THE TRUTH ABOUT GROUPON: The Devil's In The Revenue Details

andrew mason groupon

Photo: TechCrunch via Flickr

Analysts have now had a couple of weeks to digest the latest Groupon results, as well as management’s story on the IPO roadshow.So, what’s the bottom line?

Is Groupon a “Ponzi scheme,” as many critics have alleged?

Or is Groupon the next Amazon–the leader in a humongous new market opportunity that will finally turbo-charge local commerce and advertising?

My answer is somewhere in the middle.

I’ve laid out the Groupon business story in the accompanying slides.

Here are the key points:

  • Groupon is NOT a Ponzi scheme.
  • Groupon is almost profitable now, and it will likely be nicely profitable over the long haul
  • Groupon’s revenue growth over the last few years has been remarkable, but…
  • Groupon’s growth is decelerating rapidly as the company cuts marketing spending in a drive to become profitable.
  • Groupon’s growth is also decelerating because 1) the company has picked the low-hanging fruit in many key markets, 2) competition is intensifying, and 3) the company’s product-mix is reducing the percentage of gross coupon sales that it keeps
  • Groupon’s core business, local daily deals, actually shrank in the US in the third quarter, a startling and concerning trend
  • Deceleration and product transitions usually clobber stock prices, and Groupon’s stock will likely continue to get clobbered until the transition is finished.
  • Once Groupon’s growth rate stabilizes, I think it will eventually settle into a ~20% long-term growth rate

(I should stress that this is not a stock recommendation. There are many scenarios in which Groupon could eventually end up being worth a boatload more than the IPO price. I don’t have a crystal ball, and your guess about Groupon’s future growth rate is as good as mine.)

Groupon's North American business, in fact, is already nicely profitable, earning $19 million in adjusted operating income in Q3. This bodes well for the company overall.

Here's a chart from Yipit that shows just how extreme Groupon's deceleration has been. On a sequential basis--quarter over quarter--Groupon's growth is screeching to a halt.

The second reason Groupon's revenue is decelerating is that the number of Groupons it sells has flatlined. This is not good news. Groupon's subscriber base grew significantly in Q3, but the number of Groupons sold did not.

Somewhat offsetting the flattening of Groupons sold is the fact that Groupon is generating more revenue per Groupon, which is good news. More revenue per Groupon should eventually translate into higher profits per Groupon.

Another key reason Groupon's revenue is decelerating is the decline in marketing spending. Groupon's marketing efficiency has improved, but not enough to maintain its email subscriber growth.

See? Cut back on marketing, and the number of new email subscribers drops.

Similarly, the number of new customers dropped. There's no free lunch.

And there's more bad news in those revenue numbers. As Yipit observes, when you factor out the revenue from new products (goods, travel, tickets), Groupon's core US business--daily deals--actually shrank in Q3. Here's a look at core billings.

And here's a look at core billings per subscriber, which is even worse. Groupon's core-business billings per subscriber dropped 22% sequentially!

And the final piece of bad news is that a critical new Groupon product, Groupon Now, is not off to a good start. As Yipit observes, it accounts for a tiny (and flat) portion of billings.

So that's the bad news. The good news is that declining marketing spending has gotten the company to break-even.

And the reason Groupon should eventually be able to build a growing, profitable business is that, according to our estimates, its existing customers account for an ever-growing portion of its gross billings and revenue. Here's gross billings. The dark blue is our estimate of billings-from-existing-customers.

The dark red is our estimate of revenue from existing customers. If Groupon stopped marketing tomorrow, the existing customers would continue to buy stuff.

THE BOTTOM LINE: Groupon's in a transition phase. The company is now break-even, but growth is screeching to a halt. The company has also already picked much of the low-hanging fruit in many key markets, and competition is intensifying. So, although Groupon should be a good business in the long-term, in the near-term, the company's revenue fundamentals will likely continue to deteriorate.

Now check out:

  • INSIDE GROUPON: The Truth About The World's Most Controversial Company

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