A Boxer and Drug Baron's Unlikely Alliance

Retailer Byrne and Biovail's Melnyk fight hedge funds and analysts

The Globe and Mail
By Leonard Zehr and Paul Waldie
March 2, 2006

At first blush, Eugene Melnyk and Patrick Byrne appear to be unlikely allies in a legal battle against hedge funds and analysts.

Mr. Melnyk is chairman of a drug company, Mississauga-based Biovail Corp., while Mr. Byrne runs a Salt Lake City-based on-line retailer called Overstock.com that specializes in selling discount merchandise. Mr. Melnyk, 46, is a university dropout who owns racehorses and the Ottawa Senators hockey team. Mr. Byrne, 43, has a doctorate in philosophy from Stanford University and trained to be a boxer.

But the two businessmen have become linked in a common cause: taking on what they allege is a conspiracy of hedge funds and analysts to crush company stock prices in order to make money from short-selling. Both men have spearheaded high-profile lawsuits that seek billions of dollars in damages and their lawyers have shared information to bolster their claims.

Mr. Byrne's suit names David Rocker, a New Jersey-based hedge fund manager who is a former naval officer, along with research firm Gradient Analytics Inc. Mr. Melnyk's also names Arizona-based Gradient, as well as another analyst and New York-based SAC Capital Management LLC. Both suits allege the hedge funds colluded with Gradient and others to prepare negative research reports in order to drive down stock prices (short sellers make money by selling borrowed stock in the hope of buying it back later at a lower price). None of the allegations have been proven.

The hedge funds and Gradient have denied all the allegations. SAC has called the allegations "outrageous and defamatory" while Gradient labelled them "completely false" and "malicious." Mr. Rocker has alleged that Mr. Byrne is conducting a "theatre of the absurd" in the hopes of intimidating him and others into silence.

The battle launched by Mr. Byrne dates back to 2003. Overstock.com was only a few years old at the time and had gone public a year earlier on the Nasdaq Stock Market. Mr. Byrne had started the business in 1999 with great fanfare, predicting hundreds of millions of dollars in revenue within a few years.

Mr. Byrne has always been a different kind of chief executive. He is the scion of a billionaire family whose father was an insurance executive. He was diagnosed with testicular cancer shortly after university and spent five years battling the disease. Once recovered, he earned a PhD in philosophy, bicycled across the U.S. several times, earned a black belt in tae kwon do and trained as a boxer. As president of Overstock.com, he has not taken a salary in three years, but controls about one-third of the stock.

Gradient issued its first report on Overstock.com in July, 2003, giving the company some of its lowest ratings. The firm was founded in the mid-1990s by university professors Donn Vickrey and Carr Bettis.

Mr. Rocker, reputed as an aggressive short seller, started shorting Overstock.com's stock in early 2004. That year, he peppered Mr. Byrne with tough questions. He wondered how Overstock.com's revenue could soar from $40-million in 2001 to nearly $500-million in 2004, without the business turning a profit. Soon, the two locked horns.

"I don't like you," Mr. Byrne said in an e-mail to Mr. Rocker, filed in court. "I don't like people like you. I think you are dishonest and slimy. . . . I don't like you."

As Overstock.com's share price began to fall in 2005, Mr. Byrne became a virulent critic of short sellers and analysts, calling them "lickspittle," "condoms" and "jackanapes." He even alleged some were the "tools of Satan." In a conference call last summer, he launched a presentation he called a "miscreants' ball" and claimed a group of hedge funds were working under the direction of an unnamed "Sith Lord" to destroy Overstock's share price.

On Aug. 11, 2005, Mr. Byrne launched his lawsuit, which later included affidavits from three former Gradient employees who alleged the firm permitted hedge fund managers to influence reports. Gradient has denied the allegations and said all of the former employees had been dismissed by the company.

Biovail, for its part, became concerned during 2004 by what it considered to be a series of inaccurate reports prepared by Gradient and an inability to contact the analyst who wrote the reports. At the same time, its stock price was volatile and it began to suspect that short sellers were attacking the company in a pattern that matched the release of the Arizona research reports.

Biovail took its concerns to a New York law firm near the end of 2004, prompting a 15-month investigation that ended last week with its court filing. The 90-page complaint contains many of the same allegations as the Overstock.com suit.

While the fight rages, Mr. Byrne's 74-year old father, John, who is a director of Overstock.com, is getting a bit impatient. In an interview yesterday, John Byrne said he has every confidence in his son but added: "There may be something to this, I don't know whether there is or there isn't. I wish he would just pay attention to just running his company. That's the problem with the world today, sons don't do what their father's tell them to do."

Biovail's court battle

Biovail Corp., last week launched a $4.6-billion (U.S.) lawsuit against hedge fund SAC Capital, alleging that it is the victim of deliberate acts to depress its stock price. Its claims neatly parallel those of Overstock.com, which has launched its own case against short sellers. The link? As Leonard Zehr and Paul Waldie explain, it's an Arizona research firm that has criticized the operations of both Biovail and Overstock.

The research firm

GRADIENT ANALYTICS INC.

The company:

Gradient, a securities research firm in Scottsdale, Ariz., sells research reports on a subscription basis for $25,000 to $40,000 a year. When it operated as Camelback Research Alliance, it employed 18-to-20 analysts.

The bosses:

Carr Bettis and Donn Vickrey are former university professors.

The clients

SAC CAPITAL MANAGEMENT LLC

The company: SAC is a powerhouse Wall Street hedge fund that controls $7-billion in capital. Trading activity regularly accounts for 3 per cent of NYSE daily volume and 1 per cent of Nasdaq daily volume.

The boss: Reclusive billionaire Steven Cohen, 50. Now in Manhattan's spotlight for his collection of prized modern art.

ROCKER PARTNERS

The company: New Jersey-based Rocker Partners, founded in 1985, has about $1-billion in assets. It is an active and aggressive short seller.

The boss: David Rocker, 63, is a former Navy officer and well-known short seller who once described himself as 'the Rodney Dangerfield of the investment community.' He has denied Overstock.com's allegations saying in court filings that 'short sellers play an important and beneficial role in the securities market.'

The targets

BIOVAIL CORP.

The company: Biovail, Canada's biggest publicly traded drug maker, was founded in 1994 and is expected to report 2005 sales above $900-million. At various times in its history, Biovail has been a stock market darling or under attack by short sellers.

The boss:

Barbados resident Eugene Melnyk, 46, is a sports entrepreneur who owns the NHL Ottawa Senators and a Florida thoroughbred racing stable.

OVERSTOCK.COM

The company: Overstock is a Salt Lake City-based on-line discount retailer that started in 1999 and now has more than $800-million in sales.

The boss: Patrick Byrne, 43, the son of an insurance executive, has a doctorate in philosophy. Mr. Byrne has been a fierce critic of hedge funds and short sellers claiming they are out to 'destroy our stock.' He has suggested that the campaign is being orchestrated by an unnamed 'Sith Lord.'

The chronology

FEBRUARY, 2004

Wall Street hedge fund Rocker Partners begins building a short position in on-line retailer Overstock.com, igniting a war of words between the two.

JULY, 2004

Rocker becomes a subscriber of Gradient Analytics.

AUGUST, 2005

Overstock sues Rocker and Gradient, claiming the research firm conspired with Rocker to generate negative reports to drive down its stock price. Rocker and Gradient deny the allegations.

AUGUST-SEPTEMBER, 2005

Affidavits from three former employees of a Gradient predecessor company outline how hedge fund clients influenced the writing of negative research reports.

SEVERAL MONTHS LATER

Biovail lawyers hook up with Overstock, which begins sharing information about Gradient, including the three former Gradient employees.

FEBRUARY, 2006

Biovail files a detailed 90-page statement of claim against Wall Street hedge fund SAC Capital Management, Gradient and analysts, seeking damages of $4.6-billion because of an alleged manipulation scheme to drive down its stock price.

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