Overstock
Annual Report 2008

Plain-text annual report

Table of Contents UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549 FORM 10-K (Mark One) xxANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934 For the fiscal year ended December 31, 2008 OR ooTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934 For the transition period from to Commission file number 000-49799 OVERSTOCK.COM, INC.(Exact name of Registrant as specified in its charter) Delaware87-0634302(State or other jurisdiction ofincorporation or organization)(I.R.S. EmployerIdentification Number) 6350 South 3000 EastSalt Lake City, Utah 84121(Address of principal executive offices including zip code) (801) 947-3100(Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Common Stock, $0.0001 par value (title of class) Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filingrequirements for the past 90 days. Yes x No o Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to thebest of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K, or any amendment tothis Form 10-K. o Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. Seethe definitions of “accelerated filer”, “large accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer oAccelerated filer x Non-accelerated filer o Smaller reporting company o (do not check if a smaller reportingcompany) Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the act). Yes o No x The aggregate market value of voting and non-voting common equity held by non-affiliates of the registrant as of the last business day of the registrant’smost recently completed second quarter (June 30, 2008), was approximately $245.5 million based upon the last sales price reported by NASDAQ. Forpurposes of this disclosure, shares of Common Stock held by persons who hold more than 5% of the outstanding shares of Common Stock and shares held byofficers and directors of the registrant have been excluded in that such persons may be deemed to be affiliates. This determination is not necessarilyconclusive. As of February 23, 2009 there were 22,813,812 shares of the registrant’s Common Stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE Certain information required by Part III of Form 10-K is incorporated by reference to the Registrant’s proxy statement for the 2009 Annual StockholdersMeeting, which will be filed with the Securities and Exchange Commission within 120 days after the end of the fiscal year to which this Report relates. Table of Contents OVERSTOCK.COM, INC. ANNUAL REPORT ON FORM 10-K INDEX Page Special Note Regarding Forward-Looking Statements3Part I.Item 1.Business4Item 1A.Risk Factors14Item 1B.Unresolved Staff Comments29Item 2.Properties29Item 3.Legal Proceedings30Item 4.Submission of Matters to a Vote of Security Holders30Part II.Item 5.Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities31Item 6.Selected Financial Data35Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations37Item 7A.Quantitative and Qualitative Disclosures About Market Risk63Item 8.Financial Statements and Supplementary Data63Item 9.Changes in and Disagreements with Accountants on Accounting and Financial Disclosure63Item 9A.Controls and Procedures63Item 9B.Other Information65Part III.Item 10.Directors, Executive Officers and Corporate Governance66Item 11.Executive Compensation66Item 12.Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters66Item 13.Certain Relationships and Related Transactions, and Director Independence66Item 14.Principal Accounting Fees and Services66Part IV.Item 15.Exhibits, Financial Statement Schedules67Signatures72Financial StatementsF-1 Overstock.com and Worldstock are registered trademarks, and Worldstock.com, Club O and Overstock.com Wholesale are trademarks ofOverstock.com, Inc. The Overstock.com logo and Worldstock.com logo are also trademarks of Overstock.com, Inc. Other service marks, trademarks and tradenames referred to in this Form 10-K are property of their respective owners. iiTable of Contents SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K and the documents incorporated herein by reference contain forward-looking statements within the meaning ofSection 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are therefore entitled to the protection ofthe safe harbor provisions of these laws. These forward-looking statements involve risks and uncertainties, and relate to future events or our future financial oroperating performance. These statements include, but are not limited to, statements concerning: · the anticipated benefits and risks of our business relationships; · our ability to attract retail and business customers; our belief that we can attract customers in a cost-efficient manner; the ability of our onlinemarketing campaigns to be a cost-effective method of attracting customers; our belief that we can internally develop cost-effective brandingcampaigns; · the anticipated benefits and risks associated with our business strategy; · our future operating results; · the anticipated size or trends of the market segments in which we compete and the anticipated competition in those markets; · potential government regulation; · our future capital requirements and our ability to satisfy our capital needs; the potential for additional issuances of our securities; · our future ability to repurchase or retire our publicly traded debt; · our expansion in international markets; · our plans to devote substantial resources to our sales and marketing teams; · our strategy to develop strategic business relationships with additional wholesalers and distributors; our belief that manufacturers willrecognize us as an efficient liquidation solution; · our belief that current or future litigation will likely not have a material adverse effect on our business; · the results of upgrades to our infrastructure and the likelihood that additional future upgrades can be implemented without disruption of ourbusiness; · our belief that we can meet our published product shipping standards even during periods of relatively high sales activity; · our belief that we can maintain or improve upon customer service levels that we and our customers consider acceptable; · our belief that our information technology infrastructure can and will support our operations and will not suffer significant downtime; · the potential effects of our facilities consolidation and restructuring program and of the various actions we have taken in connection with thatprogram; · the possibility that we will relocate our corporate offices; · statements about our community site business and its anticipated functionality; · our belief that we can maintain inventory levels at appropriate levels despite the seasonal nature of our business; and 3Table of Contents · our belief that we can successfully offer and sell a constantly changing mix of products and services. Furthermore, in some cases, you can identify forward-looking statements by terminology such as may, will, could, should, expect, plan, intend,anticipate, believe, estimate, predict, potential or continue, the negative of such terms or other comparable terminology. These statements are onlypredictions. Actual events or results may differ materially. In evaluating these statements, you should specifically consider the risks outlined in this Form 10-K, including those described in Item 1A under the caption “Risk Factors.” These factors may cause our actual results to differ materially from thosecontemplated by any forward-looking statement. Except as otherwise required by law, we expressly disclaim any obligation to release publicly any update orrevisions to any forward-looking statements to reflect any changes in our expectations or any change in events, conditions or circumstances on which any ofour forward-looking statements are based. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannotguarantee future results, levels of activity, performance or achievements. PART I ITEM 1. BUSINESS The following description of our business contains forward-looking statements relating to future events or our future financial or operatingperformance that involve risks and uncertainties, as set forth above under “Special Note Regarding Forward-Looking Statements.” Our actual results coulddiffer materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth in Section 1A under theheading “Risk Factors” and elsewhere in this Form 10-K. We are an online closeout retailer offering discount brand name merchandise, including bed-and-bath goods, home décor, kitchenware, watches, jewelry,electronics and computers, sporting goods, apparel, and designer accessories, among other products. We also sell books, magazines, CDs, DVDs, and videogames (“BMMG”). We also operate as a section on our Website an online auction site—a marketplace for the buying and selling of goods and services—aswell as the section on our Website for listing cars and real estate for sale. Our company, based in Salt Lake City, Utah, was founded in 1997, and we launched our first Website through which customers could purchase productsin March 1999. Our Website offers our customers an opportunity to shop for bargains conveniently, while offering our suppliers an alternative inventoryliquidation or sales channel. We continually add new, limited inventory products to our Website in order to create an atmosphere that encourages customersto visit frequently and purchase products before our inventory sells out. We offer approximately 201,000 products under multiple departments under theShopping section of our Website, and offer approximately 450,000 additional media products in the Books etc. department on our Website. Closeout merchandise is typically available in inconsistent quantities and prices and often is only available to consumers after it has been purchased andresold by disparate liquidation wholesalers. We believe that the traditional liquidation market is therefore characterized by fragmented supply andfragmented demand. We utilize the Internet to aggregate this fragmented supply and demand and create a more efficient market for liquidation merchandise.Our objective is to provide a one-stop discount shopping destination for products and services sold through the Internet. As used herein, “Overstock.com,” “we,” “our” and similar terms include Overstock.com and its subsidiaries, unless the context indicates otherwise. Industry Overview Manufacturers and retailers traditionally hold inventory to buffer against uncertain demand within their normal, “inline” sales channels. Inline saleschannels are manufacturers’ primary distribution channels, which are characterized by regularly placed orders by established retailers at or near wholesaleprices. In recent years, several dynamics have shifted inventory risk from retailers to manufacturers, including: · dominant retailers insist on just-in-time deliveries from manufacturers; · dominant retailers cancel orders mid-production and return unsold merchandise; · style, color or model changes quickly turn inventory into closeout merchandise; · incorrect estimates of consumer demand lead to overproduction; and · changes in a retailer’s financial situation or strategy result in cancelled orders. 4Table of Contents The disposal of excess, or overstock, inventory represents a substantial burden for many manufacturers, especially those who produce high-qualitybranded merchandise. Manufacturers seek to avoid liquidating through traditional retail channels where the manufacturer’s discounted products may be soldalongside other full-price products. This can result in weaker pricing and decreased brand strength, and is known as channel conflict or sales channelpollution. As a result, many manufacturers turn to liquidation wholesalers and discount retailers. These liquidation channels provide manufacturers limitedcontrol of distribution and are, we believe, unreliable and expensive to manage when compared with their inline channels. Despite the challenges manufacturers encountered in the liquidation market, the proliferation of outlet malls, wholesale clubs, and discount chains isevidence of the strong level of consumer demand for discount and closeout merchandise. However, consumers face several difficulties in shopping for thismerchandise. For example, many traditional liquidation outlets are in remote locations and have limited shopping hours, which we believe makes shoppingburdensome and inconvenient. In addition, in the traditional liquidation outlet there are space constrains limiting the number of products that can be offeredat any given time. We also believe that the market for online liquidation is characterized by a limited number of competitors, some of which use an auction model to pricetheir goods. Furthermore, we believe that many of the online companies that do offer overstock or liquidation merchandise are focused on single productlines. Lastly, small retailers are under competitive pressure from large national retailers. Small retailers generally do not have purchasing leverage withmanufacturers; consequently, they are more likely to pay full wholesale prices and are more likely to receive inferior service. We believe that small retailersgenerally do not have access to the liquidation market because liquidation wholesalers are most often interested in liquidating large volumes of merchandise,rather than the small quantities appropriate for small, local retailers. In the fourth quarter 2008, we faced unusual competition from brick and mortar retailers seeking to liquidate inventory directly. The macroeconomicslowdown and discounting by brick and mortar retailers have mixed effects on us. The effects include increased price competition and cautious consumers,but also include opportunities for us to acquire inventory at unusually low prices. The Overstock Solution Overstock provides manufacturers with a one-stop liquidation channel to sell both large and small quantities of excess and closeout inventory withoutdisrupting sales through traditional channels. Key advantages for manufacturers liquidating their excess inventory through Overstock include: · Resolution of channel conflict. Channel conflicts arise when a manufacturer’s excess inventory is sold through the same channel as their full-priced product offerings. Since excess inventory is usually sold at a discount, sales of the manufacturer’s full-priced product offerings may beimpacted as a consumer in a retail store may opt for the excess product or become confused by the pricing and model discrepancies. By usingOverstock, manufacturers have an alternative and independent channel where they can sell excess inventory without the fear of hindering thesale of their full-priced products. · Single point of distribution. Manufacturers often use multiple liquidation sources to clear their excess inventory. Multiple sources createadditional logistics issues that they would rather avoid. By using Overstock, manufacturers have a single source for the distribution of excessinventory. · Improved control of distribution. By using Overstock, manufacturers can monitor what kind of customer, whether individual consumer or smallretailer, ultimately purchases their merchandise. In addition, a manufacturer can request that its products be offered in only one of our saleschannels in order to avoid sales channel pollution. · Improved transaction experience. By having a reliable inventory clearing channel, manufacturers are able to more quickly and easily dispenseof their excess merchandise, raw materials or production capacity. Overstock also offers consumers a compelling alternative for bargain shopping. Key advantages for consumers include: · High quality and broad product selection. Much of the merchandise offered on our Website is from well-known, brand-name manufacturers. Inthe Shopping section of our Website, we currently have approximately 201,000 non-BMMG products and approximately 450,000 BMMGproducts (books, magazines, CDs, DVDs, and video games) in eight major departments. · Convenient access on a secure site. Our customers are able to access and purchase our products 24 hours a day from the convenience of theircomputer. We do not sell any personal information about our customer base to third parties. 5Table of Contents · Responsive customer service and positive shopping experience. Our team of customer service representatives assists customers by telephone,instant online chat and e-mail. Our customer service staff answers approximately 98% of phone calls within 60 seconds, and responds toapproximately 93% of e-mail messages within one business day. For our consumer business, we include a return shipment label in ourcustomer’s shipment to facilitate product returns and, subject to certain conditions, we allow customers to return most purchased merchandisefor a refund. In addition, we continually update and monitor our Website to enhance the shopping experience for our customers. Our objective is to become the dominant Internet-based closeout solution for holders of brand-name merchandise, allowing them to dispose of thatmerchandise discreetly and with high recovery values, and to ultimately become a one-stop Internet-based discount shopping destination. We are pursuingthis objective through the following key strategies: · Establish strong relationships with manufacturers and distributors. With the growth in the scale of our operations, we believe we are becomingan efficient liquidation channel for manufacturers and distributors. With scale comes the ability to buy in volume, and we believe manufacturersappreciate our ability to liquidate their products without disturbing their traditional channels. Generally, manufacturers do not want theirproduct offerings sold as heavily discounted, closeout products in brick-and-mortar retailers, as is common today. We believe that asmanufacturers learn of our capabilities, they will increasingly recognize the attractiveness of Overstock as an efficient liquidation solution. · Optimize inventory management through the use of technology. Our merchandise buyers are supported by proprietary software that providesinformation on product sales, margins and inventory levels. This technology enables us to make informed decisions and quickly change pricesin an effort to maximize sales volume, gross profit and return on inventory capital. · Optimize online marketing initiatives through the use of technology. Our marketing team is supported by technologically advanced softwaresupplied by third party vendors, as well as proprietary software that enhances the level of service provided to our customers and takes advantageof the unique characteristics of online distribution. This software provides us immediate feedback on the effectiveness of various marketingcampaigns, allowing us to optimize our online marketing expenditures. · Loyalty programs. We have a frequent buyer’s club called Club O. Members of Club O pay an annual fee of $19.95 and receive a 5% discounton non-BMMG products and free shipping, along with access to a special customer service hotline. Additionally, we partnered with Chase CardServices to launch an Overstock.com Co-Branded Rewards Visa credit card program, currently offering our customers a $30 store credit towardstheir next Overstock purchase and the opportunity to earn rewards certificates to redeem on our Website. Our Business We use the Internet to create a more efficient market for liquidation, closeout and other discount merchandise. We provide consumers and businesseswith quick and convenient access to high-quality, brand-name merchandise at discount prices. Our shopping business (sales of product offered through theShopping section of our Website) includes both a “direct” business and a “fulfillment partner” business (see Item 15 of Part IV, “Financial Statements”—Note 23—“Business Segments”). During the years ended December 31, 2006, 2007, and 2008, no single customer accounted for more than 1% of our totalrevenue. Unless otherwise indicated or required by the context, the discussion herein of our financial statements, accounting policies and related matters, pertainsto the Shopping section of our Website and not necessarily to the Auctions, Cars, Real Estate, or Community sections of our Website. Direct business Our direct business includes sales made to individual consumers and businesses, which are fulfilled from our warehouses in Salt Lake City, Utah (seeItem 2 of Part I, “Properties”). During the twelve months ended December 31, 2008, we fulfilled approximately 21% of all orders through our warehouses. Ourwarehouses generally ship between 5,000 and 8,000 orders per day and up to approximately 32,000 orders per day during peak periods, using overlappingdaily shifts. Fulfillment partner business For our fulfillment partner business, we sell merchandise of other retailers, cataloguers or manufacturers (“fulfillment partners”) through our Website. Weare considered to be the primary obligor for the majority of these sales transactions and record revenue from the majority of these sales transactions on a grossbasis. Our use of the term “partner” or “fulfillment partner” does not mean that we have formed any legal partnerships with any of our fulfillment partners. Wecurrently have approximately 1,200 fulfillment partners which post approximately 196,000 non-BMMG products, as well as most of the BMMG products(found in the Books etc. 6Table of Contents department) on our Website. Our revenue from sales from both the direct and fulfillment partner businesses is recorded net of returns, coupons and otherdiscounts. Seasonality Both direct and fulfillment partner revenues are seasonal, with revenues historically being the highest in the fourth quarter, which ends December 31,reflecting higher consumer holiday spending. We anticipate this will continue in the foreseeable future. Auctions business We operate an online auction service as part of our Website. Our auction service allows sellers to list items for sale, buyers to bid on items of interest, andusers to browse through listed items online. We record only our listing fees and commissions for items sold as revenue. From time to time, we also sell itemsreturned from our shopping business through our auction service, and for these sales, we record the revenue on a gross basis. Revenue from our auctionbusiness is included in the fulfillment partner segment, as it is not significant enough to segregate as a segment. Car listing business We operate an online site for listing cars for sale as a part of our Website. The car listing service allows sellers to list vehicles for sale and allows buyers toreview vehicle descriptions, post offers to purchase, and provides the means for purchasers to contact sellers for further information and negotiations on thepurchase of an advertised vehicle. Revenue from our car listing business is included in the fulfillment partner segment, as it is not significant enough tosegregate as a segment. Real Estate listing business We operate an online site for listing real estate for sale as a part of our Website. The real estate listing service allows customers to search active listingsacross the country. Listing categories include foreclosures, live and on-line auctions, for sale by owner listings, broker/agent listings and numerousaggregated classified ad listings. Revenue from the real estate business is included in the fulfillment partner segment, as it is not significant enough tosegregate as a segment. International business We began selling products through our website to customers outside the United States in late August 2008. The initial launch included Canada and 33European countries, including the U.K. and Germany. We do not have operations outside the United States, and are utilizing a U.S. based third party toprovide logistics and fulfillment for all international orders. Revenue generated from our international business is included in either direct or fulfillmentpartner revenue, depending on whether the product is shipped from our warehouses or from a fulfillment partner. Key Relationships Manufacturer, Supplier and Distribution Relationships It is difficult to establish closeout buying relationships with manufacturers. Trust and experience gained through past interactions are important. Webelieve our business model reduces the risk to the manufacturer that its discounted products are sold alongside its full-priced products. Our supplierrelationships provide us with recognized, brand-name products. The table below identifies some of the brand names that generate significant revenues invarious departments: Anne KleinJoseph AbboudRCABissellJVCSamsoniteBlue Ridge Home FashionsKodakSeikoBroyhillMovadoSimon & SchusterCanonNovicaSonyCharles DavidPanasonicSteve MaddenDrexel HeritagePhilipsThomasvilleDysonRandom HouseToshibaFujiWengerHewlett-PackardHooverHunter Fan 7Table of Contents To date, we have not entered into contracts with manufacturers or liquidation wholesalers that guarantee the availability of merchandise for a setduration. Our manufacturer and supplier relationships are based on historical experience with manufacturers and liquidation wholesalers and do not obligateor entitle us to receive merchandise on a long-term or short-term basis. In our direct business, we purchase the products from manufacturers or liquidationwholesalers using standard purchase orders. Generally, suppliers do not control the terms under which products are sold through our Website. Products Online Products Our website is organized into five main sections, namely: Shopping, Auctions, Cars, Real Estate, and Community. The Shopping section is organizedinto eleven main departments: FurnitureAt HomeBeddingClothing & ShoesJewelryWatchesElectronicsSportsBooks, etc.WorldstockOther Each of these departments has multiple categories that more specifically define the products offered within that department. For example, the “Bedding”department currently has the following product categories: Memory foamMattressesSheetsComfortersBlanketsDown beddingDuvet coversPillows Each category has several subcategories that further detail the product contained within. For example, under the “Down bedding” category, we have thefollowing subcategories: Down comfortersDown alternativesDown pillowsFeatherbedsDown comforter sets Individual products can be accessed and viewed from the category or subcategory pages. These specific product pages include detailed productdescriptions, color photographs, pricing information and customer reviews. For 2006, 2007 and 2008, the percentages of gross sales contributed by similar classes of products were as follows: Product class20062007 2008 Home and garden(1)42%44%50%Jewelry, watches, clothing and accessories27%25%24%BMMG(2), electronics and computers23%23%18%Other8%8%8% Total100%100%100% (1) Home and garden includes home décor, bedding, bath, furniture, house wares, garden, patio and other related products. (2) BMMG stands for “Books, Music, Movies and Games.” The number of total products we offer has grown from less than 100 in 1999, to more than 201,000 non-BMMG products and 8Table of Contents approximately 450,000 BMMG products (books, magazines, CDs, DVDs and video games) as of December 31, 2008. As the number of products and productcategories change throughout the year, we periodically reorganize our departments and/or categories to better reflect our current product offerings. Worldstock is our socially-responsible, online marketplace through which artisans in the United States and around the world can sell their products andgain access to a broader market. Fulfillment Operations General When customers place orders on our Website, orders are fulfilled either by a third-party fulfillment partner or directly from our warehouses in Salt LakeCity, Utah. We monitor all of these sources for accurate order fulfillment and timely shipment. We currently charge $2.95 per order for basic ground shipping,but customers can choose from various expedited shipping services at their expense. Payment Terms Generally, we require verification of receipt of payment, or authorization from credit card or other payment vendors whose services we offer to ourcustomers (such as Paypal and BillMeLater), before we ship products to consumers or business purchasers. From time to time we grant credit to our businesspurchasers with normal credit terms (typically 30 days). Fulfillment for Direct Business During 2008, we fulfilled approximately 21% of all orders through our leased warehouses in Salt Lake City, Utah (see Item 2 of Part I, “Properties”.) Ourwarehouse staff generally shipped between 5,000 and 8,000 orders per day, and up to 32,000 orders per day during peak periods, using overlapping dailyshifts. We also process returns of direct and fulfillment partner merchandise in the Salt Lake City warehouses. Our warehouses store approximately 5,000 non-BMMG products offered on our Website. We operate the Salt Lake City warehouses with an automated warehouse management system that tracks the receiptof inventory, distributes order-fulfillment assignments to warehouse workers and obtains rates for various shipping options to ensure low-cost outboundshipping. Our Website relays orders to the warehouse management system throughout each day, and the warehouse management system in turn confirms toour Website shipment of each order. Customers can track the shipping status of their packages through links we provide on our Website. Fulfillment Partner Business During 2008, approximately 79% of our orders were for inventory owned and shipped by third-party fulfillment partners. We currently coordinateapproximately 1,200 entities that collect orders through our Website. These third parties perform essentially the same operations as our warehouse: orderpicking and shipping; however, we handle the majority of the returns for these sales. These third parties relay shipment confirmations to our Website wherecustomers can review shipping and tracking information. All orders through our Website bear Overstock’s name on the packing material and shippingdocuments, including those shipped by our fulfillment partners. We also handle customer service related to all orders placed through our Website. Sales and Marketing We use a variety of methods to target our consumer audience, including online campaigns, such as advertising through portals, keywords, searchengines, affiliate marketing programs, banners, e-mail and direct mail campaigns, and we are able to monitor and evaluate their results. We seek to identifyand eliminate campaigns that do not meet our expectations. We also do brand advertising through television, radio, and print ads. We generally developthese campaigns internally and believe that doing so is cost-effective. Customer Service We are committed to providing superior customer service. We staff our customer service department with dedicated in-house and outsourcedprofessionals who respond to phone, instant online chat and e-mail inquiries on products, ordering, shipping status, and returns. As a result of thiscommitment, we now rank #2 in customer service rankings among all US retailers, according to rankings published in the 2008 NRF Foundation/AmericanExpress Customer Service Survey. Our customer service staff processes approximately 14,000 calls per week and up to approximately 30,000 calls per weekduring peak periods. The same staff processes approximately 17,000 e-mail messages each week and up to approximately 21,000 e-mail messages per week during peakperiods, with a turnaround goal of one business day. We use automated e-mail and phone systems to route traffic to appropriate customer servicerepresentatives. The demands on our customer service staff increase significantly during peak periods, including the several weeks before and after theChristmas holiday. 9Table of Contents Technology We use our internally developed Website and a combination of proprietary technologies and commercially available licensed technologies andsolutions to support our operations. We use the services of XO Communications, Inc., Qwest Communications International, Inc. and Verizon, Inc. to obtainconnectivity to the Internet over multiple Gig-E and OC48 links. We currently store our data on several Oracle databases using Dell and IBM computerhardware connected to multiple large scale Hitachi and EMC storage devices. Currently, we use Dell and IBM servers for our Website, which are connected tothe Oracle databases and operate in a multi-processing Linux environment designed to accommodate large volumes of Internet traffic. Currently, our primarycomputer infrastructure remains at our co-location facility in Salt Lake City. We also have a second data center which we use primarily for backups,redundancy, development, testing, and our corporate systems infrastructure. Competition The online liquidation services market is new, rapidly evolving, intensely competitive and has relatively low barriers to entry, as new competitors canlaunch new websites at relatively low cost. We believe that competition in the online liquidation market is based predominantly on: · price; · product quality and selection; · shopping convenience; · order processing and fulfillment; · customer service; and · company brand recognition. Our liquidation services compete with other online retailers and traditional liquidation “brokers”, some of which may specifically adopt our methods andtarget our customers. We currently or potentially compete with a variety of companies that can be divided into several broad categories: · liquidation e-tailers such as SmartBargains; · online general retailers with discount departments such as Amazon.com, Inc., eBay, Inc. and Buy.com, Inc.; · online specialty retailers such as BlueNile and BackCountry; and · traditional retailers and liquidators such as Ross Stores, Inc., Walmart Stores, Inc., TJX Companies, Inc., Costco Wholesale Corporation, TargetCorporation, Best Buy Co., Inc. and Barnes and Noble, Inc., most of which also have an online presence. As the market for online liquidation grows, we believe that companies involved in online retail, as well as traditional retailers and liquidation brokers,will increase their efforts to develop services that compete with our online services. We also face potential competition from Internet companies not yetfocused on the liquidation market, and from retail companies who are currently operating or not yet operating online. Many of our current and potential competitors have greater brand recognition, longer operating histories, larger customer bases and significantly greaterfinancial, marketing and other resources than we do, and may enter into strategic or commercial relationships with larger, more established and well-financedcompanies. Some of our competitors could enter into exclusive distribution arrangements with our vendors and deny us access to their products, devotegreater resources to marketing and promotional campaigns and devote substantially more resources to their website and systems development than ourcompany. New technologies and the continued enhancement of existing technologies also may increase competitive pressures on our company. We cannotensure that we will be able to compete successfully against current and future competitors or address increased competitive pressures (see Item 1A—“RiskFactors”). Intellectual Property We regard our domain names and similar intellectual property as critical to our success. We rely on a combination of laws and 10Table of Contents contractual restrictions with our employees, customers, suppliers, affiliates and others to establish and protect our proprietary rights. Despite theseprecautions, it may be possible for a third party to copy or otherwise obtain and use our intellectual property without authorization. In addition, we cannotensure that others will not independently develop similar intellectual property. Although we have registered and are pursuing the registration of our keytrademarks in the United States and some internationally, some of our trade names may not be eligible to receive registered trademark protection. In addition,effective trademark protection may not be available or we may not seek protection in every country in which we market or sell our products and services,including in the United States. Third parties have in the past, and may in the future, recruit our employees who have had access to our proprietary technologies, processes andoperations. These recruiting efforts expose us to the risk that such employees and those hiring them will misappropriate and exploit our intellectual property. Legal and Regulatory Matters From time to time, we receive claims and become subject to regulatory investigations or actions, consumer protection, employment, intellectual propertyand other commercial litigation related to the conduct of our business. Such litigation could be costly and time consuming and could divert our managementand key personnel from its business operations. The uncertainty of litigation increases these risks. In connection with such litigation, we may be subject tosignificant damages or equitable remedies relating to the operation of our business and the sale of products on our website. Any such litigation maymaterially harm our business, prospects, results of operations, financial condition or cash flows. However, we do not currently believe that any of ouroutstanding litigation will have a material adverse effect on our financial condition. These and other types of claims could result in increased costs of doing business through legal expenses, adverse judgments or settlements or require usto change our business practices in expensive ways. In addition, litigation could result in interpretations of the law that require us to change our businesspractices or otherwise increase our costs. Additional litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets or to determine the validityand scope of the proprietary rights of others. Any litigation, regardless of outcome or merit, could result in substantial costs and diversion of management andtechnical resources, any of which could materially harm our business (see Item 1A—“Risk Factors”). See the information set forth under Item 15 of Part IV, “Financial Statements”—Note 14—“Commitments and Contingencies,” subheading “LegalProceedings,” contained in the “Notes to Consolidated Financial Statements” of this Annual Report on Form 10-K. Government Regulation Our services are subject to federal and state consumer protection laws including laws protecting the privacy of consumer non-public information andregulations prohibiting unfair and deceptive trade practices. In particular, under federal and state financial privacy laws and regulations, we must providenotice to consumers of our policies on sharing non-public information with third parties, must provide advance notice of any changes to our policies and,with limited exceptions, must give consumers the right to prevent sharing of their non-public personal information with unaffiliated third parties.Furthermore, the growth and demand for online commerce could result in more stringent consumer protection laws that impose additional complianceburdens on online companies. These consumer protection laws could result in substantial compliance costs and could interfere with the conduct of ourbusiness. In many states, there is currently great uncertainty whether or how existing laws governing issues such as property ownership, sales and other taxes, libeland personal privacy apply to the Internet and commercial online services. These issues may take years to resolve. In addition, new state tax regulations maysubject us to the obligation to collect and remit state and local taxes other than for sales within the state of Utah (where our operations are located), or subjectus to additional state and local sales and income taxes. New legislation or regulation, the application of laws and regulations from jurisdictions whose lawsdo not currently apply to our business or the application of existing laws and regulations to the Internet and commercial online services could result insignificant additional taxes on our business. These taxes could have an adverse effect on our cash flows and results of operations. Furthermore, there is apossibility that we may be subject to significant fines or other payments for any past failures to comply with these requirements. Employees As of December 31, 2008, we had 1,036 full-time employees, including 379 in customer service and fraud prevention, 119 in order fulfillment, 226 ininformation technology and Website production, 56 in marketing, 150 in merchandising (including auctions, cars, and real estate), 51 in accounting andfinance, and 55 in our executive and administrative department. We seasonally augment our workforce with temporary employees during our fourth quarterto handle increased workload in both our warehouse and customer 11Table of Contents service operations. We have never had a work stoppage, and none of our employees are represented by a labor union. We consider our employee relationshipsto be positive. Competition for qualified personnel in our industry has historically been intense, particularly for software engineers, computer scientists, andother technical staff. Executive Officers The following persons were executive officers of Overstock.com as of February 23, 2009: Executive OfficersAge PositionPatrick M. Byrne46Chief Executive Officer and Chairman of the Board of DirectorsJonathan E. Johnson III42President and Corporate SecretaryGeoffrey R. Atkinson24Senior Vice President, MarketingStephen J. Chesnut49Senior Vice President, FinanceDavid K. Chidester37Senior Vice President, Internal Reporting and InformationJacob K. Hawkins33Senior Vice President, Change ManagementSamuel J. Peterson33Senior Vice President, TechnologyStormy D. Simon40Senior Vice President, Marketing and Customer CareStephen P. Tryon47Senior Vice President, Logistics and Human Capital Management Dr. Patrick M. Byrne has served as our Chief Executive Officer (principal executive officer) and as a Director since October 1999, as Chairman of theBoard from February 2001 through October 2005, and since July 2006. From September 1997 to May 1999, Dr. Byrne served as President and ChiefExecutive Officer of Fechheimer Brothers, Inc., a manufacturer and distributor of uniforms. From 1995 until its sale in September 1999, Dr. Byrne wasChairman, President and Chief Executive Officer of Centricut, LLC, a manufacturer and distributor of industrial torch parts. From 1994 to the present,Dr. Byrne has served as a Manager of the Haverford Group, an investment company and an affiliate of Overstock. Dr. Byrne has a Bachelor of Arts degree inChinese studies from Dartmouth College, a Master’s Degree from Cambridge University as a Marshall Scholar, and a Ph.D. in philosophy from StanfordUniversity. Mr. Jonathan E. Johnson III joined Overstock.com in September 2002 and currently serves as our President. He has served as our General Counsel and asour Vice President, Strategic Projects, and Senior Vice President, Corporate Affairs and Legal. From May 1999 to September 2002, Mr. Johnson held variouspositions with TenFold Corporation, a software company, including positions as General Counsel, Executive Vice President and Chief Financial Officer.From October 1997 to April 1999, Mr. Johnson practiced law in the Los Angeles offices of Milbank, Tweed, Hadley & McCloy and from September 1994 toSeptember 1997, he practiced law in the Los Angeles offices of Graham & James. From February 1994 to August 1994, Mr. Johnson served as a judicial clerkat the Utah Supreme Court for Justice Leonard H. Russon, and prior to that, from August 1993 to January 1994, Mr. Johnson served as a judicial clerk at theUtah Court of Appeals for Justice Russon. Mr. Johnson holds a Bachelor’s Degree in Japanese from Brigham Young University, studied for a year at OsakaUniversity of Foreign Studies in Japan, and received his law degree from the J. Reuben Clark, Jr. Law School at Brigham Young University. Mr. Geoffrey R. Atkinson currently serves as our Senior Vice President of Marketing. Mr. Atkinson is responsible for the search and email marketingchannels as well as the Customer Relationship Management group (the “CRM”). Since joining the Company in 2005, Mr. Atkinson has worked primarily onimproving the customer facing search and navigation experience as well as growing the email and search marketing channels. Mr. Atkinson has previouslyserved as Vice President of tactical marketing and Director of web site and email marketing. Before joining Overstock.com, Mr. Atkinson worked inmarketing and branding at Smith Sport Optics, a manufacturer of sunglasses and goggles for sports and leisure, in Sun Valley, Idaho. Mr. Atkinson holds aBachelor of Arts Degree in Sociology from Dartmouth College. Mr. Stephen J. Chesnut was appointed Senior Vice President, Finance of the Company, effective January 5, 2009. From August 2007 until he joined theCompany, Mr. Chesnut served as Vice President, Strategy/Market Development/Sales for HD Supply, Inc., a privately-held wholesale distribution companybased in Atlanta, Georgia. From December 1998 to August 2007, Mr. Chesnut served in a variety of capacities for The Home Depot or its subsidiaries,including Director, Business Development for HD Supply (prior to its sale by Home Depot), Director, Finance and Chief Financial Officer for Home DepotSupply; Director, New Concept Development; and Director, Strategic Planning. Prior to joining The Home Depot, Mr. Chesnut served in a variety ofoperational, planning and financial positions for Target Stores Inc. from 1986 to 1998. Mr. Chesnut holds a Bachelor’s of Science Degree in Accounting andBusiness Management, from Southern Utah University and a Master of Business Administration Degree, Finance and Strategic Planning, from BrighamYoung University. 12Table of Contents Mr. David K. Chidester currently serves as our Senior Vice President, Internal Reporting and Information and Assistant Secretary. Mr. Chidesterpreviously served as Senior Vice President, Finance from January 2004 to January 2009, as our Acting Chief Financial Officer from August 2003 toJanuary 2004, and as our Controller from August 1999 to August 2003. Prior to joining Overstock.com, Mr. Chidester was with PricewaterhouseCoopers LLPfrom December 1995 to August 1999. Mr. Chidester holds a Bachelor of Science Degree in Accounting and a Master’s Degree in Business Administration,both from the University of Utah. Mr. Jacob K. Hawkins currently serves as Senior Vice President, Change Management. Mr. Hawkins has performed various roles across the organization,including business development, marketing, merchandising, technology, and project management. Prior to joining Overstock.com, Mr. Hawkins worked forProfessional Marketing International, a business consulting group. Mr. Hawkins holds a Bachelor’s Degree in Business Management from Brigham YoungUniversity and a Master’s Degree of Business Administration with an emphasis in information systems from the University of Utah. Mr. Samuel J. Peterson currently serves as our Senior Vice President, Technology. Mr. Peterson previously served as the Vice President, SoftwareDevelopment from early 2005, and was appointed as Director, Network and Systems Engineering in 2003. Ms. Stormy D. Simon currently serves as our Senior Vice President, Marketing and Customer Care. Ms. Simon previously served as our Vice President,BMMG; Travel and Off-Line Advertising; Chief of Staff and as our Director of B2B. Prior to joining Overstock.com in 2001, Ms. Simon worked in the mediaand travel industries. Mr. Stephen P. Tryon joined Overstock.com in August 2004, and serves as Senior Vice President, Logistics and Human Capital Management, withprimary responsibility for logistics and supervision of the Company’s warehouse operations, and most recently, managing the Company’s human resources.Prior to joining Overstock.com, Mr. Tryon was the Legislative Assistant to the Chief of Staff of the United States Army. During his 21 years with the Army,his assignments included director of plans for the 10th Mountain Division, Congressional Fellow for United States Senator Max Cleland, Assistant Professorof Philosophy at the United States Military Academy, and commander of a company of paratroopers. Mr.Tryon received a Bachelor’s of Science Degree inApplied Sciences from the U.S. Military Academy and a Master’s Degree of Arts in Philosophy from Stanford University. Board of Directors Name Age Position with theCompany Director SinceAllison H. Abraham45NoneMarch 2002Joseph J. Tabacco, Jr.59NoneJune 2007Patrick M. Byrne46Chief Executive OfficerOctober 1999Barclay F. Corbus41NoneMarch 2007James V. Joyce50ConsultantFebruary 2008 Ms. Allison H. Abraham has served as a Director of Overstock since March 2002 and is currently the President of the Newton School, a non-profit, privateschool located in Sterling, Virginia. She is Chairwoman of the Audit Committee and a member of the Compensation Committee. Ms. Abraham served asPresident and as a director of LifeMinders, Inc., an online direct marketing company, from May 2000 until the acquisition of LifeMinders by Cross MediaMarketing Corp. in October 2001. Prior to joining LifeMinders, Ms. Abraham served as Chief Operating Officer of iVillage Inc., an online media company,from May 1998 to May 2000. From February 1997 to April 1998, Ms. Abraham was President, Chief Operating Officer and a director of Shoppers Express, anonline grocery service, and also served as Vice President of Sales and Marketing for several months prior to her promotion. From 1992 to 1996, Ms. Abrahamheld several marketing and management positions at Ameritech Corporation. She was employed at American Express Travel Related Services in New YorkCity from 1988 to 1992, focusing on the launch of new products and loyalty programs. Ms. Abraham holds a Bachelor of Arts Degree in Economics fromTufts University and a Master’s Degree of Business Administration from the Darden School at the University of Virginia. Mr. Joseph J. Tabacco, Jr. has served as a Director of Overstock since June 2007. Mr. Tabacco is a member of the Audit Committee and theCompensation Committee. For more than the last five years Mr. Tabacco has served as the managing partner of the San Francisco office of Berman DeValerio(formerly Berman DeValerio Pease Tabacco Burt & Pucillo). A 1974 honors graduate of George Washington University School of Law, Mr. Tabacco litigatesantitrust, securities fraud, commercial high tech, and intellectual property matters. Since entering private practice in the early 1980s, Mr. Tabacco has servedas trial or lead counsel in numerous antitrust and securities cases and has been involved in all aspects of state and federal litigation. Prior to 1981,Mr. Tabacco served as senior trial attorney for the U.S. Department of Justice, Antitrust Division, and in both the Central District of California and the 13Table of Contents Southern District of New York. Mr. Tabacco frequently lectures and authors articles on securities and antitrust law issues and is a member of the AdvisoryBoard of the Institute for Consumer Antitrust Studies at Loyola University Chicago School of Law. Mr. Tabacco is also a former teaching fellow of theAttorney General’s Advocacy Institute in Washington, D.C., and has served on the faculty of ALI-ABA on programs about U.S.-Canadian business litigationand trial of complex securities cases. Dr. Patrick M. Byrne has served as our Chief Executive Officer (principal executive officer) and as a Director since October 1999, as Chairman of theBoard from February 2001 through October 2005, and since July 2006. From September 1997 to May 1999, Dr. Byrne served as President and ChiefExecutive Officer of Fechheimer Brothers, Inc., a manufacturer and distributor of uniforms. From 1995 until its sale in September 1999, Dr. Byrne wasChairman, President and Chief Executive Officer of Centricut, LLC, a manufacturer and distributor of industrial torch parts. From 1994 to the present,Dr. Byrne has served as a Manager of the Haverford Group, an investment company and an affiliate of Overstock. Dr. Byrne has a Bachelor of Arts degree inChinese studies from Dartmouth College, a Master’s Degree from Cambridge University as a Marshall Scholar, and a Ph.D. in philosophy from StanfordUniversity. Mr. Barclay F. Corbus has served as a Director of Overstock since March 2007. He is a member of the Audit Committee and Chairman of theCompensation Committee. Mr. Corbus has served as Senior Vice President of Clean Energy Fuels Corp., a provider of vehicular natural gas, withresponsibility for strategic development, since September 2007. He served as Co-CEO of WR Hambrecht + Co., an investment banking firm, from July 2004to September 2007, and prior to that date served in other executive positions with WR Hambrecht + Co. Prior to joining WR Hambrecht + Co in March 1999,Mr. Corbus was in the investment banking group at Donaldson, Lufkin and Jenrette. Mr. Corbus graduated from Dartmouth College with a Bachelor of ArtsDegree in Government and has a Master’s Degree of Business Administration in Finance from Columbia Business School. Mr. James V. Joyce has served as a Director of Overstock since February 2008. He is also the chief executive officer of Icent LLC, which is a managementconsulting company through which Mr. Joyce has provided consulting services to clients, including the Company, for the last five years. Mr. Joyce holds aBachelor of Arts Degree as well as a Master’s Degree in Jurisprudence from the University of Oxford and a Master’s Degree of Business Administration fromDartmouth College. There are no family relationships among any of the current officers and directors of the Company. Available Information Our Internet website address is http://www.overstock.com. Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports onForm 8-K and other filings made pursuant to the Securities Exchange Act of 1934 are available free of charge through our Internet website as soon asreasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission. Our Internet website and theinformation contained therein or connected thereto are not a part of or incorporated into this Annual Report on Form 10-K. ITEM 1A. RISK FACTORS Please consider the following risk factors carefully. If any one of the following risks were to occur, our business, financial condition, operating resultsand cash flows could be materially adversely affected, and the market price of our securities could decrease. These are not the only risks we face. Inaddition, the global economic climate amplifies many of these risks. Risks Relating to Overstock General economic factors may adversely affect our financial performance. General economic conditions may adversely affect our financial performance. In the United States, higher interest rates, higher fuel and other energycosts, weakness in the housing market, inflation, higher levels of unemployment, unavailability of consumer credit, higher consumer debt levels, higher taxrates and other changes in tax laws, overall economic slowdown and other economic factors could adversely affect consumer demand for the products andservices we sell, change the mix of products we sell to one with a lower average gross margin and result in slower inventory turnover and greater markdownson inventory. Higher interest rates, transportation costs, inflation, higher costs of labor, insurance and healthcare, foreign exchange rates fluctuations, highertax rates and other changes in tax laws, changes in other laws and regulations and other economic factors in the United States can increase our cost of salesand operating, selling, general and administrative expenses, and otherwise adversely affect our operations and operating results. These factors affect not onlyour operations, but also the operations of suppliers from whom we purchase goods, a factor that can result in an increase in the cost to us of the goods we sellto our customers. 14Table of Contents We have a history of significant losses. If we do not achieve and maintain profitability, our financial condition and our stock price could suffer. We have a history of losses and we may continue to incur operating and net losses for the foreseeable future. We incurred net losses of $48.0 million and$12.7 million for the years ended December 31, 2007 and 2008. As of December 31, 2008, our accumulated deficit was $265.0 million. We will need togenerate significant revenues to achieve profitability, and we may not be able to do so. Even if we do achieve profitability, we may not be able to sustain orincrease profitability on a quarterly or annual basis in the future. If our revenues grow more slowly than we anticipate, or if our operating expenses exceed ourexpectations, our financial results would be harmed. We will continue to incur significant operating expenses and capital expenditures to: · enhance our distribution and order fulfillment capabilities; · further improve our order processing systems and capabilities; · develop enhanced technologies and features; · expand our customer service capabilities to better serve our customers’ needs; · expand or modify our product offerings; · occupy warehouse and office space; · increase our general and administrative functions to support our operations; and · maintain or increase our sales, branding and marketing activities, including maintaining existing or entering into new online marketing ormarketing analytics arrangements, and continuing or increasing our national television and radio advertising and direct mail campaigns. Because we will incur many of these expenses before we receive any revenues from our efforts, our losses may be greater than the losses we would incur ifwe developed our business more slowly. Further, we base our expenses in large part on our operating plans and future revenue projections. Many of ourexpenses are fixed in the short term, and we may not be able to quickly reduce spending if our revenues are lower than we project. Therefore, any significantshortfall in revenues would likely harm our business, prospects, operating results and financial condition. In addition, we may find that these efforts are moreexpensive than we currently anticipate which would further increase our losses. Also, the timing of these expenses may contribute to fluctuations in ourquarterly operating results. If we fail to accurately forecast our expenses and revenues, our business, operating results and financial condition may suffer and the price of oursecurities may decline. Our limited operating history and the rapidly evolving nature of our industry make forecasting operating results difficult. Since 2005, we havecompleted several large, complex and expensive infrastructure upgrades in order to increase our ability to handle larger volumes of sales and to develop orincrease our ability to perform a variety of analytical procedures relating to our business, and we are continuing the work to upgrade and further expand theseand other components of our infrastructure. We have experienced difficulties with the implementation of various aspects to the upgrades of our infrastructure,and have incurred increased expenses as a result of these difficulties. As a result of these expenditures, our ability to quickly reduce spending if our revenuesare lower than we project is limited. Therefore, any significant shortfall in the revenues for which we have built and are continuing to build our infrastructurewould likely harm our business, prospects, operating results and financial condition and cause our results of operation to fall below the expectations ofpublic market analysts and investors. The seasonality of our business places increased strain on our operations. We expect a disproportionate amount of our sales to occur during our fourth quarter. If we do not stock or restock popular products in sufficient amountssuch that we fail to meet customer demand, it could significantly affect our revenue and our future growth. If we liquidate products, we may be required totake significant inventory markdowns or write-offs, which could reduce gross profits. We may experience an increase in our net shipping cost due tocomplimentary upgrades, split-shipments, and additional long-zone shipments necessary to ensure timely delivery for the holiday season. If too manycustomers access our Website within a short period of time due to increased holiday demand, we may experience system interruptions that make our Websiteunavailable or prevent us from efficiently fulfilling orders, which may reduce the volume of goods we sell and the attractiveness of our products and services.In addition, we may be unable to adequately staff our fulfillment and customer service centers during these peak periods and delivery and other fulfillmentcompanies and customer service co-sourcers may be unable to meet the seasonal demand. 15Table of Contents We depend on our relationships with third party fulfillment partners for a large portion of the products that we offer for sale on our Website. If we failto maintain these relationships, our business will suffer. At December 31, 2008, we had fulfillment partner relationships with approximately 1,200 third parties whose products we offer for sale on our Website.We depend on our fulfillment partners to provide a large portion of the product selection we offer, as these products accounted for approximately 97% of thenon-BMMG products available on our Website. We plan to continue to expand the number of fulfillment partner relationships and the number of productsoffered for sale by our fulfillment partners on our Website. We do not have any long-term agreements with any of these third parties. Our agreements withthird parties are terminable at will by either party immediately upon notice. In general, we agree to offer the third parties’ products on our Website and thesethird parties agree to provide us with information about their products, honor our customer service policies and ship the products directly to the customer. Ifwe do not maintain our existing relationships or build new relationships with third parties on acceptable commercial terms, we may not be able to offer abroad selection of merchandise, and customers may refuse to shop at our Website. In addition, manufacturers may decide not to offer particular products forsale on the Internet. If we are unable to maintain our existing or build new fulfillment partner relationships or if other product manufacturers refuse to allowtheir products to be sold via the Internet, our business and prospects would suffer severely. We are dependent on third parties to fulfill a number of our fulfillment, distribution and other retail functions. If such parties are unwilling or unable tocontinue providing these services, our business could be seriously harmed. In our fulfillment partner business, although we handle returned merchandise, we rely on third parties to conduct a number of other traditional retailoperations with respect to their respective products that we offer for sale on our Website, including maintaining inventory, preparing merchandise forshipment to individual customers and timely distribution of purchased merchandise. We have no effective means to ensure that these third parties willcontinue to perform these services to our satisfaction or on commercially reasonable terms. In addition, because we do not take possession of these thirdparties’ products, we are unable to fulfill these traditional retail operations ourselves. Our customers could become dissatisfied and cancel their orders ordecline to make future purchases if these third parties are unable to deliver products on a timely basis. If our customers become dissatisfied with the servicesprovided by these third parties, our reputation and the Overstock.com brand could suffer. We rely on our relationships with manufacturers, retailers and other suppliers to obtain sufficient quantities of quality merchandise on acceptableterms. If we fail to maintain our supplier relationships on acceptable terms, our sales and profitability could suffer. To date, we have not entered into contracts with manufacturers or liquidation wholesalers that guarantee the availability of merchandise for a setduration. Our contracts or arrangements with suppliers do not provide for the continuation of particular pricing practices and may be terminated by eitherparty at any time. Our current suppliers may not continue to sell their excess inventory to us on current terms or at all and we may not be able to establish newsupply relationships. For example, it is difficult for us to maintain high levels of product quality and selection because none of the manufacturers, suppliersand liquidation wholesalers from whom we purchase products on a purchase order by purchase order basis have a continuing obligation to provide us withmerchandise at historical levels or at all. In most cases, our relationships with our suppliers do not restrict the suppliers from selling their respective excessinventory to other traditional or online merchandise liquidators, which could in turn limit the selection of products available on our Website. If we are unableto develop and maintain relationships with suppliers that will allow us to obtain sufficient quantities of merchandise on acceptable commercial terms, suchinability could harm our business, prospects, results of operation and financial condition. We depend upon third-party delivery services to deliver our products to our customers on a timely and consistent basis. Deterioration in ourrelationship with any one of these third parties could decrease our ability to track shipments, cause shipment delays, and increase our shipping costs andthe number of damaged products. We rely upon multiple third parties for the shipment of our products. We cannot be sure that these relationships will continue on terms favorable to us, ifat all. Unexpected increases in shipping costs or delivery times, particularly during the holiday season, could harm our business, prospects, financialcondition and results of operations. If our relationships with these third parties are terminated or impaired or if these third parties are unable to deliverproducts for us, whether through labor shortage, slow down or stoppage, deteriorating financial or business condition, responses to terrorist attacks or for anyother reason, we would be required to use alternative carriers for the shipment of products to our customers. In addition, conditions such as adverse weathercan prevent any carriers from performing their delivery services, which can have an adverse effect on our customers’ satisfaction with us. In any of thesecircumstances, we may be unable to engage alternative carriers on a timely basis, upon terms favorable to us, or at all. Changing carriers would likely have anegative effect on our business, prospects, operating results and financial condition. Potential adverse consequences include: · reduced visibility of order status and package tracking; · delays in order processing and product delivery; · increased cost of delivery, resulting in reduced gross profit percentages; and · reduced shipment quality, which may result in damaged products and customer dissatisfaction. 16Table of Contents A significant number of merchandise returns could harm our business, financial condition and results of operations. We allow our customers to return products. If merchandise returns are significant, our business, prospects, financial condition and results of operationscould be harmed. We modify our policies relating to returns from time to time and any policies intended to reduce the number of product returns may result incustomer dissatisfaction and fewer repeat customers. If the products that we offer on our Website do not reflect our customers’ tastes and preferences, our sales and profit margins would decrease. Our success depends in part on our ability to offer products that reflect consumers’ tastes and preferences. Consumers’ tastes are subject to frequent,significant and sometimes unpredictable changes. Because some of the products that we sell consist of manufacturers’ and retailers’ excess inventory, wehave limited control over some of the specific products that we are able to offer for sale. If our merchandise fails to satisfy customers’ tastes or respond tochanges in customer preferences, our sales could suffer and we could be required to mark down unsold inventory which would depress our profit margins. Inaddition, any failure to offer products in line with customers’ preferences could allow our competitors to gain market share. This could have an adverse effecton our business, prospects, results of operations and financial condition. We face risks relating to our inventory. We directly purchase some of the merchandise that we sell on our Website. We assume the inventory damage, theft and obsolescence risks, as well asprice erosion risks for products that we purchase directly. These risks are especially significant because some of the merchandise we sell on our Website ischaracterized by rapid technological change, obsolescence and price erosion (for example, computer hardware, software and consumer electronics) andbecause we sometimes make large purchases of particular types of inventory. In addition, we often do not receive warranties on the merchandise we purchase.We accept returns of products sold through our fulfillment partners and we have the risk of reselling the returned products. In the recent past we have recorded charges for obsolete inventory and have had to sell certain merchandise at a discount or loss. It is impossible todetermine with certainty whether an item will sell for more than the price we pay for it. To the extent that we rely on purchased inventory, our success willdepend on our ability to liquidate our inventory rapidly, the ability of our buying staff to purchase inventory at attractive prices relative to its resale valueand our ability to manage customer returns and the shrinkage resulting from theft, loss and misrecording of inventory. If we are unsuccessful in any of theseareas, we may be forced to sell our inventory at a discount or loss. We purchase inventory from foreign markets and pay for inventory with U.S. dollars. If the dollar weakens with respect to foreign currencies, foreignvendors may require us to pay higher prices for products, which could negatively affect our gross profit percentage. If we do not successfully optimize and operate our warehouse and customer service operations, our business could be harmed. If we do not successfully optimize and operate our warehouse and customer service operations, it could significantly limit our ability to meet customerdemand. Because it is difficult to predict demand, we may not manage our facilities in an optimal way, which may result in excess or insufficient inventory orwarehousing capacity. We may be unable to adequately staff our fulfillment and customer service centers. In addition, we rely on a limited number ofcompanies to deliver inventory to us and to ship orders to our customers. If we are not able to negotiate acceptable terms with these companies, or theyexperience performance problems or other difficulties, it could negatively impact our operating results and customer experience. The loss of key personnel or any inability to attract and retain additional personnel could affect our ability to successfully grow our business. Our performance is substantially dependent on the continued services and on the performance of our senior management and other key personnel,including Patrick M. Byrne, our Chief Executive Officer. Our performance also depends on our ability to retain and motivate other officers and keyemployees. The loss of the services of any of our executive officers or other key employees for any unforeseen reason, including without limitation, illness orcall to military service, could harm our business, prospects, financial condition and results of operations. We do not have employment agreements with any ofour key personnel and we do not maintain “key person” life insurance policies. Our future success also depends on our ability to identify, attract, hire, train,retain and motivate other highly-skilled technical, managerial, editorial, merchandising, marketing and customer service personnel. Competition for such 17Table of Contents personnel is intense, and we cannot assure you that we will be able to successfully attract, assimilate or retain sufficiently qualified personnel. Our failure toretain and attract the necessary technical, managerial, editorial, merchandising, marketing and customer service personnel could harm our revenues, business,prospects, financial condition and results of operations. We have an evolving business model. Our business model has evolved and continues to do so. In the past we have added additional types of services and product offerings and in some cases,we have modified or discontinued those offerings. We may continue to try to offer additional types of products or services and we cannot offer any assurancethat any of them will be successful. From time to time we have also modified aspects of our business model relating to our product mix and the mix ofdirect/fulfillment partner sourcing of the products we offer. We may continue to modify this aspect of our business as well as other significant aspects of ourbusiness. We cannot offer any assurance that these or any other modifications will be successful. We may be unable to manage expansion into new business areas which could harm our business operations and reputation. Our long-term strategic plan involves expansion of our operations to offer additional types of products and services. We cannot assure you that ourefforts to expand our business in this manner will succeed. Our failure to succeed in these markets or businesses or in other product or service offerings mayharm our business, prospects, financial condition and results of operation. We cannot assure you that we will be able to expand our operations in a cost-effective or timely manner or that our efforts to expand will be successful. Furthermore, any new business or website we launch that is not favorably receivedby consumers could damage our reputation or the Overstock.com brand. We may expand the number of categories of products we carry on our Website andthese and any other expansions of our operations would also require significant additional expenses and development and would strain our management,financial and operational resources. The lack of market acceptance of such efforts or our inability to generate satisfactory revenues from such expandedservices or products to offset their cost could harm our business, prospects, financial condition and results of operations. We are expanding our international business, causing our business to become increasingly susceptible to numerous international business risks andchallenges that could affect our profitability. We have begun selling products in international markets, and in the future we may expand into these markets more aggressively. International sales andtransactions are subject to inherent risks and challenges that could adversely affect our profitability, including: · the need to develop new supplier and manufacturer relationships;· the need to comply with additional U.S. and foreign laws and regulations to the extent applicable, including but not limited to, restrictions onadvertising practices, regulations governing online services, restrictions on importation of specified or proscribed items, importation quotas,consumer protection laws, enforcement of intellectual property rights, laws dealing with consumer and data protection, privacy, encryption, andrestrictions on pricing or discounts; and· unexpected changes in international regulatory requirements, taxes and tariffs, and geopolitical events such as war and terrorist attacks. To the extent we generate international sales and transactions in the future, any negative impact on our international operations could negatively impactour business. In particular, gains and losses on the conversion of foreign payments into United States dollars may contribute to fluctuations in our results ofoperations and fluctuating exchange rates could cause reduced gross revenues and/or gross profit percentages from non-dollar-denominated internationalsales. In order to obtain future revenue growth and achieve and sustain profitability, we will have to attract and retain customers on cost-effective terms. Our success depends on our ability to attract and retain customers on cost-effective terms. We have relationships with online services, search engines,affiliate marketing websites, directories and other Website and e-commerce businesses to provide content, advertising banners and other links that directcustomers to our Website. We rely on these relationships as significant sources of traffic to our Website and to generate new customers. If we are unable todevelop or maintain these relationships on acceptable terms, our ability to attract new customers and our financial condition could be harmed. If theunderlying technology’s development evolves in a manner that is no longer beneficial to us our financial condition could be harmed. In addition, certain ofour online marketing agreements may require us to pay upfront fees and make other payments prior to the realization of the sales, if any, associated with thosepayments. Accordingly, if these relationships or agreements that we may enter into in the future fail to produce the sales that we anticipate, our results ofoperations will be adversely affected. We cannot assure you that we will be able to increase our revenues, if at all, in a cost-effective manner. We periodicallyconduct national television and radio branding and advertising campaigns. Such campaigns are expensive and may not result in the cost effective acquisitionof customers. Further, many of the parties with which we may have online-advertising arrangements could provide advertising services for other online or traditionalretailers and merchandise liquidators. As a result, these parties may be reluctant to enter into or maintain 18Table of Contents relationships with us. Failure to achieve sufficient traffic or generate sufficient revenue from purchases originating from third parties may result in terminationof these relationships by these third parties. Without these relationships, our revenues, business, prospects, financial condition and results of operations couldsuffer. We may not be able to compete successfully against existing or future competitors. The online liquidation services market is rapidly evolving and intensely competitive. Barriers to entry are minimal, and current and new competitors canlaunch new Websites at a relatively low cost. Our consumer Website currently competes with: · liquidation e-tailers such as SmartBargains; · online retailers with discount departments such as Amazon.com, Inc., eBay, Inc. and Buy.com, Inc.; and · online specialty retailers such as BlueNile and BackCountry; and · traditional retailers and liquidators such as Ross Stores, Inc., Walmart Stores, Inc., TJX Companies, Inc., Costco Wholesale Corporation, TargetCorporation, Best Buy Co., Inc., and Barnes and Noble, Inc., most of which also have an online presence. Our Website competes with liquidation “brokers” and retailers and online marketplaces such as eBay, Inc. We expect the online liquidation services market to become even more competitive as traditional liquidators and online retailers continue to developservices that compete with our services. In addition, manufacturers and retailers may decide to create their own Website to sell their own excess inventory andthe excess inventory of third parties. Competitive pressures created by any one of our competitors, or by our competitors collectively, could harm ourbusiness, prospects, financial condition and results of operations. Further, as a strategic response to changes in the competitive environment, we may from time to time make certain pricing, service or marketing decisionsor acquisitions that could harm our business, prospects, financial condition and results of operations. For example, to the extent that we enter new lines ofbusinesses such as third-party logistics, or discount brick and mortar retail, we would be competing with large established businesses such as APL Logistics,and Ltd., Ross Stores, Inc., respectively. We have recently entered the online auctions and car listing businesses in which we compete with large establishedbusinesses including eBay, Inc. and AutoTrader.com, Inc. Many of our current and potential competitors described above have longer operating histories, larger customer bases, greater brand recognition andsignificantly greater financial, marketing and other resources than we do. In addition, online retailers and liquidation e-tailers may be acquired by, receiveinvestments from or enter into other commercial relationships with larger, well-established and well-financed companies. Some of our competitors may beable to secure merchandise from manufacturers on more favorable terms, devote greater resources to marketing and promotional campaigns, adopt moreaggressive pricing or inventory availability policies and devote substantially more resources to Website and systems development than we do. Increasedcompetition may result in reduced operating margins, loss of market share and a diminished brand franchise. We cannot provide assurance that we will beable to compete successfully against current and future competitors. Our operating results depend on our Website, network infrastructure and transaction-processing systems. Capacity constraints or system failures wouldharm our business, prospects, results of operations and financial condition. Any system interruptions that result in the unavailability of our Website or reduced performance of our transaction systems would reduce our transactionvolume and the attractiveness of the services that we provide to suppliers and third parties and would harm our business, prospects, operating results andfinancial condition. We use internally developed systems for our Website and certain aspects of transaction processing, including customer profiling and order verifications.We have experienced periodic systems interruptions due to server failure and power failure, which we believe will continue to occur from time to time. If thevolume of traffic on our Website or the number of purchases made by customers substantially increases, we will need to further expand and upgrade ourtechnology, transaction processing systems and network infrastructure. We have experienced and expect to continue to experience temporary capacityconstraints due to sharply increased traffic during sales or other promotions and during the holiday shopping season. Capacity constraints can causeunanticipated system disruptions, slower response times, and degradation in levels of customer service, impaired quality and delays in reporting accuratefinancial information. Our transaction processing systems and network infrastructure may be unable to accommodate increases in traffic in the future. We may be unable toproject accurately the rate or timing of traffic increases or successfully upgrade our systems and infrastructure to accommodate future traffic levels on ourWebsite. In addition, we may be unable to upgrade and expand our transaction processing systems in an effective and timely manner or to integrate anynewly developed or purchased functionality with our existing systems. For example, in the third quarter 2005 we experienced difficulties with ourimplementation of infrastructure upgrades, which resulted 19Table of Contents in our inability to upload new products to our Website for a period of approximately five weeks. Any such difficulties with our transaction processingsystems or other difficulties upgrading, expanding or integrating various aspects of our systems may cause unanticipated system disruptions, slower responsetimes, and degradation in levels of customer service, additional expense, impaired quality and speed of order fulfillment or delays in reporting accuratefinancial information. If the facility where substantially all of our computer and communications hardware is located fails, our business, results of operations and financialcondition will be harmed. Our success, and in particular, our ability to successfully receive and fulfill orders and provide high-quality customer service, largely depends on theefficient and uninterrupted operation of our computer and communications systems. Substantially all of our computer and communications hardware islocated at a single co-location facility in Salt Lake City, Utah, with a partially redundant back-up system located near our corporate headquarters in Salt LakeCity. Although we have designed our back-up system in an effort to avoid or minimize service interruptions in the event of a failure of our main facility, oursystems and operations are vulnerable to damage or interruption from fire, flood, power loss, telecommunications failure, terrorist attacks, acts of war, break-ins, earthquake and similar events. Our disaster recovery plan may be inadequate, and our business interruption insurance may be insufficient to compensateus for losses that may occur. Despite the implementation of network security measures, our servers are vulnerable to computer viruses, physical or electronicbreak-ins and similar disruptions, which could lead to interruptions, delays, loss of critical data or the inability to accept and fulfill customer orders. Theoccurrence of any of the foregoing risks could harm our business, prospects, financial condition and results of operations. We may be unable to protect our proprietary technology or keep up with that of our competitors. Our success depends to a significant degree upon the protection of our software and other proprietary intellectual property rights. We may be unable todeter misappropriation of our proprietary information, detect unauthorized use and take appropriate steps to enforce our intellectual property rights. Inaddition, our competitors could, without violating our proprietary rights, develop technologies that are as good as or better than our technology. Our failure to protect our software and other proprietary intellectual property rights or to develop technologies that are as good as our competitors’ couldput us at a disadvantage to our competitors. In addition, the failure of the third parties whose products we offer for sale on our Website to protect theirintellectual property rights, including their domain names, could impair our operations. These failures could harm our business, results of operations andfinancial condition. We may be accused of infringing intellectual property rights of third parties. Other parties also may claim that we infringe their intellectual property rights. We have been and are subject to, and expect to continue to be subject to,legal claims of alleged infringement of the intellectual property rights of third parties. The ready availability of damages, royalties and the potential forinjunctive relief has increased the defense litigation costs of patent infringement claims, especially those asserted by third parties whose sole or primarybusiness is to assert such claims. Such claims, whether or not meritorious, may result in significant expenditure of financial and managerial resources, and thepayment of damages or settlement amounts. Additionally, we may become subject to injunctions prohibiting us from using software or business processes wecurrently use or may need to use in the future, or requiring us to obtain licenses from third parties when such licenses may not be available on financiallyfeasible terms or terms acceptable to us or at all. In addition, we may not be able to obtain on favorable terms, or at all, licenses or other rights with respect tointellectual property we do not own in providing e-commerce services to other businesses and individuals under commercial agreements. If we do not respond to rapid technological changes, our services could become obsolete and we could lose customers. To remain competitive, we must continue to enhance and improve the functionality and features of our e-commerce businesses. We may face materialdelays in introducing new services, products and enhancements. If this happens, our customers may forgo the use of our Website and use those of ourcompetitors. The Internet and the online commerce industry are rapidly changing. If competitors introduce new products and services using new technologiesor if new industry standards and practices emerge, our existing Website and our proprietary technology and systems may become obsolete. Our failure torespond to technological change or to adequately maintain, upgrade and develop our computer network and the systems used to process customers’ ordersand payments could harm our business, prospects, financial condition and results of operations. We may not be able to obtain trademark protection for our marks, which could impede our efforts to build brand identity. We have filed trademark applications with the Patent and Trademark Office seeking registration of certain service marks and trademarks. There can be noassurance that our applications will be successful or that we will be able to secure significant protection for our service marks or trademarks in the UnitedStates or elsewhere as we expand internationally. Our competitors or others could adopt product or service marks similar to our marks, or try to prevent usfrom using our marks, thereby impeding our ability to build 20Table of Contents brand identity and possibly leading to customer confusion. Any claim by another party against us or customer confusion related to our trademarks, or ourfailure to obtain trademark registration, could negatively affect our business. We may not be able to enforce protection of our intellectual property rights under the laws of other countries. As we begin to sell products internationally, we are subject to risks of doing business internationally as related to our intellectual property, including: · legal uncertainty regarding liability for the listings and other content provided by our users, including uncertainty as a result of less Internet-friendly legal systems, unique local laws, and lack of clear precedent or applicable law; and · differing intellectual property laws, which may provide insufficient protection for our intellectual property. Our business and reputation may be harmed by the listing or sale of pirated, counterfeit or illegal items by third parties, and by intellectual propertylitigation. We have received in the past, and we anticipate we will receive in the future, communications alleging that certain items listed or sold through ourWebsite infringe third-party copyrights, trademarks and trade names or other intellectual property rights or that we have otherwise infringed third parties’past, current or future intellectual property rights. We may be unable to prevent third parties from listing unlawful goods, and we may be subject to allegations of civil or criminal liability for unlawfulactivities carried out by third parties through our Website. In the future, we may implement measures to protect against these potential liabilities that couldrequire us to spend substantial resources and/or to reduce revenues by discontinuing certain service offerings. Any costs incurred as a result of liability orasserted liability relating to the sale of unlawful goods or the unlawful sale of goods could harm our revenues, business, prospects, financial condition andresults of operations. Resolving litigation or claims regarding patents or other intellectual property, whether meritorious or not, could be costly, time-consuming, causeservice delays, divert our management and key personnel from our business operations, require expensive or unwanted changes in our methods of doingbusiness or require us to enter into costly royalty or licensing agreements, if available. As a result, these claims could harm our business. Negative publicity generated as a result of the foregoing could damage our reputation, harm our business and diminish the value of our brand name. Our Rocker Partners, L.P. litigation may have an adverse effect on our business and financial condition. In August 2005, we filed an unfair business practice lawsuit against Gradient Analytics, Rocker Partners, LP and others, alleging that the defendants haveconspired to denigrate Overstock’s business for personal profit. In October 2005, we filed an amended complaint alleging additional causes of action andarticulating in greater detail the allegations against the defendants. In November 2007, Copper River Partners, L.P. (formerly known as Rocker Partners, LP)filed a cross-complaint against us and some of our current and former directors. Though the cross-claims against other current and former directors weredismissed, the cross claims against us and Dr. Byrne remain. Dr. Patrick Byrne has appeared on nationally syndicated television programs and elsewhere todiscuss the litigation. The use of management’s time and attention and the Company’s resources in connection with the litigation and related matters mayreduce the time and attention management is able to spend on or give to other aspects of our business, which may have adverse effects on other aspects of ourbusiness. In addition, the use of the Company’s resources in connection with the litigation and related matters may reduce the resources we are able to spendon or give to other aspects of our business, which may have adverse effects on other aspects of our business. To the extent that any such adverse effectsexceed any benefits we may realize from pursuing the litigation, our business, prospects, financial condition and results of operation may suffer. We havesettled, and dismissed, our claims against and by Gradient. If we are unsuccessful in defeating the remaining cross-claims, we may incur damages which maynot be covered by existing insurance or may not be within policy limits which could adversely impact our financial condition. Our Prime Broker litigation may have an adverse effect on our business and financial condition. In February 2007, along with five shareholder plaintiffs, we filed a lawsuit in the Superior Court of California, County of San Francisco against MorganStanley & Co. Incorporated, Goldman Sachs & Co., Bear Stearns Companies, Inc., Bank of America Securities LLC, Bank of New York, Citigroup Inc., CreditSuisse (USA) Inc., Deutsche Bank Securities, Inc., Merrill Lynch, Pierce, Fenner & Smith, Inc., and UBS Financial Services, Inc. In September 2007, we filedan amended complaint adding Lehman Brothers, Inc. as an additional defendant and articulating in greater detail the allegations against the defendants. Theuse of management’s time and attention in connection with the litigation and related matters may reduce the time management is able to spend on otheraspects of our business, which may have adverse effects on other aspects of our business. To the extent that any such adverse effects exceed any benefits wemay realize from pursuing the litigation, our business, prospects, financial condition and 21Table of Contents results of operation may suffer. Further, the bankruptcy filing by Lehman Brothers may adversely affect our ability to collect any judgment we may obtainagainst Lehman. We may be liable if third parties misappropriate our customers’ personal information. If third parties are able to penetrate our network security or otherwise misappropriate our customers’ personal information or credit card information, or ifwe give third parties improper access to our customers’ personal information or credit card information, we could be subject to liability. This liability couldinclude claims for unauthorized purchases with credit card information, impersonation or other similar fraud claims or damages for alleged violations of stateor federal laws governing security protocols for the safekeeping of customers’ personal or credit card information. This liability could also include claims forother misuses of personal information, including unauthorized marketing purposes. These claims could result in litigation. Liability for misappropriation ofthis information could adversely affect our business. In addition, the Federal Trade Commission and state agencies have been investigating various Internetcompanies regarding their use of personal information. We could incur additional expenses if new regulations regarding the use of personal information areintroduced or if government agencies investigate our privacy practices. We rely on encryption and authentication technology licensed from third parties to provide the security and authentication necessary to effect securetransmission of confidential information such as customer credit card numbers. We cannot provide assurance that advances in computer capabilities, newdiscoveries in the field of cryptography or other events or developments will not result in a compromise or breach of the algorithms that we use to protectcustomer transaction data. If any such compromise of our security were to occur, it could harm our reputation, business, prospects, financial condition andresults of operations. A party who is able to circumvent our security measures could misappropriate proprietary information or cause interruptions in ouroperations. We may be required to expend significant capital and other resources to protect against such security breaches or to alleviate problems caused bysuch breaches. We cannot assure you that our security measures will prevent security breaches or that failure to prevent such security breaches will not harmour business, prospects, financial condition and results of operations. We may be subject to product liability claims that could be costly and time consuming. We sell products manufactured for us by third parties, some of which may be defective. If any product that we sell were to cause physical injury or injuryto property, the injured party or parties could bring claims against us as the manufacturer and/or retailer of the product. Our insurance coverage may not beadequate to cover every claim that could be asserted. If a successful claim were brought against us in excess of our insurance coverage, it could adverselyaffect our business. Even unsuccessful claims could result in the expenditure of funds and management time and could have a negative impact on ourbusiness. We have significant indebtedness. As a result of the sale of our 3.75% Convertible Senior Notes (the “Senior Notes”) in November 2004, we incurred $120.0 million of indebtedness, dueDecember 1, 2011. Under the repurchase program approved by our Board of Directors in 2005, we retired $33.0 million and $10.0 million of the Senior Notesin June and November 2005, and $9.5 million during the quarter ended September 30, 2008. As of December 31, 2008, $67.5 million of the Senior Notesremained outstanding. On February 17, 2009, our Board of Directors approved a debt repurchase program that authorizes us to utilize up to $20.0 million torepurchase a portion of its 3.75% Senior Notes. Under this repurchase program, we retired $4.9 million of the Senior Notes for $3.0 million in cash. As aresult of the Senior Notes retirements, we expect to recognize a gain of $1.9 million, net of the associated unamortized discount of $63,000 (see Item 15 ofPart IV, “Financial Statements” —Note 17 —“Stock and Debt Repurchase Program”). The degree to which we are leveraged could materially and adverselyaffect our ability to obtain additional financing for working capital, acquisitions or other purposes and could make us more vulnerable to industry downturnsand competitive pressures. Our ability to meet our debt service obligations is dependent upon our future performance, which will be subject to financial,business and other factors affecting our operations, many of which are beyond our control. If we fail to comply with our debt covenants, we will be in default. We may be unable to generate sufficient cash flow to satisfy our debt service obligations. Our ability to generate cash flow from operations to make interest payments on our debt obligations will depend on our future performance, which willbe affected by a range of economic, competitive and business factors. We cannot control many of these factors, including general economic conditions andthe health of the internet retail industry. If our operations do not generate sufficient cash flow from operations to satisfy our debt service obligations, we mayneed to borrow additional funds to make these payments or undertake alternative financing plans, such as refinancing or restructuring our debt, or reducing ordelaying capital investments and acquisitions. Additional funds or alternative financing may not be available to us on acceptable terms, or at all. Ourinability to generate sufficient cash flow from operations or obtain additional funds or alternative financing on acceptable terms could have a materialadverse effect on our business, prospects, financial condition and results of operations. We may have difficulty during the current economic turmoil. In the current volatile credit market, there is risk that any lenders, even those with strong balance sheets and sound lending practices, could fail or refuseto honor their legal commitments and obligations under existing credit commitments, including but not limited to: extending credit up to the maximumpermitted by a credit facility, allowing access to additional credit features and 22Table of Contents otherwise accessing capital and/or honoring loan commitments. Our lender on our credit facility is Wells Fargo. If our lender fails to honor its legalcommitments under our credit facility, it could be difficult in this environment to replace our credit facility on similar terms. We believe that continued turmoil in the financial markets may lead to general economic weakness, which could have a negative impact on ourbusiness. Due to the recent economic developments seen nationally that have adversely impacted the retail industry, liquidation wholesalers and discountretailers have also been under competitive pressure from large national retailers seeking either to liquidate inventory as they go out of business or steeplydiscounting inventory to mitigate losses as of the end of the year. This resulting margin pressure is anticipated to not be sustainable as brick-and-mortarstores clear out excess inventory in their supplies chains and adjust their business model for the changes in the economy. Our suppliers, fulfillment partners or key third party vendors of necessary services and technical systems may encounter difficulty with credit or liquidityin their own businesses, which may adversely affect ours. Risks Relating to our Auctions Site Business Our auctions business is a new business. Our auctions business began operation in September 2004. The online auctions business is a relatively new business for us, and we cannot ensure thatour expansion into the online auctions business will succeed. Our entry into the online auctions business will require us to devote substantial financial,technical, managerial and other resources to the business. It will also expose us to additional risks, including legal and regulatory risks, and it will require usto compete with established businesses having substantially greater experience in the online auctions business and substantially greater resources than wehave. Our auctions business may be subject to a variety of regulatory requirements. Many states and other jurisdictions, including Utah, where our company is located, have regulations governing the conduct of traditional “auctions” andthe liability of traditional “auctioneers” in conducting auctions. Although the vast majority of these regulations clearly contemplated only traditionalauctions, not online auctions, the potential application of these types of regulations to online auction sites is not clear. We are aware that several states andsome foreign jurisdictions have attempted to impose such regulations on other companies operating online auction sites or on the users of those sites. Inaddition, certain states have laws or regulations that do expressly apply to online auction site services. Although we do not expect these laws to have asignificant effect on our auction site business, we will incur costs in complying with these laws, and we may from time to time be required to make changes inour business that may increase our costs, reduce our revenues, cause us to prohibit the listing of certain items in certain locations, or make other changes thatmay adversely affect our auctions business. Current and future laws could affect our auctions business. Like our shopping site business, our auction site business is subject to the same laws and regulations that apply to other companies conducting businesson and off the Internet. In addition, our auction site business may be affected by other laws and regulations, such as those that expressly apply to onlineauction site services. Further, because of the wide range of items that users of our auctions service may choose to list on the site, a variety of additional lawsand regulations may apply to transactions between users of our site, such as those requiring a license to sell or purchase certain items or mandating particulardisclosures in connection with an offer or sale of an item. At least one state recently proposed legislation that sought to prohibit the sale of certain itemsthrough internet auction without similar application of the law to traditional retail establishments, online or printed classified advertising publications, orother types of sales list services. To the extent that such current or future laws or regulations prevent or inhibit users from selling items on our auction site, orto the extent these laws discriminate against internet auctions or apply in a discriminatory fashion, they could harm our business. Our business may be harmed if our auctions business is used for unlawful transactions. The law regarding the potential liability of an online auction service for the activities of its users is not clear. We prohibit the listing of numerouscategories of items in an effort to reduce the possibility that users of our auction site will engage in an unlawful transaction. However, we cannot assure thatusers of the site will comply with all laws and regulations applicable to them and their transactions, and we may be subject to allegations of civil or criminalliability for any unlawful activities conducted by them. Any costs we incur as a result of any such allegations, as a result of actual or alleged unlawfultransactions utilizing our site, or in our efforts to prevent any such transactions, may harm our business. In addition, any negative publicity we receiveregarding any such transactions or allegations may damage our reputation, our ability to attract new customers to our main shopping site, and theOverstock.com brand name generally. 23Table of Contents Fraudulent activities using our auctions business and disputes between users of our auctions business may harm our business. We are aware that other companies operating online auction services have periodically received complaints from users alleging that they have notreceived the purchase price or the goods they expected to receive and that, in some cases, users have been arrested and convicted for engaging in fraudulentactivities using those companies’ auction sites. We may receive similar complaints. We do not have the ability to require users of our services to fulfill theirobligations to make payments or to deliver items. We are aware that other companies periodically receive complaints from buyers about the quality of theitems they purchase, requests for reimbursement of amounts paid, and communications threatening or commencing legal actions against them. We mayreceive similar complaints, requests and communications in connection with our auctions business. We are subject to risks associated with information transmitted through our auctions service. The law relating to the liability of online services companies for information carried on or disseminated through their services is currently unsettled.Claims could be made against online services companies under both U.S. and foreign law for defamation, libel, invasion of privacy, negligence, copyright ortrademark infringement, or other theories based on the nature and content of the materials disseminated through their services. We are aware that privatelawsuits seeking to impose liability under a number of these theories have been brought against other companies operating auction sites. In addition,domestic and foreign legislation has been proposed that would prohibit or impose liability for the transmission over the Internet of certain types ofinformation. Our auctions service permits users to make comments regarding other users. Although all such comments are generated by users and not by us,we are aware that claims of defamation or other injury have been made against other companies operating auction services in the past and could be made inthe future against us for comments made by users. Recent court decisions have narrowed the scope of the immunity provided to Internet service providers likeus under the Communications Decency Act. This trend, if continued, may increase our potential liability to third parties for the user-provided content on oursite. Difficulties or negative publicity associated with our auctions business could affect our main shopping site business. Any significant operational or other difficulties we encounter with our auctions business could damage our reputation, our ability to attract newcustomers to our main shopping site, and the Overstock.com brand name generally. Negative publicity resulting from actual or alleged fraudulent ordeceptive conduct by users of our auctions business could also damage our reputation, our ability to attract new customers to our main shopping site, and theOverstock.com brand name generally. Risks Relating to our Cars Site and Real Estate Businesses Our cars site and real estate businesses are new businesses. Our car listing site and real estate listing businesses began operation in December 2006 and August 2008, respectively. The listing sites are listingservices for automobile and real estate sellers. The online car listing service and real estate listing service are relatively new businesses for us. We cannotensure that our expansion into these businesses will succeed. Our entry into these businesses will require us to devote substantial financial, technical,managerial and other resources to this car listing and real estate listing sites. It will also expose us to additional risks, including legal and regulatory risks,and it will require us to compete with established businesses having substantially greater experience in the online car listing and real estate listing servicebusinesses and substantially greater resources than we have. Our car listing and real estate listing businesses may be subject to a variety of regulatory requirements. Many states and other jurisdictions, including Utah, where we are located, have regulations governing the conduct of car sellers and real estate agentsand public advertisement for car and real estate sales. Generally, these regulations govern the conduct of those sellers advertising their automobiles for saleand real estate listing for sale and are not directly applicable to those providing the medium through which the advertisement is made available to the public.Sellers are often subject to regulations in the nature of “truth in advertising laws.” The application of these regulations to online car listing service and realestate listing providers is not clear. Although we do not expect these laws to have a significant effect on our listing businesses, we will incur costs inresearching and complying with these laws, and we may from time to time be required to make changes in our businesses that may increase our costs, reduceour revenues, cause us to prohibit certain listing or advertising practices, or make other changes that may adversely affect our car and real estate listingbusinesses. Current and future laws could affect our car and real estate listing businesses. Like our shopping business, our car and real estate listing services are subject to the same laws and regulations that apply to other companies conductingbusiness on and off the Internet. In addition, our car and real estate listing services may be affected by other laws and regulations, such as those that expresslyapply to advertising automobiles and real estate for sale. To the extent that such current or future laws or regulations prevent users from selling items on ourcar and real estate listing sites, they could harm our business. 24Table of Contents Our business may be harmed if our car and real estate listing sites are used for unlawful transactions. The law regarding the potential liability of an online listing service for automobile sales and real estate is not clear. The platform of the listing servicewill be accessible to those subscribers who will have the ability to feature their cars and real estate listings for sale and will supply the text descriptions of thevehicles, including the general condition of the vehicle and property and other important information. We will have no ability beforehand to know if theinformation sellers provide is correct. While our site terms and conditions of usage will prohibit unlawful acts, we cannot rule out the possibility that users ofour car and real estate listing sites will engage in unlawful transactions, or fail to comply with all laws and regulations applicable to them and theirtransactions. We may be subject to allegations of civil or criminal liability for any unlawful activities conducted by such users. Any costs we incur as a resultof any such allegations, as a result of actual or alleged unlawful transactions utilizing our site, or in our efforts to prevent any such transactions, may harm ourbusiness. In addition, any negative publicity we receive regarding any such transactions or allegations may damage our reputation, our ability to attract newcustomers to our main shopping site, and the Overstock.com brand name generally. Fraudulent activities using our car and real estate listing sites and disputes between users of our car and real estate listing sites may harm our business. We are aware that other companies operating online car and real estate listing services have periodically received complaints from users allegingimproprieties in connection with listings and occasionally these complaints may result in regulatory action. With any online listing service there is thepossibility that sellers may attempt to employ “bait and switch” techniques, attracting consumers with advertisements of low cost, good condition vehicles inhopes of switching buyer interest to another less favorable vehicle or different property once a potential purchaser responds. Additionally, sellers mayattempt to sell vehicles and real estate without accurate descriptions of the condition of the vehicles or real estate. We do not have the ability to require usersof our services to fulfill their obligations to make accurate disclosures or comply with consumer laws prohibiting “bait and switch” or other prohibited sellertactics. We are aware that other companies providing similar services periodically receive complaints about the quality of the vehicles or real estate theypurchase, requesting reimbursement of amounts they have paid, threatening or commencing legal actions against the listing service for damages. We mayreceive similar complaints, requests and communications, and encounter similar legal actions in connection with our cars and real estate listing businesses,which may harm our business or reputation among consumers. Risks Relating to our Community Site Business Our community site business is a new business Our Community site began operation in February 2006 with the introduction of Omuse, an Overstock supported, collaborative writing platform. Omuseallows Community site users to read about and or write “guides” about a universe of subjects in which they may have a particular expertise or interest. TheCommunity site when fully deployed will also have services intended to establish user forum participation, provide customers access to recent news aboutOverstock and allow users the opportunity to participate in forum reading and writing, to create weblogs or post comments to the weblogs or “blogs” of othersite users, or in our Omuse collaborative writing platform. Presently Omuse is the only operating platform on the Community site. We cannot ensure that ourexpansion into this business will succeed. It is a business which allows persons to contribute content within certain guidelines and subject to terms andconditions. We cannot always be in a position to assure that our community users are abiding by these terms and conditions, or be in a position to interdict orremove inappropriate or infringing material. Our entry into this business will require us to devote substantial financial, technical, managerial and otherresources to this site. It is uncertain whether we will benefit financially from the Community site. The Community site will also expose us to additional risks,including legal and regulatory risks, including, but not limited to, legal actions for possible intellectual property infringement, and claims for libel.Additionally, our entry into the Community site service will require us to compete with established businesses having substantially greater experience in theCommunity site service business and which have substantially greater resources than we have. Risks Relating to the Internet Industry Our success is tied to the continued use of the Internet and the adequacy of the Internet infrastructure. Our future revenues and profits, if any, substantially depend upon the continued widespread use of the Internet as an effective medium of business andcommunication. Factors which could reduce the widespread use of the Internet include: · actual or perceived lack of security of information or privacy protection; · possible disruptions, computer viruses or other damage to the Internet servers or to users’ computers; · significant increases in the costs of transportation of goods; and · governmental regulation. 25Table of Contents Customers may be unwilling to use the Internet to purchase goods. Our long-term future depends heavily upon the general public’s willingness to use the Internet as a means to purchase goods. E-commerce remains arelatively new concept and large numbers of customers may not begin or continue to use the Internet to purchase goods. The demand for and acceptance ofproducts sold over the Internet are highly uncertain and most e-commerce businesses have a short track record. If consumers are unwilling to use the Internetto conduct business, our business may not develop profitably. The security risks or perception of risks of e-commerce may discourage customers from purchasing goods from us. In order for the e-commerce market to develop successfully, we and other market participants must be able to transmit confidential information securelyover public networks. Third parties may have the technology or know-how to breach the security of customer transaction data. Any breach could causecustomers to lose confidence in the security of our Website and choose not to purchase from our Website. If someone is able to circumvent our securitymeasures, he or she could destroy or steal valuable information or disrupt our operations. Concerns about the security and privacy of transactions over theInternet could inhibit the growth of the Internet and e-commerce. Our security measures may not effectively prohibit others from obtaining improper access toour information. Third parties may target our customers directly with fraudulent identity theft schemes designed to appear as legitimate communications fromus. Any security breach or fraud perpetrated on our customers could expose us to increased costs and to risks of loss, litigation and liability and couldseriously disrupt our operations. Credit card fraud could adversely affect our business. We routinely receive orders placed with fraudulent credit card data. We do not carry insurance against the risk of credit card fraud, so the failure toadequately control fraudulent credit card transactions could reduce our net revenues and our gross profit percentage. We have implemented technology tohelp us detect the fraudulent use of credit card information. However, we may in the future suffer losses as a result of orders placed with fraudulent credit carddata even though the associated financial institution approved payment of the orders. Under current credit card practices, we may be liable for fraudulentcredit card transactions because we do not obtain a cardholder’s signature. If we are unable to detect or control credit card fraud, our liability for thesetransactions could harm our business, results of operation or financial condition. If one or more states successfully assert that we should collect sales or other taxes on the sale of our merchandise or the merchandise of third partiesthat we offer for sale on our Website, our business could be harmed. We do not currently collect sales or other similar taxes for physical shipments of goods into states other than Utah. One or more local, state or foreignjurisdictions may seek to impose sales tax collection obligations on us because we are engaged in online commerce, even though we have no physicalpresence in those jurisdictions. The future location of our fulfillment centers and customer service center networks, or any other operation of the company,establishing a physical presence in states where we are not now present, may result in additional sales and other tax obligations. We challenged theconstitutionality of a New York state law which requires internet retailers to collect and remit New York sales taxes on their New York sales, even if the sellerhas no New York tax “nexus” other than with New York based independent contractors who are internet advertising affiliates. The trial court dismissed ourchallenge and we are appealing the dismissal. As a result of the enactment of the New York law, we terminated our relationship with New York basedadvertizing affiliates. Several other states currently have legislative proposals similar to New York’s tax law, and if such laws are evaluated andconstitutionally upheld, we may have to elect to discontinue in those states valuable marketing through the use of affiliates based in those states, or begin inthose states the collection of the taxes. In either event, our business could be harmed and our business could be adversely affected if one or more states or anyforeign country successfully asserts that we should collect sales or other taxes on the sale of our merchandise in compliance with these or any other state law. Existing or future government regulation could harm our business. We are subject to the same federal, state and local laws as other companies conducting business on the Internet. Today there are relatively few lawsspecifically directed towards conducting business on the Internet. However, due to the increasing popularity and use of the Internet, many laws andregulations relating to the Internet are being debated at the state and federal levels. These laws and regulations could cover issues such as user privacy,freedom of expression, pricing, fraud, quality of products and services, taxation, advertising, intellectual property rights and information security.Applicability to the Internet of existing laws governing issues such as property ownership, copyrights and other intellectual property issues, taxation, libel,obscenity and personal privacy could also harm our business. For example, United States and foreign laws regulate our ability to use customer informationand to develop, buy and sell mailing lists. The vast majority of these laws were adopted prior to the advent of the Internet and do not contemplate or addressthe unique issues raised thereby. Those laws that do reference the Internet are only beginning to be interpreted by the courts and their applicability and reachare therefore uncertain. Additionally, laws governing the permissible contents of products may adversely affect us. Recently the United States Congresspassed the Consumer Product Safety Improvement Act (“CPSIA”), which created more stringent safety requirements for children’s products and any productscontaining lead paint sold within the United States. The CPSIA, not only regulates the future manufacture of items such as cribs, pacifiers, toys and children’sjewelry, but applies to existing 26Table of Contents inventories and may cause us to incur losses for any non-compliant items in our inventory, or which we may have sold subsequent to the effective dates of thelegislation, through regulatory or civil actions against us. These current and future laws and regulations could harm our business, results of operation andfinancial condition. Laws or regulations relating to privacy and data protection may adversely affect the growth of our Internet business or our marketing efforts. We are subject to increasing regulation at the federal, state and international levels relating to privacy and the use of personal user information. Forexample, we are subject to various telemarketing laws that regulate the manner in which we may solicit future suppliers and customers. Such regulations,along with increased governmental or private enforcement, may increase the cost of growing our business. In addition, many jurisdictions have laws that limitthe uses of personal user information gathered online or offline or require companies to establish privacy policies. The Federal Trade Commission hasadopted regulations regarding the collection and use of personal identifying information obtained from children under 13. Proposed legislation in thiscountry and existing laws in foreign countries require companies to establish procedures to notify users of privacy and security policies, obtain consent fromusers for collection and use of personal information, and/or provide users with the ability to access, correct and delete personal information stored by us.Additional legislation regarding data security and privacy has been proposed in Congress. These data protection regulations may restrict our ability tocollect demographic and personal information from users, which could be costly or harm our marketing efforts, and could require us to implement new andpotentially costly processes, procedures and/or protective measures. Risks Relating to the Securities Markets and Ownership of Our Securities The price of our securities may be volatile and you may lose all or a part of your investment. Our common stock has been publicly traded only since May 30, 2002. The market price of our common stock has been subject to significant fluctuationssince the date of our initial public offering. These fluctuations could continue. It is possible that in some future periods our results of operations may bebelow the expectations of public market analysts and investors. If this occurs, the market price of our securities may decline. Some of the factors that couldaffect the market price of our securities are as follows: · changes in securities analysts’ recommendations or estimates of our financial performance or publication of research reports by analysts; · changes in market valuations of similar companies; · announcements by us or our competitors of significant contracts, acquisitions, commercial relationships, joint ventures or capital commitments; · general market conditions; · actual or anticipated fluctuations in our operating results; · intellectual property or litigation developments; · changes in our management team; · economic factors unrelated to our performance; and · our issuance of additional shares of stock or other securities. In addition, the securities markets have experienced significant price and trading volume fluctuations. These broad market fluctuations may adverselyaffect the trading price of our securities. In the past, following periods of volatility in the market price of a public company’s securities, securities class actionlitigation has often been instituted against that company. Such litigation could result in substantial cost and a diversion of management’s attention andresources. Our quarterly operating results are volatile and may adversely affect the market price of our securities. Our future revenues and operating results are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside ourcontrol, and any of which could harm our business. As a result, we believe that quarterly comparisons of our operating results are not necessarily meaningfuland that you should not rely on the results of one quarter as an indication of our future performance. In addition to the other risk factors described in thisreport, additional factors that have caused and/or could cause our 27Table of Contents quarterly operating results to fluctuate and in turn affect the market price of our securities include: · increases in the cost of advertising; · our inability to retain existing customers or encourage repeat purchases; · the extent to which our existing and future marketing agreements are successful; · price competition that results in lower profit margins or losses; · the amount and timing of operating costs and capital expenditures relating to the expansion of our business operations and infrastructure; · the amount and timing of our purchases of inventory; · our inability to manage distribution operations or provide adequate levels of customer service; · our ability to successfully integrate operations and technologies from acquisitions or other business combinations; · offering new lines of products; · our ability to attract users to our auctions, car listing and real estate sites; and · our inability to replace the loss of significant customers. Our operating results may fluctuate depending on the season, and such fluctuations may affect the market price of our securities. We have experienced and expect to continue to experience fluctuations in our operating results because of seasonal fluctuations in traditional retailpatterns. Sales in the retail and wholesale industry tend to be significantly higher in the fourth calendar quarter of each year than in the preceding threequarters due primarily to increased shopping activity during the holiday season. However, there can be no assurance that our sales in the fourth quarter willexceed those of the preceding quarters or, if the fourth quarter sales do exceed those of the preceding quarters, that we will be able to manage the increasedsales effectively. Further, we generally increase our inventories substantially in anticipation of holiday season shopping activity, which has a negative effecton our cash flow. Securities analysts and investors may inaccurately estimate the effects of seasonality on our results of operations in one or more futurequarters and, consequently, our operating results may fall below expectations, causing the market price of our securities to decline. We do not intend to pay dividends on our common stock and you may lose the entire amount of your investment in our common stock. We have never declared or paid any cash dividends on our common stock and do not intend to pay dividends on our common stock for the foreseeablefuture. We intend to invest our future earnings, if any, to fund our growth. Therefore, you will not receive any funds without selling your shares. We cannotassure that you will receive a positive return on your investment when you sell your shares or that you will not lose the entire amount of your investment. Our Amended and Restated Certificate of Incorporation, Amended and Restated Bylaws and the Delaware General Corporation Law contain anti-takeover provisions which could discourage or prevent a takeover, even if an acquisition would be beneficial to our stockholders. Several provisions of our Amended and Restated Certificate of Incorporation and Amended and Restated Bylaws could discourage potential acquisitionproposals and could delay or prevent a change in control of our company even if that change in control would be beneficial to our stockholders. For example,only one-third of our board of directors will be elected at each of our annual meetings of stockholders, which will make it more difficult for a potentialacquirer to change the management of our company, even after acquiring a majority of the shares of our common stock. These provisions, which cannot beamended without the approval of two-thirds of our stockholders, could diminish the opportunities for a stockholder to participate in tender offers, includingtender offers at a price above the then current market value of our common stock. In addition, our board of directors, without further stockholder approval,may issue preferred stock, with such terms as the board of directors may determine, that could have the effect of delaying or preventing a change in control ofour company. The issuance of preferred stock could also adversely affect the voting powers of the holders of common stock, including the loss of votingcontrol to others. We are also afforded the protections of Section 203 of the Delaware General Corporation Law, which could delay or prevent a change incontrol of our company or could impede a merger, consolidation, takeover or other business combination involving our company or discourage a potentialacquirer 28Table of Contents from making a tender offer or otherwise attempting to obtain control of our company. The price of our stock may be vulnerable to manipulation. We have filed an unfair business practice lawsuit against, Rocker Partners, L.P. and others, alleging that the defendants have conspired to denigrateOverstock’s business for personal profit, as well as an amended complaint alleging additional causes of action and articulating in greater detail theallegations against the defendants. We have also filed an unfair business practice lawsuit against Morgan Stanley & Co. Incorporated, Goldman Sachs & Co.,Bear Stearns Companies, Inc., Bank of America Securities LLC, Bank of New York, Citigroup Inc., Credit Suisse (USA) Inc., Deutsche Bank Securities, Inc.,Merrill Lynch, Pierce, Fenner & Smith, Inc., and UBS Financial Services, Inc. In September 2007, we filed an amended complaint adding Lehman BrothersHoldings Inc. as an additional defendant and articulating in greater detail the allegations against the defendants. We believe that the defendants in both ofthese lawsuits have engaged in unlawful actions and have caused substantial harm to Overstock, and that certain of the defendants have made efforts to drivethe market price of Overstock’s common stock down. To the extent that the defendants or other persons engage in any such actions or take any other actionsto interfere with or destroy or harm Overstock’s existing and/or prospective business relationships with its suppliers, bankers, customers, lenders, investors,prospective investors or others, our business, prospects, financial condition and results of operation may suffer, and the price of our common stock may bemore volatile than it might otherwise be and/or may trade at prices below those that might prevail in the absence of any such efforts. Our stock has consistently been on the Regulation SHO threshold list. Regulation SHO requires the stock exchanges to publish daily a list of companies whose stock has failures-to-deliver above a certain threshold. It alsorequires mandatory close-outs for open fail-to-deliver positions in threshold securities persisting for over 13 days, with the aim that no security would appearon the threshold for any extended period. Despite that aim, we have consistently appeared on the Regulation SHO threshold list and, while we do notcurrently appear on the Regulation SHO threshold list, we have been on the list for more trading days than any other company. Any investment in our securities involves a high degree of risk. Investors should consider carefully the risks and uncertainties described above, and allother information in this Form 10-K and in any reports we file with the SEC after we file this Form 10-K, before deciding whether to purchase or hold oursecurities. Additional risks and uncertainties not currently known to us or that we currently deem immaterial may also become important factors that mayharm our business. The occurrence of any of the risks described in this Form 10-K could harm our business. The trading price of our securities could declinedue to any of these risks and uncertainties, and investors may lose part or all of their investment. ITEM 1B. UNRESOLVED STAFF COMMENTS None. ITEM 2. PROPERTIES Corporate office space In July 2005, we leased approximately 154,000 rentable square feet in the Old Mill Corporate Center III in Salt Lake City, Utah for a term of ten years. Logistics and warehouse space We currently lease 795,000 square feet of warehouse facilities in Utah under operating leases which expire in August 2012 and August 2015. On April, 8, 2008, we entered into a lease agreement with Natomas Meadows, LLC (the “Natomas Lease”). The Natomas Lease is for a 686,865 squarefoot warehouse facility in Salt Lake City, Utah (the “New Warehouse”). The Natomas Lease provides that we will lease the New Warehouse in stages: onOctober 15, 2008, we leased the initial 232,900 square feet of the New Warehouse; on February 1, 2009, we leased a total of 435,400 square feet; and, onSeptember 1, 2009, we will lease the remainder, for a total of 686,865 square feet. The Natomas Lease term is seven years, and specifies rent, exclusive ofcommon area maintenance fees, at a variable rate over the course of the staged lease term, ranging from $0.3300 per square foot for the first stage, to $0.3950per square foot for the last year of the Natomas Lease term. Including the space now leased in the New Warehouse, we currently have warehouse operations intwo facilities in Salt Lake City. The Natomas Lease anticipates that we may construct a corporate office facility within the New Warehouse. We constructed a40,000 square foot customer service facility in the New Warehouse and commenced use of the facility on November 3, 2008. 29Table of Contents Co-location data center In December 2006, we entered into a Data Center Agreement (the “OM I Agreement”) to lease 3,999 square feet of space at Old Mill Corporate Center Ifor an IT data center to allow us to consolidate other IT data center facilities. We believe that all the above listed facilities will be sufficient for our needs for at least the next twelve months, subject to seasonal requirements foradditional warehouse space during the fourth quarter. ITEM 3. LEGAL PROCEEDINGS The information set forth under Item 15 of Part IV, “Financial Statements”—Note 14—“Commitments and Contingencies,” subheading “LegalProceedings,” contained in the “Notes to Consolidated Financial Statements” of this Annual Report on Form 10-K is incorporated by reference in answer tothis Item. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders during the fourth quarter of 2008. 30Table of Contents PART II ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OFEQUITY SECURITIES Market Information Our common stock is traded on the NASDAQ Global Market under the symbol “OSTK.” Prior to May 30, 2002, there was no public market for ourcommon stock. The following table sets forth, for the periods indicated, the high and low sales prices per share for our common stock as reported byNASDAQ. CommonStock PriceHigh LowYear Ended December 31, 2007First Quarter19.7214.05Second Quarter19.9815.80Third Quarter28.9917.22Fourth Quarter39.3914.75Year Ended December 31, 2008First Quarter15.688.61Second Quarter28.5011.50Third Quarter29.5913.64Fourth Quarter20.136.34 31Table of Contents STOCK PERFORMANCE GRAPH The following graph shows a comparison of cumulative total stockholder return, calculated on a dividend reinvested basis, from the market closing priceon December 31, 2003 through December 31, 2008 for Overstock.com, Inc., Hemscott’s (formerly Media General’s) Nasdaq U.S. Index and Hemscott’sInternet Software and Services Index. The graph assumes that $100 was invested in Overstock’s common stock and the above indices at the closing prices onDecember 31. Historic stock price performance is not necessarily indicative of future stock price performance. COMPARISON OF CUMULATIVE TOTAL RETURNAMONG OVERSTOCK.COM, INC.,NASDAQ MARKET INDEX-U.S. AND HEMSCOTT GROUP INDEX ASSUMES $100 INVESTED ON DEC. 31, 2003ASSUMES DIVIDEND REINVESTEDFISCAL YEAR ENDING DEC. 31, 2008 Holders As of February 23, 2009, there were 183 holders of record of our common stock. Because many of our shares of common stock are held by brokers andother institutions on behalf of shareholders, we are unable to estimate the total number of shareholders represented by these record holders. Dividends We have never declared or paid any cash dividends on our common stock. We currently intend to retain any earnings for future growth and do notanticipate paying any cash dividends in the foreseeable future. Any future determination to pay dividends will be at the discretion of our board of directorsand will depend on our results of operations, financial conditions, contractual and legal restrictions and other factors the board deems relevant. Our Loan andSecurity Agreement with Wells Fargo Retail Finance, LLC as amended and restated on January 6, 2009, prohibits us from paying dividends without theconsent of the lender. Recent Sales of Unregistered Securities None. Issuer Purchases of Equity Securities In January 2008, the Board of Directors approved a repurchase program under which we were authorized to repurchase up to $20.0 million of ourcommon stock and/or Convertible Senior Notes due 2011 through December 31, 2009. Under this repurchase 32Table of Contents program, we repurchased approximately 1.2 million shares of our common stock in open market transactions for $13.4 million during the year endedDecember 31, 2008. The Company had fully utilized the authorized this $20.0 million repurchase program as of December 31, 2008. We have a 401(k) defined contribution plan which permits participating employees to defer up to a maximum of 25% of their compensation, subject tolimitations established by the Internal Revenue Code. Employees who have completed a half-year of service and are 21 years of age or older are qualified toparticipate in the plan. We match 50% of the first 6% of each participant’s contributions to the plan. Participant contributions are immediately vested.Company contributions vest based on the participant’s years of service at 20% per year over five years. Our matching contribution totaled $389,000,$494,000 and $570,000 during the years ended December 31, 2006, 2007 and 2008, respectively. Beginning in 2006 and through January of 2008, ourmatching contribution was paid using common stock issued from treasury. In addition, for 2006 and 2007, the board of directors approved discretionarycontributions of 2% of salary to all employees eligible to participate in the plan totaling $409,000 and $408,000, respectively. The contributions in 2006and 2007 were settled with shares of our common stock in the following year. No discretionary contributions were approved or paid for 2008. Stock based Compensation Stock Options Our board of directors adopted the Amended and Restated 1999 Stock Option Plan, the 2002 Stock Option Plan and the 2005 Equity Incentive Plan(collectively, the “Plans”), in May 1999, April 2002 and April 2005, respectively. Under these Plans, the Board of Directors may issue incentive stockoptions to our employees and directors and non-qualified stock options to our consultants, as well as other types of awards under the 2005 Equity IncentivePlan. Options granted under these Plans generally expire at the end of either five or ten years and vest in accordance with a vesting schedule determined byour Board of Directors, usually over four years from the grant date. As of the initial public offering, the Amended and Restated 1999 Stock Option Plan wasterminated. Subsequent awards will be made under the 2005 Equity Incentive Plan. As of December 31, 2008, 1.2 million shares of stock based awards wereavailable for future grants under the 2005 Equity Incentive Plan. The following is a summary of stock option activity (amounts in thousands, except per share data): 2006 2007 2008SharesWeightedAverageExercisePrice Shares WeightedAverageExercisePrice Shares WeightedAverageExercisePriceOutstanding—beginning of year1,299$18.091,011$18.971,161$20.48Granted at fair value18322.4776218.141114.14Exercised(276)9.19(354)8.81(112)12.96Canceled/forfeited(195)30.17(258)23.65(86)20.45 Outstanding—end of year1,01118.971,16120.4897421.27 Options exercisable at year-end679$15.74408$22.36609$23.18 Restricted Stock Units Activity During the year ended December 31, 2008, 491,000 restricted stock units were granted. The cost of restricted stock units is determined using the fairvalue of our common stock on the date of the grant and compensation expense is recognized in accordance with the vesting schedule. The weighted averagegrant date fair value of restricted stock units granted during the year ended December 31, 2008 was $12.64. 33Table of Contents The following is a summary of restricted stock unit activity (amounts in thousands, except per share data): 2008 Units Grant DateFair ValueOutstanding—beginning of year—$—Granted at fair value49112.64Vested——Canceled/forfeited(42)12.13 Outstanding—end of year44912.69 Restricted stock units vested at year-end—— Restricted stock units vest over three years at 25% at the end of the first year, 25% at the end of the second year and 50% at the end of the third year.During the years ended December 31, 2006, 2007 and 2008, the Company recorded stock based compensation related to restricted stock units of $0, $0 and$896,000. At December 31, 2008, 449,000 restricted stock units were outstanding. No restricted stock units had been vested as of December 31, 2008. OnJanuary 13, 2009, 337,000 restricted stock units were granted. 34Table of Contents ITEM 6. SELECTED FINANCIAL DATA Year ended December 31,20042005 2006(1) 2007 2008(in thousands, except per share data) Consolidated Statement of Operations Data: RevenueDirect revenue$212,264$323,136$301,509$197,088$174,203Fulfillment partner revenue278,357471,839478,628568,814660,164 Total revenue490,621794,975780,137765,902834,367 Cost of goods soldDirect183,653280,647284,774168,008154,501Fulfillment partner240,530397,855405,559473,344536,957 Total cost of goods sold424,183678,502690,333641,352691,458 Gross profit66,438116,47389,804124,550142,909 Operating expenses:Sales and marketing40,55977,15570,89755,45857,634Technology8,50927,90165,15859,45357,815General and administrative22,02433,04346,83741,97638,373Restructuring(2)——5,67412,283— Total operating expenses71,092138,099188,566169,170153,822 Operating loss(4,654)(21,626)(98,762)(44,620)(10,913)Interest income, net1,064(161)3,5664,7883,163Interest expense(775)(5,582)(4,765)(4,188)(3,462)Other income (expense), net(49)4,72881(92)(1,446) Loss from continuing operations(4,414)(22,641)(99,880)(44,112)(12,658)Loss from discontinued operations—(2,571)(6,882)(3,924)— Net loss(4,414)(25,212)(106,762)(48,036)(12, 658)Deemed dividend related to redeemable common stock(188)(185)(99)—— Net loss attributable to common shares$(4,602)$(25,397)$(106,861)$(48,036)$(12,658) Net loss per common share—basic and diluted Loss from continuing operations$(0.26)$(1.17)$(4.91)$(1.86)$(0.55)Loss from discontinued operations$—$(0.13)$(0.34)$(0.17)$—Net loss per common share—basic and diluted$(0.26)$(1.30)$(5.25)$(2.03)$(0.55) Weighted average common shares outstanding—basicand diluted17,84619,42920,33223,70422,901 35Table of Contents As of December 31,20042005 2006 (3) 2007 (3) 2008(in thousands) Balance Sheet Data:Cash and cash equivalents$198,678$55,875$126,965$101,394$100,577Marketable securities88,80255,799—46,0008,989Working capital267,64079,56159,47562,62139,679Total assets381,600335,953264,453231,143172,445Total indebtedness117,58984,67684,33682,45369,130Redeemable common stock3,1663,205———Stockholders’ equity (deficit)169,50489,14856,36718,212(2,985) (1) Effective January 1, 2006, we adopted SFAS 123(R) and recognized stock-based compensation of $4.1 million, $4.5 million, and $3.3 millionduring the years ended December 31, 2006, 2007 and 2008, respectively. (2) During the fourth quarter of 2006, we commenced implementation of a facilities consolidation and restructuring program designed to reduce theoverall expense structure in an effort to improve future operating performance (see Item 15 of Part IV, “Financial Statements”—Note 3—“Restructuring Expense”). (3) As part of the program to reduce our expense structure and sell non-core businesses, we decided during the fourth quarter of 2006 to sell our travelsubsidiary (“OTravel”). As a result, OTravel’s operations have been classified as a discontinued operation and therefore are not included in theresults of continuing operations. The loss from discontinued operations for OTravel was $6.9 million for the year ended December 31, 2006(including a goodwill impairment charge of $4.5 million) and $3.9 million for the year ended December 31, 2007 (including a goodwill impairmentcharge of $3.8 million—see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisition and Subsequent Discontinued Operations”). 36Table of Contents ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Allstatements other than statements of historical fact, including statements regarding guidance, industry prospects or future results of operations or financialposition, made in this Annual Report on Form 10-K are forward-looking. We use words such as anticipates, believes, expects, future, intends, and similarexpressions to identify forward-looking statements. Forward-looking statements reflect management’s current expectations and are inherently uncertain.Actual results could differ materially for a variety of reasons, including, among others, changes in global economic conditions and consumer spending,world events, the rate of growth of the Internet and online commerce, the amount that Overstock.com invests in new business opportunities and the timing ofthose investments, the mix of products sold to customers, the mix of net sales derived from products as compared with services, the extent to which we oweincome taxes, competition, management of growth, potential fluctuations in operating results, international growth and expansion, fluctuations in foreignexchange rates, the outcomes of legal proceedings and claims, fulfillment center optimization, risks of inventory management, seasonality, the degree towhich the Company enters into, maintains, and develops commercial agreements, acquisitions, and strategic transactions, payments risks, and risks offulfillment throughput and productivity. In addition, the current global economic climate amplifies many of these risks. These risks and uncertainties, aswell as other risks and uncertainties that could cause our actual results to differ significantly from management’s expectations, are described in greaterdetail in Item 1A of Part I, “Risk Factors.” Overview We are an online “closeout” retailer offering discount brand name merchandise, including bed-and-bath goods, home décor, kitchenware, watches,jewelry, electronics and computers, sporting goods, apparel, and designer accessories, among other products. We also sell books, magazines, CDs, DVDs andvideo games (“BMMG”). We also operate as part of our Website an online auctions business—a marketplace for the buying and selling of goods and services—as well as online sites for listing cars and real estate for sale. We are based in Salt Lake City, Utah, and were founded in 1997. We launched our first Website through which customers could purchase products inMarch 1999. Our Website offers our customers an opportunity to shop for bargains conveniently, while offering our suppliers an alternative inventoryliquidation distribution channel. We continually add new, limited inventory products to our Website in order to create an atmosphere that encouragescustomers to visit frequently and purchase products before our inventory sells out. We offer approximately 201,000 products under multiple departmentsunder the shopping tab on our Website, and offer approximately 450,000 media products in the Books etc. department on our Website. Closeout merchandise is typically available in inconsistent quantities and often is only available to consumers after it has been purchased and resold bydisparate liquidation wholesalers. We believe that the traditional liquidation market is therefore characterized by fragmented supply and fragmented demand.We utilize the Internet to aggregate both supply and demand and create a more efficient market for liquidation merchandise. Our objective is to provide aone-stop destination for discount shopping for products and services sold through the Internet. In the fourth quarter 2008, we faced unusual competition from brick and mortar retailers seeking to liquidate inventory directly. The macroeconomicslowdown and discounting by brick and mortar retailers have mixed effects on us. The effects include increased price competition and cautious consumers,but also include opportunities for us to acquire inventory at unusually low prices. Our Business We use the Internet to create a more efficient market for liquidation, closeout and other discount merchandise. We provide consumers and businesseswith quick and convenient access to high-quality, brand-name merchandise at discount prices. Our shopping business (sales of product offered through theShopping section of our Website) includes both a “direct” business and a “fulfillment partner” business (see Item 15 of Part IV, “Financial Statements”—Note 23—“Business Segments”). Products from our direct segment and fulfillment partner segments (including products from various industry verticals, suchas florist supplies, restaurant supplies, and office supplies) are also available in bulk to both consumers and businesses through the Wholesale productcategory on our Website. During the years ended December 31, 2006, 2007, and 2008, no single customer accounted for more than 1% of our total revenue. Direct business Our direct business includes sales made to individual consumers and businesses, which are fulfilled from our warehouses in Salt Lake City, Utah (seeItem 2 of Part I, “Properties”). During the years ended December 31, 2007 and 2008, we fulfilled approximately 37Table of Contents 25% and 21%, respectively, of all orders through our warehouses. Our warehouses generally ship between 5,000 and 8,000 orders per day and up toapproximately 32,000 orders per day during peak periods, using overlapping daily shifts. Fulfillment partner business For our fulfillment partner business, we sell merchandise of other retailers, cataloguers or manufacturers (“fulfillment partners”) through our Website. Weare considered to be the primary obligor for the majority of these sales transactions and we record revenue from the majority of these sales transactions on agross basis. Our use of the term “partner” or “fulfillment partner” does not mean that we have formed any legal partnerships with any of our fulfillmentpartners. We currently have fulfillment partner relationships with approximately 1,200 third parties which post approximately 196,000 non-BMMG products,as well as most of the BMMG products, on our Website. Our revenue from sales on our shopping site from both the direct and fulfillment partner businesses is recorded net of returns, coupons and otherdiscounts. Both direct and fulfillment partner revenues are seasonal, with revenues historically being the highest in the fourth quarter, reflecting higher consumerholiday spending. We anticipate this will continue in the foreseeable future. Unless otherwise indicated or required by the context, the discussion herein of our financial statements, accounting policies and related matters, pertainsto the Shopping section of our Website and not necessarily to the Auctions, Cars, Real Estate or Community sections of our Website. Auctions business We operate an online auction service as part of our Website. Our auction tab allows sellers to list items for sale, buyers to bid on items of interest, andusers to browse through listed items online. We record only our listing fees and commissions for items sold as revenue. From time to time, we also sell itemsreturned from our shopping site on our auction site, and for these sales, we record the revenue on a gross basis. Revenue from our auction business is includedin the fulfillment partner segment, as it is not significant enough to segregate as its own segment. Car listing business We operate an online site for listing cars for sale as a part of our Website. The car listing service allows sellers to list vehicles for sale and allows buyers toreview vehicle descriptions, post offers to purchase, and provides the means for purchasers to contact sellers for further information and negotiations on thepurchase of an advertised vehicle. Revenue from our car listing business is included in the fulfillment partner segment, as it is not significant enough tosegregate as its own segment. Real Estate listing business We operate an online site for listing real estate for sale as a part of our Website. The real estate listing service allows customers to search active listingsacross the country. Listing categories include foreclosures, live and on-line auctions, for sale by owner listings, broker/agent listings and numerousaggregated classified ad listings. Advertising revenue from the real estate business is included in the fulfillment partner segment, as it is not significantenough to segregate as its own segment. International business We began selling products through our website to customers outside the United States in late August 2008. The initial launch included Canada and 33European countries, including the U.K. and Germany. We do not have operations outside the United States, and are utilizing a U.S. based third party toprovide logistics and fulfillment for all international orders. Revenue generated from our international business is included in either direct or fulfillmentpartner revenue, depending on whether the product is shipped from our warehouses or from a fulfillment partner. 38Table of Contents Critical Accounting Policies and Estimates The preparation of financial statements in conformity with generally accepted accounting principles of the United States (“GAAP”) requires estimatesand assumptions that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities inthe consolidated financial statements and accompanying notes. The Securities and Exchange Commission (“SEC”) has defined a company’s criticalaccounting policies as the ones that are most important to the portrayal of the company’s financial condition and results of operations, and which require thecompany to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Based onthis definition, we have identified the critical accounting policies and judgments addressed below. We also have other key accounting policies, whichinvolve the use of estimates, judgments, and assumptions that are significant to understanding our results. For additional information, see Item 15 of Part IV,“Financial Statements”—Note 2—“Summary of Significant Accounting Policies.” Although we believe that our estimates, assumptions, and judgments arereasonable, they are based upon information presently available. Actual results may differ significantly from these estimates under different assumptions,judgments, or conditions. Our critical accounting policies are as follows: · revenue recognition; · estimating valuation allowances and accrued liabilities (specifically, the reserve for returns, the allowance for doubtful accounts and the reservefor obsolete and damaged inventory); · internal use software and website development (acquired and developed internally); · accounting for income taxes; · valuation of long-lived and intangible assets and goodwill; and · stock-based compensation and performance share plan. Revenue recognition We derive our revenue primarily from two sources: direct revenue and fulfillment partner revenue, including listing fees and commissions collected fromproducts being listed and sold through the Auctions tab of our Website as well as advertisement revenue derived from our cars listing business. The Companyhas organized its operations into two principal segments based on the primary source of revenue: Direct revenue and Fulfillment partner revenue (see Item 15of Part IV, “Financial Statements”—Note 23—“Business Segments”). Revenue is recognized when the following revenue recognition criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery hasoccurred or the service has been provided; (3) the selling price or fee revenue earned is fixed or determinable; and (4) collection of the resulting receivable isreasonably assured. Revenue related to merchandise sales is recognized upon delivery to our customers. As we ship high volumes of packages through multiple carriers, it isnot practical for us to track the actual delivery date of each shipment. Therefore, we use estimates to determine which shipments are delivered and thereforerecognized as revenue at the end of the period. Our delivery date estimates are based on average shipping transit times, which are calculated using thefollowing factors: (i) the shipping carrier (as carriers differ in transit times); (ii) the fulfillment source (either our warehouses or those of our fulfillmentpartners); (iii) the delivery destination; and (iv) actual transit time experience, which shows that delivery date is typically one to eight business days from thedate of shipment. We review and update our estimates on a quarterly basis based on our actual transit time experience. However, actual shipping times may differ from ourestimates. The following table shows the effect that hypothetical changes in the estimate of average shipping transit times would have had on the reportedamount of revenue and net loss for the year ended December 31, 2008 ( in thousands): Change in the Estimate of AverageYear ended December 31, 2008 Transit Times (Days)Effect on RevenueEffect on Net Income -2$7,633$1,264-1$3,949$652As reportedAs reportedAs reported1$(959)$(142)2$(1,634)$(259) We evaluate the criteria outlined in EITF Issue No. 99-19, Reporting Revenue Gross as a Principal Versus Net as an Agent, in 39Table of Contents determining whether it is appropriate to record the gross amount of product sales and related costs or the net amount earned as commissions. When we are theprimary obligor in a transaction, are subject to inventory risk, have latitude in establishing prices and selecting suppliers, or have several but not all of theseindicators, revenue is recorded gross. If we are not the primary obligor in the transaction and amounts earned are determined using a fixed percentage,revenue is recorded on a net basis. Currently, the majority of both direct revenue and fulfillment partner revenue is recorded on a gross basis, as we are theprimary obligor. We periodically provide incentive offers to our customers to encourage purchases. Such offers include discount offers, such as percentage discounts offcurrent purchases and other similar offers, which, when used by our customers, are treated as a reduction to the purchase price of the related transaction. Direct revenue Direct revenue consists of sales of merchandise to both individual consumers and businesses that are fulfilled directly from our leased warehouses (seeItem 2 of Part I, “Properties”). Direct sales occur primarily through our Website, but may also occur through other offline channels. Fulfillment partner revenue Fulfillment partner revenue consists of merchandise sold through our Website and shipped by third parties directly to consumers and other businessesfrom warehouses maintained by our fulfillment partners. During September 2004, we added an online auction service to our Website. The Auctions business allows sellers to list items for sale, buyers to bid onitems of interest, and users to browse through listed items online. With limited exceptions, we are not considered the seller of the items sold on the auctionsite and have no control over the pricing of those items. Therefore, for these sales, only the listing fees for items listed and commissions for items sold arerecorded as revenue during the period items are listed or items are sold. Revenue from the auctions business has been included in the fulfillment partnersegment, as it is not large enough to separate out as its own segment at this early stage of the business. We operate an online site for listing cars for sale as a part of our Website. The cars listing service allows dealers to list vehicles for sale and allows buyersto review vehicle descriptions, post offers to purchase, and provides the means for purchasers to contact sellers for further information and negotiations on thepurchase of an advertised vehicle. Revenue from the cars listing business is not large enough to separate as a segment, and therefore has been included withinthe fulfillment partner segment. We operate an online site for listing real estate for sale as a part of our Website. The real estate listing service allows customers to search active listingsacross the country. Listing categories include foreclosures, live and on-line auctions, for sale by owner listings, broker/agent listings and numerousaggregated classified ad listings. Revenue from the real estate listing business is not large enough to separate as a segment, and therefore has been includedwithin the fulfillment partner segment. International business We began selling products through our website to customers outside the United States in August 2008. The initial launch included Canada and 33European countries, including the U.K. and Germany. We do not have operations outside the United States, and are utilizing a U.S. based third party toprovide logistics and fulfillment for all international orders. Revenue generated from our international business is included in either direct or fulfillmentpartner revenue, depending on whether the product is shipped from our warehouses or from a fulfillment partner. Cost of goods sold Cost of goods sold consists of the cost of the product, as well as inbound and outbound freight, warehousing and fulfillment costs (including payroll andrelated expenses and stock-based compensation), credit card fees and customer service costs. Operating expenses Sales and marketing expenses consist primarily of advertising, public relations and promotional expenditures, as well as payroll and related expenses,including stock-based compensation, for personnel engaged in marketing and selling activities. Advertising expense is the largest component of our sales and marketing expenses and is primarily attributable to expenditures related to onlinemarketing activities and offline radio and television advertising. Our advertising expenses totaled approximately $68.1 million, $51.0 million and$52.8 million for the years ended December 31, 2006, 2007 and 2008, respectively, representing 96%, 92% and 92% of sales and marketing expenses forthose respective periods. 40Table of Contents Technology expenses consist of wages and benefits, including stock-based compensation, for technology personnel, rent, utilities, connectivity charges,as well as support and maintenance and depreciation and amortization related to software and computer equipment. General and administrative expenses consist of wages and benefits, including stock-based compensation, for executive, legal, accounting, merchandisingand administrative personnel, rent and utilities, travel and entertainment, depreciation and amortization of intangible assets and other general corporateexpenses. Business Restructuring During 2006, we began a facilities consolidation and restructuring program which continued through 2007 designed to reduce our overall expensestructure in an effort to improve future operating performance. If we determine to move our corporate headquarters we expect to incurr future restructuringexpenses. (see Item 15 of Part IV, “Financial Statements”—Note 3—“Restructuring Expense”). Deferred revenue Payment is generally required by credit card at the point of sale. Amounts owed or received prior to delivery of products or services provided arerecorded as deferred revenue. Amounts received in advance for Club O membership fees are recorded as deferred revenue and recognized ratably over themembership period. In addition, we sell gift cards and record related deferred revenue at the time of the sale. Revenue from a gift card is recognized when acustomer redeems it. If a gift card is not redeemed, we recognize revenue when the likelihood of its redemption becomes remote. Reserve for returns Total revenue is recorded net of estimated returns. We maintain a reserve for returns based on current period revenues and historical returns experience.Management analyzes historical returns, current economic trends and changes in customer demand and acceptance of our products when evaluating theadequacy of the sales returns reserve and other allowances in any accounting period. The reserve for returns was $6.9 million and $5.1 million atDecember 31, 2007 and 2008, respectively. Allowance for doubtful accounts From time to time, we grant credit to certain of our business customers on normal credit terms (typically 30 days). We perform ongoing credit evaluationsof our customers’ financial condition and maintain an allowance for doubtful accounts receivable based upon our historical collection experience andexpected collectability of all accounts receivable. We maintained an allowance for doubtful accounts receivable of $2.5 million and $1.6 million as ofDecember 31, 2007 and 2008, respectively. Reserve for obsolete and damaged inventory We write down our inventory for estimated obsolescence or damage equal to the difference between the cost of inventory and the estimated market valuebased upon assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by management,additional inventory write-downs may be required. Once established, the original cost of the inventory less the related inventory reserve represents the newcost basis of such products. Reversal of these reserves is recognized only when the related inventory has been sold or scrapped. At December 31, 2007, ourinventory balance was $25.6 million (including $3.1 million of inventory in-transit related to sales shipped but not yet delivered), net of allowance forobsolescence or damaged inventory of $1.8 million. At December 31, 2008, our inventory balance was $17.7 million (including $2.8 million of inventory in-transit related to sales shipped but not yet delivered), net of allowance for obsolescence or damaged inventory of $2.1 million. 41Table of Contents Internal-Use Software and Website Development Included in fixed assets is the capitalized cost of internal-use software and website development, including software used to upgrade and enhance ourWebsite and processes supporting our business. As required by Statement of Position 98-1, Accounting for the Costs of Computer Software Developed orObtained for Internal Use, we capitalize costs incurred during the application development stage of internal-use software and amortize these costs over theestimated useful life of two to three years. Costs incurred related to design or maintenance of internal-use software are expensed as incurred. During the years ended December 31, 2007 and 2008, we capitalized $2.0 million and $9.0 million, respectively, of costs associated with internal-usesoftware and website development, both internally developed and acquired externally. Amortization of previously capitalized amounts totaled $13.5 millionand $11.6 million for those respective periods. Accounting for income taxes Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuationallowance recorded against our net deferred tax assets. As of December 31, 2007 and 2008, we have recorded a full valuation allowance of $86.0 million and$86.9 million, respectively, against our net deferred tax asset balance due to uncertainties related to our deferred tax assets as a result of our history ofoperating losses. The valuation allowance is based on our estimates of taxable income by jurisdiction in which we operate and the period over which ourdeferred tax assets will be recoverable. In the event that actual results differ from these estimates or we adjust these estimates in future periods, we may need tochange the valuation allowance, which could materially impact our financial position and results of operations. In July 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes—anInterpretation of FASB Statement No. 109 (“FIN 48”). FIN 48 prescribes a comprehensive model for how a company should recognize, measure, present, anddisclose in its financial statements uncertain tax positions that it has taken or expects to take on a tax return. We adopted the provisions of FIN 48 on January 1, 2007. As a result of a full valuation allowance there was no effect on our financial condition or resultsof operations as a result of implementing FIN 48. We are subject to audit by the IRS and various states for periods since inception. Our policy is that werecognize interest and penalties accrued on any unrecognized tax positions as a component of income tax expense. As of the date of adoption of FIN 48, wedid not have any accrued interest or penalties associated with unrecognized tax positions, nor was any interest expense recognized during the year endedDecember 31, 2008. We have recorded no provision or benefit for federal and state income taxes as we have incurred net operating losses since inception. We have provided afull valuation allowance on the net deferred tax assets, consisting primarily of net operating loss carry-forwards, because of uncertainty regarding theirrealizability. Valuation of long-lived and intangible assets and goodwill Under Statement of Financial Accounting Standard (“SFAS”) No. 142, Goodwill and Other Intangible Assets, (“SFAS 142”), goodwill is not amortized,but must be tested for impairment at least annually. Other long-lived assets must also be evaluated for impairment when management believes that an assethas experienced a decline in value that is other than temporary. Future adverse changes in market conditions or poor operating results of underlyinginvestments could result in losses or an inability to recover the carrying value of the asset that may not be reflected in an asset’s current carrying value,thereby possibly requiring an impairment charge in the future. Goodwill totaled $2.8 million as of December 31, 2007 and 2008. In conjunction with the decision to sell OTravel, our travel subsidiary, we performed an evaluation of its goodwill, pursuant to SFAS 144, Accounting forthe Impairment Long-Lived Assets, (“SFAS 144”) and SFAS 142 and determined that goodwill was subject to an impairment loss of approximately$4.5 million and $3.8 million during the years ended December 31, 2006 and 2007 (see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisitionand Subsequent Discontinued Operations”). These have been recorded as a component of the loss from discontinued operations. There were no impairmentsto goodwill recorded during the year ended December 31, 2008. Stock-based compensation As of January 1, 2006, we adopted SFAS 123(R) Share Based Payment (“SFAS 123(R)”), which requires us to measure compensation cost for alloutstanding unvested share-based awards at fair value and recognize compensation over the service period for awards expected to vest. The estimation ofstock awards that will ultimately vest requires judgment, and to the extent actual results differ from our estimates, such amounts will be recorded as anadjustment in the period estimates are revised. We consider many factors when estimating expected forfeitures, including types of awards, employee class,and historical experience. Actual results may differ substantially from these estimates. We use the Black-Scholes-Merton (“BSM”) valuation model toestimate the value of stock options granted to employees. Several of the primary estimates used in measuring stock-based compensation are as follows: 42Table of Contents Expected Volatility: The fair value of stock options were valued using a volatility factor based on our historical stock prices. Expected Term: For 2005 and 2006 option grants, the expected term represents the period that our stock options are expected to be outstanding andwas determined based on historical experience of similar awards, giving consideration to the contractual terms and vesting provisions of the stock-based awards. For 2007 and 2008 option grants, we elected to use the “simplified method” as discussed in Staff Accounting Bulletin (“SAB”)No. 107, Share Based Payment (“SAB No. 107”) to develop an estimate of expected term. In December 2007, the SEC issued SAB No. 110, CertainAssumptions Used in Valuation Methods—Expected Term (“SAB No. 110”). According to SAB No. 110, under certain circumstances the SEC staffwill continue to accept the use of the simplified method as discussed in SAB No. 107, in developing an estimate of expected term of “plain vanilla”share options in accordance with SFAS No. 123(R), beyond December 31, 2007. We adopted SAB No. 110 effective January 1, 2008 and willcontinue to use the simplified method in developing the expected term used for our valuation of stock-based compensation. Expected Dividend: We have not paid any dividends and do not anticipate paying dividends in the foreseeable future. Risk-Free Interest Rate: We base the risk-free interest rate used on the implied yield currently available on U.S. Treasury zero-coupon issues withremaining term equivalent to the expected term of the options. Estimated Pre-vesting Forfeitures: When estimating forfeitures, we consider voluntary and involuntary termination behavior. Performance Share Plan In January 2006, the Board of Directors and Compensation Committee adopted the Overstock.com Performance Share Plan (the “Plan”) and approvedgrants to executive officers and certain employees of the Company. The Plan provided for a three-year period for the measurement of the Company’sattainment of the performance goal described in the form of grant. The performance goal was measured by growth in economic value, as defined in the Plan. The amount of payments due to participants under the Plan wasa function of the then current market price of a share of the Company’s common stock, multiplied by a percentage dependent on the extent to which theperformance goal was attained, which was between 0% and 200%. If the growth in economic value was 10% compounded annually or less, the percentagewould be 0%. If the growth in economic value was 25% compounded annually, the percentage would be 100%. If the growth in economic value was 40%compounded annually or more, the percentage would be 200%. If the percentage growth was between these percentages, the payment percentage would bedetermined on the basis of straight line interpolation. Amounts payable under the Plan were subject to Board discretion. Amounts payable under the Planwere originally payable in cash. During interim and annual periods prior to the third quarter of 2007, we recorded compensation expense based upon theperiod-end stock price and estimates regarding the ultimate growth in economic value that was expected to occur. These estimates included assumed futuregrowth rates in revenues, gross profit percentages and other factors. If we were to use different assumptions, the estimated compensation charges could besignificantly different. An amendment to the Plan to allow the Company to make payments in the form of common stock was approved by the shareholders on May 15, 2007. Inthe third quarter of 2007, we determined the fair value of the awards on the amendment date and determined to make the payments in the form of commonstock, rather than cash. Therefore, we reclassified awards under the Plan from their current status as liability awards to equity awards in accordance withSFAS No. 123(R). Over the remaining six months of 2007, we reduced the estimated compensation expense under the plan by approximately $550,000, based on changesin its estimate of growth in economic value over the remaining twelve months of the plan. As of December 31, 2007, the cumulative expense related to theperformance share awards was $1.0 million. During the year ended December 31, 2008, we reversed the cumulative $1.0 million in total compensation expense under the Plan as the Boarddetermined no payments would be made under the plan. The plan expired on December 31, 2008. Restricted Stock Units During the year ended December 31, 2008, 491,000 restricted stock units were granted. The restricted stock units vest over three years at 25% at the endof the first year, 25% at the end of the second year and 50% at the end of the third year and are subject to the employee’s continuing service to the Company.At December 31, 2008, there were 449,000 restricted stock units that remained outstanding. The cost of restricted stock units is determined using the fair value of the Company’s shares of common stock on the date of the grant and compensationexpense is recognized in accordance with the vesting schedule. The weighted average grant date fair value of restricted stock units granted during the yearended December 31, 2008 was $12.64. 43Table of Contents Recent Accounting Pronouncements. In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS No. 159”). UnderSFAS No. 159, companies may elect to measure certain financial instruments and certain other items at fair value. The standard requires that unrealized gainsand losses on items for which the fair value option has been elected be reported in earnings. SFAS No. 159 is effective for fiscal years beginning afterNovember 15, 2007. We adopted SFAS No. 159 on January 1, 2008; however, we did not elect to apply the fair value option to any financial instruments orother items upon adoption of SFAS No. 159 during the year ended December 31, 2008. Therefore, the adoption of SFAS No. 159 did not impact ourconsolidated financial position, results of operations or cash flows. In December 2007, the FASB issued SFAS No. 141 (R), Business Combinations (“SFAS No. 141 (R)”), and SFAS No. 160, Noncontrolling Interests inConsolidated Financial Statements (“SFAS No. 160”). SFAS No. 141 (R) requires an acquirer to measure the identifiable assets acquired, the liabilitiesassumed and any noncontrolling interest in the acquired entity at their fair values on the acquisition date, with goodwill being the excess value over the netidentifiable assets acquired. SFAS No. 160 clarifies that a noncontrolling interest in a subsidiary should be reported as equity in the consolidated financialstatements. The calculation of earnings per share will continue to be based on income amounts attributable to the parent. SFAS No. 141 (R) and SFASNo. 160 are effective for financial statements issued for fiscal years beginning after December 15, 2008. Early adoption is prohibited. We do not expect theadoption of SFAS No. 141 (R) or SFAS No. 160 will have a material impact our financial position and results of operations or cash flows. In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASB StatementNo. 133 (“SFAS No. 161”). SFAS No. 161 requires enhanced disclosures about a company’s derivative and hedging activities, in particular: 1) how and whyderivative instruments are utilized; 2) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its relatedinterpretations; and 3) how derivative instruments and related hedged items affect a company’s financial position, financial performance and cash flows.SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early adoptionencouraged. We have no derivative instruments. Therefore, we do not expect the adoption of SFAS No. 161 to impact our financial position and results ofoperations or cash flows. In April 2008, the FASB issued FSP No. 142-3, Determination of the Useful Life of Intangible Assets (“FSP No. 142-3”). FSP No. 142-3 amends thefactors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset underFASB Statement No. 142, Goodwill and Other Intangible Assets. FSP No. 142-3 is effective for financial statements issued for fiscal years beginning afterDecember 15, 2008. Early adoption is prohibited. We do not expect the adoption of FSP No. 142-3 will have a material impact on our consolidated financialstatements. In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS No. 162”). The current GAAPhierarchy was established by the American Institute of Certified Public Accountants, and faced criticism because it was directed to auditors rather thanentities. The issuance of this statement corrects this and makes some other hierarchy changes. This statement is effective 60 days following the Securities andExchange Commission’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly inConformity with Generally Accepted Accounting Principles. The adoption of SFAS No. 162 did not result in a change to our consolidated financialstatements. In May 2008, the FASB issued FASB Staff Position (“FSP”) APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash uponConversion (Including Partial Cash Settlement) (“FSP APB 14-1”), which clarifies the accounting for convertible debt instruments that may be settled incash upon conversion, including partial cash settlement. FSP APB 14-1 specifies that an issuer of such instruments should separately account for the liabilityand equity components of the instruments in a manner that reflect the issuer’s non-convertible debt borrowing rate when interest costs are recognized insubsequent periods. FSP APB 14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods withinthose fiscal years. We anticipate that the adoption of FSP APB 14-1 will not have a material impact on our consolidated financial statements. We periodically review new accounting standards that are issued from time to time. Although some of these accounting standards may be applicable tous, we have not identified any other new standards that we believe merit further discussion and we expect that none would have a significant impact on ourconsolidated financial statements. Executive Commentary This executive commentary is intended to provide investors with a view of our business through the eyes of our management. As an executivecommentary, it necessarily focuses on selected aspects of our business. This executive commentary is intended as a supplement to, but not a substitute for, themore detailed discussion of our business included elsewhere herein. Investors are cautioned to read our entire “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations”, as well as our interim 44Table of Contents and audited financial statements, and the discussion of our business and risk factors and other information included elsewhere in this report. This executivecommentary includes forward-looking statements, and investors are cautioned to read the “Special Note Regarding Forward-Looking Statements” includedelsewhere in this report. Commentary—Revenue. We experienced strong revenue growth in the first three quarters of 2008. As of September 30, 2008, year-to-date revenue growthwas 23% compared to a decrease of 2% for the same prior year period. However, our business experienced a significant slowdown in Q4 as consumers pulledback on discretionary spending over worries of a weakening economy. As a result, total revenue increased 9% for the fiscal year 2008 to $834.4 million from$765.9 million for the fiscal year 2007 notwithstanding a decrease of 13% in Q4 2008 revenue to $255.9 million from $294.5 million in Q4 2007. The fulfillment partner business continued to be the primary driver of growth throughout 2008. We believe this is due to our initiative to considerablyincrease the number of non-media products we offer on our website. At the end of 2008, we had approximately 201,000 non-media SKUs on site compared to63,000 at the end of last year, a 219% increase. The fulfillment partner business accounted for 79% of total revenue during 2008 and 81% during Q4, and itgrew 16% for the full year, despite decreasing 9% in Q4 2008. Going forward, our plan is to continue to add products to existing and new categories from newand existing partners. We ended 2008 with 1,200 fulfillment partners, up from 730 a year ago. Our direct business, unlike the fulfillment partner business, continued to contract in 2008 and revenues were down 12% from last year. As part of ourinitiative to add partner products to our website, some suppliers have transitioned into fulfillment partners, eliminating the need for us to purchase theirinventory, and as a result, we have experienced a shift from direct to fulfillment partner business. Commentary—Gross Profit and Gross Profit Percentage. Higher revenues and better purchasing contributed to 15% growth in gross profit dollars in2008. Gross profit rose to $142.9 million, while gross profit percentage expanded 80 basis points to 17.1%, a historical best for the Company. Gross profitcontracted in the fourth quarter by 6% due to lower revenues, but gross profit percentage expanded to 17.0% from 15.7%. This was partly due to a decisionwe made to be less promotional around the holiday season. In addition, during Q4 2008, we reduced Cost of Goods Sold by $1.8 million for billing recoveries from partners who were underbilled earlier in the yearfor certain fees and charges that they were contractually obligated to pay. When the underbilling was originally discovered, we determined that the recoveryof such amounts was not assured, and that consequently the potential recoveries constituted a gain contingency. Accordingly, we determined that theappropriate accounting treatment for the potential recoveries was to record their benefit only when such amounts became realizable (i.e., an agreement hadbeen reached with the partner and the partner had the wherewithal to pay). We are currently reviewing our policies and procedures surrounding partnersupplier cost updates and partner billing processes to ensure that the amounts contractually negotiated are billed in a complete and timely manner. We mayhave further billing recoveries from our partners in the future that we will seek to recover. We will recognize such recoveries in the manner described above.This accounted for 60 basis points of the 130 basis point improvement from Q4 2007. Gross profit percentages for each of the quarters and fiscal years during2007 and 2008 were: Q1 2007 Q2 2007 Q3 2007 Q4 2007 FY 2007 Q1 2008 Q2 2008 Q3 2008 Q4 2008 FY 2008Direct11.7%16.5%15.3%15.4%14.8%13.4%12.5%10.4%8.7%11.3%Fulfillment Partner16.6%18.0%17.7%15.8%16.8%17.9%19.0%18.7%19.0%18.7%Combined15.2%17.6%17.1%15.7%16.3%16.7%17.6%17.2%17.0%17.1% Fulfillment partner gross profit benefited throughout the year from a mix shift of higher-margin sales away from the direct business and into thefulfillment partner business, and a continued shift away from our low margin BMMG business, which accounted for 5% of gross sales for 2008, down from8% a year ago. Fulfillment partner gross profit expanded by 29% to $123.2 million or 18.7% of revenue, a 190 basis point improvement. In addition to the sales mix shift away from the direct business and lower revenues, higher product and freight costs negatively impacted direct grossprofit, which declined 32% compared to 2007. Direct gross profit percentage fell by approximately 350 basis points to 11.3% despite a 40 basis pointreduction in fulfillment costs. Commentary—Marketing. While revenues increased by 9% this year our sales and marketing expense increased only 4% to $57.6 million during fiscal2008, and marketing efficiency (marketing as a percentage of revenue) improved to 6.9% from 7.2% in 2007. In Q4 2007, we invested heavily in television,radio and print advertising to both strengthen our brand and enhance future revenue growth. We continued to invest in our brand throughout 2008, but with amore consistent, disciplined approach. Because our branding spend was minimal in the first three quarters of 2007, sales and marketing expenses rose sharplythrough the first three quarters of 2008 compared to 2007. In Q4 2008, we reduced the level of marketing to $16.4 million or 6.4% of total revenue comparedto $27.4 million or 9.3% of total revenue in Q4 2007. Commentary—Contribution and Contribution Percentage. With higher gross profit and more efficient marketing, contribution 45Table of Contents (gross profit dollars less sales and marketing expense) increased 23% to $85.3 million in 2008. Contribution as of a percentage of revenue was 9.0% and10.2% in 2007 and 2008, respectively. Contribution increased by 43% in Q4 to $27.2 million, an $8.2 million improvement due primarily to lowermarketing costs. The following table represents our calculation of contribution (in thousands): Three months endedDecember 31, Twelve months endedDecember 31, 2007 2008 2007 2008 Total revenue$294,516$255,862$765,902$834,367Cost of goods sold248,134212,252641,352691,458 Gross profit46,38243,610124,550142,909Less: Sales and marketing expense27,37716,43755,45857,634 Contribution$19,005$27,173$69,092$85,275 Contribution percentage6.5%10.6%9.0%10.2% Commentary—Technology and G&A costs. Our combined technology and G&A costs were down 5% to $96.2 million for fiscal 2008. Technology costsfell 3% to $57.8 million from $59.5 million in 2007 as we offset falling depreciation expense with IT development and related staff in 2008. G&A costs decreased 9.0% to $38.4 million for the year 2008 from $42.0 million or $3.6 million. The primary reduction in G&A expenses year over yearis primarily due to a $4.1 million decrease in bonuses accrued in 2008 (including our decision to not pay senior executives and company-wide profit sharingbonuses). In addition, the performance goal described in the Performance Share Plan (the “Plan”) was not attained as of the end of the year ended 2008 and$1.0 million in total compensation expense accrued under the Plan was reversed. This year over year decrease was offset in part by an increase ofapproximately $1.5 million related to consulting costs and professional fees. Technology/G&A costs have been falling over the last few years; we expect thattrend will reverse in 2009 as we invest in development and corporate staff and projects. Commentary—Operating loss. Overall, our operating expenses, including sales and marketing, technology/G&A and restructuring were down 9% for2008 and down 29% for Q4 2008 compared to the previous year. Our resulting operating loss for 2008 was $10.9 million, a 76% improvement from$44.6 million in 2007. For the three months ended December 31, 2008, our operating profit was $5.7 million, $12.5 million better than the $6.8 millionoperating loss during the same period last year. The 2007 operating loss includes $12.3 million of restructuring costs ($6.1 million in Q1 2007 and$6.2 million in Q2 2007). We did not incur any restructuring costs in 2008. Commentary—Other income (expense), net. For the year ended 2008, other expense was $1.4 million and included a $2.8 million gain on the retirementof $9.5 million of 3.75% Senior Notes, a $3.9 million loss on settlement of notes receivable and a $300,000 other-than-temporary impairment of marketablesecurities. Commentary—Adjusted EBITDA (non-GAAP). Adjusted EBITDA (a non-GAAP financial measure) for fiscal 2008 was $15.1 million, $25.5 million betterthan the $(10.5) million in 2007. For the fourth quarter of 2008, Adjusted EBITDA was $9.9 million, a $10.4 million improvement from ($415,000) in Q42007. In 2008, capital expenditures were $18.7 million, while depreciation expense was $22.7 million. We believe that a discussion of Adjusted EBITDA atthis stage of our business is useful to investors, as Adjusted EBITDA is a reasonable measure of actual cash used or cash generated by the continuingoperations of our business. See “Non-GAAP Financial Measures” below for a reconciliation of Adjusted EBITDA to net income (loss). Commentary—Balance Sheet Items. We ended the year with $109.6 million in cash, cash equivalents and marketable securities, compared to $147.4million at the end of 2007. Working capital decreased to $39.7 million from $62.6 million. The difference is largely the result of $20 million of stockrepurchases and debt retirement and $18.7 million of capital expenditures. We ended the year with $17.7 million of inventory (including inventory in-transit of $2.8 million), a decrease from the $25.6 million of inventory(including inventory in-transit of $3.1 million) we had at the end of 2007. We were able to turn our inventory more frequently due to more efficient inventorymanagement and maintaining a more attractive product selection. Commentary—Cash Flows (non-GAAP). For the year ended December 31, 2008, we generated $2.0 million in cash inflows from operations compared tocash inflows of $10.0 million during 2007. “Free Cash Flow” (a non-GAAP financial measure) for the three months ended December 31, 2007 and 2008totaled $55.3 million and $39.4 million, respectively. For the years ended December 31, 2007 and 2008, free cash flow was $7.3 million and $(16.7) million.See “Non-GAAP Financial Measures” below for a reconciliation of Free Cash Flow to net cash provided by operating activities. Commentary—Debt Repurchase Program. At December 31, 2008, $67.5 million of our 3.75% Senior Convertible Notes due 2011 were outstanding. OnFebruary 17, 2009 our Board authorized us to spend up to $20.0 million to repurchase Senior Notes. To date we have spent $3.0 million under the new debtrepurchase program. The balance of our Management’s Discussion and Analysis of Financial Condition and Results of Operations provides further information about thematters discussed above and other important matters affecting our business. 46Table of Contents Results of Operations The following table sets forth our results of operations expressed as a percentage of total revenue for 2006, 2007 and 2008: Years ended December 31, 2006 2007 2008 (as a percentage of total revenue) RevenueDirect revenue38.6%25.7%20.9%Fulfillment partner revenue61.474.379.1 Total revenue100.0100.0100.0 Cost of goods soldDirect36.521.918.5Fulfillment partner52.061.864.4 Total cost of goods sold88.583.782.9 Gross profit11.516.317.1 Operating expenses:Sales and marketing9.17.26.9Technology8.47.86.9General and administrative6.05.54.6Restructuring0.71.60.0 Total operating expenses24.222.118.4 Operating loss(12.7)(5.8)(1.3)Interest income, net0.50.60.4Interest expense(0.6)(0.6)(0.4)Other (expense) income, net0.0(0.0)(0.2) Loss from continuing operations(12.8)%(5.8)%(1.5)% 47Table of Contents Comparison of Years Ended December 31, 2007 and 2008 Revenue Total revenue increased 9% to $834.4 million for the year ended December 31, 2008, from $765.9 million in 2007. During the three months endedDecember 31, 2007 and 2008, total revenue was $294.5 million and $255.9 million, respectively, a 13% decrease. Direct revenue decreased 12% from $197.1million in 2007 to $174.2 million in 2008. In the fourth quarters, direct revenue decreased 28%, from $67.2 million in 2007 to $48.4 million in 2008.Fulfillment partner revenue increased 16% during fiscal 2008, but decreased 9% during the fourth quarter. For the year ended December 31, 2008, fulfillmentpartner revenue was $660.2 million compared to $568.8 million in 2007. For the three months ended December 31, 2008, fulfillment partner revenue was$207.4 million compared to $227.3 million in 2007. Gross profit and gross profit percentage Generally, our overall gross profit percentages fluctuate based on several factors, including our product mix of sales; sales volumes mix within our directbusiness and fulfillment partners business; changes in vendor and / or customer pricing, including competitive pricing and inventory management decisionswithin the direct business; warehouse management costs; customer service costs; and our discounted shipping offers. Discounted shipping offers reduceshipping revenue, and therefore reduce our gross profit percentage on retail sales. Gross profit percentage for the twelve months ended December 31, 2008 increased 80 basis points, from 16.3% in 2007 to 17.1% in 2008. Gross profit forthe years ended December 31, 2007 and 2008 amounted to $124.6 million and $142.9 million, respectively, a 15% increase. For the three months endedDecember 31, 2008, gross profit percentage increased 130 basis points, from 15.7% in 2007 to 17.0% in 2008, and gross profit decreased 6% from$46.4 million in Q4 2007 to $43.6 million in Q4 2008. Gross profit percentages for the quarters and fiscal years during 2007 and 2008 were: Q1 2007Q2 2007Q3 2007Q4 2007FY 2007 Q1 2008 Q2 2008 Q3 2008 Q4 2008 FY 2008 15.2%17.6%17.1%15.7%16.3%16.7%17.6%17.2%17.0%17.1% Cost of goods sold includes stock-based compensation related to the adoption of SFAS 123(R) of $460,000 and $181,000 for the years endedDecember 31, 2007 and 2008, respectively. Direct Gross Profit and Gross Profit Percentage—Gross profit for our direct business declined 32% from $29.1 million during the year endedDecember 31, 2007 to $19.7 million for the same period in 2008. Gross profit for our direct business as a percentage of direct revenue decreased from 14.8%in 2007 to 11.3% in 2008. For the three-month periods ended December 31, 2007 and 2008, gross profit for our direct business totaled $10.4 million and$4.2 million, respectively, a 59% decrease. Gross profit percentage for our direct business for those three-month periods decreased from 15.4% in 2007 to8.7% in 2008. Gross profit percentage for our direct business decreased along with a decrease in direct revenue of 12% for fiscal 2008, decreasing 28% for the fourthquarter of 2008 compared to the respective periods in 2007. While fulfillment costs continue to improve, these benefits are more than offset by our fixedwarehouse cost being amortized over a smaller direct revenue base. Fulfillment Partner Gross Profit and Gross Profit Percentage—Our fulfillment partner business generated gross profit of $95.5 million and $123.2 millionfor the years ended December 31, 2007 and 2008, respectively, a 29% improvement. Gross profit percentage for the fulfillment partner business also increasedfrom 16.8% in 2007 to 18.7% in 2008 for those respective periods. The increase in gross profit dollars for our fulfillment partner business is the result of the16% increase in fulfillment partner revenue combined with increased gross profit percentage. 48Table of Contents Fulfillment costs Fulfillment costs include all warehousing costs, including fixed overhead and variable handling costs (excluding packaging costs), as well as credit cardfees and customer service costs, all of which we include as costs in calculating gross profit percentage. We believe that some companies in our industry,including some of our competitors, account for fulfillment costs within operating expenses, and therefore exclude fulfillment costs from gross profitpercentage. As a result, our gross profit percentage may not be directly comparable to others in our industry. The following table has been included to provide investors additional information regarding our classification of fulfillment costs and gross profitpercentage, thus enabling investors to better compare our gross profit percentage with others in our industry (in thousands): Years ended December 31,2007 2008Total revenue$765,902100%$834,367100% Cost of goods soldProduct costs and other cost of goods sold594,27678%644,21277%Fulfillment costs47,0766%47,2466% Total cost of goods sold641,35284%691,45883% Gross profit$124,55016%$142,90917% As displayed in the above table, fulfillment costs during the years ended December 31, 2007 and 2008 were $47.1 million and $47.2 million,representing 6% of total revenue for those respective periods. Fulfillment costs as a percentage of sales may vary due to several factors, such as our ability tomanage costs at our warehouses, significant changes in the number of units received and fulfilled, the extent to which we utilize third party fulfillmentservices and warehouses, and our ability to effectively manage customer service costs and credit card fees. Operating expenses Sales and marketing. Sales and marketing expenses totaled $55.5 million and $57.6 million for the years ended December 31, 2007 and 2008,representing 7% of total revenue for those respective periods. Comparing 2007 and 2008, sales and marketing expenses increased 4% from 2007 to 2008. Wedirect customers to our Website primarily through a number of targeted online marketing channels, such as sponsored search, affiliate marketing, portaladvertising, e-mail campaigns, and other initiatives. We also use nation-wide television, print and radio advertising campaigns to promote sales. Sales andmarketing expenses also include stock-based compensation related to the adoption of SFAS 123(R) in 2006 of $336,000 and $313,000 for the years endedDecember 31, 2007 and 2008, respectively. Costs associated with our discounted shipping promotions are not included in marketing expense. Rather they are accounted for as a reduction ofrevenue and therefore affect sales growth and gross profit percentage. We consider discounted shipping promotions as an effective marketing tool, and intendto continue to offer them as we deem appropriate as part of our overall marketing plan. Technology expenses. We seek to efficiently invest in our technology, including web services, customer support, search, and expansion of new andexisting product categories, as well as technology infrastructure to continue to enhance the customer experience, improve our process efficiency and supportour web services infrastructure. Technology expenses totaled $59.5 million and $57.8 million for the years ended December 31, 2007 and 2008, respectively (7.8% and 6.9% of revenuefor 2007 and 2008). From 2007 to 2008, technology expenses decreased 3% primarily due to decreased depreciation expense. Technology expenses alsoincluded stock-based compensation related to the adoption of SFAS 123(R) in 2006 of $764,000 and $792,000 for the years ended December 31, 2007 and2008, respectively. General and administrative expenses. General and administrative (“G&A”) expenses totaled $42.0 million and $38.4 million for the years endedDecember 31, 2007 and 2008, respectively, representing approximately 5.5% and 4.6% of total revenue, respectfully. G&A costs decreased 9.0% to $38.4million for the year 2008 from $42.0 million or $3.6 million. The primary reduction in G&A expenses year over year is primarily due to a $4.1 milliondecrease in bonuses accrued in 2008 (including our decision to not pay senior executives and company-wide profit sharing bonuses). In addition, theperformance goal described in the Performance Share Plan (the “Plan”) was not attained as of the end of the year ended 2008 and $1.0 million in totalcompensation expense accrued under the Plan was reversed. This year over year decrease was offset in part by an increase of approximately $1.5 millionrelated to consulting costs and professional fees. We incurred stock-based compensation related to the adoption of SFAS 123(R) in 2006 within general and administrative expenses of approximately$3.0 million and $2.0 million for the years ended December 31, 2007 and 2008, respectively. 49Table of Contents A large portion of our technology and general and administrative expenses are non-cash expenses. These non-cash expenses (which include depreciationand amortization and stock-based compensation) for the year ended December 31, 2008 were $26.0 million, compared to similar non-cash expense of$34.2 million during 2007. We estimate that that these non-cash expenses for 2009 will be approximately $18-$20 million. Overall, our total operating expenses decreased 9% during fiscal 2008 compared to the previous year, while total revenues increased 9% and gross profitincreased 15%. Restructuring expenses. During the fourth quarter of 2006, we commenced a facilities consolidation and restructuring program designed to reduce ouroverall expense structure in an effort to improve future operating performance. The facilities consolidation and restructuring program was substantiallycompleted by the end of the second quarter of 2007. There were no restructuring expenses recorded during the third and fourth quarters of 2007 or for anyperiod in 2008. If we determine to move our corporate headquarters we expect to incurr future restructuring expenses. (see Item 15 of Part IV, “FinancialStatements”—Note 3—“Restructuring Expense”). During fiscal year 2006, we recorded $5.7 million of restructuring charges, of which $4.6 million related to costs to terminate a co-location data centerlease. Other costs included in the restructuring charge related to $638,000 of accelerated amortization of leasehold improvements in our current officefacilities that we are attempting to sublease, and $450,000 of costs to return these office facilities to their original condition as required by the leaseagreement. During fiscal year 2007, we recorded $12.3 million of restructuring charges, of which $9.9 million related to the termination of a logistics servicesagreement, termination and settlement of a lease related to vacated warehouse facilities in Indiana, and abandonment and marketing for sub-lease office anddata center space in our current corporate office facilities. We also recorded an additional $2.2 million of restructuring charges related to accelerateddepreciation of leasehold improvements located in the abandoned office and co-location data center space and $200,000 of other miscellaneous restructuringcharges. We had no restructuring charges in 2008. Non-operating income (expense) Interest income and interest expense. Interest income is primarily derived from the investment of our cash in short-term investments. Comparing 2007and 2008, the decrease in interest income is due to a decrease in total cash and interest rates in 2008. Interest expense is largely related to interest incurred on our convertible notes and our credit lines. Interest expense for the years ended December 31,2007 and 2008 totaled $4.2 million and $3.5 million, respectively. Other income (expense). Other income (expense) for the year ended December 31, 2007 was net expense of $(92,000). For the year ended December 31,2008, other income (expense) was net expense of $(1.4) million. This included a $2.8 million gain, net of amortization of debt discount of $142,000 on theretirement of $9.5 million of the 3.75% Senior Notes (see Item 15 of Part IV, “Financial Statements”—Note 17—“Stock and Debt Repurchase Program”), a$3.9 million loss on the settlement of notes receivable (see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisition and Subsequent DiscontinuedOperations”) and a $300,000 other-than-temporary impairment of marketable securities. On January 14, 2008, the Company’s Board of Directors authorized a repurchase program that allowed the Company to purchase up to $20.0 million ofits common stock and / or its 3.75% Senior Convertible Notes due 2011 (“Senior Notes”) through December 31, 2009. During the year ended 2008, we retired$9.5 million of the Senior Notes for $6.6 million in cash and recognized a gain of $2.8 million, net of amortization of debt discount of $142,000. Sale of discontinued operations We determined during the fourth quarter of 2006 to sell our travel subsidiary (“OTravel”). As a result, OTravel’s operations were classified as adiscontinued operation and therefore are not included in the results of continuing operations. The loss from discontinued operations for OTravel was$6.9 million and $3.9 million for the years ended December 31, 2006 and 2007, respectively. In conjunction with the discontinuance of OTravel, we performed an evaluation of the goodwill associated with the reporting unit pursuant to SFAS 142and SFAS 144 and determined that goodwill of approximately $4.5 million was impaired as of December 31, 2006 based on a non-binding letter of intentfrom a third party to purchase this business. On April 25, 2007, we completed the sale of OTravel for cash proceeds of $9.9 million, net of cash transferred,and $6.0 million of notes. Based on the estimated fair value of the discounted cash flows of the net proceeds from the sale, we recorded an additionalgoodwill impairment of $3.8 million in 2007. (see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisition and Subsequent DiscontinuedOperations”). On January 21, 2009, we entered into a Note Purchase Agreement to sell both the senior and junior promissory notes to Castles Travel, Inc for $1.3million in cash and recognized a loss on the settlement of these notes and interest receivable of approximately 50Table of Contents $3.9 million which was recorded as of December 31, 2008 (see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisition and SubsequentDiscontinued Operations”). Income taxes For the year ended December 31, 2007 and 2008, we incurred net operating losses, and consequently paid insignificant amounts of federal, state andforeign income taxes. As of December 31, 2007 and 2008, we had net operating loss carry-forwards of approximately $164.2 million and $171.8 million,respectively, which may be used to offset future taxable income. An additional $21.9 million of net operating losses are limited under Internal Revenue CodeSection 382 to $799,000 a year. These net operating loss carry-forwards will begin to expire in 2018. Seasonality Based upon our historical experience, revenue typically increases during the fourth quarter because of the holiday retail season. The actual quarterlyresults for each quarter could differ materially depending upon consumer preferences, availability of product and competition, among other risks anduncertainties. Accordingly, there can be no assurances that seasonal variations will not materially affect our results of operations in the future. The followingtable reflects our total revenues for each of the quarters since 2005 (in thousands): First Quarter Second Quarter Third Quarter Fourth Quarter 2008$202,814$188,836$186,855$255,8622007162,156149,171160,059294,5162006179,783159,717158,230282,4072005165,028153,519166,396310,033 51Table of Contents Comparison of Years Ended December 31, 2006 and 2007 Revenue Total revenue decreased 2% to $765.9 million for the year ended December 31, 2007, from $780.1 million in 2006. During the three months endedDecember 31, 2006 and 2007, total revenue was $282.4 million and $294.5 million, respectively, a 4% increase. Direct revenue decreased 35% from$301.5 million in 2006 to $197.1 million in 2007, and comparing the fourth quarters, direct revenue decreased 29%, from $94.4 million in 2006 to$67.2 million in 2007. On the other hand, fulfillment partner revenue experienced 19% growth during fiscal 2007 and 21% growth during the fourth quarter.For the year ended December 31, 2007, fulfillment partner revenue was $568.8 million compared to $478.6 million in 2006. For the three months endedDecember 31, 2007, fulfillment partner revenue was $227.3 million versus $188.0 million in 2006. Gross Profit Percentage Generally, our overall gross profit percentages fluctuate based on several factors, including our product mix of sales; sales volumes mix by our directbusiness and fulfillment partners businesses; changes in vendor and / or customer pricing, including competitive pricing and inventory managementdecisions within the direct business; warehouse management costs; customer service costs; and our discounted shipping offers. Discounted shipping offersreduce shipping revenue, and therefore reduce our gross profit percentage on retail sales. Gross profit percentage for the twelve months ended December 31, 2007 increased 480 basis points, from 11.5% in 2006 to 16.3% in 2007. Gross profitfor the years ended December 31, 2006 and 2007 amounted to $89.8 million and $124.6 million, respectively, a 39% increase. For the three-month periodended December 31, 2007, gross profit percentage increased 730 basis points, from 8.4% in 2006 to 15.7% in 2007, and gross profit increased 95% from$23.8 million in 2006 to $46.4 million in 2007. Gross profit percentages for the quarters and fiscal years during 2006 and 2007 were: Q1 2006Q2 2006Q3 2006Q4 2006FY 2006Q1 2007Q2 2007 Q3 2007 Q4 2007 FY 2007 12.8%13.5%13.6%8.4%11.5%15.2%17.6%17.1%15.7%16.3% Cost of goods sold includes stock-based compensation related to the adoption of SFAS 123(R) of $412,000 and $460,000 for the years endedDecember 31, 2006 and 2007, respectively. Direct Gross Profit and Gross Profit Percentage—Gross profit for our direct business grew 74% from $16.7 million during the year ended December 31,2006 to $29.1 million for the same period in 2007. Gross profit for our direct business as a percentage of direct revenue increased from 5.6% in 2006 to 14.8%in 2007. For the three-month periods ended December 31, 2006 and 2007, gross profit for our direct business totaled $(4.3) million and $10.4 million,respectively, a 342% increase. Gross profit percentage for our direct business for those three-month periods increased from -4.5% in 2006 to 15.4% in 2007.Gross profit percentage for our direct business expanded despite direct revenue decreasing 35% for fiscal 2007 and decreasing 29% for the fourth quarter of2007 compared to the respective periods in 2006. This was primarily due to a significant reduction in direct inventory. However, gross profit percentageshave increased at the same time, since the remaining inventory in general turns faster and has higher profitability. Gross profit percentages have alsoimproved from the reduction of fulfillment costs (defined as warehousing costs, credit card fees and customer service costs—see further discussion in thefollowing section entitled “Fulfillment Costs”) to 6.1% of sales in 2007 compared to 7.8% in 2006, a 170 basis point improvement. Fulfillment Partner Gross Profit and Gross Profit Percentage—Our fulfillment partner business generated gross profit of $73.1 million and $95.5 millionfor the years ended December 31, 2006 and 2007, respectively, a 31% improvement. Gross profit percentage for the fulfillment partner business also increasedfrom 15.3% in 2006 to 16.8% in 2007 for those respective periods. The increase in gross profit dollars for our fulfillment partner business is the result of the19% increase in fulfillment partner revenue combined with increased gross profit percentage. The increase in partner gross profit percentage is the result ofbetter product pricing and improvements in partner fulfillment costs, particularly the cost of customer service. Fulfillment costs Fulfillment costs include all warehousing costs, including fixed overhead and variable handling costs (excluding packaging costs), as well as credit cardfees and customer service costs, all of which we include as costs in calculating gross profit percentage. We believe that some companies in our industry,including some of our competitors, account for fulfillment costs within operating expenses, and therefore exclude fulfillment costs from gross profitpercentage. As a result, our gross profit percentage may not be directly comparable to others in our industry. 52Table of Contents The following table has been included to provide investors additional information regarding our classification of fulfillment costs and gross profitpercentage, thus enabling investors to better compare our gross profit percentage with others in our industry (in thousands): Years ended December 31, 2006 2007 Total revenue$780,137100%$765,902100% Cost of goods soldProduct costs and other cost of goods sold629,47781%594,27678%Fulfillment costs60,8567%47,0766% Total cost of goods sold690,33388%641,35284% Gross profit$89,80412%$124,55016% As displayed in the above table, fulfillment costs during the years ended December 31, 2006 and 2007 were $60.9 million and $47.1 million,representing 7% and 6% of total revenue for those respective periods. Fulfillment costs as a percentage of sales may vary due to several factors, such as ourability to manage costs at our warehouses, significant changes in the number of units received and fulfilled, the extent to which we utilize third partyfulfillment services and warehouses, and our ability to effectively manage customer service costs and credit card fees. Operating expenses Sales and marketing. Sales and marketing expenses totaled $70.9 million and $55.5 million for the years ended December 31, 2006 and 2007,representing 9% and 7% of total revenue for those respective periods. Comparing 2006 and 2007, sales and marketing expenses decreased 22% from 2006 to2007. We direct customers to our Website primarily through a number of targeted online marketing channels, such as sponsored search, affiliate marketing,portal advertising, e-mail campaigns, and other initiatives. We also utilize channels such as nation-wide television, print and radio advertising campaigns.Sales and marketing expenses also include stock-based compensation related to the adoption of SFAS 123(R) in 2006 of $301,000 and $336,000 for theyears ended December 31, 2006 and 2007, respectively. Costs associated with our discounted shipping promotions are not included in marketing expense. Rather they are accounted for as a reduction ofrevenue and therefore affect sales growth and gross profit. We consider discounted shipping promotions as an effective marketing tool, and intend tocontinue to offer them as we deem appropriate as part of our overall marketing plan. Technology expenses. Technology expenses totaled $65.2 million and $59.5 million for the years ended December 31, 2006 and 2007, respectively (8%of revenue in both years). From 2006 to 2007, technology expenses decreased 9% primarily due to decreased depreciation expense. Technology expensesalso included stock-based compensation related to the adoption of SFAS 123(R) in 2006 of $684,000 and $764,000 for the years ended December 31, 2006and 2007, respectively. General and administrative expenses. General and administrative (“G&A”) expenses totaled $46.8 million and $42.0 million for the years endedDecember 31, 2006 and 2007, respectively, representing approximately 6% of total revenue for both years. Comparing fiscal years 2006 and 2007, generaland administrative expenses decreased 10%. The decrease in G&A expenses relates to decreases in corporate facilities costs, payroll-related expenses,professional fees, merchandising, legal and finance costs as we have made reductions to our corporate office space and headcount. We incurred stock-based compensation related to the adoption of SFAS 123(R) in 2006 within general and administrative expenses of approximately$2.7 million and $3.0 million for the years ended December 31, 2006 and 2007, respectively. A large portion of our technology and general and administrative expenses are non-cash expenses. These non-cash expenses (which include depreciationand amortization and stock-based compensation and excludes non-cash restructuring costs) for the year ended December 31, 2007 were $34.2 million,compared to similar non-cash expense of $37.3 million during 2006. We estimate that that these non-cash expenses for 2008 will be approximately $28-$30 million. Overall, our total operating expenses decreased 10% during fiscal 2007 compared to the previous year, while total revenues decreased 2% and grossprofit increased 39%. Restructuring expenses. During the fourth quarter of 2006, we commenced a facilities consolidation and restructuring program designed to reduce ouroverall expense structure in an effort to improve future operating performance. The facilities consolidation and 53Table of Contents restructuring program was substantially completed by the end of the second quarter of 2007. There were no restructuring expenses recorded during the thirdand fourth quarters of 2007 (see Item 15 of Part IV, “Financial Statements”—Note 3—“Restructuring Expense”). During fiscal year 2006, we recorded $5.7 million of restructuring charges, of which $4.6 million related to costs to terminate a co-location data centerlease. Other costs included in the restructuring charge related to $638,000 of accelerated amortization of leasehold improvements in our current officefacilities that we are attempting to sublease, and $450,000 of costs to return these office facilities to their original condition as required by the leaseagreement. During fiscal year 2007, we recorded $12.3 million of restructuring charges, of which $9.9 million related to the termination of a logistics servicesagreement, termination and settlement of a lease related to vacated warehouse facilities in Indiana, and abandonment and marketing for sub-lease office anddata center space in our current corporate office facilities. We also recorded an additional $2.2 million of restructuring charges related to accelerateddepreciation of leasehold improvements located in the abandoned office and co-location data center space and $200,000 of other miscellaneous restructuringcharges. Non-operating income (expense) Interest income, interest expense and other income (expense). Interest income is derived from the investment of our cash in short-term investments. Overthe last two years, interest income totaled $3.6 million and $4.8 million for the years ended December 31, 2006 and 2007, respectively. Comparing 2006 and2007, the increase in interest income is due to an increase in total cash and interest rates in 2007, and from interest income earned from our notes receivablerelated to the sale of our OTravel business which occurred in the second quarter of 2007 (see Item 15 of Part IV, “Financial Statements”—Note 4—“Acquisition and Subsequent Discontinued Operations”). During Q2 of 2006, we recorded $1.9 million of interest income related to the sale of ForeignNotes (see Item 15 of Part IV, “Financial Statements”—Note 5—“Marketable Securities”). Interest expense is largely related to interest incurred on our convertible notes, capital leases and our credit lines. Interest expense for the years endedDecember 31, 2006 and 2007 totaled $4.8 million and $4.2 million, respectively. The decrease from 2006 to 2007 is due primarily to the fact that we had$20 million of borrowings outstanding on our inventory line of credit in the first quarter of 2006, and no borrowings outstanding during the same period in2007. Other income (expense) for the year ended December 31, 2006 was income of $81,000 and net expense of $92,000 in 2007. Discontinued operations We determined during the fourth quarter of 2006 to sell our travel subsidiary (“OTravel”). As a result, OTravel’s operations were classified as adiscontinued operation and therefore are not included in the results of continuing operations. The loss from discontinued operations for OTravel was$6.9 million and $3.9 million for the years ended December 31, 2006 and 2007, respectively. In conjunction with the discontinuance of OTravel, we performed an evaluation of the goodwill associated with the reporting unit pursuant to SFAS 142and SFAS 144 and determined that goodwill of approximately $4.5 million was impaired as of December 31, 2006 based on a non-binding letter of intentfrom a third party to purchase this business. On April 25, 2007, we completed the sale of OTravel for cash proceeds of $9.9 million, net of cash transferred,and $6.0 million of notes. Based on the estimated fair value of the discounted cash flows of the net proceeds from the sale, we recorded an additionalgoodwill impairment of $3.8 million. There was no additional impairment of goodwill during the year ended December 31, 2007 (see Item 15 of Part IV,“Financial Statements”—Note 4—“Acquisition and Subsequent Discontinued Operations”). On January 21, 2009, we entered into a Note Purchase Agreement to sale both the senior and junior promissory notes to Castles Travel, Inc for $1.3million in cash and recognized a loss on the settlement of these notes and interest receivable of approximately $3.9 million (see Item 15 of Part IV, “FinancialStatements”—Note 4—“Acquisition and Subsequent Discontinued Operations”). Income taxes For the year ended December 31, 2006 and 2007, we incurred net operating losses, and consequently paid insignificant amounts of federal, state andforeign income taxes. As of December 31, 2006 and 2007, we had net operating loss carry-forwards of approximately $145.2 million and $164.2 million,respectively, which may be used to offset future taxable income. An additional $21.9 million of net operating losses are limited under Internal Revenue CodeSection 382 to $799,000 a year. These net operating loss carry-forwards will begin to expire in 2018. 54Table of Contents Liquidity and Capital Resources Historical sources of liquidity Prior to the second quarter of 2002, we financed our activities primarily through a series of private sales of equity securities, warrants to purchase ourcommon stock and promissory notes. During the second quarter of 2002, we completed our initial public offering pursuant to which we receivedapproximately $26.1 million in cash, net of underwriting discounts, commissions, and other related expenses. Additionally, we completed follow-onofferings in February 2003, May 2004 and November 2004, pursuant to which we received approximately $24.0 million, $37.9 million and $75.2 million,respectively, in cash, net of underwriting discounts, commissions, and other related expenses. In November 2004, we also received $116.2 million inproceeds from the issuance of our convertible senior notes in a transaction event exempt from registration under the Securities Act. During 2006, we received$64.4 million from two stock offerings in May and December. Current sources of liquidity While we believe that the cash and marketable securities currently on hand, amounts available under our credit facility and expected cash flows fromfuture operations will be sufficient to continue operations for at least the next twelve months, we may require additional financing. However, there can be noassurance that if additional financing is necessary it will be available, or, if available, that such financing can be obtained on satisfactory terms. Failure togenerate sufficient revenues, profits or to raise additional capital could have a material adverse effect on our ability to continue as a going concern and toachieve our intended business objectives. Any projections of future cash needs and cash flows are subject to substantial uncertainty. Our principal sources of liquidity are cash flows generated from operations and our existing cash, cash equivalents, and sale or maturity of marketablesecurities. At December 31, 2008, our cash and cash equivalents balance was $100.6 million and we had $9.0 million in marketable securities, for a total of$109.6 million of cash, cash equivalents and marketable securities. Cash flow information is as follows: Year Ended December 31,20062007 2008(in thousands)Cash provided by (used in):Operating activities$(26,293)$9,977$1,960Investing activities33,367(33,514)19,550Financing activities63,983(2,031)(22,327) Free Cash Flow. “Free Cash Flow” (a non-GAAP measure) for the years ended December 31, 2007 and 2008, was $7.3 million and $(16.7) million. See“Non-GAAP Financial Measures” below for a reconciliation of Free Cash Flow to net cash provided by operating activities. Cash provided by (used in) operating activities. For the years ended December 31, 2007 and 2008, our operating activities resulted in net cash inflows of$10.0 million and net cash inflows of $2.0 million, respectively. Cash received from customers generally corresponds to our net sales as our customers primarily use credit cards to buy from us causing our receivablesfrom these sales transactions to settle quickly. We have payment terms with our fulfillment partners that generally extend beyond the amount of timenecessary to collect proceeds from our customers. As a result, following our seasonally strong fourth quarter sales, at December 31 of each year, our cash, cashequivalents, marketable securities and accounts payable balances typically reach their highest level (other than as a result of cash flows provided by or usedin investing and financing activities). However, our accounts payable balance normally declines during the first three months following year-end, whichnormally results in a decline in our cash, cash equivalents, and marketable securities balances from the year-end balance. The seasonality of our businesscauses payables and accruals to grow significantly in the fourth quarter, and then decrease in the first quarter when they are paid. The primary operating use of cash and cash equivalents during the year ended December 31, 2008 was to fund our net losses of $12.7 million (whichincludes $27.3 million of net non-cash activity, including $3.9 million related to the loss on settlement of notes receivable (see Item 15 of Part IV, “FinancialStatements”—Note 4—“Acquisition and Subsequent Discontinued Operations”) and $2.8 million related to the gain from early extinguishment of debt (seeItem 15 of Part IV, “Financial Statements”—Note 17—“Stock and Debt Repurchase Program”), as well as changes in prepaid expenses, other long term assets,accounts payable, accrued liabilities, deferred revenue and other long-term liabilities of $2.1 million, $516,000, $8.2 million, $12.3 million, $3.9 million and$462,000, respectively. This was offset by the cash provided from changes in accounts receivable, inventories, net, and prepaid inventory of $4.8 million,$7.9 million and $2.2 million, respectively. In late December 2008, our credit card processor began withholding approximately 1% of our daily credit card remittances as a 55Table of Contents reserve. They have indicated that they expect to continue such withholding until the reserve reaches a total of $3.5 million. The reserve was $125,000 atDecember 31, 2008 and is included in Accounts Receivable in the Consolidated Balance Sheets. The primary operating use of cash and cash equivalents during the year ended December 31, 2007 was to fund our net losses of $48.0 million (whichincludes $50.4 million of loss from discontinued operations and other net non-cash activity), as well as changes in inventories, prepaid inventory, prepaidexpenses, accrued liabilities, deferred revenue and other long-term liabilities of $1.8 million, $1.3 million, $99,000, $5.9 million, $255,000 and $193,000,respectively. This was offset by the cash provided from changes in accounts receivable, other long-term assets and accounts payable of $4.8 million,$471,000 and $11.8 million, respectively. Cash provided by (used in) investing activities. Cash provided by (used in) investing activities corresponds with purchases, sales, and maturities ofmarketable securities, cash purchases of fixed assets, including internal-use software and website development costs. Investing activities resulted in cashoutflows of $33.5 million and cash inflows of $19.6 million for the years ended December 31, 2007 and 2008, respectively. The $19.6 million provided byinvesting activities during fiscal 2008 resulted from the net cash outflows for expenditures of fixed assets of $18.7 million, offset by payments received frompurchases, sales and maturities of marketable securities of $36.7 million and a note receivable of $1.5 million related to the sale of the Company’s interest ina variable interest entity (see Item 15 of Part IV, “Financial Statements”—Note 25—“Deconsolidation of Variable Interest Entity.”) The $33.5 million used in investing activities during fiscal 2007 resulted from the net cash outflows from purchases, sales and maturities of marketablesecurities of $46.0 million and expenditures of fixed assets of $2.6 million, offset by payments received from a note receivable of $5.2 million and the netproceeds from the sale of OTravel of $9.9 million. Cash provided by (used in) financing activities. Financing activities resulted in cash outflows of $2.0 million and cash outflows of $22.3 million for theyears ended December 31, 2007 and 2008, respectively. The net cash used in financing activities in 2008 was primarily due to payments for capital leases,paydown of long term debt, and treasury stock purchases of $3.8 million, $6.6 million, and $13.4 million, respectively (see Item 15 of Part IV, “FinancialStatements”—Note 17—“Stock and Debt Repurchase Program.”), offset by $1.5 million received from the exercise of stock options. The net cash used infinancing activities in 2007 was primarily due to payments for capital leases of $5.3 million offset by $3.2 million received from the exercise of stockoptions. Stock and Debt Repurchase Program On January 14, 2008, our Board of Directors authorized a repurchase program that allowed us to purchase up to $20.0 million of our common stock and /or our 3.75% Senior Convertible Notes due 2011 (“Senior Notes”) through December 31, 2009. Under this repurchase program, we repurchasedapproximately 1.2 million shares of our common stock in open market purchases for $13.4 million during the year ended December 31, 2008. In addition, during the third quarter of 2008, we retired $9.5 million of the Senior Notes for $6.6 million in cash. As a result of the Senior Notesretirements, we recognized a gain of $2.8 million, net of the associated unamortized discount of $142,000. As of December 31, 2008, $67.5 million of SeniorNotes remain outstanding. We had fully utilized the authorized $20.0 million repurchase program as of December 31, 2008. On February 17, 2009, our Board of Directors approved a debt repurchase program that authorizes us to utilize up to $20.0 million to repurchase aportion of our 3.75% Senior Notes. Under this repurchase program, we have retired $4.9 million of the Senior Notes for $3.0 million in cash. As a result of theSenior Notes retirements, we expect to recognize a gain of $1.9 million, net of the associated unamortized discount of $63,000 (see Item 15 of Part IV,“Financial Statements”—Note 17—“Stock and Debt Repurchase Program”). Shelf Registration In April 2005, we filed a registration statement with the Securities and Exchange Commission using a “shelf” registration or continuous offering process.On May 1, 2006, we issued approximately 1,042,000 shares of common stock for net proceeds of approximately $25.0 million. Additionally, onDecember 12, 2006, we issued approximately 2,734,000 shares for net proceeds of approximately $39.4 million. We did not issue any shares of commonstock under the shelf registration statement during fiscal years 2007 and 2008. During 2008 we filed a new shelf registration statement with the Securities andExchange Commission, which was declared effective on December 5, 2008. The new shelf registration statement registers offerings of our securities in anaggregate amount of up to $500.0 million. 56Table of Contents Contractual Obligations and Commitments The following table summarizes our contractual obligations as of December 31, 2008 and the effect such obligations and commitments are expected tohave on our liquidity and cash flow in future periods (in thousands): Payments Due by PeriodContractual Obligations2009201020112012 2013 Thereafter TotalLong-term debt arrangements$—$—$67,500$—$—$—$67,500Interest on convertible senior notes2,5302,5302,319———7,379Operating leases8,0608,6528,9898,8688,32515,03657,930Purchase obligations6,506700508———7,714 Total contractual cash obligations$17,906$11,882$79,316$8,868$8,325$15,036$140,523 Amounts of Commitment Expiration Per PeriodOther Commercial Commitments2008 2009 2010 2011 2012 Thereafter TotalLetters of credit$2,200$—$—$—$—$—$2,200 Total commercial commitments$2,200$—$—$—$—$—$2,200 Purchase Obligations. The amount of purchase obligations shown above is based on assumptions regarding the legal enforceability against us ofpurchase orders we had outstanding at December 31, 2008. Under different assumptions regarding our rights to cancel our purchase orders or differentassumptions regarding the enforceability of the purchase orders under applicable law, the amount of purchase obligations shown in the table above would beless. Long-Term Debt Arrangements and Interest. In November 2004, we completed an offering of $120.0 million of 3.75% Convertible Senior Notes (the“Senior Notes”). Proceeds to us were $116.2 million, net of $3.8 million of initial purchaser’s discount and debt issuance costs. The discount and debtissuance costs are being amortized using the straight-line method which approximates the interest method. We recorded amortization of discount and debtissuance costs related to this offering totaling $620,000, $417,000 and $344,000 during the years ended December 31, 2006, 2007 and 2008, respectively.Interest on the Senior Notes is payable semi-annually on June 1 and December 1 of each year. The Senior Notes mature on December 1, 2011 and areunsecured and rank equally in right of payment with all existing and future unsecured, unsubordinated debt and senior in right of payment to any existingand future subordinated indebtedness. The Senior Notes are convertible at any time prior to maturity into our common stock at the option of the note holders at a conversion price of $76.23 pershare or, approximately 885,000 shares in aggregate (subject to adjustment in certain events, including stock splits, dividends and other distributions andcertain repurchases of our stock, as well as certain fundamental changes in the ownership of us). Beginning December 1, 2009, we have the right to redeemthe Senior Notes, in whole or in part, for cash at 100% of the principal amount plus accrued and unpaid interest. Upon the occurrence of a fundamentalchange (including the acquisition of a majority interest in us, certain changes in our board of directors or the termination of trading of our stock) meetingcertain conditions, holders of the Senior Notes may require us to repurchase for cash all or part of their notes at 100% of the principal amount plus accruedand unpaid interest. The indenture governing the Senior Notes requires us to comply with certain affirmative covenants, including making principal and interest paymentswhen due, maintaining our corporate existence and properties, and paying taxes and other claims in a timely manner. Wilmington Trust Company currentlyserves as Trustee under the indenture. Under the repurchase program discussed above, we retired $9.5 million of the Senior Notes during the quarter ended September 30, 2008 for $6.6 millionin cash, resulting in a gain of $2.8 million on early extinguishment of debt, net of $142,000 of associated unamortized discount. As of December 31, 2008,$67.5 million of the Senior Notes remained outstanding. Operating Leases Computer equipment operating leases. We have two operating leases for certain computer equipment that expire in the first and fourth quarters of 2010.It is expected that such leases will be renewed by exercising purchase options or replaced by leases of other computer equipment. Corporate office space. In July 2005, we leased approximately 154,000 rentable square feet in the Old Mill Corporate Center III in Salt Lake City, Utahfor a term of ten years. The total lease obligation over the remaining term of this lease is $30.4 million, of which approximately $4.0 million is payable in thenext twelve months. $8.0 million of the total lease obligation is offset by estimated sublease payments related to restructuring, of which $1.0 million isanticipated to be received in the next twelve months (see Item 15 of Part IV, “Financial Statements”— Note 3—“Restructuring Expense”). Logistics and warehouse space. We currently lease 795,000 square feet for warehouse facilities in Utah under operating leases which expire inAugust 2012 and August 2015. On April, 8, 2008, we entered into a lease agreement with Natomas Meadows, LLC (the “Natomas Lease”). The Natomas Lease is for a 686,865 squarefoot warehouse facility in Salt Lake City, Utah (the “New Warehouse”). The Natomas Lease provides that we will lease the New Warehouse in stages: onOctober 15, 2008, we leased the initial 232,900 square feet of the New Warehouse; on February 1, 2009, we leased a total of 435,400 square feet; and, onSeptember 1, 2009, we will lease the remainder, for a total of 686,865 square feet. The Natomas Lease term is seven years, and specifies rent, exclusive ofcommon area maintenance fees, at a variable rate over the course of the staged lease term, ranging from $0.3300 per square foot for the first stage, to $0.3950per square foot for the last year of the Natomas Lease term. Including the space now leased in the New Warehouse, we currently have warehouse operations intwo facilities in Salt Lake City. The Natomas Lease anticipates that we may construct a corporate office facility within the New Warehouse. We constructed a40,000 square foot customer service facility in the New Warehouse and commenced use of the facility on November 3, 2008. Co-location data center. We lease approximately 4,000 square feet of space at Old Mill Corporate Center I for an IT data center. The lease expires inMay 1, 2017. 57Table of Contents Borrowings Wells Fargo Credit Agreement. We have a credit agreement (as amended to date, the “Credit Agreement”) with Wells Fargo Bank, National Association(“Wells Fargo”). The Credit Agreement provides a revolving line of credit to us of up to $30.0 million which we use primarily to obtain letters of credit tosupport inventory purchases. Interest on borrowings is payable monthly and accrued at either (i) 1.0% above LIBOR in effect on the first day of an applicablefixed rate term, or (ii) at a fluctuating rate per annum determined by the bank to be one half a percent (0.50%) above daily LIBOR in effect on each businessday a change in daily LIBOR is announced by the bank. The Credit Agreement expires on January 1, 2010, and requires us to comply with certain covenants,including restrictions on mergers, business combinations or transfer of assets. Borrowings and outstanding letters of credit under the Credit Agreement are required to be completely collateralized by cash balances held at WellsFargo Bank, N.A, and therefore the facility does not provide additional liquidity to us. At December 31, 2008, no amounts were outstanding under the Credit Agreement, and letters of credit totaling $2.2 million were issued on our behalf. Wells Fargo Retail Finance Agreement. On January 6, 2009 we entered into an Amended and Restated Loan and Security Agreement dated January 6,2009 (the “WFRF Agreement”) with Wells Fargo Retail Finance, LLC (“WFRF”). The WFRF Agreement replaces our Loan and Security Agreement datedDecember 12, 2005 with WFRF. The WFRF Agreement provides for advances to us and for the issuance of letters of credit for our account of up to an aggregate maximum of$35.0 million. The amount actually available to us may be less and may vary from time to time, depending on, among other factors, the amount of its eligibleinventory and receivables. Our obligations under the WFRF Agreement and all related agreements are collateralized by all or substantially all of our and oursubsidiaries’ assets. Our obligations under the WFRF Agreement are cross-collateralized with our obligation under our $30.0 million credit facility withWells Fargo Bank, N.A. The WFRF Agreement contains standard default provisions and expires on January 5, 2011. The conditions to our use of the facilityinclude a 45-day advance notice requirement. Advances under the WFRF Agreement bear interest at either (a) the rate announced, from time to time, within Wells Fargo Bank, N.A. at its principaloffice in San Francisco as its “prime rate” or (b) a rate based on LIBOR plus a varying percentage between 1.25% and 1.75%; however, the annual interest rateon advances under the Agreement will be at least 3.50%. The Agreement includes affirmative covenants as well as negative covenants that prohibit a varietyof actions without the lender’s approval, including covenants that limit our ability to (a) incur or guarantee debt, (b) create liens, (c) enter into any merger,recapitalization or similar transaction or purchase all or substantially all of the assets or stock of another person, (d) sell assets, (e) change our name or thename of any of our subsidiaries, (f) make certain changes to our business, (g) optionally prepay, acquire or refinance indebtedness, (h) consign inventory,(i) pay dividends on, or purchase, acquire or redeem shares of, our capital stock, (j) change method of accounting, (k) make investments, (l) enter intotransactions with affiliates, or (m) store any of our inventory or equipment with third parties. At December 31, 2008, no amounts were outstanding under the WFRF Agreement or under our prior loan agreement with WFRF. Wells Fargo Commercial Purchasing Card Agreement. We have a commercial purchasing card agreement (the “Purchasing Card”) with Wells FargoBank, National Association (“Wells Fargo”). We use the Purchasing Card for business purpose purchasing and must pay it in full each month. Outstandingamounts under the Purchasing Card are collateralized by cash balances held at Wells Fargo Bank, N.A, and therefore the facility does not provide additionalliquidity to us. At December 31, 2008, $436,000 was outstanding and $564,000 was available under the Purchasing Card. 58Table of Contents Off-Balance Sheet Arrangements We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition,changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that would be material toinvestors. Non-GAAP Financial Measures Regulation G, Conditions for Use of Non-GAAP Financial Measures, and other SEC regulations regulate the disclosure of certain non-GAAP financialinformation. Adjusted EBITDA. Our measure of Adjusted EBITDA (a non-GAAP financial measure) (which we reconcile to “Net income (loss)” in our statement ofoperations) consists of earnings before interest, taxes, depreciation, amortization, stock-based compensation, other income (expense) and discontinuedoperations. Adjusted EBITDA is used in addition to and in conjunction with results presented in accordance with GAAP and should not be relied upon to theexclusion of GAAP financial measures. Adjusted EBITDA reflects an additional way of viewing our results that, when viewed with our GAAP results,provides a more complete understanding of factors and trends affecting our results. You should review our financial statements and publicly-filed reports intheir entirety and not rely on any single financial measure. Our discussion above and below (i) explains why management believes that presentation ofAdjusted EBITDA provides useful information to investors regarding our financial condition and results of continuing operations, (ii) to the extent material,discloses the additional purposes, if any, for which management uses this non-GAAP measure, and (iii) provides a reconciliation of this measure to our netincome (loss). For further details on Adjusted EBITDA, see the reconciliation of this non-GAAP measure to our GAAP net income (loss) below (in thousands): Three months endedDecember 31, Twelve months endedDecember 31,20072008 2007 2008Net income (loss)$(6,470)$1,014$(48,036)$(12,658)Add back amounts for computation of Adjusted EBITDA:Depreciation and amortization, including internal-usesoftware and website development, and otheramortization6,6704,70329,49522,667Stock-based compensation expense to employees anddirectors1,1367804,5224,022Stock-based compensation to consultants for services(91)78189259Stock-based compensation related to performance shareplan(900)(1,300)(550)(1,000)Treasury stock issued from treasury for 401(k) matchingcontribution(434)—49419Interest (income) expense, net(326)371(600)299Other income (expense), net—4,297921,446Loss from discontinued operations——3,924— Adjusted EBITDA$(415)$9,943$(10,470)$15,054 We believe that discussing Adjusted EBITDA at this stage of our business is useful to us and investors, as Adjusted EBITDA is a reasonable measure ofactual cash used or cash generated by the continuing operations of our business. Free Cash Flow. Free cash flow (a non-GAAP financial measure) reflects an additional way of viewing our cash flows and liquidity that, when viewedwith our GAAP results, provides a more complete understanding of factors and trends affecting our cash flows. Free cash flow, which we reconcile to “Netcash provided by (used in) operating activities”, is cash flow from operations reduced by “Expenditures for fixed assets, including internal-use software andwebsite development.” Although we believe that cash flow from operating activities is an important measure, we believe free cash flow is a useful measure toevaluate our business since purchases of fixed assets are a necessary component of ongoing operations. Therefore, we believe it is important to view free cashflow as a complement to our entire consolidated statements of cash flows. Three months endedDecember 31, Twelve months endedDecember 31,(in thousands)20072008 2007 2008 Net cash provided by operating activities$55,734$42,830$9,977$1,960Expenditures for fixed assets, including internal-use softwareand website development(411)(3,432)(2,643)(18,690) Free cash flow$55,323$39,398$7,334$(16,730) 59Table of Contents Quarterly Results of Operations (unaudited) The following tables set forth our unaudited quarterly results of operations for the eight most recent quarters for the period ended December 31, 2008, aswell as such data expressed as a percentage of our total revenue for the periods presented. The information in the table below should be read in conjunctionwith the Consolidated Financial Statements and the Notes thereto included elsewhere in this Form 10-K. We have prepared this information on the same basisas the Consolidated Financial Statements and the information includes all adjustments, consisting only of normal recurring adjustments, that we considernecessary for a fair statement of our financial position and operating results for the quarters presented. Our quarterly operating results have variedsubstantially in the past and may vary substantially in the future. You should not draw any conclusions about our future results from the results of operationsfor any particular quarter. Three Months Ended Mar. 31,2007 June 30,2007 Sept. 30,2007 Dec. 31,2007 Mar. 31,2008 June 30,2008 Sept. 30,2008 Dec. 31,2008 (in thousands, except per share data)Consolidated Statement ofOperations Data:RevenueDirect revenue$46,990$43,658$39,270$67,170$51,764$39,832$34,176$48,431Fulfillment partner revenue115,166105,513120,789227,346151,050149,044152,679207,431 Total revenue162,156149,171160,059294,516202,814188,836186,855255,862 Cost of goods soldDirect41,46936,45633,26856,81544,80334,87130,63344,194Fulfillment partner96,07786,52399,425191,319124,040120,756124,103168,058 Total cost of goods sold137,546122,979132,693248,134168,843155,627154,736212,252 Gross profit24,61026,19227,36646,38233,97133,20932,11943,610 Operating expenses:Sales and marketing11,2847,9628,83527,37715,01914,24411,93416,437Technology14,97315,23714,57614,66714,51615,31114,11913,869General and administrative10,68910,4299,72411,1349,56310,86710,3217,622Restructuring6,0896,194—————— Total operating expenses43,03539,82233,13553,17839,09840,42236,37437,928 Operating income/(loss)(18,425)(13,630)(5,769)(6,796)(5,127)(7,213)(4,255)5,682Interest income, net9901,0781,2911,4291,304740664455Interest expense(1,029)(1,027)(1,029)(1,103)(901)(888)(847)(826)Other income (expense), net——(92)——22,849(4,297) Income /(loss) from continuingoperations(18,464)(13,579)(5,599)(6,470)(4,724)(7,359)(1,589)1,014Discontinued operations:Loss from discontinued operations(3,624)(300)——————Net income/(loss) attributable tocommon shares$(22,088)$(13,879)$(5,599)$(6,470)$(4,724)$(7,359)$(1,589)$1,014 60Table of Contents Net income/(loss) per common share—basic Income /(loss) from continuingoperations$(0.78)$(0.57)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04 Loss from discontinuedoperations$(0.16)$(0.01)$—$—$—$—$—$— Net income /(loss) per share—basic$(0.94)$(0.58)$(0.23)$(0.27)$(0.20)$(0.32)$(0. 07)$0.04Weighted average common sharesoutstanding—basic23,59423,68923,72623,80723,34522,75022,76822,745Net income /(loss) per common share—diluted Income /(loss) from continuingoperations$(0.78)$(0.57)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04 Loss from discontinuedoperations$(0.16)$(0.01)$—$—$—$—$—$— Net income /(loss) per share—diluted$(0.94)$(0.58)$(0.23)$(0.27)$(0.20)$(0.32)$(0. 07)$0.04Weighted average common sharesoutstanding — diluted23,59423,68923,72623,80723,34522,75022,76822,827 Three Months Ended Mar. 31, 2007 June 30, 2007 Sept. 30, 2007 Dec. 31, 2007 Mar. 31, 2008 June 30, 2008Sept. 30, 2008Dec. 31, 2008 Additional Operating Data(1):Gross bookings (inthousands) (2)$174,740$164,646$176,410$336,340$219,754$206,151$204,656$285,648Number of orders(3)1,481,0001,288,0001,457,0002,973,0001,773,0001,574,0001,570,0002,509,000 Number of newB2C customers (4)473,000394,000486,0001,104,000596,000516,000547,000930,000 Average customer acquisitioncost(5)$24.58$20.20$18.17$24.98$25.21$27.61$21.82$17.67 (1)The additional operating data sets forth certain operating data relating to our business for the eight most recent quarters for the period endedDecember 31, 2008. While we believe that the information in the table above facilitates an understanding of our business and results of operations forthe periods presented, such information is not in accordance with generally accepted accounting principles and should be read in conjunction with thequarterly results of operations data set forth above. (2)Gross bookings exclude bookings related to the auctions, cars and real estate businesses (shopping business only). We believe that gross bookings is ametric widely used in our industry and by making this metric available to investors, we believe investors are able to compare our performance againstothers in our industry. (3)Number of orders represents the number of individual orders for merchandise through our Website excluding Business to Business (“B2B”) orders. (4)Number of new Business to Consumers (“B2C”) customers represents the number of valid new customer accounts. To establish a valid customeraccount, a person must provide us with the following information and purchase merchandise on our B2C Website: a unique e-mail address; a uniquepassword; and a verified credit card account number. (5)Average customer acquisition cost represents total shopping sales and marketing expense divided by the number of new shopping customers for theperiod presented (excluding both new customers and marketing costs for the auctions, real estate, and cars business). We believe that investors may usethe average customer acquisition cost metric to determine how efficiently we are able to acquire new customers. 61Table of Contents Three Months Ended Mar. 31,2007June 30,2007Sept. 30,2007 Dec. 31,2007 Mar. 31,2008 June 30,2008 Sept. 30,2008 Dec. 31,2008 (as a percentage of total revenue) RevenueDirect revenue29.0%29.3%24.5%22.8%25.5%21.1%18.3%18.9%Fulfillment partner revenue71.070.775.577.274.578.981.781.1 Total revenue100.0100.0100.0100.0100.0100.0100.0100.0 Cost of goods soldDirect25.624.420.819.322.118.516.417.3Fulfillment partner59.258.062.165.061.263.966.465.7 Total cost of goods sold84.882.482.984.383.382.482.883.0 Gross profit15.217.617.115.716.717.617.217.0 Operating expenses:Sales and marketing7.05.35.59.37.47.56.46.4Technology9.210.29.15.07.28.17.65.4General and administrative6.67.06.13.84.75.85.53.0Restructuring3.74.2—————— Total operating expenses26.526.720.718.119.321.419.514.8 Operating income (loss)(11.4)(9.1)(3.6)(2.3)(2.5)(3.8)(2.3)2.2Interest income, net0.60.70.80.50.60.40.40.2Interest expense(0.6)(0.7)(0.6)(0.4)(0.4)(0.5)(0.5)(0.3)Other income (expense), net——(0.1)——0.01.5(1.7) Income (loss) fromcontinuing operations(11.4)%(9.1)%(3.5)%(2.2)%(2.3)%(3.9)%(0.9)%0.4% 62Table of Contents ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We do not use derivative financial instruments in our investment portfolio and have no foreign exchange contracts. Our financial instruments consist ofcash and cash equivalents, marketable securities, trade accounts and contracts receivable, accounts payable and long-term obligations. We considerinvestments in highly-liquid instruments with a remaining maturity of 90 days or less at the date of purchase to be cash equivalents. Our exposure to market risk for changes in interest rates relates primarily to our short-term investments and short-term obligations; thus, fluctuations ininterest rates would not have a material impact on the fair value of these securities. However, the fair values of our investments may be subject to fluctuationsdue to volatility of the stock market in general, investment-specific circumstances, and changes in general economic conditions. At December 31, 2008, we had $100.6 million in cash and cash equivalents and $9.0 million in marketable securities. Hypothetically, an increase ordecrease in interest rates of one hundred basis points would have an estimated impact of $1.1 million on our earnings or loss, or the fair market value or cashflows of these instruments. Our cash, cash equivalents and marketable securities consisted of U.S. agency securities, money market funds and top tiercommercial paper. At December 31, 2008, we had approximately $67.5 million of convertible senior notes outstanding which bear interest at a fixed rate of 3.75%. AtDecember 31, 2008, there were no borrowings outstanding under our lines of credit and letters of credit totaling $2.2 million were outstanding under ourcredit facilities. The fair value of the convertible senior notes is sensitive to interest rate changes. Interest rate changes would result in increases or decreases in the fairvalue of the convertible senior notes, due to differences between market interest rates and rates in effect at the inception of the obligation. Unless we elect torepurchase our convertible senior notes in the open market, changes in the fair value of convertible senior notes have no impact on our cash flows orconsolidated financial statements. The estimated fair value of our 3.75% convertible senior notes as of December 31, 2008 was $38.1 million. The fair valueof the convertible senior notes was derived using a convertible pricing model with observable market inputs, which include stock price, dividend payments,borrowing costs, equity volatility, interest rates and interest spread. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The financial statements and supplementary data required by this item are included in Part IV, Item 15 of this Form 10-K and are presented beginning onpage F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports filed or submittedunder the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periodsspecified in the SEC’s rules and forms and that such information is accumulated and communicated to management, including the CEO (principal executiveofficer) and Senior Vice President, Finance (principal financial officer), as appropriate, to allow timely decisions regarding required disclosure. Management of the Company, under the supervision and with the participation of our CEO (principal executive officer) and Senior Vice President,Finance (principal financial officer), has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in the Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of December 31, 2008. Based upon this evaluation, our CEO and Senior Vice President, Finance concludedthat our disclosure controls and procedures were effective as of December 31, 2008. Management’s Report on Internal Control over Financial Reporting Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act. Internal control over financial reporting is a process designed by, or under our the supervision of, our CEO(principal executive officer) and Senior Vice President, Finance (principal financial officer), to provide reasonable assurance regarding the reliability offinancial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because ofits inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectivenessof internal control over financial reporting to future periods are subject to the risk that controls may become inadequate because of changes in conditions, orthat the degree of compliance with the policies or procedures may deteriorate. 63Table of Contents Under the supervision and with the participation of our CEO (principal executive officer) and Senior Vice President, Finance (principal financial officer),we have assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2008. In making an assessment of theeffectiveness of internal control over financial reporting, we used the criteria set forth in Internal Control—Integrated Framework, issued by the Committeeof Sponsoring Organizations of the Treadway Commission (the “COSO”). Our management concluded that based on its assessment, our internal control overfinancial reporting was effective as of December 31, 2008. The effectiveness of our internal control over financial reporting as of December 31, 2008 has been audited by PricewaterhouseCoopers LLP, anindependent registered public accounting firm, as stated in their report, included herein. Remediation Steps to Address Material Weakness As previously disclosure in our form 10-Q for the quarter ended September 30, 2008, the Company determined that there were errors in its accounting forcustomer refunds and credits and the accounting for gift cards issued to customers. As a result of these errors, the Company determined that previously issuedfinancial information was no longer reliable and amended its Annual Report on Form 10-K for the year ended December 31, 2007 to restate (1) itsconsolidated financial statements as of December 31, 2007 and 2006 and for the years ended December 31, 2007, 2006 and 2005; (2) its selected financialdata as of and for the years ended December 31, 2007, 2006, 2005, 2004 and 2003 and (3) its quarterly results of operations for all quarters in the years endedDecember 31, 2007 and 2006 on November 11, 2008. Management concluded that controls were not designed or operating effectively to ensure all refundsand credits issued to customers and gift cards issued to customers were completely and accurately recorded in the consolidated financial statements. Thesecontrol failures impacted accounts receivable and deferred revenue in the consolidated balance sheet as well as revenue and returns expense (a component ofrevenue), in the consolidated statements operations. Management concluded that these deficiencies in the Company’s internal control over financialreporting constituted a material weakness. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonablepossibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis. Management of the Company implemented several processes to remediate the material weakness in the Company’s internal control over financialreporting and the ineffectiveness of its disclosure controls and procedures including: ·Employee training on effectively reconciling customer refunds and credits and customer gift cards to a sufficient level of precision;·Regular reconciliation of credits and accounts receivable balance to third party statements;·Review and approval of these reconciliations by a person knowledgeable with the way transactions in these accounts are processed;·Controls to ensure changes to peripheral systems are evaluated for effects on data transferred to the ERP system;·Regular reconciliation of gift cards issued to customers as reported in the ERP system to amounts reported in peripheral systems. We operated and tested the above controls at each month end during the fourth quarter of 2008. We have determined as of December 31, 2008 that the remediation controls discussed above were effectively designed and demonstrated effectiveoperation for a sufficient period of time to enable us to conclude that the material weakness has been remediated. The effectiveness of any controls and procedures is subject to certain limitations, and, as a result, there can be no assurance that our controls andprocedures will detect all errors or fraud. A control, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that theobjectives of the control system will be attained. We will continue to develop new policies and procedures as well as educate and train our employees on our existing policies and procedures in acontinual effort to improve our internal control over financial reporting. Changes in Internal Control over Financial Reporting As described above, there have been changes in our internal control over financial reporting during the quarter ended December 31, 2008 that havematerially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. 64Table of Contents ITEM 9B. OTHER INFORMATION None. 65Table of Contents PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE Except as set forth herein, the information required by this Item is incorporated by reference to the Company’s definitive proxy statement for the 2009annual meeting of stockholders. The Company has adopted a Code of Business Conduct and Ethics, which is applicable to all employees of the Company, including the principalexecutive officer, principal financial officer, and principal accounting officer. The Code includes provisions that are specifically applicable to our seniorfinancial officers. We intend to disclose any amendments to these provisions and any waivers from any of these provisions granted to our principal executiveofficer, principal financial officer or principal accounting officer on our Website, www.overstock.com . We will provide a copy of the relevant portion to anyperson without any charge upon request in writing addressed to Overstock.com Attn: Investor Relations, 6350 South 3000 East, Salt Lake City, UT 84121. ITEM 11. EXECUTIVE COMPENSATION The information required by this Item is incorporated by reference to the Company’s definitive proxy statement for the 2009 annual meeting ofstockholders. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND RELATED STOCKHOLDER MATTERS The information required by this Item is incorporated by reference to the Company’s definitive proxy statement for the 2009 annual meeting ofstockholders. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this Item is incorporated by reference to the Company’s definitive proxy statement for the 2009 annual meeting ofstockholders. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this Item is incorporated by reference to the Company’s definitive proxy statement for the 2009 annual meeting ofstockholders. 66Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES (a) 1. Financial Statements INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page Report of Independent Registered Public Accounting FirmF-2Consolidated Balance SheetsF-3Consolidated Statements of OperationsF-4Consolidated Statement of Stockholders’ Equity (Deficit) and Comprehensive LossF-5Consolidated Statements of Cash FlowsF-6Notes to Consolidated Financial StatementsF-8Schedule II Valuation and Qualifying AccountsF-35 2. Financial Statement Schedules Schedule II Valuation and Qualifying Accounts listed in (a)(1) above is included herein. Schedules other than those listed above have been omitted asthey are either not required, not applicable, or the information has otherwise been shown in the consolidated financial statements or notes thereto. 3. Exhibits The exhibits listed below are filed as part of, or incorporated by reference into, this Form 10-K. Exhibit Number Description of Document 3.1(a)Amended and Restated Certificate of Incorporation. 3.2(a)Amended and Restated Bylaws (incorporated by reference to Exhibit 3.1 to our Report on Form 8-K filed on February 5, 2009). 4.1(b)Form of specimen common stock certificate. 4.2(b)Investor Rights Agreement, dated March 4, 2002. 10.1(b)Form of Indemnification Agreement between Overstock.com, Inc. and each of its directors and officers. 10.2(b)Amended and Restated 1999 Stock Option Plan and form of agreements thereunder. 10.3(b)2001 Stock Purchase Plan and form of agreements thereunder. 10.4(b)Gear.com, Inc. Restated 1998 Stock Option Plan and form of agreements thereunder. 10.5Form of agreements under 2002 Stock Option Plan, as amended (incorporated by reference to Exhibit 10.5 to our RegistrationStatement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.6(b)Agreement and Plan of Merger dated November 3, 2000 by and between Overstock.com, Inc. and Gear.com, Inc. 10.7Lease Agreement dated January 23, 2002 between Overstock.com, Inc. and Holladay Building East L.L.C. (incorporated by referenceto Exhibit 10.8 to our Registration Statement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 67Table of Contents 10.8Lease Agreement dated November 27, 2001 between Overstock.com and Holladay Building East L.L.C. (incorporated by reference toExhibit 10.9 to our Registration Statement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.9First Lease Extension Agreement dated January 25, 2002 by and between Overstock.com, Inc. and Holladay Building East L.L.C(incorporated by reference to Exhibit 10.10 to our Registration Statement on Form S-1 (File No. 333-83728), which became effectiveon May 29, 2002). 10.10Lease Agreement by and between Overstock.com, Inc. and Marvin L. Oates Trust dated March 15, 2000 (incorporated by reference toExhibit 10.12 to our Registration Statement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.11Severance Package Agreement with Douglas Greene dated June 17, 1999 (incorporated by reference to Exhibit 10.13 to ourRegistration Statement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.12Intellectual Property Assignment Agreement with Douglas Greene dated February 28, 2002 (incorporated by reference toExhibit 10.14 to our Registration Statement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.13Amendment No. 1, dated April 29, 2002 to Intellectual Property Assignment Agreement dated February 28, 2002 by and betweenOverstock.com, Inc. and Douglas Greene. (incorporated by reference to Exhibit 10.18 to our Registration Statement on Form S-1 (FileNo. 333-83728), which became effective on May 29, 2002). 10.14Form of Warrant to purchase Overstock.com, Inc. common stock. (incorporated by reference to Exhibit 10.20 to our RegistrationStatement on Form S-1 (File No. 333-83728), which became effective on May 29, 2002). 10.15Lease Amendment #1 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated August 28, 2000. (incorporated byreference to Exhibit 10.22 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12,2003). 10.16Commencement of Lease Amendment #1 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated October 25, 2000(incorporated by reference to Exhibit 10.23 to our Registration Statement on Form S-1 (File No. 333-102763), which became effectiveon February 12, 2003). 10.17Lease Amendment #2 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated November 12, 2001.(incorporated byreference to Exhibit 10.24 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12,2003). 10.18Lease Amendment #3 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated July 23, 2002.(incorporated by referenceto Exhibit 10.25 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12, 2003). 10.19Lease Amendment #4 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated August 19, 2002.(incorporated byreference to Exhibit 10.26 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12,2003). 10.20Lease Amendment #5 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated October 11, 2002.(incorporated byreference to Exhibit 10.27 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12,2003). 10.21Lease Amendment #6 by and between Overstock.com, Inc. and Marvin L. Oates Trust, dated December 23, 2002.(incorporated byreference to Exhibit 10.28 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12,2003). 68Table of Contents 10.22Old Mill Corporate Center First Amendment to the Lease Agreement by and between Overstock.com, Inc. and Holladay Building EastL.L.C., dated September 1, 2002.(incorporated by reference to Exhibit 10.29 to our Registration Statement on Form S-1 (File No. 333-102763), which became effective on February 12, 2003). 10.23Credit Agreement dated February 13, 2004 between Overstock.com, Inc. and Wells Fargo Bank National Association (incorporated byreference to Exhibit 10.31 to our Annual Report on Form 10-K for the year ended December 31, 2003 filed on February 24, 2004). 10.24Amendment to Credit Agreement by and between Overstock.com, Inc., and Wells Fargo Bank, National Association datedDecember 22, 2004. (incorporated by reference to Exhibit 99.1 to our Report on Form 8-K filed on December 27, 2004). 10.25Tenant Improvement Agreement by and between Overstock.com, Inc. and old Mill Corporate Center III, LLC entered on February 11,2005 (incorporated by reference to Exhibit 99.1 to our Report on Form 8-K filed on February 11, 2005). 10.26Sublease Agreement by and between Overstock.com, Inc., Old Mill Technology Center, LLC, and Old Mill Building LLC(incorporated by reference to Exhibit 99.1 to our Report on Form 8-K/A filed on December 7, 2004). 10.27Sublease Agreement by and between Overstock.com, Inc., Document Controls Systems, Inc., and Old Mill Building LLC(incorporated by reference to Exhibit 99.2 to our Report on Form 8-K/A filed on December 7, 2004). 10.28Sublease Agreement by and between Overstock.com, Inc., Information Technology International, Inc., and Old Mill Building LLC(incorporated by reference to Exhibit 99.3 to our Report on Form 8-K/A filed on December 7, 2004). 10.29Old Mill Corporate Center Fourth Amendment to the Lease Agreement (incorporated by reference to Exhibit 99.4 to our Report onForm 8-K/A filed on December 7, 2004). 10.30Co-location Center Agreement (incorporated by reference to Exhibit 99.5 to our Report on Form 8-K/A filed on December 7, 2004). 10.31Indenture, dated November 23, 2004, between Overstock.com, Inc. and Wells Fargo Bank, N.A., as trustee (incorporated by referenceto Exhibit 10.1 to our Report on Form 8-K filed on November 24, 2004). 10.32Registration Rights Agreement, dated November 23, 2004 by and among Overstock.com, Inc., Lehman Brothers., Piper Jaffray & Co.,Legg Mason Wood Walker Incorporated and WR Hambrecht+ Co, LLC (incorporated by reference to Exhibit 10.2 to our Report onForm 8-K filed on November 24, 2004). 10.33Purchase Agreement dated November 17, 2004 with Lehman Brothers Inc. as Representative (incorporated by reference toExhibit 10.34 to our report on Form 10-K for the year ended December 31, 2004 filed on March 16, 2005). 10.34Underwriting Agreement dated November 17, 2004 with Lehman Brothers Inc. as Representative (incorporated by reference toExhibit 1.1 to our Report on Form 8-K filed on November 18, 2004) 10.35Underwriting Agreement dated May 13, 2004 with WR Hambrecht & Co., LLC and JMP Securities LLC. as Representatives(incorporated by reference to Exhibit 1.1 to our Report on Form 8-K filed on May 14, 2004 10.362002 Stock Option Plan, as amended (incorporated by reference to Exhibit 99.6 to our Report on Form 8-K filed May 7, 2004) 69Table of Contents 10.37(c)Summary of unwritten Compensation arrangements with Named Executive Officers 10.38(c)Summary of unwritten Compensation arrangements with Directors 10.392005 Equity Incentive Plan (incorporated by reference to Appendix A to Overstock.com, Inc.’s definitive proxy statement filed withthe SEC on March 28, 2008. 10.40Fifth Amendment dated June 21, 2005 to Credit Agreement with Wells Fargo Bank, National Association (incorporated by referenceto Exhibit 99.1 to our Form 8-K filed on June 27, 2005) 10.41First Modification dated June 21, 2005 to Promissory Note payable to Wells Fargo Bank, National Association (incorporated byreference to Exhibit 99.2 to our Form 8-K filed on June 27, 2005) 10.43Sixth Amendment dated October 18, 2005 to Credit Agreement with Wells Fargo Bank, National Association (incorporated byreference to Exhibit 10.1 to our Form 8-K filed on October 21, 2005) 10.44Second Modification dated October 18, 2005 to Promissory Note payable to Wells Fargo Bank, National Association (incorporatedby reference to Exhibit 10.2 to our Form 8-K filed on October 21, 2005) 10.45Seventh Amendment dated December 31, 2005 to Credit Agreement with Wells Fargo Bank, National Association (incorporated byreference to Exhibit 10.1 to our Form 8-K filed on January 6, 2006) 10.46.Revolving Line of Credit Note dated January 1, 2006 payable to Wells Fargo Bank, National Association (incorporated by referenceto Exhibit 10.2 to our Form 8-K filed on January 1, 2006) 10.47Amended and Restated Loan and Security Agreement dated as of January 6, 2009 with Wells Fargo Retail Finance, LLC (incorporatedby reference to Exhibit 10.1 to our Form 8-K filed on January 7, 2009) 10.49Stock Purchase Agreement by and among Overstock.com, Inc., OTravel.com, Inc. and Castles Travel, Inc. dated April 25, 2007(incorporated by reference to Exhibit 10.1 to our Report on Form 8-K filed on April 25, 2007) 10.50License Termination Agreement between Overstock.com, Inc. and Ozburn-Hessey Logistics, LLC dated July 31, 2007 (incorporatedby reference to Exhibit 10.1 to our Report on Form 8-K filed on August 1, 2007) 10.51Amendment dated January 1, 2008 to Credit Agreement with Wells Fargo Bank, National Association (incorporated by reference toExhibit 10.1 to our Report on Form 8-K filed on January 3, 2008) 10.52Revolving Line of Credit Note dated January 1, 2008 entered into in connection with Amendment to Credit Agreement with WellsFargo Bank, National Association (incorporated by reference to Exhibit 10.2 to our Report on Form 8-K filed on January 3, 2008) 10.53Form of Restricted Stock Unit Grant Notice and Restricted Stock Agreement under the 2005 Equity Incentive Plan (incorporated byreference to Exhibit 10.1 to our Report on Form 8-K filed on January 15, 2008) 10.54Lease Agreement with Natomas Meadows, LLC dated April 8, 2008 (incorporated by reference to Exhibit 10.1 to our Report onForm 8-K filed on April 11, 2008). 70Table of Contents 10.55First Amendment to Lease amending the terms of the Lease Agreement with Natomas Meadows, LLC dated December 16, 2008(incorporated by reference to Exhibit 10.1 to our Report on Form 8-K filed on December 17, 2008). 10.56Note Purchase Agreement, First Amendment to Stock Purchase Agreement and First Amendment to Sub-Lease Agreement, by andamong the Company, Mountain Reservations, Inc. and Castles Travel, Inc. dated January 21, 2009 (incorporated by reference toExhibit 10.1 to our Report on Form 8-K filed on January 26, 2008). 21Subsidiaries of the Registrant 23.1Consent of Independent Registered Public Accounting Firm 24.1Powers of Attorney (see signature page) 31.1Exhibit 31 Certification of Chief Executive Officer 31.2Exhibit 31 Certification of Chief Financial Officer 32.1Section 1350 Certification of Chief Executive Officer 32.2Section 1350 Certification of Chief Financial Officer (a)Incorporated by reference to exhibits of the same number filed with our Form 10-Q (File No. 000-49799), filed on August 13, 2002. (b)Incorporated by reference to exhibits of the same number filed with our Registration Statement on Form S-1 (File No. 333-83728), which becameeffective on May 29, 2002. (c)Management contract or compensatory plan or arrangement. 71Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Act of 1934, the registrant has duly caused this report to be signed on its behalf bythe undersigned, thereunto duly authorized, on February 23, 2009. OVERSTOCK.COM, INC. By:/s/ PATRICK M. BYRNEPatrick M. ByrneChief Executive Officer 72Table of Contents POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints each of Patrick M. Byrne,Jonathan E. Johnson III and Steve Chesnut, his or her attorneys-in-fact, each with the power of substitution, for him or her in any and all capacities, to signany amendments to this Annual Report on Form 10-K and to file the same, with exhibits thereto and other documents in connection therewith, with theSecurities and Exchange Commission, hereby ratifying and conforming all that said attorney-in-fact, or his or their substitute or substitutes, may do or causeto be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of theregistrant and in the capacities and on the dates indicated. SignatureTitle Date /s/ Patrick M. Byrne Chief Executive Officer (Principal Executive Officer),February 20, 2009Patrick M. Byrne Chairman of the Board /s/ Stephen J. Chesnut Senior Vice President, Finance (Principal Financial Officer andFebruary 20, 2009Stephen J. Chesnut Principal Accounting Officer) /s/ Allison H. Abraham DirectorFebruary 20, 2009Allison H. Abraham /s/ Barclay F. Corbus DirectorFebruary 20, 2009Barclay F. Corbus /s/ Joseph J. Tabacco, Jr. DirectorFebruary 20, 2009Joseph J. Tabacco, Jr. /s/ James V. Joyce DirectorFebruary 20, 2009James V. Joyce 73Table of Contents INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Registered Public Accounting FirmF-2Consolidated Balance SheetsF-3Consolidated Statements of OperationsF-4Consolidated Statement of Stockholders’ Equity (Deficit) and Comprehensive LossF-5Consolidated Statements of Cash FlowsF-6Notes to Consolidated Financial StatementsF-8Schedule II Valuation and Qualifying AccountsF-35 F-1Table of Contents Report of Independent Registered Public Accounting Firm To the Board of Directors and Stockholders of Overstock.com, Inc: In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in all material respects, the financialposition of Overstock.com, Inc. and its subsidiaries at December 31, 2008 and 2007, and the results of their operations and their cash flows for each of thethree years in the period ended December 31, 2008 in conformity with accounting principles generally accepted in the United States of America. In addition,in our opinion, the financial statement schedule listed in the accompanying index appearing under Item 15(a)(1) presents fairly, in all material respects, theinformation set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, inall material respects, effective internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control - IntegratedFramework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible forthese financial statements and financial statement schedule, for maintaining effective internal control over financial reporting and for its assessment of theeffectiveness of internal control over financial reporting, included in Management’s Report on Internal Control over Financial Reporting appearing underItem 9A. Our responsibility is to express opinions on these financial statements, on the financial statement schedule, and on the Company’s internal controlover financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company AccountingOversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financialstatements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our auditsof the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing theaccounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internalcontrol over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weaknessexists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performingsuch other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reportingand the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal controlover financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are beingmade only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention ortimely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliancewith the policies or procedures may deteriorate. /s/ PricewaterhouseCoopers LLP Salt Lake City, UtahFebruary 23, 2009 F-2Table of Contents Overstock.com, Inc.Consolidated Balance Sheets(in thousands) December 31,2007 2008 AssetsCurrent assets:Cash and cash equivalents$101,394$100,577Marketable securities46,0008,989 Cash, cash equivalents and marketable securities147,394109,566Accounts receivable, net11,2086,985Notes receivable (Note 25 and Note 4)1,5061,250Inventories, net25,64317,723Prepaid inventory, net3,572761Prepaid expense7,5729,694 Total current assets196,895145,979Fixed assets, net27,19723,144Goodwill2,7842,784Other long-term assets, net86538Notes receivable (Note 4)4,181— Total assets$231,143$172,445 Liabilities and Stockholders’ Equity (Deficit)Current liabilities:Accounts payable$70,358$62,120Accrued liabilities37,15525,154Deferred revenue22,96519,026Capital lease obligations3,796— Total current liabilities134,274106,300Other long-term liabilities3,0342,572Convertible senior notes75,62366,558 Total liabilities212,913175,430 Commitments and contingencies (Notes 13 and 14)Stockholders’ equity (deficit):Preferred stock, $0.0001 par value, 5,000 shares authorized, no shares issued and outstanding as ofDecember 31, 2007 and 2008——Common stock, $0.0001 par value, 100,000 shares authorized, 25,423 and 25,536 shares issued as ofDecember 31, 2007 and 2008, respectively, and 23,818 and 22,743 shares outstanding as ofDecember 31, 2007 and 2008, respectively22Additional paid-in capital333,909338,620Accumulated deficit(252,327)(264,985) Treasury stock, 1,605 and 2,793 shares at cost as of December 31, 2007 and 2008, respectively(63,278)(76,670)Accumulated other comprehensive income (loss)(94)48 Total stockholders’ equity (deficit)18,212(2,985) Total liabilities and stockholders’ equity (deficit)$231,143$172,445 The accompanying notes are an integral part of these consolidated financial statements. F-3Table of Contents Overstock.com, Inc.Consolidated Statements of Operations(in thousands, except per share data) Year ended December 31,20062007 2008 RevenueDirect revenue$301,509$197,088$174,203Fulfillment partner revenue478,628568,814660,164 Total revenue780,137765,902834,367 Cost of goods soldDirect(1)284,774168,008154,501Fulfillment partner405,559473,344536,957 Total cost of goods sold690,333641,352691,458 Gross profit89,804124,550142,909 Operating expenses:Sales and marketing(1)70,89755,45857,634Technology(1)65,15859,45357,815General and administrative(1)46,83741,97638,373Restructuring5,67412,283— Total operating expenses188,566169,170153,822 Operating loss(98,762)(44,620)(10,913)Interest income, net3,5664,7883,163Interest expense(4,765)(4,188)(3,462)Other income (expense), net81(92)(1,446) Loss from continuing operations(99,880)(44,112)(12,658)Loss from discontinued operations (Note 4)(6,882)(3,924)— Net loss(106,762)(48,036)(12,658)Deemed dividend related to redeemable common stock(99)—— Net loss attributable to common shares$(106,861)$(48,036)$(12,658) Net loss per common share—basic and diluted:Loss from continuing operations$(4.91)$(1.86)$(0.55) Loss from discontinued operations$(0.34)$(0.17)$— Net loss per common share—basic and diluted$(5.25)$(2.03)$(0.55) Weighted average common shares outstanding—basic and diluted20,33223,70422,901 (1) Includes stock-based compensation from stock based awards as follows (Note 18): Cost of goods sold—direct$412$460$181Sales and marketing301336313Technology684764792General and administrative2,7462,6011,995 The accompanying notes are an integral part of these consolidated financial statements. F-4Table of Contents Overstock.com, Inc.Consolidated Statements of Stockholders’ Equity (Deficit) and Comprehensive Loss (in thousands) Common stockAdditional Paid- Treasury stockAccumulated OtherComprehensive SharesAmountin capitalAccumulated DeficitSharesAmountIncome (Loss)Total Balance at December 31, 200520,571$2$250,939$(97,430)(1,687)$(65,325)$962$89,148Issuance of common stock in offerings3,776—64,406————64,406Exercise of stock options276—2,534————2,534Treasury stock issued for 401(k) matching contribution——445—33342—787Stock-based compensation from employee options——4,120————4,120Stock-based compensation to consultants in exchangefor services——23————23Deemed dividend related to redeemable common stock———(99)———(99)Lapse of rescission rights on redeemable common stock446—3,304————3,304Comprehensive loss:Net loss———(106,762)———(106,762) Unrealized (loss) on marketable securities——————(1,128)(1,128)Cumulative translation adjustment——————3434 Total comprehensive loss(107,856) Balance at December 31, 200625,0692325,771(204,291)(1,654)(64,983)(132)56,367Exercise of stock options354—3,230————3,230Treasury stock issued for 401(k) matching contribution——(391)—26885—494Treasury stock issued for prior-year401(k) discretionary contribution——(412)—23820—408Stock-based compensation from employee options——4,522————4,522Stock-based compensation to consultants in exchangefor services——189————189Stock-based compensation related to performance shares——1,000————1,000Comprehensive loss :Net loss———(48,036)———(48,036) Unrealized gain on marketable securities——————4141Cumulative translation adjustment——————(3)(3) Total comprehensive loss(47,998) Balance at December 31, 200725,423$2$333,909$(252,327)(1,605)$(63,278)$(94)$18,212Exercise of stock options113—1,471————1,471Treasury stock issued for 401(k) matching contribution——(41)—260—19Purchase of treasury stock————(1,190)(13,452)—(13,452) Stock-based compensation from employee options——4,022————4,022Stock-based compensation to consultants in exchangefor services——259————259Stock-based compensation related to performance shares——(1,000)————(1,000)Comprehensive loss:Net loss———(12,658)———(12,658) Unrealized gain on marketable securities——————4848Cumulative translation adjustment——————9494 Total comprehensive loss(12,516) Balance at December 31, 200825,536$2$338,620$(264,985)(2,793)$(76,670)$48$(2,985) The accompanying notes are an integral part of these consolidated financial statements. F-5Table of Contents Overstock.com, Inc.Consolidated Statements of Cash Flows(in thousands) Year ended December 31,20062007 2008Cash flows from operating activities of continuing operations:Net loss$(106,762)$(48,036)$(12,658) Adjustments to reconcile net loss to net cash provided by (used in) operating activities ofcontinuing operations:Loss from discontinued operations6,8823,924—Depreciation and amortization, including internal-use software and website development32,32729,49522,667Realized loss (gain) on marketable securities(2,085)—334Loss on settlement of notes receivable (Note 4)——3,929Loss on disposition of fixed assets5991140Stock-based compensation to employees and directors4,1204,5224,022Stock-based compensation to consultants for services23189259Stock-based compensation relating to performance share plan—(550)(1,000)Issuance of common stock from treasury for 401(k) matching contribution78749419Amortization of debt discount417344334Gain from early extinguishment of debt——(2,849)Asset impairment and depreciation (other non-cash restructuring charges)7912,169—Restructuring charges4,88310,114—Notes receivable accretion—(272)(545)Changes in operating assets and liabilities, net of effect of acquisition and discontinuedoperations:Accounts receivable, net(1,470)4,8224,769Inventories, net67,879(1,773)7,920Prepaid inventory, net7,388(1,331)2,177Prepaid expenses1,004(99)(2,122)Other long-term assets, net496471(516)Accounts payable(35,400)11,849(8,238)Accrued liabilities(11,573)(5,908)(12,281)Deferred revenue3,401(255)(3,939)Other long-term liabilities—(193)(462) Net cash provided by (used in) operating activities of continuing operations(26,293)9,9771,960 Cash flows from investing activities of continuing operations:Change in restricted cash253——Purchases of marketable securities—(75,217)(35,548)Maturities of marketable securities56,75629,25864,542Sales of marketable securities prior to maturity——7,740Expenditures for fixed assets, including internal-use software and website development(23,441)(2,643)(18,690)Proceeds from the sale of discontinued operations, net of cash transferred—9,892—Collection of note receivable—5,1961,506Proceeds from the sale of fixed assets1—— F-6Table of Contents Other investments(100)——Decrease in cash resulting from de-consolidation of variable interest entity(102)—— Net cash provided by (used in) investing activities of continuing operations33,367(33,514)19,550 Cash flows from financing activities of continuing operations:Payments on capital lease obligations(2,957)(5,261)(3,796)Drawdowns on line of credit86,6812,42312,963Paydowns on line of credit(86,681)(2,423)(12,963)Payments to retire convertible senior notes——(6,550)Issuance of common stock in offerings, net of issuance costs64,406——Purchase of treasury stock——(13,452)Exercise of stock options2,5343,2301,471 Net cash provided by (used in) financing activities of continuing operations63,983(2,031)(22,327) Effect of exchange rate changes on cash34(3)—Cash used in operating activities of discontinued operations(1,581)(204)—Cash used in investing activities of discontinued operations(566)(53)— Net increase (decrease) in cash and cash equivalents72,106(25,828)(817)Less change in cash and cash equivalents from discontinued operations(1,016)257—Cash and cash equivalents, beginning of year55,875126,965101,394 Cash and cash equivalents from continuing operations, end of year$126,965$101,394$100,577 Supplemental disclosures of cash flow information:Interest paid$3,677$3,882$3,390Equipment and software acquired under capital leases2,273——Asset retirement obligation450——Deemed dividend on redeemable common stock99——Lapse of rescission rights on redeemable common stock3,304——Promissory notes received for sale of discontinued operations—6,000—Promissory note received in exchange for deconsolidation of variable interest entity6,702——Prior year discretionary 401(k) contribution settled in treasury stock409408— The accompanying notes are an integral part of these consolidated financial statements. F-7Table of Contents Overstock.com, Inc.Notes to Consolidated Financial Statements 1. BUSINESS AND ORGANIZATION Overstock.com, Inc. (the “Company”) is an online “closeout” retailer offering discount, brand-name merchandise for sale primarily over the Internet.The Company’s merchandise offerings include bed-and-bath goods, home décor, kitchenware, watches, jewelry, electronics and computers, sporting goods,apparel, and designer accessories, among other products. The Company also sells books, magazines, CDs, DVDs and video games (“BMMG”). As part of itsWebsite, the Company also offers an online auction service, which acts as an online marketplace for the buying and selling of goods and services, as well asan online site for listing cars and homes for sale. The Company was formed on May 5, 1997 as D2—Discounts Direct, a limited liability company. On December 30, 1998, the Company wasreorganized as a C Corporation in the State of Utah and reincorporated in Delaware in May 2002. On October 25, 1999, the Company changed its name toOverstock.com, Inc. On July 23, 2003, the Company formed Overstock Mexico, S. de R. L. de C.V., a wholly owned subsidiary, to distribute products inMexico. The Company ceased operations of its Mexico Operations on October 24, 2008. The Company has organized its operations into two principal segments based on the primary source of revenue: Direct revenue and Fulfillmentpartner revenue (see “Note 23—Business Segments”). 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of consolidation The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. The consolidatedfinancial statements include the accounts of the Company’s OTravel subsidiary through April 25, 2007 (see “Note 4—Acquisition and SubsequentDiscontinued Operations”). The consolidated financial statements also include the accounts of a variable interest entity for which the Company was theprimary beneficiary through November 30, 2006. All significant intercompany account balances and transactions have been eliminated in consolidation. Use of estimates The preparation of financial statements in conformity with generally accepted accounting principles requires estimates and assumptions that affectthe reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent liabilities in the consolidated financial statementsand accompanying notes. Estimates are used for, but not limited to, valuation of investments, receivables valuation, revenue recognition, sales returns,incentive discount offers, inventory valuation, depreciable lives of fixed assets, internally-developed software, valuation of acquired intangibles, incometaxes, stock-based compensation, and contingencies. Actual results could differ materially from those estimates. Cash and Cash Equivalents The Company classifies all highly liquid instruments, including money market funds with a remaining maturity of three months or less at the time ofpurchase, as cash equivalents. Marketable Securities Marketable securities consist of funds deposited into capital management accounts at one financial institution. The Company generally investsexcess cash in “A” rated or higher short- to intermediate-term fixed income securities and money market mutual funds, including municipal, government andcorporate bonds which are classified as cash or cash equivalents, or available-for-sale marketable securities on the consolidated balance sheets and arereported at fair value using the specific identification method. Realized gains and losses are included in other income (expense), net in the ConsolidatedStatements of Operations. Unrealized gains and losses are excluded from earnings and reported as a component of other comprehensive income (loss), net ofrelated estimated tax provisions or benefits. The Company periodically evaluates whether declines in fair values of its investments are other-than-temporary. This evaluation consists of a reviewof qualitative and quantitative factors, including quoted market prices, if available, other publicly available information, or other conditions that bear on thevalue of its investments. At December 31, 2007 and 2008, gross unrealized gains on F-8Table of Contents marketable securities were $41,000 and $48,000, respectively, and were determined to be temporary based on the Company’s assessment of the qualitativeand quantitative factors discussed above. The Company recorded an “other than temporary” impairment of marketable securities of $300,000 and realizedlosses of $34,000 during the year ended December 31, 2008. Fair value of financial instruments The Company’s financial instruments, including cash, cash equivalents, notes receivable, accounts receivable, accounts payable and accruedliabilities are carried at cost, which approximates their fair value because of the short-term maturity of these instruments. In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, Fair Value Measurements (“SFAS No. 157”), whichdefines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. SFAS No. 157 does not requireany new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS No. 157 iseffective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued FASB Staff Position, (“FSP”), FAS No. 157-2, Effective Dateof FASB Statement No. 157 (“FSP FAS No. 157-2”), which delayed the effective date of SFAS No. 157 to fiscal years beginning after November 15, 2008 andinterim periods within those fiscal years for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value inthe financial statements on a recurring basis (at least annually). The Company adopted SFAS No. 157 on January 1, 2008, except as it applies to those non-financial assets and non-financial liabilities as described in FSP FAS No. 157-2, and it did not have a material impact on its consolidated financial position,results of operations or cash flows. On a quarterly basis, the Company measures at fair value certain financial assets, including cash equivalents and available-for-sale securities.SFAS No. 157 specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable.Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These twotypes of inputs have created the following fair-value hierarchy: ·Level 1 — Quoted prices for identical instruments in active markets; ·Level 2 — Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, andmodel-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and ·Level 3 — Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. This hierarchy requires the Company to minimize the use of unobservable inputs and to use observable market data, if available, when determiningfair value. The fair value of these financial assets was determined using the following levels of inputs as of December 31, 2008 (in thousands): Fair Value Measurements as of December 31, 2008: Total Level 1 Level 2 Level 3 Assets: Cash equivalents — Money market mutual funds$100,577$100,577$—$—Available-for-sale securities8,9898,989——Total assets$109,566$109,566$—$— The estimated fair value of the Company’s 3.75% Convertible Senior Notes at December 31, 2007 and 2008 was $60.0 million and $38.1 million,respectively. The fair value of the convertible senior notes was derived using a convertible pricing model with observable market inputs, which include stockprice, dividend payments, borrow costs, equity volatility, interest rates and interest spread. Accounts receivable Accounts receivable consist of trade amounts due from customers and from uncleared credit card transactions at period end. Accounts receivable arerecorded at invoiced amounts and do not bear interest. Allowance for Doubtful Accounts The Company evaluates its allowance for doubtful accounts monthly. Account balances are written-off against the allowance F-9Table of Contents when it is probable that the receivable will not be recovered. From time to time, the Company grants credit to certain of its business customers on normalcredit terms (typically 30 days). The Company performs ongoing credit evaluations of its customers’ financial condition and maintains an allowance fordoubtful accounts receivable based upon its historical collection experience and expected collectability of all accounts receivable. The Companymaintained an allowance for doubtful accounts receivable of $2.5 million and $1.6 million as of December 31, 2007 and 2008, respectively. Concentration of credit risk Cash equivalents include short-term, highly liquid instruments with original maturities of 90 days or less. At December 31, 2007 and 2008, twobanks held the Company’s cash and cash equivalents. The Company does not believe that, as a result of this concentration, it is subject to any unusualfinancial risk beyond the normal risk associated with commercial banking relationships. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash equivalents,investment securities, and receivables. The Company invests its cash primarily in money market, government and corporate securities which are uninsured. The Company’s accounts receivable are derived primarily from revenue earned from customers located in the United States. The Company maintainsan allowance for doubtful accounts based upon the expected collectability of accounts receivable. Inventories Inventories, consisting of merchandise purchased for resale, are accounted for using a standard costing system which approximates the first-in-first-out (“FIFO”) method of accounting, and are valued at the lower of cost or market value. The Company establishes reserves for estimated obsolescence ordamage equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and marketconditions. Once established, the original cost of the inventory less the related reserve represents the new cost basis of such products. Reversal of thesereserves is recognized only when the related inventory has been sold or scrapped. Prepaid inventory Prepaid inventory represents inventory paid for in advance of receipt. Prepaid inventory at December 31, 2007 and 2008 was $3.6 million and$761,000, respectively. Prepaid expenses Prepaid expenses represent expenses paid prior to receipt of the related goods or services, including advertising, maintenance, packaging, insuranceand other miscellaneous costs. Total prepaid expenses at December 31, 2007 and 2008 were $7.6 million and $9.7 million, respectively. Fixed Assets Fixed assets, which includes assets such as furniture and fixtures, technology infrastructure, internal-use software and website development, arerecorded at cost and depreciated using the straight-line method over the estimated useful lives of the related assets or the term of the related capital lease,whichever is shorter, as follows: YearsComputer software2-3Computer hardware3Furniture and equipment3-5 Leasehold improvements are amortized over the shorter of the term of the related leases or estimated service lives. Depreciation expense is classifiedwithin the corresponding operating expense categories on our consolidated statements of operations, and certain assets are amortized as “Cost of goods sold.”Upon sale or retirement of assets, cost and related accumulated depreciation are removed from the balance sheet and the resulting gain or loss is reflected inthe consolidated statement of operations. Internal-Use Software and Website Development The Company includes in fixed assets the capitalized cost of internal-use software and website development, including software used to upgrade andenhance its Website and processes supporting the Company’s business. As required by Statement of Position (“SOP”) 98-1, Accounting for the Costs ofComputer Software Developed or Obtained for Internal Use, the Company capitalizes costs incurred during the application development stage of internal-use software and amortizes these costs over the estimated useful life of F-10Table of Contents two to three years. The Company expenses costs incurred related to design or maintenance of internal-use software as incurred. During the years ended December 31, 2007 and 2008, the Company capitalized $2.0 million and $9.0 million, respectively, of costs associated withinternal-use software and website development, both developed internally and acquired externally. Amortization of costs associated with internal-usesoftware and website development was $13.5 million and $11.6 million for those respective periods. Leases The Company accounts for its lease agreements pursuant to Statement of Financial Accounting Standards (“SFAS”) No. 13, Accounting for Leases,which categorizes leases at their inception as either operating or capital leases depending on certain defined criteria. On certain of its lease agreements, theCompany may receive rent holidays and other incentives. The Company recognizes lease costs on a straight-line basis without regard to deferred paymentterms, such as rent holidays that defer the commencement date of required payments. Additionally, incentives it receives are treated as a reduction of ourcosts over the term of the agreement. Leasehold improvements are capitalized at cost and amortized over the lesser of their expected useful life or the life ofthe lease, without assuming renewal features, if any, are exercised. Treasury Stock The Company accounts for treasury stock under the cost method and includes treasury stock as a component of stockholders’ equity (deficit). Asset Retirement Obligation In accordance with SFAS No. 143, Accounting for Asset Retirement Obligations, the Company establishes assets and liabilities for the present valueof estimated future costs to return certain of our leased facilities to their original condition. Such assets are depreciated over the lease period into operatingexpense, and the recorded liabilities are accreted to the future value of the estimated restoration costs. Other long-term assets Other long-term assets include deposits, long-term prepaids, intangibles and the fees associated with the acquisition of Overstock.com and otherrelated domain names. The cost of the domain names is being amortized using the straight-line method over five years. Impairment of long-lived assets The Company reviews property and equipment and other long-lived assets for impairment whenever events or changes in circumstances indicatethat the carrying amount of an asset may not be recoverable. Recoverability is measured by comparison of the assets’ carrying amount to future undiscountednet cash flows the assets are expected to generate. Cash flow forecasts are based on trends of historical performance and management’s estimate of futureperformance, giving consideration to existing and anticipated competitive and economic conditions. If such assets are considered to be impaired, theimpairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the projected discounted future cash flowsarising from the assets or their fair values, whichever is more determinable. The Company did not record any impairment of long-lived assets during 2006,2007 and 2008. Goodwill Goodwill represents the excess of the purchase price paid over the fair value of the tangible net assets acquired in business combinations. In accordance with SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”), goodwill is not amortized but tested for impairment atleast annually. When evaluating whether goodwill is impaired, the Company compares the fair value of the reporting unit to which the goodwill is assignedto its carrying amount. If the carrying amount exceeds its fair value, then the amount of the impairment loss must be measured. The impairment loss iscalculated by comparing the implied fair value of the goodwill to its carrying amount. In calculating the implied fair value of goodwill, the fair value of thereporting unit is allocated to all the other assets and liabilities within the reporting unit based on fair value. The excess of the fair value of a reporting unitover the amount allocated to its other assets and liabilities is the implied fair value of goodwill. An impairment loss is recognized when the carrying amountof goodwill exceeds its implied fair value. The Company evaluated its goodwill during 2008 and determined that no impairment charge should be recorded. F-11Table of Contents In conjunction with the discontinuance of the Company’s travel subsidiary (“OTravel”), the Company performed an evaluation of the goodwillassociated with the reporting unit pursuant to SFAS No. 142 and SFAS No. 144, Accounting for the Impairment of Long-Lived Assets (“SFAS No. 144”), anddetermined that goodwill of approximately $4.5 million and $3.8 million was impaired in 2006 and 2007, respectively (see “Note 4—Acquisition andSubsequent Discontinued Operations”). Revenue recognition The Company derives revenue primarily from two sources: direct revenue and fulfillment partner revenue, including listing fees and commissionscollected from products being listed and sold through the Auctions tab of its Website as well as advertisement revenue derived from its cars and real estatelisting businesses. The Company has organized its operations into two principal segments based on the primary source of revenue: Direct revenue andFulfillment partner revenue (see “Note 23—Business Segments). Revenue is recognized when the following revenue recognition criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery hasoccurred or the service has been provided; (3) the selling price or fee revenue earned is fixed or determinable; and (4) collection of the resulting receivable isreasonably assured. Revenue related to merchandise sales is recognized upon delivery to the Company’s customers. As the Company ships high volumes ofpackages through multiple carriers, it is not practical for the Company to track the actual delivery date of each shipment. Therefore, the Company usesestimates to determine which shipments are delivered and therefore recognized as revenue at the end of the period. The delivery date estimates are based onaverage shipping transit times, which are calculated using the following factors: (i) the shipping carrier (as carriers differ in transit times); (ii) the fulfillmentsource (either the Company’s warehouses or those of its fulfillment partners); (iii) the delivery destination; and (iv) actual transit time experience, whichshows that delivery date is typically one to eight business days from the date of shipment. The Company evaluates the criteria outlined in EITF Issue No. 99-19, Reporting Revenue Gross as a Principal Versus Net as an Agent, indetermining whether it is appropriate to record the gross amount of product sales and related costs or the net amount earned as commissions. When theCompany is the primary obligor in a transaction, is subject to inventory risk, has latitude in establishing prices and selecting suppliers, or has several but notall of these indicators, revenue is recorded gross. If the Company is not the primary obligor in the transaction and amounts earned are determined using afixed percentage, revenue is recorded on a net basis. Currently, the majority of both direct revenue and fulfillment partner revenue is recorded on a grossbasis, as the Company is the primary obligor. The Company periodically provides incentive offers to its customers to encourage purchases. Such offers include current discount offers, such aspercentage discounts off current purchases, and other similar offers. Current discount offers, when used by its customers, are treated as a reduction to thepurchase price of the related transaction. Direct revenue Direct revenue consists of merchandise sold through the Company’s Website to individual consumers and businesses that is fulfilled from its leasedwarehouses. Fulfillment partner revenue Fulfillment partner revenue consists of merchandise sold through the Company’s Website and shipped by third parties directly to consumers andother businesses from warehouses maintained by the fulfillment partners. During September 2004, the Company added an online auction service to its Website. The Auctions tab allows sellers to list items for sale, buyers tobid on items of interest, and users to browse through listed items online. The Company is not considered the seller of the majority of the items sold on theauction site and has no control over the pricing of the majority of those items. Therefore, for these sales, only the listing fees for items listed and commissionsfor items sold are recorded as revenue during the period items are listed or items are sold. From time to time, the Company also sells items returned from ourshopping business through our auction service, and for these sales, the revenue is recorded on a gross basis. Revenue from the auctions business has beenincluded in the fulfillment partner segment, as it is not large enough to separate out as its own segment. During December 2006, the Company added an online site for listing cars for sale as a part of its Website. The cars listing service allows dealers tolist vehicles for sale and allows buyers to review vehicle descriptions, post offers to purchase, and provides the means for purchasers to contact sellers forfurther information and negotiations on the purchase of an advertised vehicle. Revenue from its cars listing business is included in the fulfillment partnersegment, as it is not significant enough to separate out as its own segment. During August 2008, the Company added an online site for listing real estate for sale as a part of its Website. The real estate listing service allowscustomers to search active listings across the country. Listing categories include foreclosures, live and on-line auctions, for sale by owner listings,broker/agent listings and numerous aggregated classified ad listings. Revenue from the real estate F-12Table of Contents business is included in the fulfillment partner segment, as it is not significant enough to separate out as a segment. Deferred revenue Payment is generally required by credit card at the point of sale. Amounts received prior to delivery of products or services provided are recorded asdeferred revenue. In addition, amounts received in advance for Club O membership fees are recorded as deferred revenue and recognized ratably over themembership period. The Company sells gift cards and records related deferred revenue at the time of the sale. Revenue from a gift card is recognized when acustomer redeems it. If a gift card is not redeemed, the Company recognizes revenue when the likelihood of its redemption becomes remote. Reserve for returns Total revenue is recorded net of estimated returns. The Company maintains a reserve for returns based on estimates of future product returns relatedto current period revenues and historical returns experience. The Company analyzes historical returns, current economic trends and changes in customerdemand and acceptance of its products when evaluating the adequacy of the sales returns reserve and other allowances in any accounting period. The reservefor returns was $6.9 million and $5.1 million at December 31, 2007 and 2008, respectively. Reserve for obsolete and damaged inventory The Company writes down its inventory for estimated obsolescence or damage equal to the difference between the cost of inventory and theestimated market value based upon assumptions about future demand and market conditions. If actual market conditions are less favorable than thoseprojected by management, additional inventory write-downs may be required. Once established, the original cost of the inventory less the related inventoryreserve represents the new cost basis of such products. Reversal of these reserves is recognized only when the related inventory has been sold or scrapped. AtDecember 31, 2007, the Company’s inventory balance was $25.6 million (including $3.1 million of inventory in-transit related to sales shipped but not yetdelivered), net of allowance for obsolescence or damaged inventory of $1.8 million. At December 31, 2008, the Company’s inventory balance was$17.7 million (including $2.8 million of inventory in-transit related to sales shipped but not yet delivered), net of allowance for obsolescence or damagedinventory of $2.1 million. Cost of goods sold Cost of goods sold includes product costs, warehousing costs, inbound and outbound shipping costs, handling and fulfillment costs, customerservice costs and credit card fees, and is recorded in the same period in which related revenues have been recorded. Fulfillment costs include warehousehandling labor costs, fixed warehouse costs, credit card fees and customer service costs. For the years ended December 31, 2006, 2007 and 2008, fulfillmentcosts totaled $60.9 million, $47.1 million and $47.2 million, respectively. Years ended December 31, (in thousands) 2006 2007 2008 Total revenue$780,137100%$765,902100%$834,367100% Cost of goods soldProduct costs and other cost ofgoods sold629,47781%594,27678%644,21277%Fulfillment costs60,8567%47,0766%47,2466% Total cost of goods sold690,33388%641,35284%691,45883% Gross profit$89,80412%$124,55016%$142,90917% Advertising expense The Company recognizes advertising expenses in accordance with SOP 93-7, Reporting on Advertising Costs. As such, the F-13Table of Contents Company expenses the costs of producing advertisements at the time production occurs or the first time the advertising takes place and expenses the cost ofcommunicating advertising in the period during which the advertising space or airtime is used. Internet advertising expenses are recognized as incurred basedon the terms of the individual agreements, which are generally: 1) a commission for traffic driven to the Website that generates a sale or 2) a referral fee basedon the number of clicks on keywords or links to our Website generated during a given period. Advertising expense included in sales and marketing expensestotaled $68.1million, $51.0 million and $52.8 million during the years ended December 31, 2006, 2007 and 2008, respectively. Stock-based Compensation As of January 1, 2006, the Company adopted SFAS No. 123(R) Share-based Payment (“SFAS No. 123(R)”), which requires the Company to measurecompensation expense for all outstanding unvested share-based awards at fair value and recognize compensation expense over the service period for awardsexpected to vest. The estimation of stock awards that will ultimately vest requires judgment, and to the extent actual results differ from estimates, suchamounts will be recorded as an adjustment in the period estimates are revised. Management considers many factors when estimating expected forfeitures,including types of awards, employee class, and historical experience. Actual results may differ substantially from these estimates (see “Note 18—Stock BasedAwards”). Restructuring Restructuring expenses comprise primarily lease termination costs and the costs incurred for returning leased facilities back to their originalcondition in anticipation of subleasing current office space. SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities, requires that whenan entity ceases using a property that is leased under an operating lease before the end of its term contract, the termination costs should be recognized andmeasured at fair value when the entity ceases using the facility. Key assumptions in determining the restructuring expenses include the terms that may benegotiated to exit certain contractual obligations (see “Note 3—Restructuring Expense”). Income taxes Income taxes are accounted for under the asset and liability method. Deferred income tax assets and liabilities are recognized for the future taxconsequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basisusing enacted tax rates in effect for the year in which the differences are expected to affect taxable income. Income tax expense (benefit) is the tax payable(receivable) for the period and the change during the period in the deferred tax assets and liabilities. SFAS No. 109, Accounting for Income Taxes, requires that deferred tax assets be evaluated for future realization and be reduced by a valuationallowance to the extent the deferred tax asset will not be realized. The Company considers many factors when assessing the likelihood of future realization ofits deferred assets including expectations of future taxable income, the carry-forward periods available for tax reporting purposes, and other relevant factors.At December 31, 2007 and 2008, the Company has established a full valuation allowance against its deferred tax assets. Significant judgment is required inmaking this assessment, and it is very difficult to predict when, if ever, the Company’s assessment may conclude that the remaining portion of the deferredtax assets are realizable. Foreign currency translation For the Company’s subsidiary located in Mexico, the subsidiary’s local currency was considered its functional currency. As a result, all of thesubsidiary’s assets and liabilities were translated into U.S. dollars at exchange rates existing at the balance sheet dates, revenue and expenses were translatedat weighted average exchange rates, and stockholders’ equity was recorded at historical exchange rates. The resulting foreign currency translationadjustments were recorded as a separate component of stockholders’ equity (deficit) in the consolidated balance sheets as part of accumulated othercomprehensive income (loss). Transaction gains and losses were included in other income (expense) in the consolidated financial statements and were notsignificant for any period presented. The Company’s subsidiary was located in Mexico and ceased operations on October 24, 2008. Derivative instruments SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”) requires companies to recognize their derivativeinstruments, including certain derivative instruments embedded in other contracts, as either assets or liabilities in the balance sheet at fair value. Theaccounting for changes in the fair value of a derivative instrument depends on whether the instrument has been designated and qualifies as part of a hedgingrelationship and further, on the type of hedging relationship. For those derivative instruments that are designated and qualify as hedging instruments, acompany must designate the hedging instrument, based upon the exposure being hedged, as a fair value hedge, a cash flow hedge or a hedge of a netinvestment in an international operation. For derivatives designated as hedges, the changes in fair value are recorded in the balance sheet as an item in othercomprehensive income. Changes in the fair value of derivatives not designated as cash flow hedges are recorded in the statement of operations. As ofDecember 31, 2007 and 2008, the Company had not designated any derivative instruments as hedges. F-14Table of Contents Earnings (loss) per share In accordance with SFAS 128, Earnings per share, basic earnings (loss) per share is computed by dividing net income (loss) attributable to commonshares by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per share is computed by dividing netincome (loss) attributable to common shares for the period by the weighted average number of common and potential common shares outstanding during theperiod. Potential common shares, comprising incremental common shares issuable upon the exercise of stock options, warrants, convertible senior notes,restricted stock units and shares under the Performance Share Plan, are included in the calculation of diluted earnings (loss) per share to the extent such sharesare dilutive. The following table sets forth the computation of basic and diluted earnings (loss) per share for the periods indicated (in thousands): Years ended December 31,20062007 2008 Loss from continuing operations$(99,880)$(44,112)$(12,658)Deemed dividend related to redeemable common stock(99)—— Loss from continuing operations attributable to common shares(99,979)(44,112)(12,658)Loss from discontinued operations(6,882)(3,924)— Net loss attributable to common shares$(106,861)$(48,036)$(12,658) Weighted average common shares outstanding—basic20,33223,70422,901Effect of dilutive securities:Stock options and restricted units———Convertible senior notes———Shares under the Performance Share Plan———Restricted stock units———Weighted average common shares outstanding—diluted20,33223,70422,901 Net loss per common share—basic and diluted:Loss from continuing operations$(4.91)$(1.86)$(0.55) Loss from discontinued operations$(0.34)$(0.17)$— Net loss per common share—basic and diluted$(5.25)$(2.03)$(0.55) The shares issuable related to stock options, restricted stock units, convertible senior notes outstanding and the Performance Share Plan were notincluded in the computation of diluted earnings per share because to do so would have been antidilutive. The number of shares issuable related to stockoptions outstanding was 1.0 million shares, 1.2 million shares and 974,000 shares for 2006, 2007 and 2008, respectively. As of December 31, 2008, theCompany had $67.5 million of convertible senior notes outstanding (see “Note 13 – “Borrowings” – “3.75% Convertible Senior Notes”), which couldpotentially convert into 885,000 shares of common stock in the aggregate. Recent accounting pronouncements In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS No. 159”). UnderSFAS No. 159, companies may elect to measure certain financial instruments and certain other items at fair value. The standard requires that unrealized gainsand losses on items for which the fair value option has been elected be reported in earnings. SFAS No. 159 is effective for fiscal years beginning afterNovember 15, 2007. The Company adopted SFAS No. 159 on F-15Table of Contents January 1, 2008; however, it did not elect to apply the fair value option to any financial instruments or other items upon adoption of SFAS No. 159 duringthe year ended December 31, 2008. Therefore, the adoption of SFAS No. 159 did not impact the Company’s consolidated financial position, results ofoperations or cash flows. In December 2007, the FASB issued SFAS No. 141 (R), Business Combinations (“SFAS No. 141 (R)”), and SFAS No. 160, Noncontrolling Interestsin Consolidated Financial Statements (“SFAS No. 160”). SFAS No. 141 (R) requires an acquirer to measure the identifiable assets acquired, the liabilitiesassumed and any noncontrolling interest in the acquired entity at their fair values on the acquisition date, with goodwill being the excess value over the netidentifiable assets acquired. SFAS No. 160 clarifies that a noncontrolling interest in a subsidiary should be reported as equity in the consolidated financialstatements. The calculation of earnings per share will continue to be based on income amounts attributable to the parent. SFAS No. 141 (R) and SFASNo. 160 are effective for financial statements issued for fiscal years beginning after December 15, 2008. Early adoption is prohibited. The Company does notexpect the adoption of SFAS No. 141 (R) or SFAS No. 160 to impact its financial position and results of operations or cash flows. In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASBStatement No. 133 (“SFAS No. 161”). SFAS No. 161 requires enhanced disclosures about a company’s derivative and hedging activities, in particular: 1)how and why derivative instruments are utilized; 2) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and itsrelated interpretations; and 3) how derivative instruments and related hedged items affect a company’s financial position, financial performance and cashflows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early adoptionencouraged. The Company has no derivative instruments. Therefore, the Company does not expect the adoption of SFAS No. 161 to have a material impactits financial position and results of operations or cash flows. In April 2008, the FASB issued FSP No. 142-3, Determination of the Useful Life of Intangible Assets (“FSP No. 142-3”). FSP No. 142-3 amends thefactors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset underSFAS No. 142. FSP No. 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008. Early adoption is prohibited. TheCompany does not expect the adoption of FSP No. 142-3 will have a material impact on its consolidated financial statements. In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS No. 162”). The current GAAPhierarchy was established by the American Institute of Certified Public Accountants, and faced criticism because it was directed to auditors rather thanentities. The issuance of this statement corrects this and makes some other hierarchy changes. This statement is effective 60 days following the Securities andExchange Commission’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly inConformity with Generally Accepted Accounting Principles. The adoption of SFAS No. 162 did not result in a change to the Company’s consolidatedfinancial statements. In May 2008, the FASB issued FASB Staff Position (“FSP”) APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in CashUpon Conversion (Including Partial Cash Settlement) (“FSP APB 14-1”), which clarifies the accounting for convertible debt instruments that may be settledin cash upon conversion, including partial cash settlement. FSP APB 14-1 specifies that an issuer of such instruments should separately account for theliability and equity components of the instruments in a manner that reflect the issuer’s non-convertible debt borrowing rate when interest costs are recognizedin subsequent periods. FSP ABP 14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods withinthose fiscal years. The Company anticipates that the adoption of FSP APB 14-1 will not have a material impact on its consolidated financial statements. 3. RESTRUCTURING EXPENSE During the fourth quarter of 2006, the Company began a facilities consolidation and restructuring program designed to reduce the overall expensestructure in an effort to improve future operating performance. The facilities consolidation and restructuring program was substantially completed by the endof the second quarter of 2007. During fiscal year 2006, the Company recorded $5.7 million of restructuring charges, of which $4.6 million related to costs to terminate a co-location data center lease. Other costs included in the restructuring charge related to $638,000 of accelerated depreciation of leasehold improvements in theCompany’s current office facilities that the Company is subleasing, and $450,000 of costs to return these office facilities to their original condition asrequired by the lease agreement. During fiscal year 2007, the Company recorded $12.3 million of restructuring charges, of which $9.9 million related to the termination of a logisticsservices agreement, termination and settlement of a lease related to vacated warehouse facilities in Indiana, and abandonment and marketing for sub-leaseoffice and data center space in the Company’s current corporate office facilities. The Company also recorded an additional $2.2 million of restructuringcharges related to accelerated depreciation of leasehold improvements located in the abandoned office and co-location data center space and $200,000 ofother miscellaneous restructuring F-16Table of Contents charges. Restructuring liabilities along with charges to expense associated with the facilities consolidation and restructuring program were as follows (inthousands): Balance12/31/2007Charges toExpenseCashpayment oraccelerated depreciation Balance12/31/2008Lease and contract termination costs$4,035$—$851$3,184 Total$4,035$—$851$3,184 Under the restructuring program, the Company recorded $18.0 million in restructuring charges through the end of the second quarter of 2007,including $5.7 million in fiscal year 2006 and $12.3 million in fiscal year 2007. There were no restructuring charges during the year ended December 31,2008. The costs incurred to date approximate the costs that the Company had anticipated at the beginning of the program. The Company believes that,except for the additional lease and contract termination costs related to potentially abandoning and subleasing its current office facilities, the restructuringprogram is substantially complete. If we determine to move our corporate headquarters we expect to incurr future restructuring expenses. 4. ACQUISITION AND SUBSEQUENT DISCONTINUED OPERATIONS On July 1, 2005, the Company acquired all the outstanding capital stock of Ski West, Inc. (“Ski West”) for an aggregate of $25.1 million (including$111,000 of capitalized acquisition related expenses). Ski West was an on-line travel company whose proprietary technology provided consumer access to a large, fragmented, hard-to-find inventory oflodging, vacation, cruise and transportation bargains. The travel offerings were primarily in popular ski areas in the U.S. and Canada. Effective upon theclosing, Ski West became a wholly-owned subsidiary of the Company, integrated the Ski West travel offerings with the Company’s existing travel offeringsand changed its name to OTravel.com, Inc (“OTravel”). During the fourth quarter of 2006, in conjunction with the facilities consolidation and restructuring program described in Note 3, managementdecided to sell OTravel. The Company evaluated its plan to sell OTravel in accordance with SFAS No. 144, which requires that long-lived assets be classifiedas held for sale. The Company also determined that the OTravel subsidiary met the definition of a “component of an entity” and has been accounted for as adiscontinued operation under SFAS No. 144. The results of operations for this subsidiary have been classified as discontinued operations until its sale onApril 25, 2007. In conjunction with the discontinuance of OTravel, the Company performed an evaluation of the goodwill associated with the reporting unitpursuant to SFAS No. 142 and SFAS No. 144 and determined that goodwill of approximately $4.5 million was impaired as of December 31, 2006, based on anon-binding letter of intent from a third party to purchase this business. During the quarter ended March 31, 2007, the Company received a revised offer fromthis third party to purchase its OTravel business and, in April 2007, the Company completed the sale of OTravel under these revised terms. Accordingly, theCompany evaluated its goodwill as of March 31, 2007 and, based on the estimated fair value of the discounted cash flows of the net proceeds from the sale,determined that an additional $3.8 million of goodwill was impaired. On April 25, 2007, the Company completed the sale of OTravel.com to Castles Travel, Inc., an affiliate of Kinderhook Industries, LLC, and CastlesMedia Company LLC, for $17.0 million. The Company received cash proceeds, net of cash transferred, of $9.9 million and two $3.0 million promissorynotes. The $3.0 million senior note matured three years from the closing date and bore interest, payable quarterly, of 4.0%, 10.0% and 14.0% per year in thefirst, second and third years, respectively. The $3.0 million junior note matured five years from the closing date and bore interest of 8.0% per year,compounded annually, and was payable in full at maturity. On January 21, 2009, the Company entered into a Note Purchase Agreement to sell both the senior and junior promissory notes to to CastlesTravel, Inc. for approximately $1.3 million in cash and recognized a loss on the settlement of these notes and interest receivable of approximately $3.9million as of December 31, 2008. F-17Table of Contents The following table is a summary of the Company’s discontinued operations for the years ended December 31 2006, and the period ended April 25,2007 (in thousands): Year endedDecember 31, 2006Year-to-date periodended April 25, 2007 Sales$8,217$2,226Cost of sales(1,848)(650) Gross profit6,3691,576Sales and marketing(1,888)(447)Technology(481)(60)General and administrative(6,422)(1,152)Goodwill impairment(4,460)(3,841) Loss from discontinued operations$(6,882)$(3,924) 5. MARKETABLE SECURITIES The Company’s marketable securities are reported at fair value with the related unrealized gains and losses included in accumulated othercomprehensive income (loss), a component of shareholders’ equity, net of any tax effect. Realized gains or losses on the sale of marketable securities aredetermined using the specific-identification method. The Company evaluates its investments periodically for possible other-than-temporary impairment by reviewing factors such as the length of time andextent to which fair value has been below cost basis, the financial condition of the issuer and the Company’s ability and intent to hold the investment for aperiod of time which may be sufficient for anticipated recovery of market value. The Company records an impairment charge to the extent that the carryingvalue of our available for sale securities exceeds the estimated fair market value of the securities and the decline in value is determined to be other-than-temporary. The Company recorded $300,000 of impairment charges related to other-than-temporary decline in value of its marketable securities for the yearended December 31, 2008. No related impairment charges were recorded for the year ended December 31, 2007. As of December 31, 2008, the Company’s marketable securities consisted of U.S. agency securities and top tier commercial paper. All marketablesecurities are classified as available-for-sale securities. The following table summarizes the Company’s marketable security investments as of December 31, 2007 (in thousands): Cost Net UnrealizedGains (Losses) Estimated FairMarket ValueMarketable securities:U.S. Agency Securities$29,793$23$29,816Commercial Paper12,671612,677Asset-Backed Securities3,495123,507 Total available-for-sale investments$45,959$41$46,000 The following table summarizes the Company’s marketable security investments as of December 31, 2008 (in thousands): Cost RealizedLoss Net UnrealizedGains Estimated FairMarket ValueMarketable securities:U.S. Agency Securities$8,941$—$48$8,989Asset-Backed Securities300300—— Total available-for-sale investments$9,241$300$48$8,989 The components of realized gains and losses on sales and impairment of marketable securities for the years ended December 31, 2006, 2007 and 2008were (in thousands): Years ended December 31, 2006 2007 2008 Gross gains$2,141$—$—Gross losses(56)—(334) Net realized gain (loss) on sales of marketablesecurities$2,085$—$(334) F-18Table of Contents Derivative instruments During the first quarter of 2005, the Company purchased $49.9 million of Foreign Corporate Securities (“Foreign Notes”) which were scheduled tomature for $50.0 million in cash in November 2006. The Foreign Notes did not have a stated interest rate, but were structured to return the entire principalamount and a conditional coupon if held to maturity. The conditional coupon would provide a rate of return dependent on the performance of a “basket” ofeight Asian currencies against the U.S. dollar. If the Company redeemed the Foreign Notes prior to maturity, the Company would not realize the full amountof its initial investment. The Company purchased the Foreign Notes to manage its foreign currency risks related to the strengthening of Asian currencies compared to the U.S.dollar, which would reduce the inventory purchasing power of the Company in Asia. However, the Company determined that the Foreign Notes did notqualify as hedging derivative instruments. Under SFAS No. 133, the Foreign Notes were considered to be derivative financial instruments and were marked to market quarterly. Any unrealized gainor loss related to the changes in value of the conditional coupon was recorded in the income statement as a component of interest income or expense. Anyunrealized gain or loss related to the changes in the value of the Foreign Notes was recorded as a component of accumulated other comprehensive income(loss). For the year ended December 31, 2005, the combined overall fair value of the Foreign Notes decreased $1.5 million. The decrease was attributable tochanges in the fair value of the conditional coupon resulting in a loss of $2.6 million, which was recorded in net income, and changes in fair value of thebond instrument resulting in a gain of $1.1 million, which was recorded as a component of accumulated other comprehensive income (loss) in the BalanceSheet. At December 31, 2005, the Foreign Notes had a fair value of $48.5 million. In March 2006, the Foreign Notes had a carrying value of $47.6 million when the Company sold them for $49.5 million resulting in a gain on the bondinstrument of $1.9 million, which the Company recognized in the second quarter of 2006 as a component of interest income. The Company had previouslyrecorded $2.4 million of accumulated unrealized losses as a component of interest income over the period the bonds had been held. The Company had pledged its Foreign Notes as collateral for a $30.0 million revolving line of credit. Subsequent to the sale of the Foreign Notes, theborrowings under the Amended Credit Agreement (see “Note 13—Borrowings”) are now collateralized by cash balances held at Wells Fargo Bank, NationalAssociation. 6. OTHER COMPREHENSIVE LOSS The Company follows SFAS No. 130, Reporting Comprehensive Income. This Statement establishes requirements for reporting comprehensive income(loss) and its components. The Company’s comprehensive loss is as follows (in thousands): Years ended December 31, 20062007 2008 Net loss$(106,762)$(48,036)$(12,658)Net unrealized gain (loss) on marketable securities(1,128)4148Foreign currency translation adjustment34(3)94 Comprehensive loss$(107,856)$(47,998)$(12,516) 7. ACCOUNTS RECEIVABLE Accounts receivable consist of the following (in thousands): December 31, 2007 2008 Credit card receivable$9,189$4,057Accounts receivable, other4,4964,52213,6858,579 Less: reserve for doubtful accounts(2,477)(1,594) Accounts receivable, net$11,208$6,985 F-19Table of Contents 8. INVENTORIES Inventories consist of the following (in thousands): December 31, 20072008 Product inventory$24,293$17,074Inventory outbound in-transit3,1122,787 27,40519,861Less: reserve for obsolescence(1,762)(2,138) $25,643$17,723 9. FIXED ASSETS Fixed assets consist of the following (in thousands): December 31, 20072008 Computer hardware and software, including internal-use software andwebsite development$95,652$109,397Furniture and equipment11,35112,288Leasehold improvements—1,665 107,003123,350Less: accumulated depreciation and amortization(79,806)(100,206) $27,197$23,144 Depreciation and amortization of property and equipment totaled $32.2 million, $29.5 million, and $22.7 million for the years ended December 31,2006, 2007 and 2008, respectively. For the years ended December 31, 2006 and 2007, the Company incurred additional depreciation and amortizationexpense related to decreases in useful lives of certain fixed assets and leasehold improvement in connection with the Company’s facilities consolidation.This additional depreciation expense was included in restructuring expense (see “Note 3—Restructuring Expense”). Fixed assets included assets under capital leases of $19.8 million at December 31, 2007 and 2008, and accumulated amortization related to assets undercapital leases of $15.4 million and $19.3 million at December 31, 2007 and 2008, respectively. 10. OTHER LONG-TERM ASSETS Other long-term assets consist of the following (in thousands): December 31, 20072008 Domain names$490$477Intangibles2020Less: accumulated amortization(456)(474) 5423Deposits and long-term prepaid expenses32515 $86$538 Amortization of domain names and intangibles totaled $110,000, $21,000 and $18,000 for the years ended December 31, 2006, 2007 and 2008,respectively. F-20Table of Contents 11. DEFERRED REVENUE Deferred revenue consists of the following (in thousands): December 31, 20072008 Payments owed or received prior to product delivery$19,003$14,381Unredeemed gift cards2,9523,522Club O membership fees and other1,0101,123 $22,965$19,026 12. ACCRUED LIABILITIES Accrued liabilities consist of the following (in thousands): December 31, 20072008 Inventory received but not invoiced$2,165$1,662Allowance for returns6,9415,099Accrued payroll and other related costs10,7833,917Accrued marketing expenses6,9973,948Credit card processing fee accrual669445Accrued freight665881Accrued professional expenses1,6381,205Accrued taxes486526Accrued lease termination costs1,001611Other accrued expenses5,8106,860 $37,155$25,154 13. BORROWINGS Wells Fargo Credit Agreement The Company has a credit agreement (as amended to date, the “Credit Agreement”) with Wells Fargo Bank, National Association (“Wells Fargo”). TheCredit Agreement provides a revolving line of credit to the Company of up to $30.0 million which the Company uses primarily to obtain letters of credit tosupport inventory purchases. Interest on borrowings is payable monthly and accrued at either (i) 1.0% above LIBOR in effect on the first day of an applicablefixed rate term, or (ii) at a fluctuating rate per annum determined by the bank to be one half a percent (0.50%) above daily LIBOR in effect on each businessday a change in daily LIBOR is announced by the bank. The Credit Agreement expires on January 1, 2010, and requires the Company to comply with certaincovenants, including restrictions on mergers, business combinations or transfer of assets. Borrowings and outstanding letters of credit under the Credit Agreement are required to be completely collateralized by cash balances held at WellsFargo Bank, N.A, and therefore the facility does not provide additional liquidity to the Company. At December 31, 2008, no amounts were outstanding under the Credit Agreement, and letters of credit totaling $2.2 million were issued on behalf of theCompany. Wells Fargo Retail Finance Agreement On January 6, 2009, Overstock.com, Inc. (the “Company”) entered into an Amended and Restated Loan and Security Agreement dated January 6, 2009(the “Agreement”) with Wells Fargo Retail Finance, LLC (“WFRF”). The Agreement replaces the Company’s Loan and Security Agreement datedDecember 12, 2005 with WFRF, which had previously been amended and had terminated in accordance with its terms. The Amended WFRF Agreement (“WFRF Agreement”) provides for advances to the Company and for the issuance of letters of credit for its account of upto an aggregate maximum of $35.0 million. The amount actually available to the Company may be less and may vary from time to time, depending on,among other factors, the amount of its eligible inventory and receivables. The Company’s obligations under the WFRF Agreement and all related agreementsare collateralized by all or substantially all of the Company’s and its subsidiaries’ assets. The Company’s obligations under the WFRF Agreement are cross-collateralized with its assets pledged under its $30.0 million credit facility with Wells Fargo Bank, N.A. The WFRF Agreement contains standard defaultprovisions and expires on January 5, 2011. The conditions to the Company’s use of the facility include a 45-day advance notice requirement. Advances under the WFRF Agreement bear interest at either (a) the rate announced, from time to time, within Wells Fargo Bank, N.A. at its principaloffice in San Francisco as its “prime rate” or (b) a rate based on LIBOR plus a varying percentage between 1.25% and 1.75%; however, the annual interest rateon advances under the WFRF Agreement will be at least 3.50%. The WFRF Agreement includes affirmative covenants as well as negative covenants thatprohibit a variety of actions without the lender’s approval, including F-21Table of Contents covenants that limit the Company’s ability to (a) incur or guarantee debt, (b) create liens, (c) enter into any merger, recapitalization or similar transaction orpurchase all or substantially all of the assets or stock of another person, (d) sell assets, (e) change its name or the name of any of its subsidiaries, (f) makecertain changes to its business, (g) optionally prepay, acquire or refinance indebtedness, (h) consign inventory, (i) pay dividends on, or purchase, acquire orredeem shares of, its capital stock, (j) change its method of accounting, (k) make investments, (l) enter into transactions with affiliates, or (m) store any of itsinventory or equipment with third parties. At December 31, 2008, no amounts were outstanding under the Agreement or under the Company’s prior loan agreement with WFRF. Wells Fargo Commercial Purchasing Card Agreement The Company has a commercial purchasing card agreement (the “Purchasing Card”) with Wells Fargo Bank, National Association (“Wells Fargo”). TheCompany uses the Purchasing Card for business purpose purchasing and must pay it in full each month. Outstanding amounts under the Purchasing Card arecollateralized by cash balances held at Wells Fargo Bank, N.A, and therefore the facility does not provide additional liquidity to the Company. AtDecember 31, 2008, $436,000 was outstanding and $564,000 was available under the Purchasing Card. Capital leases The Company leases certain software and computer equipment under three non-cancelable capital leases that expire at various dates through 2008. Software and equipment relating to the capital leases totaled $19.8 million at December 31, 2007 and 2008, with accumulated amortization of$15.4 million and $19.3 million at those respective dates. Depreciation of assets recorded under capital leases was $5.5 million and $3.9 million atDecember 31, 2007 and 2008, respectively. As of December 31, 2008, the Company had no remaining capital leases. 3.75% Convertible Senior Notes In November 2004, the Company completed an offering of $120.0 million of 3.75% Convertible Senior Notes (the “Senior Notes”). Proceeds to theCompany were $116.2 million, net of $3.8 million of initial purchaser’s discount and debt issuance costs. The discount and debt issuance costs are beingamortized using the straight-line method which approximates the interest method. The Company recorded amortization of discount and debt issuance costsrelated to this offering totaling $620,000, $417,000 and $344,000 during the years ended December 31, 2006, 2007 and 2008, respectively. Interest on theSenior Notes is payable semi-annually on June 1 and December 1 of each year. The Senior Notes mature on December 1, 2011 and are unsecured and rankequally in right of payment with all existing and future unsecured, unsubordinated debt and senior in right of payment to any existing and futuresubordinated indebtedness. The Senior Notes are convertible at any time prior to maturity into the Company’s common stock at the option of the note holders at a conversion priceof $76.23 per share or, approximately 885,478 shares in aggregate (subject to adjustment in certain events, including stock splits, dividends and otherdistributions and certain repurchases of the Company’s stock, as well as certain fundamental changes in the ownership of the Company). BeginningDecember 1, 2009, the Company has the right to redeem the Senior Notes, in whole or in part, for cash at 100% of the principal amount plus accrued andunpaid interest. Upon the occurrence of a fundamental change (including the acquisition of a majority interest in the Company, certain changes in theCompany’s board of directors or the termination of trading of the Company’s stock) meeting certain conditions, holders of the Senior Notes may require theCompany to repurchase for cash all or part of their notes at 100% of the principal amount plus accrued and unpaid interest. The indenture governing the Senior Notes requires the Company to comply with certain affirmative covenants, including making principal and interestpayments when due, maintaining the Company’s corporate existence and properties, and paying taxes and other claims in a timely manner. Under the repurchase program, the Company retired $9.5 million of the Senior Notes during the third quarter of 2008 for $6.6 million in cash, resulting ina gain of $2.8 million on early extinguishment of debt, net of $142,000 of associated unamortized discount. As of December 31, 2008, $67.5 million of theSenior Notes remained outstanding. On February 17, 2009 the Board of Directors of Overstock.com, Inc. approved a debt repurchase program that authorizes the Company to utilize up to$20.0 million to repurchase a portion of its 3.75% Senior Notes. Under this repurchase program, the Company retired $4.9 million of the Senior Notes for $3.0million in cash. As a result of the Senior Notes retirements, the Company expects to recognize a future gain of $1.9 million, net of the associated unamortizeddiscount of $63,000 for this transaction (see Note 17 — “Stock and Debt Repurchase Program”). F-22Table of Contents 14. COMMITMENTS AND CONTINGENCIES Commitments Corporate office space In July 2005, the Company leased approximately 154,000 rentable square feet in the Old Mill Corporate Center III in Salt Lake City, Utah for a term of10 years. The total lease obligation over the remaining term of this lease is $29.4 million, of which approximately $4.0 million is payable in the next twelvemonths. $7.7 million of the total lease obligation is offset by estimated sublease payments, of which $1.1 million is anticipated to be received in the nexttwelve months. In the fourth quarter of 2006, the Company commenced implementation of a facilities consolidation and restructuring program. Under the program, theCompany recorded $638,000 of accelerated amortization of leasehold improvements related to its subleased office facilities, and $450,000 of costs incurredto return its office facilities to their original condition as required by the lease agreement. During fiscal year 2007, the Company recorded an additional $6.2 million of restructuring costs related to its marketing for sub-lease office and datacenter space in its current corporate office facilities. The Company also recorded an additional $2.2 million of restructuring charges related to accelerateddepreciation of leasehold improvements located in the abandoned office and co-location data center space and $200,000 of other miscellaneous restructuringcharges (see Note 3—“Restructuring Expense”). The company did not record any restructuring costs during the year ended December 31, 2008. Logistics and warehouse space In July 2004, the Company entered into a logistics service agreement (the “Logistics Agreement”) wherein the handling, storage and distribution of someof its prepackaged products were performed by a third party. The Logistics Agreement and subsequent amendment set forth terms on which the Companypaid various fixed fees based on square feet of storage and various variable costs based on product handling costs for a term of five years. In December 2005, the Company entered into a warehouse facilities service and lease agreement (the “License Agreement”) to license approximately400,000 square feet of warehouse space in Indiana and purchase fulfillment services. The License Agreement was subsequently amended, reducing theamount of lease space to approximately 300,000 square feet and extending the term to 2011. In the first quarter of 2007, the Company terminated the Logistics Agreement and gave notice of intent to sublease the Indiana warehouse facilities underthe License Agreement. During the second quarter of 2007, the Company reached an agreement to terminate the Indiana warehouse facilities lease effectiveAugust 15, 2007. As a result of the termination of the License Agreement and warehouse lease, the Company incurred $3.7 million of related restructuringcharges in 2007 (see Note 3 —“Restructuring Expense”). The Company currently leases 795,000 square feet for its warehouse facilities in Utah under operating leases which expire in August 2012 andAugust 2015. On April, 8, 2008, the Company entered into a lease agreement with Natomas Meadows, LLC (the “Natomas Lease”). The Natomas Lease is for a 686,865square foot warehouse facility located in Salt Lake City, Utah (the “New warehouse”). The Natomas Lease provides that the Company will lease the newwarehouse in stages: on October 15, 2008, the Company leased the initial 232,900 square feet of the New Warehouse; on February 1, 2009, the Companyleased a total of 435,400 square feet; and, on September 1, 2009, the Company will lease the remainder, for a total of 686,865 square feet. The Natomas Leaseterm is seven years, and specifies rent, exclusive of common area maintenance fees, at a variable rate over the course of the staged lease term, ranging from$0.3300 per square foot for the first stage, to $0.3950 per square foot for the last year of the Natomas Lease term. Including the space now leased in the newwarehouse, the Company currently has warehouse operations in two facilities in Salt Lake City, Utah. The Company constructed a 40,000 square footcustomer service facility in the new warehouse and commenced use of the facility on November 3, 2008. Co-location data center In July 2005, the Company entered into a Co-location Center Agreement (the “Co-location Agreement”) to build out and lease 11,289 square feet ofspace at Old Mill Corporate Center II for an IT co-location data center. The Co-location Agreement set forth the terms on which the Lessor would incur thecosts to build out the IT co-location data center and the Company would commence to lease the space upon its completion for a term of ten years. However,during the fourth quarter of 2006, the Company made the determination to consolidate its facilities and to not occupy the IT co-location data center, and theCo-location Agreement was terminated effective December 29, 2006, for which the Company incurred a $4.6 million restructuring charge (see Note 3—“Restructuring Expense”). In December 2006, the Company entered into a Data Center Agreement (the “OM I Agreement”) to lease 3,999 square feet of space at Old Mill CorporateCenter I for an IT data center to allow the Company to consolidate other IT data center facilities. F-23Table of Contents Computer equipment operating leases The Company has two operating leases for certain computer equipment that expire in the first and fourth quarters of 2010. It is expected that such leaseswill be renewed by exercising purchase options or replaced by leases of other computer equipment. Summary of future minimum lease payments for all operating leases Minimum future payments under all operating leases are as follows (in thousands): Twelve months Ending December 31, 2009$8,06020108,65220118,98920128,86820138,325Thereafter15,036 $57,930 Rental expense for operating leases totaled $11.5 million, $11.6 million and $9.5 million for the years ended December 31, 2006, 2007 and 2008,respectively. Legal Proceedings From time to time, the Company receives claims of and becomes subject to consumer protection, employment, intellectual property and othercommercial litigation related to the conduct of the Company’s business. Such litigation could be costly and time consuming and could divert itsmanagement and key personnel from its business operations. The uncertainty of litigation increases these risks. In connection with such litigation, theCompany may be subject to significant damages or equitable remedies relating to the operation of its business and the sale of products on the Company’swebsite. Any such litigation may materially harm its business, prospects, results of operations, financial condition or cash flows. However, the Company doesnot currently believe that any of its outstanding litigation will have a material adverse effect on its financial statements. On August 11, 2005, along with a shareholder plaintiff, the Company filed a complaint against Gradient Analytics, Inc.; Rocker Partners, LP; RockerManagement, LLC; Rocker Offshore Management Company, Inc. and their respective principals in the Superior Court of California, County of Marin. OnOctober 12, 2005, the Company filed an amended complaint against the same entities alleging libel, intentional interference with prospective economicadvantage and violations of California’s unfair business practices act. On March 7, 2006, the court denied the defendants demurrers to and motions to strikethe amended complaint. The defendants each filed a motion to appeal the court’s decision, the Company responded and the California Attorney Generalsubmitted an amicus brief supporting the Company’s view; the court has ruled that this appeal stays discovery in the case. On May 30, 2007 the CaliforniaCourt of Appeals upheld the lower court’s ruling in the Company’s favor. Defendants filed motions for rehearing, which the Court of Appeals summarilydenied on June 27, 2007. Defendants filed Petitions for Review before the California Supreme Court which the California Supreme court denied onSeptember 19, 2007. On October 1, 2007, the Court of Appeals remitted the case back to the Superior Court. On December 4, 2007, Matthew Kliber, a formerprincipal of Gradient Analytics, filed a motion for judgment on the pleading which the court denied on February 8, 2008. On October 10, 2008, the Companyand Patrick Byrne reached a confidential settlement agreement with Gradient Analytics and its current and former principals and those defendants have beendismissed from the case. On October 22, 2008, the Company amended the complaint to name as additional Defendants Cathy Longinotti, Mark Montgomery,Phillip Renna and Terrence Warzecha because of their former or existing status as general partners of Copper River Partners, L.P. On December 15, 2008 allthe newly named Defendants filed an Anti-SLAPP motion to strike the amended complaint; a demurrer to the second, fourth and fifth causes of action; and amotion to quash the summons for Defendants Longinotti, Renna and Warzecha for lack of jurisdiction. These motions are now pending . The Rocker partiesmoved to postpone the trial date and the court granted the motion. Trial is now set for February 11, 2010. The Company intends to continue to pursue thisaction vigorously against all of the Rocker entities and their principals. On November 9, 2007, Copper River Partners, L.P. (formerly known as Rocker Partners, LP) filed a cross-complaint against the Company and certain ofits current and former directors. The Copper River cross-complaint alleges cross-defendants have engaged in violations of California’s state securities laws,violations of California’s unfair business practices act, tortuous interference with contract and prospective business advantage, and deceit. In January 2008,each of the cross-defendants filed various motions in opposition of this cross-complaint. On April 23, 2008, the court dismissed Copper River’s cross claimsagainst former Company directors, John Byrne and Jason Lindsey, and current Company director Allison Abraham. In that same ruling, the court dismissedfour of the six claims against former Company director John Fisher: securities fraud, unfair business practices, common law fraud and F-24Table of Contents equitable indemnity. In a separate ruling on the same day relating to the Company and Patrick Byrne, the court dismissed the common law fraud claims andequitable indemnity claims and eliminated the possibility of money damages under Copper River’s claims that Overstock and Byrne engaged in unfairbusiness practices. In other portions of the court’s rulings, the court declined to dismiss Copper River’s securities fraud claims and its request for aninjunction for unfair business practices against the Company and Patrick Byrne and the claims for tortuous interference with contract and prospectivebusiness advantage against the Company, Patrick Byrne and John Fisher. On June 20, Copper River dismissed its complaints against Mr. Fisher. The partiesare in the discovery phase of the case. The Company intends to defend the Copper River cross-complaint vigorously. On February 2, 2007, along with five shareholder plaintiffs, the Company filed a lawsuit in the Superior Court of California, County of San Franciscoagainst Morgan Stanley & Co. Incorporated, Goldman Sachs & Co., Bear Stearns Companies, Inc., Bank of America Securities LLC, Bank of New York,Citigroup Inc., Credit Suisse (USA) Inc., Deutsche Bank Securities, Inc., Merrill Lynch, Pierce, Fenner & Smith, Inc., and UBS Financial Services, Inc. InSeptember 2007, the Company filed an amended complaint adding two plaintiff shareholders, naming Lehman Brothers Holdings Inc. as a defendant,eliminating the previous claim of intentional interference with prospective economic advantage and clarifying various points of other claims in the originalcomplaint. The suit alleges that the defendants, who control over 80% of the prime brokerage market, participated in an illegal stock market manipulationscheme and that the defendants had no intention of covering short sell orders with borrowed stock, as they are required to do, causing what are referred to as“fails to deliver” and that the defendants’ actions caused and continue to cause dramatic distortions within the nature and amount of trading in theCompany’s stock as well as dramatic declines in the share price of the Company’s stock. The suit asserts that a persistent large number of “fails to deliver”creates significant downward pressure on the price of a company’s stock and that the amount of “fails to deliver” has exceeded the Company’s entire supplyof outstanding shares. The suit accuses the defendants of violations of California securities laws and common law, specifically, conversion, trespass tochattels, intentional interference with prospective economic advantage, and violations of California’s Unfair Business Practices Act. The Company is seekingdamages of $3.48 billion. In April 2007 defendants filed a demurrer and motion to strike the Company’s complaint. The Company opposed the demurrer andmotion to strike. In July 2007 the court substantially denied defendants’ demurrer and motion to strike. In November 2007, the defendants filed additionalmotions to strike. In February 2008, the court denied defendants’ motion to strike the Company’s claims under California’s Securities Anti-Fraud statute anddefendants’ motion to strike the Company’s common law punitive damages claims, but granted in part the defendants’ motion to strike Overstock’s claimsunder California’s Unfair Business Practices Act, while allowing the Company’s claims for injunctive relief under California’s Unfair Business Practices Act.Lehman Brothers Holdings filed for bankruptcy on September 15, 2008 and Barclays Bank has purchased its investment banking and trading business. Thebankruptcy may adversely affect our ability to collect a judgment against Lehman. Dislocations in the financial markets and economy could result inadditional bankruptcies or consolidations that may impact the litigation or our ability to collect a judgment. On January 12, 2009, Goldman Sachs Group,Inc,., Goldman Sachs &Co.; Goldman Sachs Execution & Clearing L.P., Citi Group, Inc, Citi Group Global markets, Inc., Credit Suisse (USA) Inc., and CreditSuisse Securities (USA) LLC filed a motion to strike portions of the Second Amended Complaint regarding allegations of collective action among defendantsand the request for punitive damages. Also, on January 12, 2009, Goldman Sachs Group, Inc,., Goldman Sachs &Co.; Goldman Sachs Execution & ClearingL.P., Citi Group, Inc, Citi Group Global markets, Inc., Credit Suisse (USA) Inc., and Credit Suisse Securities (USA) LLC filed a demurrer to the first andsecond causes of action of the Second Amended Complaint for conversion and trespass to chattels. These motions are now pending. Discovery in this casecontinues. No trial date has been set. The Company intends to vigorously prosecute this action. On April 15, 2008, the Company received a letter from the Office of the District Attorney of Marin County, California, stating that the District Attorneysof Marin and four other counties in Northern California have begun an investigation into the way the Company advertises products for sale, together with anadministrative subpoena seeking related information and documents. The subpoena requests a range of documents, including documents relating to pricingmethodologies, definitions of core and partner product, as well as other site-defined terms, and the methods of internal and external pricing of products, aswell as documents related to the pricing of a list of product items identified in the subpoena. The Company has responded to the subpoena. The Companybelieves that it follows industry advertising practices and intends to cooperate with the investigation. On May 30, 2008 the Company filed a complaint in New York state court against the New York State Department of Taxation and Finance, itsCommissioner, the State of New York and its governor, alleging that a recently enacted New York state tax law is unconstitutional. The effect of the NewYork law is to require internet sellers to collect and remit New York sales taxes on their New York sales, even if the seller has no New York tax “nexus” otherthan with New York based independent contractors who are internet advertising affiliates. The complaint asks for the court to declare the lawunconstitutional and enjoin its application to the Company. New York filed a motion to dismiss. The Company responded to the motion and filed a motionfor summary judgment, and both motions were heard simultaneously. On January 12, 2009, the court granted New York’s motion to dismiss and denied theCompany’s motion for summary judgment. On February 12, 2009, the Company filed notice to appeal the ruling. On August 12, 2008, the Company along with seven other defendants, was sued in the United States District Court for the Northern District of California,by Sean Lane, and seventeen other individuals, on their own behalf and for others similarly in a class action suit, alleging violations of the ElectronicCommunications Privacy Act, Computer Fraud and Abuse Act, Video Privacy Protection Act, and California’s Consumer legal Remedies Act and ComputerCrime Law. The compliant relates to the Company’s F-25Table of Contents use of a product known as Facebook Beacon, created and provided to the Company by Facebook, Inc. Facebook Beacon provided the means for Facebookusers to share purchasing data among their Facebook friends. Plaintiffs and Defendants, including the Company, have stipulated to an extension in the timefor answering the complaint, while the parties engage in a mediation of the dispute. The Company has not responded to the Complaint. The Company hasnotified Facebook, Inc. of its indemnification obligations under the contract by which the Company obtained and deployed Facebook Beacon. TheCompany intends to vigorously defend this action and pursue with Facebook its indemnification rights under the Facebook Beacon agreement. On November 14, 2008, the Company filed suit in Ohio state court against the Ohio Tax Commissioner, the Ohio Attorney General and the Governor ofOhio, alleging the Ohio Commercial Activity Tax is unconstitutional. Enacted in 2005, Ohio’s Commercial Activity Tax is based on activities in Ohio thatcontribute to production or gross income for a company whether or not the company has a physical presence in or nexus within the state. The Company asksin its complaint for a judgment declaring the tax unconstitutional and for an injunction preventing any enforcement of the tax. The defendants have notanswered the complaint, but have moved to dismiss the case. These motions to dismiss are now pending. The suit is in its early stages. On December 22, 2008, the Company, along with other thirty-seven other defendants was sued in a patent infringement law suit filed by Guardian MediaTechnologies, LTD in the United States District Court, Central District of California. The Company is alleged to have sold products infringing patents ownedby the plaintiff involving certain processes designed to block content from being viewed on televisions and DVD players. The Company has not yetanswered the complaint and the suit is in its early stages and the Company intends to vigorously defend this action. On January 22, 2009, the Company, along with seven other defendants was sued in a patent infringement law suit by SBJ IP Holdings 1, LLC, in theUnited States District Court, Eastern District of Texas. The Company is alleged to have infringed a patent owned by the plaintiff involving certain processesby which online retail companies make product purchase recommendations to their customers. The Company has not yet answered the complaint and the suitis in its early stages and the Company intends to vigorously defend this action. 15. STOCKHOLDERS’ EQUITY Reincorporation In May 2002, the Company reincorporated in Delaware. As a result of the reincorporation, the Company is authorized to issue 100.0 million shares of$0.0001 par value common stock and 5.0 million shares of $0.0001 par value preferred stock. The Board of Directors may issue the undesignated preferredstock in one or more series and determine preferences, privileges and restrictions thereof. Common Stock Each share of common stock has the right to one vote. The holders of common stock are also entitled to receive dividends whenever funds are legallyavailable and when declared by the Board of Directors, subject to prior rights of holders of all classes of stock outstanding having priority rights as todividends. No dividends have been declared or paid on the Company’s common stock through December 31, 2008. Redeemable Common Stock Redeemable common stock relates to warrants and securities that were subject to rescission. Sales of 858,000 shares of the common stock and theissuance of 185,000 warrants to certain individuals may not have fully complied with certain requirements under applicable State Blue Sky Laws. The offerand sale of these securities were not made pursuant to a registration statement and the Securities Act of 1933, nor were the offer and sale registered orqualified under any state securities laws. Although the Company believed at the time that such offers, sales and conversion were exempt from suchregistration or qualification, they may not have been exempt in several states. As a result, purchasers of the Company’s common stock in some states mayhave had the right under federal or state securities laws to rescind their purchases for an amount equal to the purchase price paid for the shares, plus interestfrom the date of purchase until the rescission offer expired, at the annual rate mandated by the state in which such shares were purchased. These interest ratesranged from 8% to 10% per annum. The rescission rights lapsed on various dates through September 2006. At December 31, 2005, there were 446,000 shares of common stock and no warrants subject to rescission rights outstanding. The Company had classified$3.2 million at December 31, 2005 related to the rescission rights outside of shareholders’ equity, because the redemption features were deemed not withinthe control of the Company. Interest attributable to these securities was recorded as a deemed dividend and reflected as a deduction from net loss to arrive atnet loss attributable to common shares in the Statements of Operations. No amount has been classified outside of shareholders’ equity as of December 31, 2006 and 2007 as these rescission rights, if any, fully expired prior tothe end of 2006, leaving no outstanding redeemable common stock as of December 31, 2007 and 2008. F-26Table of Contents 16. STOCK OFFERINGS During 2006, the Company closed two offerings under an existing “shelf” registration statement, pursuant to which it sold 1.0 million shares of commonstock in May and 2.7 million shares of common stock in December, with proceeds to the Company of approximately $25.0 million and $39.4 million,respectively, net of $594,000 of issuance costs. There were no stock offerings during the years ended December 31, 2007 and 2008. 17. STOCK AND DEBT REPURCHASE PROGRAM On January 14, 2008, the Company’s Board of Directors authorized a repurchase program that allowed the Company to purchase up to $20.0 million ofits common stock and or its 3.75% Senior Convertible Notes due 2011 (“Senior Notes”) through December 31, 2009. Under this repurchase program, theCompany repurchased approximately 1.2 million shares of its common stock in open market purchases for $13.4 million as of December 31, 2008. In addition, during the year ended 2008, the Company retired $9.5 million of the Senior Notes for $6.6 million in cash. As a result of the Senior Notesretirements, the Company recognized a gain of $2.8 million, net of the associated unamortized discount of $142,000. As of December 31, 2008, $67.5 millionof Senior Notes remain outstanding. The Company had fully utilized this authorized $20.0 million repurchase program as of December 31, 2008. On February 17, 2009 the Board of Directors of Overstock.com, Inc. approved a debt repurchase program that authorizes the Company to utilize up to$20.0 million to repurchase a portion of its 3.75% Senior Notes. Under this repurchase program, the Company retired $4.9 million of the Senior Notes for$3.0 million in cash. As a result of the Senior Notes retirements, the Company expects to recognize a future gain of $1.9 million, net of the associatedunamortized discount of $63,000 for this transaction. 18. STOCK BASED AWARDS Adoption of SFAS 123(R) As of January 1, 2006, the Company adopted SFAS No. 123(R) using the modified prospective method, which requires measurement of compensationcost for all stock-based awards at fair value on date of grant and recognition of compensation over the service period for awards expected to vest. The fairvalue of stock options is determined using the Black-Scholes-Merton (“BSM”) valuation model, which is consistent with our valuation techniquespreviously utilized for options in footnote disclosures required under SFAS No. 123. Such value is recognized as expense over the service period, net ofestimated forfeitures, using the straight-line method under SFAS 123(R). The adoption of SFAS No. 123(R) did not result in a cumulative benefit from accounting change, which reflects the net cumulative impact of estimatingfuture forfeitures in the determination of period expense, rather than recording forfeitures when they occur as previously permitted, as we did not haveunvested employee stock awards for which compensation expense was recognized prior to adoption of SFAS No. 123(R). Prior to the adoption of SFAS No. 123(R), cash retained as a result of tax deductions relating to stock-based compensation was presented in operatingcash flows, along with other tax cash flows, in accordance with the provisions of the Emerging Issues Task Force (“EITF”) Issue No. 00-15, Classification inthe Statement of Cash Flows of the Income Tax Benefit Received by a Company upon Exercise of a Nonqualified Employee Stock Option.SFAS No. 123(R) supersedes EITF 00-15, amends SFAS No. 95, Statement of Cash Flows, and requires tax benefits relating to excess stock-basedcompensation deductions to be prospectively presented in the statement of cash flows as financing cash inflows. As of the adoption of SFAS No. 123(R), wehad fully reserved against any tax benefits resulting from stock-based compensation deductions in excess of amounts reported for financial reportingpurposes. On March 29, 2005, the SEC published SAB No. 107, which provides the Staff’s views on a variety of matters relating to stock-based payments.SAB No. 107 requires stock-based compensation be classified in the same expense line items as cash compensation. The Company has reclassified stock-based compensation from prior periods to correspond to current period presentation within the same operating expense line items as cash compensation paidto employees. The application of SFAS No. 123(R) had the following effect on the year ended December 31, 2006 reported amounts relative to amounts that wouldhave been reported using the intrinsic value method under previous accounting (in thousands, except per share amounts): Year endedDecember 31, 2006 Operating loss$(4,120)Net loss$(4,120)Net loss per common share—basic and diluted$(0.20) F-27Table of Contents Valuation Assumptions During the twelve months ended December 31, 2006, 2007 and 2008, total stock options granted to employees were 183,000, 762,000 and 11,000respectively, with estimated total grant-date fair values of $2.4 million, $8.1 million and $106,000, respectively. The Company estimates that the stock-basedcompensation for the awards not expected to vest during the years ended December 31, 2006, 2007 and 2008 was $643,000, $2.4 million and $32,000,respectively. During the years ended December 31, 2006, 2007 and 2008, the Company recorded stock-based compensation related to stock options of $4.1million, $4.5 million and $3.3 million, respectively. The fair value for each stock option granted during the twelve months ended December 31, 2006, 2007 and 2008 was estimated at the date of grant usingthe BSM option-pricing model, assuming no dividends and the following assumptions. Years ended December 31, 2006 2007 2008 Average risk-free interest rate4.77%4.75%2.91%Average expected life (in years)3.56.36.3Volatility65.1%68.5%70.6% Expected Volatility: The fair value of stock based payments were valued using a volatility factor based on the Company’s historical stock prices. Expected Term: For 2006 option grants, the Company’s expected term represents the period that the Company’s stock-based awards are expectedto be outstanding and was determined based on historical experience of similar awards, giving consideration to the contractual terms and vestingprovisions of the stock-based awards. For 2007 and 2008 option grants, the Company elected to use the “simplified method” as discussed inSAB No. 107 to develop the estimate of the expected term. In December 2007, the SEC issued SAB No. 110, Certain Assumptions Used inValuation Methods—Expected Term (“SAB No. 110”). According to SAB No. 110, under certain circumstances the SEC staff will continue to acceptthe use of the simplified method as discussed in SAB No. 107, in developing an estimate of expected term of “plain vanilla” share options inaccordance with SFAS No. 123(R), beyond December 31, 2007. The Company adopted SAB No. 110 effective January 1, 2008 and will continue touse the simplified method in developing the expected term used for its valuation of stock-based compensation. Expected Dividend: The Company has not paid any dividends and does not anticipate paying dividends in the foreseeable future. Risk-Free Interest Rate: The Company bases the risk-free interest rate used on the implied yield currently available on U.S. Treasury zero-couponissues with remaining term equivalent to the expected term of the options. Estimated Pre-vesting Forfeitures: When estimating forfeitures, the Company considers voluntary and involuntary termination behavior. Stock Option Activity The Company’s board of directors adopted the Amended and Restated 1999 Stock Option Plan, the 2002 Stock Option Plan and the 2005 EquityIncentive Plan (collectively, the “Plans”), in May 1999, April 2002, and April 2005 respectively. Under these Plans, the Board of Directors may issueincentive stock options to employees and directors of the Company and non-qualified stock options to consultants of the Company. Options granted underthese Plans generally expire at the end of five or ten years and vest in accordance with a vesting schedule determined by the Company’s Board of Directors,usually over four years from the grant date. As of the initial public offering, the Amended and Restated 1999 Stock Option Plan was terminated, and as ofApril 2005 the 2002 Stock Option Plan was terminated (except with regard to outstanding options). Future shares will be granted under the 2005 EquityIncentive Plan. As of December 31, 2008, 1.2 million shares of stock based awards are available for future grants under the 2005 Equity Incentive Plan. TheCompany settles stock option exercises with newly issued common shares. The following is a summary of stock option activity (in thousands, except pershare data): 2006 2007 2008Shares Weighted AverageExercise Price Shares Weighted AverageExercise Price Shares Weighted AverageExercise PriceOutstanding—beginning of year1,299$18.091,011$18.971,161$20.48Granted at fair value18322.4776218.141114.14Exercised(276)9.19(354)8.81(112)12.96Canceled/forfeited(195)30.17(258)23.65(86)20.45 Outstanding—end of year1,01118.971,16120.4897421.27 Options exercisable at year-end679$15.74408$22.36609$23.18 F-28Table of Contents The following table summarizes information about stock options as of December 31, 2008 (in thousands, except per share data): Options Outstanding Options ExercisableRange of Exercise PricesSharesWeightedAverage ExercisePrice WeightedAverageRemainingContract Life Aggregate IntrinsicValue Shares WeightedAverage ExercisePrice WeightedAverageRemainingContract Life Aggregate IntrinsicValue$8.50-$16.9917$13.287.04$514$14.924.73$45$17.00-$17.9957717.118.05—27617.118.04—$18.00-$29.9922119.971.68—18119.630.97—$30.00-$58.3015939.042.87—14739.182.72— .97421.275.745160923.184.6345 Total unrecognized compensation costs related to nonvested awards was approximately $6.2 million, $7.3 million and $4.2 million as of December 31,2006, 2007 and 2008, respectively. These nonvested awards are expected to be exercised over the weighted average period of 7.6 years. The aggregate intrinsic value in the table above represents the total pretax intrinsic value, based on the Company’s average stock price of $16.02 duringthe year ended December 31, 2008, which would have been received by the option holders had all option holders exercised their options as of that date.There were no in-the-money options exercisable as of December 31, 2008. The weighted average exercise price of options granted during the years ended December 31, 2006, 2007 and 2008 were $22.47, $18.14 and $14.14 pershare, respectively. The total fair values of the shares vested during the years ended December 31, 2006, 2007 and 2008 were $3.1 million, $3.7 million and$5.2 million, respectively. The total intrinsic value of options exercised during the years ended December 31, 2006, 2007 and 2008 was $3.3 million,$4.5 million and $364,000 million, respectively. The total cash received from employees as a result of employee stock option exercises during the yearsended December 31, 2006, 2007 and 2008 were approximately $2.5 million, $3.2 million and $1.5 million, respectively. In connection with these exercises,there was no tax benefit realized by the Company due to the Company’s current loss position. Restricted Stock Unit Activity For the year ended December 31, 2008, 491,000 restricted stock units were granted. The cost of restricted stock units is determined using the fair value ofour common stock on the date of the grant and compensation expense is recognized in accordance with the vesting schedule. The weighted average grantdate fair value of restricted stock units granted during the year ended December 31, 2008 was $12.64. The following is a summary of restricted stock unit activity (amounts in thousands, except per share data): UnitsGrant DateFair Value Outstanding—beginning of year—$—Granted at fair value49112.64Vested——Canceled/forfeited(42)12.13 Outstanding—end of year44912.69 Restricted stock units vested at year-end—— F-29Table of Contents The restricted stock units vest over three years at 25% at the end of the first year, 25% at the end of the second year and 50% at the end of the third year.During the years ended December 31, 2006, 2007 and 2008, the Company recorded stock based compensation related to restricted stock units of $0, $0 and$896,000. At December 31, 2008, there were 449,000 restricted stock units that remained outstanding, no restricted stock units were vested as of December 31, 2008. OnJanuary 13, 2009, 337,000 additional restricted stock units were granted. Performance Share Plan In January 2006, the Board of Directors and Compensation Committee adopted the Overstock.com Performance Share Plan (the “Plan”) and approvedgrants to executive officers and certain employees of the Company. The Plan provides for a three-year period for the measurement of the Company’sattainment of the performance goal described in the form of a grant. The performance goal was measured by growth in economic value, as defined in the Plan. The amount of payments due to participants under the Plan wasa function of the then current market price of a share of the Company’s common stock, multiplied by a percentage dependent on the extent to which theperformance goal had been attained, which was between 0% and 200%. If the growth in economic value was 10% compounded annually or less, thepercentage was 0%. If the growth in economic value was 25% compounded annually, the percentage was 100%. If the growth in economic value was 40%compounded annually or more, the percentage was 200%. If the percentage growth was between these percentages, the payment percentage would bedetermined on the basis of straight line interpolation. Amounts payable under the Plan were subject to Board discretion. Amounts payable under the Planwere originally payable in cash. During interim and annual periods prior to the third quarter of 2007, the Company recorded compensation expense basedupon the period-end stock price and estimates regarding the ultimate growth in economic value that was expected to occur. These estimates includedassumed future growth rates in revenues, gross profit percentages and other factors. If the Company were to use different assumptions, the estimatedcompensation charges would have been significantly different. An amendment to the Plan to allow the Company to make payments in the form of common stock was approved by the shareholders on May 15, 2007. Inthe third quarter of 2007, the Company determined the fair value of the awards on the amendment date and determined to make the payments in the form ofcommon stock, rather than cash. Therefore, the Company reclassified awards under the Plan from their current status as liability awards to equity awards inaccordance with SFAS No. 123(R). As of December 31, 2007, the cumulative expense related to the performance share awards was $1.0 million. During the year ended December 31, 2008, the Company reversed the cumulative $1.0 million in total compensation expense under the Plan as theBoard determined no payments would be made under the Plan. The Plan expired on December 31, 2008. 19. EMPLOYEE RETIREMENT PLAN The Company has a 401(k) defined contribution plan which permits participating employees to defer up to a maximum of 25% of their compensation,subject to limitations established by the Internal Revenue Code. Employees who have completed a half-year of service and are 21 years of age or older arequalified to participate in the plan. The Company matches 50% of the first 6% of each participant’s contributions to the plan. Beginning in 2006 throughJanuary 2008, the Company’s matching contribution comprised common stock issued from treasury to employees. For the remainder of 2008, the Company’smatching contribution consisted cash matching payment. Participant contributions are immediately vested. Company contributions vest based on theparticipant’s years of service at 20% per year over five years. The Company’s matching contribution totaled $389,000, $494,000 and $570,000 during 2006,2007 and 2008, respectively. In addition, the Company made discretionary contributions of $409,000, $408,000, $0 during 2006, 2007 and 2008 to eligibleparticipants as of the end of each respective calendar year. The contributions in 2006 and 2007 were settled with Company stock in the following year. 20. OTHER INCOME (EXPENSE), NET Other income (expense), net consisted of the following (in thousands): Years ended December 31,200620072008Gain from early retirement of 3.75 % convertiblesenior notes$—$—$2,849Loss on settlement of notes receivable——(3,929)Other81(92)(366) Other income (expense), net$81$(92)$(1,446) F-30Table of Contents 21. INCOME TAXES The components of the Company’s deferred tax assets and liabilities as of December 31, 2007 and 2008 are as follows (in thousands): December 31, 20072008 Deferred tax assets and liabilities:Net operating loss carry-forwards$72,695$72,459Temporary differences:Accrued expenses6,4985,365Reserves and other2,9244,115Depreciation3,7995,055 85,91686,994Valuation allowance(85,916)(86,994) Net asset$—$— As a result of the Company’s history of losses, a valuation allowance has been provided for the full amount of the Company’s net deferred tax assets. At December 31, 2007 and 2008, the Company had net operating loss carry-forwards of approximately $164.2 million and $171.8 million, respectively,which may be used to offset future taxable income. An additional $21.9 million of net operating losses are limited under Internal Revenue Code Section 382to $799,000 a year. These carry-forwards begin to expire in 2018. The income tax benefit differs from the amount computed by applying the U.S. federal income tax rate of 35% to loss before income taxes for thefollowing reasons (in thousands): Years ended December 31,200620072008U.S. federal income tax benefit at statutory rate$37,367$16,813$4,431State income tax benefit, net of federal expense3,623949147Stock based compensation expense—(2,267)(1,491)Other(1,144)(3,969)(2,009)Unrecognized benefit due to valuation allowance(39,846)(11,526)(1,078) Income tax benefit$—$—$— The Company adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”) on January 1, 2007. As aresult of a full valuation allowance, the Company does not have any unrecognized tax benefits and there was no effect on its financial condition or results ofoperations as a result of implementing FIN 48. The Company is subject to audit by the IRS and various states for periods since inception. The Company doesnot believe there will be any material changes in its unrecognized tax positions over the next 12 months. The Company’s policy is that it recognizes interestand penalties accrued on any unrecognized tax positions as a component of income tax expense. As of the date of adoption of FIN 48, the Company did nothave any accrued interest or penalties associated with any unrecognized tax positions, nor did the Company recognize any interest expense or penaltiesduring the year ended December 31, 2008. 22. RELATED PARTY TRANSACTIONS On occasion, Haverford-Valley, L.C. (an entity owned by the Company’s Chairman and Chief Executive Officer) and certain affiliated entities maketravel arrangements for Company executives and pay the travel related expenses incurred by its executives on Company business. In 2006, 2007, and 2008the Company reimbursed Haverford-Valley L.C. $267,000, $93,000, and $111,000, respectively, for these expenses. F-31Table of Contents 23. BUSINESS SEGMENTS Segment information has been prepared in accordance with SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information.Segments were determined based on products and services provided by each segment. Accounting policies of the segments are the same as those described in“Note 2—Summary of Significant Accounting Policies.” There were no inter-segment sales or transfers during 2006, 2007 or 2008. The Company evaluatesthe performance of its segments and allocates resources to them based primarily on gross profit. The table below summarizes information about reportablesegments (in thousands): DirectFulfillment partnerConsolidated 2006Revenue$301,509$478,628$780,137Cost of goods sold284,774405,559690,333 Gross profit16,73573,06989,804Operating expenses(188,566)Other income (expense), net(1,118) Loss from continuing operations$(99,880) 2007Revenue$197,088$568,814$765,902Cost of goods sold168,008473,344641,352 Gross profit29,08095,470124,550Operating expenses(169,170)Other income (expense), net508 Loss from continuing operations$(44,112) 2008Revenue$174,203$660,164$834,367Cost of goods sold154,501536,957691,458 Gross profit19,702123,207142,909Operating expenses(153,822)Other income (expense), net(1,745) Loss from continuing operations$(12,658) The direct segment includes revenues, direct costs, and allocations associated with sales fulfilled from our warehouse. Costs for this segment includeproduct costs, inbound freight, warehousing, and fulfillment costs, credit card fees and customer service costs. The fulfillment partner segment includes revenues, direct costs and cost allocations associated with the Company’s third party fulfillment partner salesand are earned from selling the merchandise of third parties over the Company’s Website. This segment also includes revenues and costs associated with theauctions and cars and real estate listing businesses. The costs for this segment include product costs, warehousing and fulfillment costs, credit card fees andcustomer service costs. Assets have not been allocated between the segments for management purposes, and as such, they are not presented here. During the years 2006 through 2008, over 99% of sales were made to customers in the United States of America. At December 31, 2007 and 2008, all ofthe Company’s fixed assets were located in the United States of America. F-32Table of Contents 24. INDEMNIFICATIONS AND GUARANTEES During its normal course of business, the Company has made certain indemnities, commitments, and guarantees under which it may be required to makepayments in relation to certain transactions. These indemnities include, but are not limited to, indemnities to various lessors in connection with facility leasesfor certain claims arising from such facility or lease, and indemnities to directors and officers of the Company to the maximum extent permitted under thelaws of the State of Delaware. The duration of these indemnities, commitments, and guarantees varies, and in certain cases, is indefinite. In addition, themajority of these indemnities, commitments, and guarantees do not provide for any limitation of the maximum potential future payments the Company couldbe obligated to make. As such, the Company is unable to estimate with any reasonableness its potential exposure under these items. The Company has notrecorded any liability for these indemnities, commitments, and guarantees in the accompanying consolidated balance sheets. The Company does, however,accrue for losses for any known contingent liability, including those that may arise from indemnification provisions, when future payment is both probableand reasonably estimable. The Company carries specific and general liability insurance policies that the Company believes would, in most circumstances,provide some, if not total recourse to any claims arising from these indemnifications. 25. DECONSOLIDATION OF VARIABLE INTEREST ENTITY In April 2005, the Company entered into an agreement which allowed the Company to lend up to $10.0 million to an entity for the purpose of buyingdiamonds and other jewelry, primarily to supply a new category within the jewelry department which allowed customers purchasing diamond rings to selectboth a specific diamond and ring setting. Under the agreement, the Company was to receive fifty percent (50%) of any profits of the entity. In addition, theCompany had a ten year option to purchase (“Purchase Option”) 50% of the ownership and voting interest of the entity. The exercise price of the PurchaseOption was the sum of (a) one thousand dollars, and (b) $3.0 million, which may have been paid, at the Company’s election, in cash or by the forgiveness of$3.0 million of the entity’s indebtedness to the Company. The entity was evaluated in accordance with FASB Interpretation No. 46 Revised, Consolidation of Variable Interest Entities—an Interpretation of ARBNo. 51 (“FIN 46”), and it was determined to be a variable interest entity for which the Company was determined to be the primary beneficiary. As such, thefinancial statements of the entity were consolidated into the financial statements of the Company. In November 2004, the Company loaned the entity $8.4 million. The promissory note bore interest at 3.75% per annum. Interest on the loan was due andpayable quarterly on the fifteenth day of February, May, August and November, commencing on November 15, 2004 until the due date of November 30,2006, on which all principal and interest accrued and unpaid thereon, was due and payable. The promissory note was collateralized by all of the assets of theentity. In November 2006, an unrelated third party purchased the Company’s interests in the variable interest entity by executing a promissory note to theCompany in exchange for termination of all agreements between the Company and the variable interest entity. The promissory note was equal to the netassets of the entity or $6.7 million and bore no interest. The first payment on the note receivable was due and paid on February 1, 2007 in the amount of$3.7 million with remainder of balance due in twelve equal monthly payments of $251,000 beginning on March 1, 2007. In September 2007, the Companyamended the note receivable deferring the final six monthly payments from February 1, 2008 to July 1, 2008. As of December 31, 2007 and 2008, theCompany had received payments on the note totaling $5.2 million and $1.5 million, respectively. The promissory note was completely satisfied as ofDecember 31, 2008. F-33Table of Contents 26. QUARTERLY RESULTS OF OPERATIONS (unaudited) The following tables set forth the Company’s unaudited quarterly results of operations data for the eight most recent quarters for the period endedDecember 31, 2008. The Company has prepared this information on the same basis as the Consolidated Statements of Operations and the informationincludes all adjustments, consisting only of normal recurring adjustments, that it considers necessary for a fair statement of our financial position andoperating results for the quarters presented. Three Months Ended Mar. 31, 2007 June 30, 2007 Sept. 30, 2007 Dec. 31, 2007 Mar. 31, 2008 June 30, 2008Sept. 30, 2008Dec. 31, 2008 (in thousands, except per share data)Consolidated Statement ofOperations Data:RevenueDirect revenue$46,990$43,658$39,270$67,170$51,764$39,832$34,176$48,431Fulfillment partner revenue115,166105,513120,789227,346151,050149,004152,679207,431 Total revenue162,156149,171160,059294,516202,814188,836186,855255,862 Cost of goods soldDirect41,46936,45633,26856,81544,80334,87130,63344,194Fulfillment partner96,07786,52399,425191,319124,040120,756124,103168,058 Total cost of goods sold137,546122,979132,693248,134168,843155,627154,736212,252 Gross profit24,61026,19227,36646,38233,97133,20932,11943,610 Operating expenses:Sales and marketing11,2847,9628,83527,37715,01914,24411,93416,437Technology14,97315,23714,57614,66714,51615,31114,11913,869General and administrative10,68910,4299,72411,1349,56310,86710,3217,622Restructuring6,0896,194—————— Total operating expenses43,03539,82233,13553,17839,09840,42236,37437,928 Operating income (loss)(18,425)(13,630)(5,769)(6,796)(5,127)(7,213)(4,255)5,682Interest income, net9901,0781,2911,4291,304740664455Interest expense(1,029)(1,027)(1,029)(1,103)(901)(888)(847)(826)Other income (expense), net——(92)——22,849(4,297) Income (loss)Loss fromcontinuing operations(18,464)(13,579)(5,599)(6,470)(4,724)(7,359)(1,589)1,014Discontinued operations:Loss from discontinuedoperations(3,624)(300)—————— Net income (loss)$(22,088)$(13,879)$(5,599)$(6,470)$(4,724)$(7,359)$(1,589)$1,014 Net income (loss) per commonshare—basicIncome (loss) fromcontinuing operations$(0.78)$(0.57)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04Loss from discontinuedoperations$(0.16)$(0.01)$—$—$—$—$—$—Net income (loss) per share—basic$(0.94)$(0.58)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04Weighted average commonshares outstanding—basic23,59423,68923,72623,80723,34522,75022,76822,745Net income (loss) per commonshare—dilutedIncome (loss) fromcontinuing operations$(0.78)$(0.57)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04Income (loss) fromdiscontinued operations$(0.16)$(0.01)$—$—$—$—$—$—Net income (loss) per share—diluted$(0.94)$(0.58)$(0.23)$(0.27)$(0.20)$(0.32)$(0.07)$0.04Weighted average commonshares outstanding—diluted23,59423,68923,72623,80723,34522,75022,76822,827 F-34Table of Contents Schedule IIValuation and Qualifying Accounts(dollars in thousands) Balance atBeginning of Year Charged toExpense Deductions Balance at Endof YearYear ended December 31, 2006Deferred tax valuation allowance$36,698$39,846$113$76,431Allowance for sales returns5,96261,40162,8064,557Reserve for inventory obsolescence5,2414,4713,1276,585Allowance for doubtful accounts1,8112,3952,0712,135Year ended December 31, 2007Deferred tax valuation allowance$76,431$11,526$2,041$85,916Allowance for sales returns4,55755,55353,1696,941Reserve for inventory obsolescence6,5852835,1061,762Allowance for doubtful accounts2,1351,1972,477Year ended December 31, 2008Deferred tax valuation allowance$85,916$1,078$—$86,994Allowance for sales returns6,9412,2784,1215,099Reserve for inventory obsolescence1,7622,3701,9942,138Allowance for doubtful accounts2,4775501,4331,594 Exhibit 10.37 Summary of Unwritten Compensation ArrangementsApplicable to Non-Employee Directors of Overstock.com, Inc. The Company pays its non-employee directors (other than James V. Joyce, who serves as a consultant to the Company) $60,000 annually, at the rate of$15,000 per quarter. The Company also grants restricted stock units to directors, generally at the first Board meeting after the director first joins the Board,and periodically thereafter. In 2008 the Company granted restricted stock units to non-employee directors as follows: Name Grant Date Number ofRestricted StockUnits Granted(1)Allison H. AbrahamMay 13, 20085,000Barclay F. CorbusMay 13, 20085,000Joseph J. Tabacco, Jr.May 13, 20085,000James V. Joyce(2)January 14, 200815,000 (1) Each restricted stock unit represents a contingent right to receive one share of Overstock.com, Inc. common stock. The restricted stock units vest asto 25% at the close of business on the first anniversary of the date of grant, 25% at the second anniversary of the date of grant , and the remaining50% at the third anniversary of the date of grant. Vested shares will be delivered promptly after the restricted stock units vest. (2) Mr. Joyce serves as a consultant to the Company, and also joined the Company’s board of directors on January 14, 2008. On January 13, 2009, theCompensation Committee awarded an additional 10,000 restricted stock units to Mr. Joyce. The Company also reimburses directors for out-of-pocket expenses incurred in connection with attending Board and committee meetings. HaverfordValley, L.C., an affiliate of the Company, and certain affiliated entities which make travel arrangements for our executives, also occasionally make travelarrangements for directors to attend Board meetings, for which the Company reimburses Haverford Valley at rates not in excess of commercially availableairline rates. The following table sets forth information concerning compensation paid or accrued by the Company to each non-employee member of theboard of directors (including Mr. Joyce, who serves as a consultant to us) during the year ended December 31, 2008. Name Fees Earned orPaid in Cash ($) Restricted StockUnitAwards(1) ($) Total ($) Allison H. Abraham$60,000$12,808$72,808Barclay F. Corbus$60,000$12,808$72,808Joseph J. Tabacco, Jr.$60,000$12,808$72,808James V. Joyce$360,000$33,673$393,673 (1) Reflects the dollar amount recognized for financial statement reporting purposes for the fiscal year ended December 31, 2008 in accordance withFAS 123(R) and thus includes amounts from awards granted in and prior to 2008. At December 31, 2008, the number of options held by each non-employee director was as follows: Ms. Abraham: 30,000; Mr. Corbus: 15,000; Mr. Tobacco: 15,000; and Mr. Joyce: 40,000. At December 31, 2008,the number of restricted stock units held by each non-employee director was as follows: Ms. Abraham: 5,000; Mr. Corbus: 5,000; Mr. Tobacco:5,000; and Mr. Joyce: 15,000. Exhibit 10.38 Summary of Unwritten Compensation ArrangementsApplicable to Named Executive Officers of Overstock.com, Inc. The Company is not a party to any written employment agreement with any of its named executive officers. Effective January 1, 2009, the Company pays each of its named executive officers (as defined in Item 402(a)(3) of Regulation S-K), other than itsPresident and its Chief Executive Officer, base salaries of $200,000 annually. Effective January 1, 2009, the Company pays its President, Jonathan E. JohnsonIII, a base salary of $250,000 annually. The Company does not pay its Chief Executive Officer, Patrick M. Byrne, any base salary. The Company did not pay any of its named executive officers any bonus for 2008. On February 17, 2009, the Compensation Committee of the Board ofDirectors of the Company approved a Company-wide 2009 bonus pool equal to 30% of the improvement in contribution achieved in 2009 over 2008;subject to the authority of the Compensation Committee to determine the employees or classes or other groups of employees, if any, who may participate inany bonus payment. The named executive officers are eligible to participate in the 2009 bonus pool. Bonus pool payments, if any, are expected to be made inearly 2010. On January 13, 2009, the Compensation Committee of the Board of Directors of the Company approved restricted stock awards under the Company’s2005 Equity Incentive Plan as follows: Name and TitleRestrictedStock Units(1)Patrick M. Byrne, Chief Executive Officer20,000Jonathan E. Johnson III, President15,600Stormy Simon, Senior Vice President, Marketing and Customer Care16,000David Chidester, Senior Vice President, Finance(2)5,000Stephen Tryon, Senior Vice President, Logistics and Talent14,000 (1) Each restricted stock unit represents a contingent right to receive one share of Overstock.com, Inc. common stock. The restricted stock units vest asto 25% at the close of business on the first anniversary of the date of grant, 25% at the second anniversary of the date of grant , and the remaining50% at the third anniversary of the date of grant. Vested shares will be delivered promptly after the restricted stock units vest. (2) Mr. Chidester formerly served as the Company’s Senior Vice President, Finance but as of December 31, 2008 serves as the Company’s Senior VicePresident, Internal Reporting and Information. Exhibit 21 SUBSIDIARIES OF THE REGISTRANT Name Jurisdiction ofFormation Trade NamesOverstock.com Real Estate LLCUtahOverstock.com Real Estate Exhibit 23.1 CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We hereby consent to the incorporation by reference in the Registration Statements on Form S-3 (Nos. 333-153087 and 333-122086) and on Form S-8 (Nos.333-124441 and 333-123540) of Overstock.com, Inc. of our report dated February 23, 2009 relating to the financial statements, financial statement scheduleand the effectiveness of internal control over financial reporting, which appears in this Form 10-K. PricewaterhouseCoopers LLPSalt Lake City, Utah February 23, 2009 Exhibit 31.1 CERTIFICATION I, Patrick M. Byrne, certify that: 1. I have reviewed this Annual Report on Form 10-K of Overstock.com, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by thisreport; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, toensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is being prepared; (b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements forexternal purposes in accordance with generally accepted accounting principles; (c) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recentfiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely tomaterially affect, the registrant’s internal control over financial reporting; and 5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, tothe registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonablylikely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controlover financial reporting. Date: February 23, 2009/s/ PATRICK M. BYRNEPatrick M. ByrneChief Executive Officer (principal executive officer) Exhibit 31.2 CERTIFICATION I, Stephen J. Chesnut, certify that: 1 I have reviewed this Annual Report on Form 10-K of Overstock.com, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make thestatements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by thisreport; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined inExchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: (a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, toensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within thoseentities, particularly during the period in which this report is being prepared; (b) designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under oursupervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements forexternal purposes in accordance with generally accepted accounting principles; (c) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about theeffectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recentfiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely tomaterially affect, the registrant’s internal control over financial reporting; and 5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, tothe registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): (a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonablylikely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controlover financial reporting. Date: February 23, 2009/s/ Stephen J. ChesnutStephen J. ChesnutSenior Vice President, Finance (principal financial officer) EXHIBIT 32.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICERPURSUANT TO18 U.S.C. SECTION 1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Patrick M. Byrne, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the AnnualReport of Overstock.com, Inc. on Form 10-K for the year ended December 31, 2008 fully complies with the requirements of Section 13(a) or 15(d) of theSecurities Exchange Act of 1934, as applicable, and that information contained in such Report fairly presents in all material respects the financial conditionand results of operations of Overstock.com, Inc. Date: February 23, 2009/s/ PATRICK M. BYRNEName:Patrick M. ByrneTitle:Chief Executive Officer (principal executive officer) EXHIBIT 32.2 CERTIFICATION OF CHIEF FINANCIAL OFFICERPURSUANT TO18 U.S.C. SECTION 1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Stephen J. Chesnut, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the AnnualReport of Overstock.com, Inc. on Form 10-K for the year ended December 31, 2008 fully complies with the requirements of Section 13(a) or 15(d) of theSecurities Exchange Act of 1934, as applicable, and that information contained in such Report fairly presents in all material respects the financial conditionand results of operations of Overstock.com, Inc. Date: February 23, 2009/s/ Stephen J. Chesnut Name:Stephen J. ChesnutTitle:Senior Vice President, Finance (principal financial officer) 

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