There is a very interesting development unfolding with Overstock.com (OSTK) on Tuesday. The company declared a stock dividend, but unlike traditional stock dividends, this one is being paid in a digital share.
Current Overstock shareholders will receive one digital share for every ten shares of the traditional stock they hold. Shareholders will receive a Series A-1 share that only traded on the PRO Securities alternative trading system. Interestingly enough, PRO Securities ATS is essentially run by tZERO, an Overstock majority owned subsidiary.
Now, this is where things get really interesting. There are several big pieces here, so I'll do my best to outline what I see.
Overstock has a huge short interest. When you are short shares (borrow without owning and having the obligation to buy them back in the future), you become obligated to also pay dividends, not receive them. Therefore, current shorts will have to pay longs the dividend of one digital share. Assuming they don't own any digital shares, they will also be short those shares.
Unfortunately, we only dipped a toe into the rabbit hole.
The digital shares are not required to be registered under the Securities Act of 1933, so they will be restricted for resale under Rule 144 until they become eligible for sale. Simply put: the digital shares are locked-up. They can't be sold for a period of time to be determined, but likely six months. There's the rub. If the digital shares can't be sold, how can they be sold short? Logic tells me they can't, but Overstock may be crossing into gray areas not directly covered under law.
Better yet, Overstock CEO Patrick Byrne said this, "The approximately 40,000 holders of the currently outstanding ≈37 million shares of Overstock will be issued a dividend of ≈3.7 million of these new digital shares to trade in that new capital market. Because the bundle of legal rights represented by each of these new A-1 shares is similar to the bundle of legal rights embodied in shares of our common stock (OSTK) that trades on NASDAQ, I might normally expect these blockchain-based A-1 shares to trade in rough approximation with OSTK. However, our legacy OSTK shares trade in a capital market with trading and settlement mechanisms about which I have long made my criticisms and doubts known to the public, whereas our new blockchain-based A-1 shares trade in a blockchain-based capital market which I believe is resistant to such dynamics. I cannot predict what kind of trading parity, if any, will emerge between the two. Perhaps arbitrageurs will notice and explore such matters, and in the process, punch a wormhole between the universe of legacy NMS and new universe of a blockchain capital market. I am going to be as interested as anyone else to see what the result of that will be."
Byrne appears to be hinting that the digital OSTK shares may actually be worth more than those listed on the Nasdaq. Well, when you control the exchange they are listed on and have set up the potential to influence the price by creating an artificial short-squeeze of shorts with 3.7 million long digital shares that can't be sold from longs to the shorts who need to cover, you could create a digital squeeze that makes Beyond Meat's (BYND) recent run a joke.
Or, you are essentially telling shorts they need to buy shares on the Nasdaq to either avoid paying out the digital dividend or as a hedge after they've paid the digital dividend. Heck, there might even be an arbitrage profit in there for them if you believe Byrne.
I have no idea how this one stays out of court. The two biggest issues I see are: trying to force a short on a traditional market to become short a security subject to Rule 144 and the conflict of interest in where the digital shares trade and how that exchange is controlled.
I would tread VERY cautiously on the long or the short side of Overstock having a little more concern being short in the near term as we wait for clarity on the issue.