Overstock.com Inc., the online seller of excess inventory, sued Morgan Stanley, Goldman Sachs Group Inc. and other brokers, saying they caused the company's shares to drop by manipulating the stock market.
The Salt Lake-based company, led by Chief Executive Officer Patrick Byrne, is seeking $3.48 billion in damages. The brokers violated California securities laws, Overstock said in a complaint filed in a state court in San Francisco.
Byrne has accused others of driving down Overstock's shares before. He charged hedge funds, analysts and financial journalists with spreading negative information about his company to benefit short sellers, who bet Overstock's shares would fall.
Overstock "may quickly find out they bit off more than they can chew," said John Coffee, director of the Center on Corporate Governance at Columbia University Law School. "This is an extremely unpromising litigation."
Byrne is Overstock's biggest shareholder, with about 29 percent of the stock. His holdings of 6.82 million shares are valued at $103 million at Friday's $15.11 stock price in Nasdaq Stock Market composite trading. The shares have declined 65 percent in the past two years.
Overstock also sued Bank of New York Co.; Citigroup Inc.; Deutsche Bank Securities Inc.; and Merrill Lynch & Co., among others. Other Overstock shareholders have joined in the suit, the company said.
The brokerages "have and continue to participate in a massive illegal stock market manipulation scheme," the company said in the complaint, filed by San Francisco firm Stein & Lubin LLP. The brokerages tried to profit from falling prices by selling shares without borrowing stock, Overstock said. The practice is called naked short selling.
Morgan Stanley spokeswoman Jeanmarie McFadden declined to comment, as did Danielle Romero-Apsilos at Citigroup, Elaine Everhart at Bank of New York, Merrill Lynch's Mark Herr and Ted Meyer at Deutsche Bank. Goldman Sachs spokesman Peter Rose said the company won't talk about pending litigation.
Traditional short sellers borrow stock through a broker and hope to profit by selling shares high and later buying them back at lower prices to repay the loan.
In naked shorting, traders who try to profit from falling prices sell shares without borrowing stock. Using that strategy, naked short sellers can drive down prices by flooding the market with orders to sell shares they don't have.
Since at least January 2005, large quantities of Overstock stock have been subject to naked short selling, in some cases more than the 23.4 million total shares outstanding, the company said in the suit. That has subsequently created "immense downward pressure on the price of Overstock's stock."
Overstock sued Gradient Analytics Inc., which sells research to hedge and mutual funds, in August 2005, saying it colluded with hedge fund Rocker Partners LLC to issue research aimed at driving down Overstock shares. Both have denied wrongdoing.
Traders have sold short 5.1 million Overstock shares, or about 35 percent of the shares available for trading, according to January data from the Nasdaq.The company is scheduled to report fourth-quarter earnings next week. Overstock's loss per share will be wider than analyst estimates because of a drop in shoppers, said William Lennan, principal at First Albany Capital, in a note Thursday.
Contributing: Joseph N. DiStefano, Elizabeth Hester, Rick Green, Gary Matsumoto, Brian Sullivan, Bob Drummond