the majority of its inventory. These two questions are perhaps the single most important metrics that management needs to disclose on Wednesday in order to determine whether or not Nu Skin is heading for a potentially crippling write-down of inventory. As we noted above, the massive buildup in inventory cannot solely be attributed to planned product launches during the remainder of 2014.

Why is the makeup of the inventory so crucial? This is because a truthful answer to the question would shed light on the biggest question mark hanging over management’s performance to date: Is the massive buildup of inventory in any way related to global missteps with ageLOC TR90 rollouts?

Last year’s global launch of ageLOC TR90 was met with mixed results. For example, during the last two quarters of 2013, 35.6 % Greater China revenue came from limited-time offer (LTO) sales of TR90 compared to only 17.26% for Japan. Are the excess inventories TR90 supplies in China or are they being stored in Japan or some other location with tepid demand?

See the chart below:

Note: In Q4 2013, Nu Skin reduced its revenues going back at least three years to correct an accounting error in classifying certain rebates (2013 10-K report, page 50). The error caused relatively minor changes in previously reported revenues for the first three quarters of 2013. While the company revised its quarterly revenues on a consolidated basis (page 68), it did not revise its quarterly revenues by region. To calculate revenues by region for the last six months of 2013, we subtracted six month revenues from full year revenues for each region. There may be slight discrepancies in revenues numbers for each region during that period. Nu Skin did not report LTO revenues for the individual Americas and EMEA regions. The combined LTO revenues for both regions were computed by subtracting LTO revenues disclosed for other regions from total LTO revenues.

In the Q1 2014 10-Q report (page 13), management hinted at problems with its limited-time offer ageLOC TR90 product launch:

We believe the significant 2013 sales and the three-month supply kit configuration decreased consumer demand in subsequent regional limited-time offers of this product during the first quarter. In addition, TR90 was developed to decrease fat without sacrificing lean muscle. The result is a healthier body composition but not necessarily maximum weight loss. Our research shows that some consumers of TR90 were dissatisfied with the extent of their weight loss. [Emphasis added.]

Management is on record as stating that the customers of ageLOC TR90 were sold on 90 day supplies of product:

TR90 so far has only been sold in LTOs in a three month supply. We believe that consumers will benefit from being able to try the product first before making a three-month commitment. In addition, we have also realized that with weight management probably more than with any other category, it is tough to take a product off the market post LTO. Consumers in weight management just don't enjoy a start again/stop again reality. [Emphasis added.]

Did first time customers use the product for 90 days and then decline to reorder? Is the Chinese subsidiary or some other subsidiary sitting on piles of TR90 refills that are languishing unsold?

With the large cut in active salespeople operating in China ( “Sales Leaders”, Nu Skin’s term for individuals engaged in hawking goods for resale to others, dropped 49% in the quarter due to various regulatory concerns) if global inventory is heavily weighted towards that region, then the oversupply isn’t going to get whittled down anytime soon.

Clearly the 346 day supply of global inventory is sitting somewhere, made up of something. If a large proportion of it is TR90 goods located in geographies where the reorder levels are poor, it is inevitable that Nu Skin shareholders are staring at an imminent inventory write-down. Management doesn’t provide enough quarterly disclosure to support its claims that their “optimism for China remains intact” (transcript, May 6th, 2014 earnings call). If management truly wishes for its shareholders to share such optimism it should start by giving a detailed breakdown on inventory both inside and outside China.

What management must do

It’s very simple: if Nu Skin has hit the wall in getting customers hooked on buying overpriced weight loss pills direct from your neighbor, then the first place you would see the flashing reds lights warning of trouble ahead would be in the inventory buildup. We have shown how it is extremely likely – given the growth in future purchasing obligations – that the inventory buildup is most likely affecting China the most. Providing shareholders with a detailed breakdown of where the inventory is located and what it’s comprised of is the only way these nagging issues can be laid to rest.

Written by,

Sam E. Antar and Zachary Prensky

Disclosure - Sam E. Antar

Sam E. Antar is a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, Mr. Antar helped mastermind one of the largest securities frauds uncovered during the 1980s. Today, he advises federal and state law enforcement agencies about white-collar crime and trains them to identify and catch white-collar criminals. Mr. Antar refers cases to them as an independent whistleblower. He teaches about white-collar crime for government entities, businesses, professional organizations, and colleges and universities. In addition, he performs forensic accounting services for law firms and other clients. Sam E. Antar does not own any Nu Skin securities long or short and has no financial relationship with Zachary Prensky.

Disclosure - Zachary Prensky

At the time of the publication of this report, Zachary Prensky and/or affiliates hold short positions in Nu Skin common stock. More of Mr. Prensky's research can be found at the website of his firm, Little Bear Investments LLC.

Do Nu Skin Inventory Red Flags Spell Trouble Ahead?

Last Friday morning, a comment posted on Twitter by Marc Cohodes about Nu Skin Enterprises (NYSE: NUS), a Utah based multi-level marketing company, caught my curiosity. Cohodes is a legendary short-seller with an excellent track record and looks for "fads, frauds, and failures" involving public companies. He wrote, "The Clown who runs NUS tried to squeeze shorts. Screw him! He will get what's coming to him in spades one day. Too much Inventory is an issue." Afterwards, I decided to take a close look at Nu Skin's financial reports. So far, my first issue is that management's explanation for its massive increase in inventory levels does not square against its own historical numbers, guidance it gave to investors, and analysts' consensus estimates. In addition, Nu Skin may be have to take significant margin reductions to unload its excess inventory and possibly have to recognize a material impairment charge against inventory in a future period.

Background

Generally, if a company is efficient at managing its inventory levels, its inventory and cost of goods sold should grow in tandem over time. If a company becomes more efficient at managing its inventory levels, its cost of goods sold will grow faster than inventory reflecting shorter periods of time to turnover its inventory into revenues. However, over the last seven quarters, Nu Skin's reported inventory levels grew significantly faster than its growth in cost of goods sold resulting in longer periods of time to turn its inventory into sales.

A more troubling issue is that Nu Skin's reported revenues exceeded its own maximum revenue projections while its inventory turnover decreased for each of the last seven quarters. In two of those seven quarters, Nu Skin beat its maximum revenue guidance by over $90 million. Generally, it provided revenue guidance for the current quarter approximately 4 to 5 weeks into same quarter. Therefore, Nu Skin already possessed several weeks of sales data before it provided revenue guidance for the entire 13 week quarterly period. Since Nu Skin's reported revenues exceeded its most optimistic forecasts within a relatively short period of time, its inventory turnover should have increased because it should have ended the period with fewer inventories on hand than it had anticipated. However, an analysis of Nu Skin's numbers indicates that it is taking progressively longer periods of time to turn its inventory into sales.

Calculations

Days-Sales-in-Inventory (DSI) measures the number of days it takes for a company to turn its inventory into sales. DSI is computed as follows: (Ending inventory/Cost of goods sold during the period) X number of days in period. If the DSI number grows over time it indicates that a company's inventory turnover is decreasing because it is taking longer periods of time for a company to turn its inventory into sales. In general, a growing DSI could indicate one or more of the following potential red flags:

1. A company is mismanaging its inventory,
2. A company may be required to reduce gross margins in future periods to sell slow moving products to normalize inventory levels,
3. A company may be required to take a one-time material impairment charge against earnings in a future period to write-down to the cost of slow moving or obsolete inventory to its lower market value, or
4. A company is possibly inflating inventory numbers to overstate income by either fabricating inventory numbers or by its failure to write-down inventory to market value.

Click on the image below to enlarge it.

Note: In Q4 2013, Nu Skin reduced its revenues and selling expense going back at least three years to correct an accounting error in classifying certain rebates. According to the company, the reclassification had no effect on gross profit, operating income, net income or comprehensive income, the consolidated balance sheet or cash flow (2013 10-K report page 50). However, the error caused relatively small changes in previously reported revenues. For 2012 and 2013, I used the revised quarterly revenue numbers tucked inside page 68 of its 2013 10-K report. However, Nu Skin did not disclose the effect of the revenue correction on 2011's quarterly numbers. Therefore, I used 2011's quarterly revenue numbers as they were originally reported in filings with the S.E.C. to make comparisons against management's 2011 quarterly revenue guidance. The error had no effect on DSI calculations.

Huge surge in inventories during latest quarter

In the latest quarter ended March 31, 2014 (Q1 2014), Nu Skin's reported revenues exceeded its maximum revenue projection by $1.1 million. Its cost of goods sold increased by 18.6% over the previous year's first quarter (Q1 2013). However, its inventories mushroomed 175.5% to $410.7 million compared to $149.1 million in the same period of the previous year. It took Nu Skin 346.4 days to turn its inventory into sales in Q1 2014 compared to only 149.1 days in Q1 2013, an increase of 132.3% extra days to sell its products. In Q1 2014, DSI was over three times the level it was in Q1 2011.

Rising inventory levels don't square with management's explanation

In its Q1 2014 10-Q report, Nu Skin claimed that, "we built a large amount of inventory during the first quarter for planned product launches in 2014...." However, its disproportionate buildup in inventories does not square against its own historical numbers, guidance it gave to investors, and analysts' consensus projections. DSI has been progressively growing from 2011 levels. (Click on the image below to enlarge it.)

In Q1 2013, Nu Skin turned its inventory into sales 0.6 times (cost of goods sold $90 million/inventory $149.1 million). In Q1 2014, its inventory mushroomed to $410.7 million. To maintain the same rate of inventory turnover in Q1 2014 as it did in Q1 2013, Nu Skin would have needed to sell inventory costing it $247.9 million during Q1 2014 (Q1 2013 inventory turnover 0.6 X Q1 2014 inventory $410.7 million). In Q1 2014, Nu Skin realized revenues on its inventory at a multiple of 6.29 times its cost ($671.1 million revenues/$106.7 million cost of goods sold). Therefore, the approximate amount of revenues required for Nu Skin to maintain its historical level of inventory turnover without eroding gross profit margins was $1.559 billion for that quarter.

However, Nu Skin reported only $671.1 million revenues for Q1 2014. In May 2014, Nu Skin projected only $700 million of revenues for Q2 2014. The current analyst consensus estimate for Q2 2012 is $712.2 million in revenues, Q3 2014 is $858.5 million in revenues, and Q4 2014 is $948.2 million in revenues. The analyst consensus estimate for revenues in full year 2014 is $3.19 billion, slightly higher than revenues of $3.17 billion reported for 2013.

There are plenty of other issues of concern involving Nu Skin's multi-level marketing business model, domestic and foreign regulatory issues, its apparent dislike of whistleblowers and financial disclosures, but it will have to wait for another day. If Nu Skin's management does not act like mature grownups, I might make investigating and reporting about the company my new hobby. Right now, I have my doubts on management's story about its disproportionately huge rise in inventory levels.

Written by:

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one." I've done professional work for the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify fraud and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. In addition, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities. In addition, I perform forensic accounting services for law firms and other clients.

I do not own any Nu Skin securities long or short and I have no financial relationship with Marc Cohodes, but in 2011 he did name a rooster after me. PricewaterhouseCoopers, Nu Skin's auditors, has sponsored many events where I appeared as a speaker on accounting irregularities, securities fraud, and other white-collar crime.

Indicted Former Utah Attorney General Mark Shurtleff was bribed by Overstock.com too

My experience in dealing with former Utah Attorney General Mark Shurtleff goes way back. On October 30, 2007, Overstock.com (NASDAQ: OSTK) paid him $5,000 purportedly as a "campaign contribution." Two weeks later, Overstock.com issued a press release together with a defamatory "open letter" written by Shurtleff making baseless allegations against me. It was no coincidence. Instead it was a blatant effort by its CEO Patrick Byrne to get me to back off from investigating securities law violations and other illegal conduct by him and his company.

It was only a matter of time before the law caught up with Mark Shurtleff's pattern of soliciting and receiving illegal bribes in return for favors. Yesterday, he was arrested by FBI agents and local law enforcement along with another former Utah Attorney General John Swallow. The charges yesterday concern other donors, not Byrne. He may be protected by the statute of limitations, or maybe not. His behavior needs to be examined by the prosecutors in the Shurtleff-Swallow case. What we do know is that Shurtleff, judging from the indictment, was a lot dirtier than even my experience with him indicates.

According to the Salt Lake Tribune:

Shurtleff, who served 12 years as attorney general before making Swallow his handpicked Republican successor, was charged with 10 felony counts, including receiving or soliciting bribes, accepting gifts, tampering with witnesses and evidence, and participating in a pattern of unlawful conduct.

The news was no surprise to me and other long-time critics of Overstock.com. Since 2006, my blog has exposed lies to investors by Patrick Byrne dating back to 1999 and a series of illegal accounting maneuvers used by Overstock.com to materially overstate its earnings and report phony profits when it was losing money. My accounting analysis was proven correct by the company's later revisions of accounting practices and restatements of financial reports. In many cases, those corrections were forced upon it by the Securities and Exchange Commission. Back in October 2007, Patrick Byrne was desperate to discredit me, hoping I would quit investigating his illegal actions. Byrne went as far as to bribing then serving Utah Attorney General Mark Shurtleff to write a defamatory open letter about me that was republished by Overstock.com as part of a press release.

Patrick Byrne "tee'd off" about Utah Attorney General's Office invitation to me

In August 2007, the Deputy Attorney General Richard Hamp invited me to appear at the Utah Attorney General’s 14th Annual White Collar Crime Conference on October 31, 2007. I agreed to do the presentation for no compensation and paid all travel costs out of pocket. Weeks after the presentation, Chief Deputy Attorney General Kirk Torgensen, in a tape recorded telephone conversation, admitted to me that Overstock.com CEO Patrick Byrne was “tee’d off” about my scheduled appearance at the conference and wanted the Utah Attorney General’s office to cancel it. At the time, Hamp did not tell me that Byrne was upset, but he asked me not to mention Overstock.com during my presentation unless someone questioned me about it. I agreed. That was my only agreement with the Utah Attorney General's office.

On October 30, 2007, Overstock.com made a $5,000 “campaign contribution” to Utah Attorney General Mark Shurtleff. However, Overstock.com did not publicly report the contribution until months later. A day later, I spoke at the conference. No one asked me about Overstock.com and I did not mention the company.

Praised for teaching at conference

I thought everything had gone well. I received nothing but praise from the Utah Attorney General’s office. The next day, Deputy Attorney General John Kimble sent me an email saying:

Thank you for giving such a dynamic and thought-provoking talk. I've received nothing but positive feedback. I hope you enjoyed your brief stay in Salt Lake. Also feel free to contact me if there's anything I can do for you in the future.

Andrew Adams from KSL News Radio interviewed Chief Deputy Attorney General Kirk Torgensen and me. He reported:

There was a "rock star" in a room full of "good guys" downtown today. It was a bad guy at the "White Collar Crimes Conference. The women auditors were almost in a swoon.

Sam Antar just explained how his family had skimmed $20 million off the top, and then made another $75 million from pumping and dumping Crazy Eddie, Inc. stock in the 1980s.

Chief Deputy Attorney General Kirk Torgenson was a sponge. "When you hear it from somebody who did it, it gives you insights into how they think," Torgersen (sic) said.

"I'm no rock star, I'm a crook," Antar said. "White collar crime is just as brutal as violent crime."

That was Antar's message. He says the way to crack down is with better auditing and policing. He also says his CPA license was just revoked; that should have happened 15 years ago.

Overstock.com issues press release with open letter from Mark Shurtleff

To my surprise, on November 14, 2007 Overstock.com issued a press release together with an "open letter" from Utah Attorney General Mark Shurtleff. His letter claimed that I broke a purported agreement with his office. In the press release, Patrick Byrne ranted on about me somehow being involved in an illegal media conspiracy to take down his company:

"The letter from the Attorney General of Utah, which Sam has, for a week, ignored and refused to post to his blog as twice requested, speaks to Sam's perfidy," Byrne added. "The real investigative business journalists left in this country might explore whose interests are being served by the promotion of Sam Antar by CBS MarketWatch, Dow Jones, and Fortune."

Mark Shurtleff's open letter claimed:

As Utah Attorney General, I am writing this letter to rebut a blog Sam Antar posted on his website on November 1, 2007. I tried to post this letter as a comment on his blog but Mr. Antar apparently refused to post it….

I was warned that Mr. Antar might use this speaking engagement to suggest that my office or I personally, endorse or support his accusations against Overstock.com or some other public company. Based on that warning, officials in my office secured a promise from Mr. Antar that he would not use this invitation for that purpose. So much for the promises of a convicted felon! [Note: The open letter was erroneously dated a year later in 2008]

No one from the Utah Attorney General’s office tried to contact me about any complaints, not Shurtleff or anyone else. Utah Attorney General Mark Shurtleff did not even consult with his own Deputy Attorney Generals Richard Hamp and John Kimble before making his reckless lies. They were my contacts at the Utah Attorney General’s office. Later, they confirmed to me that my only agreement was to refrain from mentioning Overstock.com during my presentation unless asked and that I abided by the agreement. In any case, I never suggested that anyone at the Utah Attorney General's Office endorsed my criticisms of Overstock.com, which turned out to be correct anyway.

Tape recorded conversations expose Mark Shurtleff's reckless lies

After Overstock.com published Mark Shurtleff's letter, I called Deputy Attorney General Richard Hamp and Chief Deputy Attorney General Kirk Torgensen to demand an explanation and retraction of Shurtleff’s reckless lies. Since New York and Utah are "one-party consent" states, I secretly recorded the calls for my protection.

I told Richard Hamp:

I certainly never agreed with you to not post on my blog. The agreement that we had was, was that we would not discuss any matters relating to Overstock.com at the meeting [my presentation at the Utah Attorney General’s 14th Annual White Collar Crime Conference], unless of course it was bought up and I complied with that agreement.

Richard Hamp’s reply:

I fully agree. You did everything I asked you to do, Sammy.

Later, Richard Hamp said:

It puts me in a bad spot as well because I disagree with him [Utah Attorney General Mark Shurtleff]…. What’s happening here has nothing to do with John [John Kimble, Deputy Attorney General] and I….

What is happening does not reflect my or John’s feelings, wishes, desires, or anything else. What you did is exactly what you promised to do for exactly the price you promised to do it at with no expense on our side and total expense on your side. You promised you would not open the Overstock door while you were here. You didn’t. I have absolutely no fault to you and I have nothing but praise from all the things I’ve read about your presentation….

No one consulted with me or John [Kimble]…. Here, I extend an invitation for you to come out here and do a presentation and you do exactly what it was I asked you to do. You do an excellent job of it and you know, and it makes me feel good, it makes the whole audience feel good, and then afterwards this whole thing happens and it kind of personally embarrasses me, too, at that stage because no one ever consulted with me or and John's, here saying….John here, agrees. To finish the thought, here we invite this poor guy to come out here. He comes out on his own dime and then we slap him in the face. Neither John nor I knew what was going on at the administrative level….

In a follow up phone conversation, Richard Hamp told me:

I am not going to argue any of the points Sammy. Sammy you did exactly what you said you would do for me. Kirk [Chief Deputy Attorney General Kirk Torgensen] even brought up the fact that Sammy agreed not to blog this. I said no, Kirk. We never had a discussion about blogs one way or the other. Sammy agreed he would not mention Overstock during...his presentations. He didn’t. You know. Just so Kirk was on the same page with me.

I am not going to misrepresent what our agreement was. Our agreement was that you wouldn’t mention Overstock while you were here. That was the end of the agreement. In all honesty, I didn’t even think about the blogs to even bring em up or mention em…. I've read it [your blog] and I don't have the same problem parts of my office do have with it....

I really feel bad about it, Sammy, because you did everything I asked you to do and I can’t fault you for any of this. Well there.

At Richard Hamp's suggestion, I called Chief Deputy Attorney General Kirk Torgensen to demand a complete retraction from Utah Attorney General Mark Shurtleff. At first, Torgensen said:

He [Utah Attorney General Mark Shurtleff] can apologize to you, but what kind of action do you want?

I demanded that Shurtleff's retraction to be “widely disseminated” in the same manner as Shurtleff's false allegations about me. However, in a follow up phone call, Kirk Torgensen backtracked and told me that Mark Shurtleff “may be stubborn on this thing” and offered an apology from the “Office” of the Utah Attorney General, rather than directly from Shurtleff himself:

What I would like to do Sam is. I gotta tell. I would like to you. I would like to. First, I will tell you personally that and I told you this when you came to Utah, I appreciated you coming. I thought that your presentation was very helpful….

I told my guys after your presentation that it was exactly what I was looking for, that your candor was exactly what I was looking for. Uh, everybody else appreciated immensely that you came out. You did it on your own time. You did it on your own dime because we didn’t have a budget for anything and we really appreciate that.

Um, I gotta ask you this Sam. I mean, the Attorney General may be stubborn on this thing. What if I sent you something? …. Ultimately, this damage is my office…. That hurts the office, you know that Sam…. My job is to find a way to undo the harm…

A few days, later, Kirk Torgensen wanted me to be satisfied with only the private verbal apologies previously conveyed to me by Richard Hamp, John Kimble, and him. He told me, "Sam, you’ve gotten an apology from three people in my office." Mark Shurtleff never retracted his false remarks about me.

Overstock.com continues to promote Shurtleff's reckless lies

To this very day, Overstock.com proudly promotes Shurtleff's reckless lies about me on its website and from time-to-time Patrick Byrne stills refers to those lies in an effort to smear me. White-collar criminals usually don't stop doing crime unless they are caught and held accountable. It was only a matter of time before the law caught up with Mark Shurtleff and it's only a matter of time when the law will catch up with Patrick Byrne. For example, in January 2014 California Judge imposed a $6.8 million judgment against Overstock.com (NASDAQ: OSTK) for false advertising and unlawful business practices.

Written by:

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one." I've provided professional work for the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify fraud and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. In addition, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities.

I do not own any Overstock.com securities long or short.

A Felon’s View of White-Collar Crime - Why Society is Very Vulnerable to Fraud

White-collar crime is more brutal than violent crime. The actions of one or a few corrupt public officials and corrupt businessmen can affect the livelihoods of thousands, even millions of people. Fraudsters use a combination of persuasion and deceit to execute their crimes. Unfortunately, most people are unaware of how easy it is for fraudsters prey on their behavioral and cognitive vulnerabilities. Furthermore, the amount of prosecutions of white-collar criminals recommended by the FBI has steadily declined over the last 20 years. The government devotes far more resources to battling street crime than white-collar crime. The current framework involving, compliance, audits, and law enforcement does little to protect investors from fraud.

Every person is capable of doing white-collar crime. At the 22nd Annual Conference of the Association of Certified Fraud Examiners Conference in San Diego California in 2011, Joan Pastor, PhD, Clinical Psychologist and Fraud Expert said, “We’re all capable of committing fraud. Every single person in this room is capable of committing crimes.” For all of us, ethics is a matter of convenience depending on the situation and pressures involved. White-collar crime is an inevitable byproduct of the human condition. Seriously, can anyone truthfully claim that they live without sin and temptation?

Image from FBI

At best, people can prevent themselves from being victims of fraud. However, there is relatively little that our society can do to stop fraudsters from victimizing other naive and vulnerable people. If you are smart enough to avoid being victimized by a fraudster, they will simply find someone else with an exploitable weakness. Everybody has an exploitable weakness. The fraudster's job is to find the people who have an exploitable weakness that he/she can take advantage of.

Exploitable Weaknesses

White-Collar criminals use a combination of persuasion and deceit to achieve their objectives. Fraudsters prey on the psychological and cognitive vulnerabilities of their victims using the following techniques:

• White-collar criminals consider your humanity, needs, desires, ethics, morality, and good nature as weaknesses to be exploited in the execution of their crimes.
• White-collar criminals measure their effectiveness by the comfort level of their victims. They use a combination of charm and deceit to achieve their objectives. It’s far easier to get a potential victim to believe your lies, if they like you.
• White-collar criminals fabricate false integrity to gain the trust of their victims. Stature, generosity, and good deeds gain the respect of their potential victims and make it less likely that victims will question their behavior.

White-collar criminals will always have the initiative to commit their crimes. Your ethics, morality, and good nature limit your behavior, but fraudsters have no such constraints on their behavior. The ethical foundation of our society is based on trust and legal basis of our society is based on the presumption of innocence. The inclination to trust and the presumption of innocence gives the fraudster the initial benefit of any doubt while they are free to plan and execute their crimes. Therefore, trusting and decent law abiding human beings are easier prey for fraudsters.

It's common knowledge that effective internal controls, oversight, and checks-and-balances reduce the opportunity for fraud. However, people tend to ignore the fact that their trust, ethics, and good nature limit their behavior and create a fertile opportunity for white-collar criminals to seize the initiative and execute their crimes. Fraudsters are unfettered by society’s moral constraints on behavior.

Crime and Punishment

Many people mistakenly believe that strong punishment such as long prison sentences is a major deterrent to white-collar crime. Recently, many white collar criminals have received very stiff prison sentences, which I firmly support. At best, it holds those guilty of white-collar crime accountable and responsible for their actions. However, strong punishment does relatively little to prevent white-collar crime. Often, we watch prosecutors pound the podium in front of the cameras and claim that their latest successful case sends a strong message to fraudsters to stop doing crime. However, white-collar criminals don't listen to the rhetoric of prosecutors. No white-collar criminal discovers ethical behavior and stops doing crime because another criminal ends up in prison. While white-collar criminals take precautions against failure, they do not plan on ever ending up in prison.

Don't Trust. Just Verify

Trust is a hazard that will destroy your future livelihood. While you initially give a fraudster the benefit of the doubt, they will attempt to solidify their trustworthiness before you follow up to verify their claims. The fraudster hopes that you trust them enough to never verify their claims. However, if you later seek to verify their claims, your skepticism may be substantially diminished by your increased comfort level with them. In other words, you will accept the fraudster’s deceptive answers as factual, even if you have some doubts.

A common mistake made by victims of fraud is called "unexamined acceptance." Claims received from any source should not be taken for granted as being truthful and accurate without any critical analysis, investigation, and verification. Therefore, learn to exercise professional paranoia. Do not trust. Just verify

Apologies

Apologies are irrelevant. While contrition and forgiveness are admirable traits, apologies do not change the past or undo the harm caused by fraudsters. Apologies tend to make the victims feel a small measure of comfort and make fraudsters, as a minimum, appear remorseful. However, apologies should not be relied on to predict future behavior. People should be ultimately judged by their actions, not by their "well meaning" words or claimed "good" intentions.

Invisible White-Collar Criminals

According to the Association of Certified Fraud Examiners (ACFE) 2014 Report to the Nations on Occupational Fraud and Abuse, “Occupational frauds can be classified into three primary categories: asset misappropriations, corruption and financial statement fraud.” Less than 10% of fraud perpetrators had been previously charged with a crime or had criminal records. As the economic impact of an economic crime goes higher, it is less likely that the perpetrators involved have any previous criminal records. Did Bernie Madoff, Ken Lay (Enron), Bernie Ebbers (Worldcom), or Dennis Kozlowski (Tyco) have criminal records? The answer is no. Therefore, it is difficult for law enforcement and professionals to profile the white-collar criminals among us.

Most Fraud is Discovered from Tips

The ACFE 2014 report found that, “Tips are consistently and by far the most common detection method. Over 40% of all cases were detected by a tip — more than twice the rate of any other detection method.” Specifically, the study states that 42.3% of occupational frauds are initially detected from tips and 6.8% of such frauds are found by accident. Therefore, 49.1% of occupational frauds are found by tip or accident. Furthermore, the ACFE stated, “Management review and internal audit rank second and third, respectively, in frequency of detection, but they lag far behind tips.” Only 16.0% of frauds were detected by management review, 14.1% by internal audits, and 3% of frauds by external audits. Unfortunately, our society must primarily rely on the actions of whistleblowers to inform us about most frauds.

Who are the Whistleblowers?

While many whistleblowers are glamorized by the press, most of them are not motivated by altruism, but are motivated by revenge or personal gain. Every source has an agenda. To government investigators, it’s known as the XXX principle (and I am not talking about pornography).

1. Ex-lovers: Divorced spouses, former girlfriends and boyfriends.
2. Ex-business associates: Former customers and suppliers.
3. Ex-employees: Fired employees, laid off employees, and employees who quit working for the entity.

Whistleblowers can provide useful information. Most whistleblowers have an ax to grind and are looking to promote their particular personal agendas. They may have known about the crime during the execution of it, but did not report it until later. A whistleblower’s credibility should be judged on the basis of actionable verifiable information they provide, not what they say.

Do Audits Really Protect Investors?

Many investors blindly rely on the integrity of audits to protect them against fraud. Unfortunately, audits give investors a false sense of security. Traditional financial statement audits of public and private companies are not designed to find fraud. What accounting firms call an “audit” of financial reports is really a compliance review designed to find unintentional material errors in financial reports by examining a limited sample of transactions. In other words, traditional financial statement audits are designed to be spell-checkers and catch the accounting equivalent of innocent typos.

Despite the built-in limitations of audits, the major accounting firms do a poor job conforming to professional standards and rules for carrying them out. In 2012, the Public Company Accounting Oversight Board (PCAOB) inspected various audits conducted by the biggest four accounting firms and reported serious deficiencies in 25% to 49% of them:

• Ernst & Young: 51 audits inspected /deficiencies (49%)
• Pricewaterhouse Coopers: 52 audits inspected/21 deficiencies (40%)
• KPMG: 48 audits inspected/17 deficiencies (35%)
• Deloitte & Touche: 51 audits inspected/13 deficiencies (25%)

The latest inspection reports issued by the PCAOB for 2013 show that Pricewaterhouse Coopers had serious deficiencies in 19 of 57 audits inspected (33%) and Deloitte & Touche had serious deficiencies in 15 of 51 audits inspected (29%).

Dwindling Law Enforcement Efforts to Battle White-Collar Crime

From 1993 to 2013, the amount of prosecutions of white collar criminals recommended by the FBI has steadily declined, according to data obtained by Transactional Records Access Clearinghouse (TRAC) under the Freedom of Information Act from the Department of Justice. See the charts below provided by TRAC:

As a nation, we devote far more resources fighting blue-collar crime or street crime, than we do battling white-collar crime. For example, the NYC Police Department employs approximately 34,000 cops in uniform battling street crime. However, the FBI employs approximately 13,600 special agents, the IRS Criminal Investigative Division employs approximately 2,600 special agents, the SEC employs approximately 3,958 people, and the US Postal Inspectors Office employs approximately 1,500 postal inspectors. The NYC Police Department has more man power directly battling street crime than those four federal law enforcement agencies combined have fighting nationwide white-collar crime.

Written by:

Sam E. Antar

© Copyright by Sam E. Antar. All rights reserved.

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one."Today, I advise federal and state law enforcement agencies about white-collar crime and trains them to identify and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. I teach about white-collar crime for government entities, businesses, professional organizations, and colleges and universities. In addition, I perform forensic accounting services for law firms and other clients.

Overstock.com CEO Patrick Byrne Spying on People--Again

Fresh off the heels of a California Judge imposing a $6.8 million judgment against Overstock.com (NASDAQ: OSTK) for false advertising and unlawful business practices, the company is in trouble again. This time a class action complaint alleges that employees of the company cold called the cell phone numbers of prospective customers seeking to sell them insurance, secretly recorded those conversations without their permission, and deceitfully obtained "highly personal and private information." [Download Complaint]

According to the complaint:

Plaintiff alleges that Defendant [Overstock.com] continues to violate Penal Code § 632.7 by impermissibly recording its telephone conversations with California residents while said residents are on cellular telephones.

The complaint further alleges that:

9. On or about March 12, 2014, Plaintiff received a telephonic communication from Defendant on Plaintiff’s cellular telephone. During the conversation, Defendant attempted to solicit Plaintiff’s business for Defendant’s insurance services.

10. After speaking with Defendant’s representative for a period of time, Plaintiff inquired as to whether to phone call was being recorded. Thereafter, Defendant’s representative informed Plaintiff that the entire conversation had been recorded. Subsequently, Plaintiff terminated the call with Defendant’s representative because Plaintiff was angered that Defendant had recorded Plaintiff without Plaintiff’s knowledge and/or consent.

11. During each conversation with Defendant, Plaintiff discussed highly personal and private financial information that Plaintiff had not openly discussed with others.

12. Plaintiff had no reasonable expectation that any of Plaintiff’s cellular telephone conversations with Defendant would be recorded due to the private subject matter being discussed. Had Plaintiff known that said conversation/s were being recorded, Plaintiff would have conducted and spoken differently to the representative/s of Defendant.

13. Plaintiff was shocked to discover that such a confidential communication was being recorded by Defendant without Plaintiff’s knowledge or consent.

14. Plaintiff found Defendant’s clandestine recording to be highly offensive due to the delicacy of the topics discussed during said conversations.

15. The conversations with Plaintiff, was without Plaintiff’s knowledge or consent, recorded by Defendant, causing harm and damage to Plaintiff. Prior to Plaintiff’s query on the matter, plaintiff was never informed that Plaintiff’s cellular telephone calls were being recorded. At no time during the call did Plaintiff give consent for the cellular telephone call to be monitored, recorded and/or eavesdropped upon.

Patrick Byrne

Overstock.com CEO Patrick Byrne has had no issue violating the privacy of whistleblowers, journalists, bloggers and critics in its pretexting and smear campaign of recent years, which have been amply documented in the media and this blog. Overstock and its surrogates, such as its public relations spokesman Judd Bagley, have even waged war against their spouses families - their minor children included.

Iran used identical, illegal tactics to spy on American officials according to a Reuters report out today. It reported that Iranian hackers engaged in "an unprecedented, three-year cyber espionage campaign, Iranian hackers created false social networking accounts and a fake news website to spy on military and political leaders in the United States, Israel and other countries, a cyber intelligence firm said on Thursday."

Overstock.com CEO Patrick Byrne was years ahead of the Iranians in hiring thugs like Judd Bagley to set up phony news sites like Deep Capture and Anti-Social Media which were used to spread his delusional conspiracy theories and attack critics. Judd Bagley created fake social networking accounts on Facebook and stock market chat boards to intimidate, threaten, and harass critics. To add insult to injury, Law 360 reported that, “Judd Bagley, a representative for Overstock.com, said the company is investigating the claim, but believes that it lacks merit.”

Back in 2007, investigative journalist Roddy Boyd from the New York Post reported that Overstock.com CEO hired Judd Bagley to secretly stalk and conduct a smear campaign against critics on the web. Bagley used anonymous aliases on stock chat boards to attack critics of Byrne. He hacked into the accounts of stock chat board posters and implanted spyware in emails to improperly gain personal information on critics. He attempted to blackmail a tech savvy blogger who exposed his activities. John Carney from Dealbreaker referred to Judd Bagley as "Sleazy McSleaze."

Two years later, Patrick Byrne used his hired thug Judd Bagley to pretext journalists and critics (including me) to gather information about their family members (including minor children) and friends by setting up a phony profile on Facebook under the name Larry Bergman.

In 2009, I identified certain violations of Generally Accepted Accounting Principles (GAAP) by Overstock.com that allowed it to fabricate a Q4 2008 profit rather than properly report a loss in that quarter. Patrick Byrne retaliated by personally attacking me on a stock market chat board, during various earnings calls, and in the press in an effort to discredit me. The company stubbornly continued to overstate its reported income in the first three quarters of 2009. During that time, Bagley injected himself into my divorce proceedings, contacting my former spouse, as well as using illegal pretexting tactics to "friend" my children and relatives on Facebook using a phony account. This was clear retaliation for my pointing out the company's accounting violations. My work was vindicated when Overstock.com restated its financial reports after the Securities and Exchange Commission investigated its improper accounting practices.

Judd Bagley

Journalist and author Gary Weiss who uncovered the pretexting scheme reported that:

Bagley created "Larry Bergman" and an unknown number of phony Facebook accounts to con people into "friending" him. That way he could circumvent Facebook security, violating their rules and, well, Lord knows how many laws he broke in this pretexting scheme.

After learning that he and his family members were pretexted, Attorney/Money Manager/Author Barry Ritholtz wrote:

A career douche bag (and possible pedarast) named Judd Bagley decided to engage in some fraudulent pretexting. He assumed a false persona on Facebook, using someone else’s name and photo (perhaps committing a Felony in NYS). He then began cyber-stalking the children, friends and family of numerous journalists, bloggers and fund managers. After friending all the kiddies, Bagley posted their names, friends, etc. at the Deep Capture site.

Eventually, Facebook (NASDAQ: FB) booted Bagley for violating its rules. It deleted both his false "Larry Bergman" profile and his personal profile. He's since resurfaced on Facebook by adding a number to his username.

It's three and half years later, and Overstock is still up to its old tricks, now violating customer privacy. When will regulators finally step in and put a stop to these hoodlums? Consumers are cautioned against trusting these crooks with their personal information.

Written by,

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one." I've provided professional work for the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify fraud and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. In addition, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities.

I do not own any Overstock.com securities long or short.

On Twitter, Herbalife Uses "Herbalife Truth" To Tell A Lie

One of the main concepts I teach about financial crimes is that fraudsters seek to create false images of stature and integrity in an effort to gain the trust of their potential victims. Apparently, Herbalife (NYSE: HLF) is employing the same playbook used by fraudsters in an effort to create a phony image for itself.

Last week, the company claimed to be an "American made company" on a twitter account called "Herbalife Truth" which was created to counter allegations by Bill Ackman that it is running an illegal pyramid scheme. However, the cover page of Herbalife's 10-K report states plainly that its principle executive offices are located in Grand Cayman, Cayman Islands. Many of Herbalife's manufacturing facilities and its contract manufacturers are located outside the United States. See Herbalife's tweet and my response below (click on image to enlarge):

Originally, I wasn't sure whether to even write about this issue because it's totally irrelevant to the pyramid scheme allegations leveled against the company by Bill Ackman and many other critics. Herbalife is facing a virtual gangbang of criminal and regulatory probes into its business practices involving the Department of Justice, the Federal Bureau of Investigation, the Securities and Exchange Commission, the Federal Trade Commission, the New York State Attorney General, and the Illinois Attorney General.

Then I asked my friend Zac Bissonnette, the best-selling author of "Good Advice from Bad People" and frequent Herbalife critic what to do. He responded:

If Herbalife's rebuttal is that there's nothing wrong with being headquartered in the Cayman Island and doing manufacturing outside of the United States, here's my response: Exactly. Unable to refute any of the substantive criticisms of its business model and marketing practices, Herbalife is boasting about things that have absolutely nothing to do with the issues at hand. That the company can't even construct a factually accurate red herring is just a little bonus for its critics.

Needless to say, Zac's advice inspired me to write this piece. To say Herbalife is an "American made company" is quite a stretch. "Herbalife Lies" would be a more truthful name for Herbalife Truth's twitter feed.

Written by,

Sam E. Antar

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one." I've provided professional work for the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify fraud and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. In addition, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities. Recently, I've helped the AICPA Fraud Task Force develop better methods for detecting fraud.

I do not own any Herbalife securities long or short.

California Judge Rules Slaps Overstock.com With a $6.8 Million Fine For Defrauding Consumers

Updated

It's now official: Overstock.com (NASDAQ: OSTK) defrauded consumers. Late Friday afternoon, a California Judge issued a tentative ruling in favor of district attorneys from eight California Counties who had sued Overstock.com for engaging in fraudulent comparative pricing practices. The Judge imposed a civil penalty in the amount of $6.819 million and approved issuance of an injunction to prevent Overstock.com from continuing its deceptive practices. To make matters worse, Overstock.com will have to reimburse the State of California possibly millions of dollars for legal fees, investigative costs, and other costs. [Download ruling.]

Overstock.com will definitely appeal the ruling, adding to its already huge legal costs, a huge lose-lose proposition for the company. For instance, last quarter the company reported a $2 million increase in legal fees resulting in large part from the "defense of a case brought by district attorneys in eight California counties."

Overstock.com refused to settle thinking it could get away with paying millions of dollars less in penalties

Back in March 2010, the California county district attorneys offered to resolve its investigation for $7.5 million, but Overstock.com's gun-toting CEO Patrick Byrne arrogantly refused to settle. According to Overstock.com's Q3 2010 10-Q report:

In March 2010, we received correspondence from the Office of the District Attorney of the County of Monterey in which the respective offices of the various district attorneys have made a collective proposal to resolve the dispute by our payment of $7.5 million in penalties and reimbursement. We disagree with the proposal and continue to discuss this matter with the authorities involved. In October 2010, we received notification that the Alameda County District Attorney joined the investigation group.

The company had accrued a loss contingency reserve totaling only $1.2 million to cover all its potential litigation risks, including but not limited to the district attorneys' investigation.

In response to an inquiry by the Securities and Exchange Commission, Overstock.com revealed that the loss contingency covered potential liabilities arising from the California investigation and an unrelated tax matter:

There are two matters for which we have established accrued liabilities, namely, the California district attorneys’ investigation and the administrative proceeding before the Ohio Tax Commissioner.

Evidently, Overstock.com thought it could get away with paying the State of California far less money than it was seeking in fines and restitution.

After the lawsuit was filed on November 17, 2010, Overstock.com attempted to obstruct efforts by the California District Attorneys to gather evidence of wrongdoing and was later compelled by the Judge to turn over crucial documentation. Overstock.com CEO Patrick Byrne claimed:

It is not our job to host DA’s on a no-limits fishing trip, especially when they have not acted in good faith in the past.

Now Overstock.com has been convicted of consumer fraud after spending several million dollars more in legal fees. In addition, it has to pay $6.819 million in fines plus possibly millions of dollars more in court costs.

Based on the ruling, it was Overstock.com who had not acted in good faith with District Attorneys investigating its wrongdoing and with consumers who were misled into believing that they were saving money by purchasing product from the company.

Lawsuit alleges fraud

On November 17, 2010, district attorneys from eight California counties filed a lawsuit against Overstock.com (NASDAQ: OSTK) alleging that it made up comparative prices:

20. ...Overstock does not always offer the lowest prices available online for the products it sells. In some cases, it charges significantly higher for those products than other merchants selling the identical products.

21. ...beginning at a date unknown to Plaintiff, but no later than January 1, 2006, Overstock has routinely and systematically made untrue and misleading comparative advertising claims about the prices which other merchants charge for the identical products offered by Overstock.

22. Often Overstock has not been determining or verifying the price other merchants charge for those identical products. Rather, Overstock has been using various misleading methods to make up its own “straw-man” prices which it claims other merchants are charging for those products, and then claiming that its own prices are significantly lower than those prices.

23. Overstock has advertised comparative prices which do not exist (i.e., simply making up the prices charged by other merchants).

24. When Overstock actually examined what merchants were charging for identical products, Overstock often deliberately chose the highest price charged for that product by any merchant instead of the price offered by most merchants for that product. These representations were likely to mislead consumers into believing that Overstock's prices were significantly lower than prices offered by other merchants.

25. For example, in 2007, Overstock.com sold a patio set on its site for $449.00. It claimed that the "List Price" for that patio was $999.99. The consumer who ordered the item noted that it came in a box with a Wal-Mart sticker showing the sales price to be $247.00. Wal-Mart was in fact offering the same patio set at $247.00 (and later, on clearance, as low as $218.00) on its web site. Overstock's "List Price" of $999.00 for the patio set was untrue and misleading.

After the lawsuit was filed, Chris Moran from the Consumerist remarked, "Apparently, the “O” in Overstock.com stands for “Overstating discounts and misleading customers,”....

Overstock.com defrauded consumers

Patrick Byrne, CEO

On January 3, 2014, the Judge ruled that Overstock.com was indeed faking its comparative prices. For example, the Judge cited an internal Overstock.com email that observed:

18. ...Oh, I think it's been established that the 'List Price' is egregiously overstated. This place has some balls.

The Judge ruled that:

112. In sum, the court finds that Overstock has continuously used ARPs [advertised referenced price] in a manner designed to overstate the amount of savings to be enjoyed by shopping on the Overstock web site.

According to the tentative ruling, Overstock.com used phony formulas to set comparative prices or simply made up comparative prices:

114. Whenever Overstock used a formula to set an ARP [advertised referenced price] and then displayed a “You save” amount or percentage, it made a misleading statement as to the amount (and perhaps the existence) of a price reduction. When the ARP nomenclature was “list price,” the statement was also false for the same reason: the representation that there was a list price was false. In other words, where there was no actual list price but only one set by formula, the statement as to the dollar and percentage amount of the savings from the nonexistent list price was also false. When Overstock’s ARP was based on a “similar” product and then displayed a “You save” amount or percentage, the company made a misleading statement as to the amount (and perhaps the existence) of a price reduction. Whenever Overstock set an ARP based on the highest price it could find for the product, it made a misleading statement as to the amount (and perhaps the existence) of a price reduction. [Emphasis added.]

Injunction

Mindful that Overstock.com deliberately faked comparative prices, the Judge approved the issuance of the following injunction:

128. Overstock may not post any ARP [advertised referenced price] unless it verifies the reference price and documents that verification by a screen shot of the product offerings(s) and price(s) relied upon to comply with this order. The verification documentation shall be maintained for two years from the date the ad containing the ARP is initially posted, and the People may have reasonable access to such documentation throughout the five year period during which the injunction shall be in place.

The district attorneys from eight California counties will monitor Overstock.com's compliance with the injunctive order.

Written by:

Sam E. Antar

Additional reading

Gary Weiss: Overstock.com still scamming customers despite court ruling

Disclosure

I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today. I do not want or seek forgiveness for my vicious crimes from my victims. My past sins are unforgivable.

There is a saying, "It takes one to know one." I've provided professional work for the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify fraud and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. In addition, I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities. Recently, I've helped the AICPA Fraud Task Force develop better methods for detecting fraud.

I do not own any Overstock.com securities long or short.