Groupon, Inc. (NASDAQ:GRPN)
Q3 2013 Results Earnings Call
November 7, 2013 5:00 PM ET
Genny Konz - VP, FP&A and Investor Relations
Eric Lefkofsky - Chief Executive Officer
Jason Child - Chief Financial Officer
Kal Raman - Chief Operating Officer
Mark Mahaney - RBC Capital Market
Gene Munster - Piper Jaffray
Heath Terry - Goldman Sachs
Arvind Bhatia - Sterne, Agee
Eric Sheridan - UBS
Scott Devitt - Morgan Stanley
Ross Sandler - Deutsche Bank
Paul Bieber - Bank of America Merrill Lynch
Good day, everyone. And welcome to Groupon's Third Quarter 2013 Financial Results Conference Call. At this time, all participants are in listen-only mode. A question-and-answer session will follow the company's formal remarks. (Operator Instructions)
Today's conference call is being recorded. For opening remarks, I would like to turn the call over to the VP of FP&A and Investor Relations, Genny Konz. Please go ahead.
Hello. And welcome to our third quarter 2013 financial results conference call. On the call today are Eric Lefkofsky, CEO; and Jason Child, CFO. Kal Raman, our COO will be available for questions during the Q&A portion of the call.
Following discussion and responses to your questions reflects management's views as of today November 7, 2013 only and will include forward-looking statements. Actual results may differ materially. Additional information about factors that could potentially impact our financial results is included in today's press release and in our filings with the SEC including our Form 10-Q.
Groupon encourages investors to use its Investor Relations website as a way of easily finding information about the company. Groupon promptly makes available on its website free of charge reports that the company files or furnishes with the SEC, corporate governance information and forward press releases and social media posting.
During this call, we will discuss certain non-GAAP financial measures. In our press release and our filings with the SEC each of which is posted on our Investor Relations website, you will find additional disclosures regarding non-GAAP measures including reconciliations of these measures with U.S. GAAP.
Finally, unless otherwise stated all comparisons in this call will be against our results for the comparable period of 2012.
Now, I’ll turn the call over to Eric.
Thanks, Genny. We delivered revenues toward the lower end of our guidance range, operating income at the high end of our range and EPS above our range, despite stronger than anticipated seasonal headwinds and pressure on our email business. Gross billings growth of 10% year over year was driven by 20% growth in North America and 12% growth in EMEA.
Revenue growth of 5% year over year was driven by a 24% growth in North America. Operating income, excluding stock-based compensation and acquisition related costs known as CSI, was $39 million and adjusted EBITDA was $62 million in the quarter.
Let me start by reviewing the highlights. First, for the quarter, billings in North America were $665 million; revenue was $361 million and segment operating income was $25 million. The business continued to post strong year-over-year billings growth at 20%, a slight pressure on our email business as we continued the rollout of Pull.
In our original daily email model, consumers needed to buy everything upfront, which meant that our sales were front loaded around newly launched deals. In the new pull marketplace model, customers can wait and buy deals closer to when they intend to actually use them. As pull grows, we believe this timing effect has created some short-term pressure on our North American email business. In addition, results were impacted by Q3 seasonality and double-digit declines in email open rates related to the new Gmail promotions app that was rolled out earlier in the quarter.
Despite these pressures, our North American local business continued to see strong momentum. Local billings accelerated from 5% year-over-year growth in Q1 to 9% in Q2 to 13% this quarter. And revenue growth in local improved significantly from a 5% decline in Q2 to 13% growth this quarter. Despite strong local performance, our goods business in North America went from 112% growth in Q2 to 28% this quarter, which reduced our overall growth from 30% in Q2 to 20% this quarter.
Recall that Q3 of 2012 was the first quarter that our goods business was fully ramped up, by that time we have roughly doubled the number of goods emails we were sending per week. As such, we are now comping a fully rolled out goods business, which is why the growth rates had decelerated.
Second, EMEA continued its turnaround this quarter, improving from an 8% year-over-year billings decline in Q1 to 4% growth in Q2 to 12% growth this quarter. Despite continued take rate investments we generated $148 million revenues and $16 million in segment operating income in the quarter. Merchant and customer satisfaction showed continued improvement in many countries and customer adds were positive after three quarters of decline.
Third, we were pleased with our performance in rest of the world in Q3. Our year-over-year billings decline improved from 21% in Q2 to 13% this quarter. Revenues went from a 26% decline in Q2 to a 4% decline this quarter and we reduced our rest of world segment operating loss from $14 million in Q2 to $2 million in Q3. Despite our progress we have much work left to do.
With improving results in rest of the world, we intend to begin making investments again in Asia and Latin America in an effort to position those markets for growth. Our primary objective, given how young those markets are, is not to maximize profits but instead to drive sustainable growth. That is why today we announced an agreement to acquire Ticket Monster or TMON, one of the leading e-commerce sites in Korea and one of the most impressive e-commerce companies in Asia. Not only has our growth been tremendous over the past three years but they also share our vision, having built a truly mobile marketplace that’s heavily reliant on organic traffic but e-mail estimated to account for less than 10% of their sales and a diverse product set across local product and travel. TMON will serve as the cornerstone of our Asian business, bringing scale and e-commerce expertise to that region. We are thrilled to have their incredibly talented team joined our family.
Finally, we made good progress on our key strategic initiatives: Mobile, Local, Pull and One Playbook. First, mobile. In Q3 we once again had record app downloads as more than 9 million people downloaded our apps worldwide. We are now at over 60 million app downloads to date. In addition, we crossed this 50% threshold in September in North American transactions, which we believe makes us the first large scale e-commerce company in North America that is predominantly mobile. As a result, going forward, we will report a global metric rather than just a North American metric. In September, more than 40% of our transactions worldwide came through mobile.
While mobile purchasers are more engaged and tend to buy more than non-mobile purchasers on average. It takes almost 30% more time to get an app-only user to make their first purchase. So, mobile users are presently worth more to us and take a longer to activate.
Part of this is related to our push notifications in mobile being less sophisticated than our emails. We have also send event and as a result have fewer opportunities in mobile to activate a customer. Given that our mobile growth has been so rapid, we are just starting to optimize mobile activations and expect to gain greater parity with email over time.
In addition, we continue to make improvements to our mobile app. Historically, when a user travel to a new city, the mobile app only present the deals from their city of origin rather than from the city in which the user was actually in.
And despite our thousands of deals, the search box have been very hard to find and not well integrated in to the user experience. With our newest app release which came out just a few days ago, we made great strides in addressing both with the new search experience and localization of deals.
Second, local, for us to succeed and for our mobile business to continue to thrive, we need to get local write. First, we need a very best merchants choosing Groupon as the platform they want to use to promote their goods and services.
In Q3, we continue to make progress on this front. Our MSAT score has never been higher, repeater rate continues to be strong, we continue to get record inbound increase from merchants they want run a Groupon and most importantly, 75% of our merchants in North America now opt to be featured on Groupon on an ongoing basis.
There is surprise that our merchant community has never been stronger, given that among the 6 million customers, we have now surveyed in North America, 60% are trying the merchant for the first time. We are powerful force of new customer acquisition for local merchants.
Second, we need customers to have a great experience every time they buy a Groupon, while our CSAT is also at all time highs. We are still plugged by too many customers that never get a chance to redeem their Groupon. We believe that unused Groupon’s are dragged on people’s willingness to buy more and represent one of the single biggest reasons that our customer spend is not rising faster.
With the adoption of Pull, our average redemption time is dropped dramatically, which should promote overall redemption and lower the barrier for our customers to make subsequent purchases.
Third, we need to make using Groupon as seamless as using credit card. All of our efforts related to Groupon’s operating system both in payments and point-of-sale are designed to create a world where our merchants are constantly connected to the Groupon platform and redemption is frictionless for our customers.
Over the next 12 to 18 months, we intend to significantly increased number of merchants that are connected to the Groupon platform. We hope that one day we have millions of merchants plugged into Groupon at all times, thereby creating a local commerce network that our customers and merchants can access.
Next, Pull. Let me start by providing an update on where I think we are in our journey to manage the turnaround and fundamental shift of our business from Push or email to Pull or search.
Our vision is to make Groupon the place you start when you want to buy just about anything, anywhere, anytime. We want people checking Groupon first before they buy something. Because with the world’s largest marketplace the deals, everything we offer is personalized to provide unbeatable value.
Checking Groupon first before they go out to eat, checking Groupon first when they are looking for an activity or exploring a new part of their city, or trying a new hair salon, checking Groupon first before they buy a camera, or new watch or mattress, checking Groupon first before they book a reservation or take a family trip.
To get pull right, we need to accomplish two seemingly simple but in practice very complex means, one increase supply and two increase demand.
Let’s start with supply. At the end of Q3, our active deal account in North America exceeded 65,000 on average, a 65 Pull increased over the last two years from roughly 1,000 deals at the time of our IPO, Taipen Teeth whitening in Dallas, or booming in Chicago or wine bar in New York and up pops relevant deals around you that can be purchased and used instantly. Over the next several quarters, we will continue to focus on growing our deal count to ensure that every search in every category yields an acceptable result.
To date, whilst supply has grown quickly, demand has taken longer to generate. Despite the continued progress we've made to reduce our reliance on direct email, it remains under 40% of our total transactions in North America. We still have not created enough awareness in the market around pull. The majority of our customers still have no idea they can come to Groupon and search and browse among our over 65,000 deals in real time.
With the release of our new site which unveiled a few days ago, we’ve taken a giant step forward in addressing this. We’ve now embedded search into the core user experience with a prominent search box at the top of the page. The site has also been completely redesigned for the first time in over three years with an entirely new and personalized homepage and completely reengineered category navigation.
In addition to rethinking search, we’ve also added several new features. Our local business now has personalized widgets that build themes for our users based on their preferences. In goods, we’ve added variations, so our users can see different colors and styles and shopping carts, they can finally purchase more than one item at a time. And in getaways we’ve launched search capability that extends beyond our deals, also include our market desk [ph], so our users can now browse among thousands of hotels and either find a deal or find the exact hotel they are looking for and book their reservation on the spot.
Historically Groupon grew by sending one or two deals a day to our customers via e-mail. Each day millions of people would open their e-mail and given the time sensitive nature of each deal, if they didn’t act quickly the deal would be gone. In a push world, like most flash sale businesses, a sense of urgency is embedded in the very sale itself and customers often tend to buy on impulse. We show you a deal when you buy it and hold it, often for months before you're ready to use it. This manifests in longer redemption cycles.
While we still believe our push business offers unbeatable value to our customers through the curation of the deals around them and while we intend to improve this business over time, it has inherent limitations as do all flash sale models. Pull shifts that paradigm. It is our answer to these limitations. Consumers no longer need to pre-buy Groupons or remember to use them, by checking Groupon first when they are out and about they can buy and use our deals in real time, not just in real time but on their time. In a pull, a pull rule we believe customers come to the site with expectation of using their Groupon now or in the near future. This manifests in shorter redemption cycles.
Since the beginning of the year, we have seen a percent of customers who redeem within 24 hours of purchase increased from 6% to over 12%. While these are positive signs, indicating the progress we’re making with pull, this shifting mix has created what we anticipate a short-term pressure on our North American daily deal email business. This, with other factors, including the effects of the Gmail promotion tab and Q3 seasonality negatively impacted our revenues in the quarter.
As more and more customers interact with us organically through app, and as we drive continued awareness of pull, we expect these pressures to be offset by the benefits of tapping into a whole new pool of demand and creating a truly vibrant e-commerce marketplace. In September, roughly 6% of our total traffic in North America was related to search activity with customers that search spending over 25% more than those who do not. These are two proxies that offer a glimpse of early progress. If we’re successful, it should translate directly into increased customer spend over time.
And finally, I want to cover One Playbook, our initiative to bring our North American systems and processes to the rest of the world. One Playbook made continued strides in Q3 and I want to quickly provide a summary of our progress. Our rollout of smart deals continues and we’re working to optimize our personalization algorithms and other critical features in order to increase relevancy in our largest markets. We’re also in the midst of rolling out G2 overseas, which is a process by which we get merchants to put their deals in our marketplace on an ongoing basis. Both of these are critical to obtaining the list we've seen in North America.
We also have now almost fully deployed the first version of our back office sales and customer service tools and processes that fuel sales force efficiency. We are now sourcing merchants scheduling deals and managing the entire deal factory workflow in similar ways through all of our major markets worldwide. Our work to integrate our many technology platforms also continues. Our North American and European platforms, which continue to make up the vast majority of our business globally, are on track to be largely integrated over the next several quarters. The deployment of our new site, which was built on one standard proprietary framework. We are now in a position to speed up the integration of these systems and our hope is to have most of our largest countries using our front-end design in 2014. We’re just starting to see this work pay dividends. When you look at the progress we’ve have made in both EMEA and rest of world, it’s clear we’re on the right path.
Now to discuss our results, I’ll turn the call over to Jason.
Thanks Eric. With the details available in this afternoon’s press release, I’m going to run through the highlights of the quarter and then provide our outlook. Note that all comparisons unless otherwise stated refer to year-over-year growth.
In summary, gross billings increased 10% to $1.34 billion. North America growth of 20% and EMEA growth of 12% was offset impart by a 13% decline in rest of the world. Sequentially, gross billings decreased by $71 million, which we believe was driven by Q3, seasonal headwinds as well as other factors including lower email open ridge related to the Gmail promotions have and the timing effects of all.
Revenue increased 5% to $595 million. North America growth of 24% was offset by a 21% decline in EMEA and 4% decline in rest of the world. EMEA revenues were impacted by continued takeaway investments as we focused on quality and the growth of the business. Also recall that EMEA revenues and profitability in last year’s third quarter reflected an $18.5 million true-up of breakage, driven by a tax ruling in Germany. Excluding this, revenues would have declined 12%.
Sequentially, as a result of seasonality, global revenues declined $14 million with growth in goods and travel, more than offset by the local decline. Gross profit decreased by 7% compared with both the prior year and prior quarter to $360 million reflecting a slight mix shift towards the goods business.
Within North America, gross profit increased 7%, low relative to 24% revenue growth due to a greater mix of direct revenue. Operating income, excluding stock-based compensation and acquisition related costs was $39 million, declining $11 million year-over-year.
As I mentioned a moment ago, year-over-year comparison for gross profit and operating income also reflect the $18.5 million breakage true-up in EMEA in last year’s third quarter. Sequentially, segment operating income declines in North America and EMEA more than offset improvement in rest of the world which generated a loss of only $2 million.
Adjusted EBITDA defined as net income or loss excluding income taxes, interest and other non-operating items depreciation and amortization, stock-based compensation and acquisition-related cost was $62 million in the quarter, decreasing year-over-year by $3 million and sequentially by $18 million.
GAAP loss per share was $0.00. An EPS excluding stock compensation and acquisition related cost net of tax was positive $0.02. Operating cash flow for the trailing 12 months ended September 30, 2013, was $106 million. Trailing 12 month free cash flow calculated as trailing 12 month operating cash low, less CapEx in capitalized software was $22 million.
For the quarter, free cash flow was negative $27 million. Working capital was the biggest factor in the cash flow decline due to seasonality of the business and the related timing of merchant payments. As of September 30, we had $1.1 billion in cash and cash equivalents.
And finally, we’ve repurchased 770,900 shares of Class A common stock in the quarter at an average price of $11.67 per share for an aggregate purchase price of $9 million. Up to approximately $291 million of Class A stocks remains available for repurchase under our existing share repurchase authorization which will expire in August 2015.
The timing and amount of any repurchases will continue to be determined based on market conditions, share price and other factors. The program is intended to offset dilution from employee stock grants.
Turning to our four key non-financial metrics, total units defined as vouchers and products sold before cancellations and refunds increased 9% year-over-year to 46 million units. North America units increased 19%, EMEA increased 1% and rest of the world was about flat.
Our net active customers increased in the quarter 10% to $43.5 million worldwide. Our North America active customer account was $19.9 million; for EMEA, it was $14 million and for the rest of the world, $9.6 million.
Trailing 12 month billings per average active customer was $137. Sequentially customer spend was about flat with North America down $1 to 155, EMEA up $2 to 137 and rest of the world down $6 to 102. While the TTM metric is a good long-term indicator of wallet share, it combines the effects of our four quarters.
In the case of rest of the world, the lasting of the strong quarter outweighed the the sequential growth we saw in Q3. Looking at the metric on a one quarter basis provides a different result with sequential lift from $23 to $24.
Active deals, including merchants featured in our pull marketplace, were estimated to be more than 65,000 on average in North America compared to over 54,000 at the end of the second quarter. Keep in mind that active deal accounts will fluctuate with the continued evolution of the business.
Now I am going to speak to the highlights of our categories. Local gross billings, which is made up of local and live increased 6% to 728 million with continued growth in customer and active deals. All segments accelerated or improved with North America accelerating to 13% growth, EMEA flipping from declines of 13% growth and rest of world decline slowing to 18%.
Local gross profit was about flat year-over-year at 264 million with billings growth offset by investments in take rate. Sequentially gross profit decreased 9%. Goods growth volumes increased 18% year-over-year to 433 million, reflecting the lapping of a difficult comp when the business first fully ramped. Sequentially, billings increased 1%. Good billings mix in North America continues to be weighted heavily toward direct and recorded on a gross revenue basis compared to the mix of our international markets or the inverse is true.
The mix of direct began to increase in the quarter as we made progress building out our supply-chain infrastructure internationally and we expect it to increase further going forward. Goods billings growth was more than offset by higher costs related to the growth of the direct business as well as take rate reductions resulting in a 29% year-over-year decrease in gross profit to 63 million.
Goods gross profit was about flat quarter over quarter. In the third quarter, goods gross margins based on gross profit as a percentage of goods gross billings were 14% globally, 11% North America, 17% in EMEA and 15% rest of the world. North America margins remain lower than our international markets, reflecting a greater mix of direct, which includes shipping and infrastructure costs that are still too high. I will come back to this in a moment.
Also recall that North America margins in the second quarter were favorably impacted by a 300 basis point one-time credit related to third-party freight costs. When taking this into account, gross margins in North America were about flat quarter over quarter. Like last quarter, EMEA gross margins reflect take rate investments to drive growth and travel and other had another solid quarter with gross billings increasing 8% year-over-year to 171 million.
Before I close, let me provide some additional color on a few specific items. First, I want to build up my comments regarding our opportunity to improve good margins. As I mentioned, shipping and infrastructure continues to be our largest cost related to goods, second only to the cost of the actual inventory. Today our costs remain up to 2X higher than what many other e-commerce companies spend in this area. By creating better and more efficient processes, we have an opportunity to not only improve our cost structure but to also enhance our overall customer experience. Later this month we plan to open our first warehouse in Kentucky. Unlike other e-commerce companies that have large warehouses designed to hold a wide selection of inventory for relatively long period of time, our facility in Kentucky will largely be a cross-dock center to mostly hold products while they are in transit to the customer. Our capital investment related to the Kentucky warehouses is approximately 5 million. This strategy will enable us to improve our gross and operating margins while at the same time significantly reducing our delivery times.
Second, I want to build on Eric’s comments regarding today's announcement that we have agreed to acquire TMON from LivingSocial. Our agreement is for a total purchase price of 260 million, including at least 100 million in cash and of 260 million in Groupon class A common stock with the final cash and stock allocation to be determined on close.
TMON is a well-established e-commerce operation in one of the largest e-commerce markets in the world. We look forward to applying their best practices to our rest of world operations as we drive improved growth in that segment. TMON has consistently seen year over year billings growth in excess of 50% and has annual billings of more than $800 million today. We’re in the process of integration planning right now and we will provide an update on the financial impact of the transaction, including any potential synergies upon close. We currently anticipate the transaction to close in the first half of 2014 subject to revelatory approval and other customary closing conditions.
Finally, turning to our outlook. In the fourth quarter we expect continued email headwinds in investment in marketing initiatives to drive adoption of the pull marketplace. In addition, we expect normal seasonal strength as customers prepare for the holiday season. As such for the fourth quarter of 2013, we expect revenue of between $690 and $740 million, operating income excluding stock-based compensation and acquisition-related expense of between $40 million and $60 million, and EPS excluding stock-based compensation and acquisition-related expenses, net of tax, of between $0.00 and $0.02. We estimate that stock compensation will be approximately $30 million for Q4, or approximately $20 million net of tax.
Our guidance includes cost that will incur in Q4 related to the diligence for the Ticket Monster acquisition. There are no other known financial impacts of the transaction at this time. As a result, we are now expecting GAAP operating income for the full year of between $72 million and $92 million.
As always, our results were inherently unpredictable and may be materially affected by many factors, including a high level of uncertainties surrounding the global economy and consumer spending as well as exchange rate fluctuation.
With that, I will turn the call back to Eric.
Thanks, Jason. Despite the challenges that come with transition, we made significant progress in the last 90 days. We launched an entirely new website and new mobile app. We set new quarterly records with 9 million app downloads and cross the 50% threshold from mobile transactions in North America.
We accelerated growth in EMEA and reduced our losses in rest of world. We returned our local business to double-digit year-over-year billings growth once again in North America. We delivered long awaited features in Goods and Getaways and we expanded our active bill count in North America to over 65,000.
Perhaps most importantly, we began to see the first signs that consumers are rethinking their image of Groupon, from a flash sales company to a full mobile commerce marketplace. Consumers are carrying around a virtual shopping mall in their pockets and we want them starting with Groupon, checking Groupon first because we offer unbeatable deals that they should explore before they make a purchase.
It’s a big ambition to become the starting point for mobile commerce, an ambition we believe we can achieve by virtue of our local roots. We allow our customers to interact with their surroundings in ways others don't or can’t, making purchasing more relevant, more personalized, more immediate, more efficient.
As a result, we have a significant opportunity ahead of us here with our employees, our stockholders, our customers and our merchants to stay singularly focused on executing against our strategy.
And with that, let’s take some questions.
(Operator Instructions) Our first question comes from the line of Justin Post from Bank of America Merrill Lynch.
Paul Bieber - Bank of America Merrill Lynch
Hi. Thank you for taking my question. Couple of questions. The mobile downloads -- by the way, this is Paul for Justin. Apologies. The mobile downloads were very strong in the quarter but unit growth accelerated significantly. What are you seeing in terms of engagements or purchase activity from your Groupon users?
I was hoping you could provide, perhaps little bit more in detail, the issues with Google versus the seasonality? And then just a clarification on the Google, Gmail issues that you mentioned, did those declined year-over-year or quarter-over-quarter? Thank you.
So there is a lot there. Let me start with -- it’s Eric by the way. Let me start with the mobile piece. So we did have record downloads. In the quarter, we had 7 million downloads. In Q1, we had 7.5 million in Q2, which accelerated to 9 million in Q3. And what we’ve seen with mobile -- the big story of mobile this quarter is not just that we had record downloads but also, that for the first we crossed the 50% threshold in North America, which probably makes us one of the largest e-commerce companies in North America that’s predominantly mobile.
And as a result, we began quoting a global statistic. As I said that, 40% of our global revenues are from mobile. What we’ve seen with mobile is that despite the fact that mobile customers spend more and they spend significantly more. They take longer to activate, roughly 30% longer to activate. And the reason for this is, in part because if you think about our email business -- our current push business is very sophisticated.
We send a couple of emails a day, one of the largest emailers in the world, highly visual, we’ve gotten very good at it, built a bunch of technology around email. And the adoption of mobile has been so extreme and so recent that we’ve yet to become a sophisticated in mobile as we are in email. We send one push notification today instead of multiple and we just don’t have the same kind of relevancy sophistication that we have on the email side.
As we build that out over the next several quarters, we hope to gain parity over time and so that’s the reason why even though people are downloading our app like crazy, it’s not translating into the unit growth. The unit growth is actually kind of parallel much closer our billings growth.
To you second question, I think was predominantly what led to – we were within our guidance with toward the lower end of revenue and how Gmail – and that impacts stacks up [ph] and seasonality in pull. And basically you have three factors that led to the revenue that we delivered this quarter. First is that there is natural seasonality. And this year we actually had less seasonality than we had in 2012, we actually had less of an adverse effect. The seasonality as we mentioned historically is predominantly driven by the fact that email albeit less than 40% of our revenue is still a significant part of our revenue and that daily deal email business is really subscriber oriented. So you subscribe to a city, and then you get deals for that city. And in the summer months, people are traveling. So if I am a subscriber to Chicago and I am traveling to Boston or Los Angeles or whatever, I am consistently getting deals for the city that I subscribe to. And so we have seen at Groupon over the last several years some natural seasonality pressure in Q3. This particular – but we obviously know that was coming in Q2, so that the additional headwinds related to this quarter was predominantly on the email side and it was driven by two things.
First, Gmail did make a change or Good made a change to their Gmail product at the beginning of the quarter where they basically put all the large email that is like us and moved our emails into this new promotions tab. And while there hasn’t been a huge material effect, it did have an effect on our open rates and it is part of the story. The second part is related to the fact that we are just starting to see the first signs that people are actually embracing pull, and one of the good pieces with embracing pull is that our redemption cycles are compressing, still in the old model, we would send you a deal, you would buy it and you would offer to redeem a month or two or three months after. Now because we have these 65000 deals in our marketplace and people are now browsing and searching, they are actually buying deals and using them in real time. So we have seen our same day redemption over the last 90 days or so actually doubled from about 6% to 12%, which means that people are basically browsing and buying in real time which is good long term – I believe it’s good long term but it does create some short term pressure because you are front loading revenues in the older model. And so we saw some of that in Q3 and it’s obviously baked into our expectations for Q4. Did I miss any part of the question?
Paul Bieber - Bank of America Merrill Lynch
No, I think you got everything, just were the double digit declines year over year or quarter over quarter?
They were – I don’t want to – a 90% decline -- it was low double digit declines and it was quarter over quarter.
Our next question comes from the line of Ross Sandler from Deutsche Bank.
Ross Sandler - Deutsche Bank
Just three quick ones, I will just ask in real quick and then go back into the queue. Eric, the ungating of the website and the new version, this seems like a pretty watershed moment for the pull strategy. So how does this impact Groupon’s ability to increase selection and potentially grow billings in the 4Q and 2014 from here, how do you train users to go to the website and keep returning to it instead of looking for emails? And then Jason, the CSOI to billings margin or segment margin for North America was down a little bit more than the prior trajectory either on a year on year or quarter over quarter basis, and the take rates are relatively stable. So can you just give us a little color on what’s driving that deleverages the email issue and why is the fourth quarter CSOI lower than your previous thinking? And then the last question is, the TMON deal, cash and stock, so is LivingSocial now a major shareholder in Groupon or are those shares going to be set aside for instead of compensation for TMON management?
So I will start, we will do a bit of a round. So the first is Russia [ph] kind of stealing a bit of a potential press release that we might send out in a few weeks. So you’re obviously in a test bucket which is why you are seeing an ungated site, but that’s okay. Nonetheless we can discuss it. So we have been testing on gating the site with small user population, at the moment which we decide to fully ungate the site should we make that decision, then we will announce it. We tend not to announce stuff until it fully rolls out. But ungating the site and building the market place we have been building. If you think about the kind of core necessary ingredients to having a vibrant mobile commerce marketplace, I think there is really two huge things. You have to get -- first you have to get mobile right. You have to get people embracing your mobile products, which means they are not only downloading your app, they are also transacting through mobile.
Then you have to get enough inventory, enough supply in the current system that you have something for them to search. You got to get the whole search product right. So we’ve been spending a lot of our time on that and we now feel like with the launch of the new site that is only about a week old, we finally feel like we have a product both in the web and mobile and the inventories that is at a sufficient level that we are ready to kind of jump in with both feet.
And part of that could be that we (inaudible) decided no longer force people to become subscribers which means anyone can just come to our site, browse a deal and buy it. And so yes, it is -- it would be a watershed moment and we are testing it now and at some point, we will roll it out and then the last part of your question, I think was how are we driving awareness.
We know we are doing all kinds of things to drive awareness for our new marketplace. Certainly we are using one of the core assets we have which is email. We begun -- just begun promoting our marketplace in email. People can see a variety of deals.
If you look at the home page of our website now we feel these kind of personalized widgets that have these different categories in them. So people can search for health and beauty or food and drink, not just one deal but many deals. We gun to do that and we also obviously are starting to test some really interesting campaigns like the Starbucks campaign that we have been running for the last two days, which was a really interesting campaign because it was the first time that we didn’t send an email or promote a deal, we simply promoted a brand that you had to come find by coming to our site and searching it.
So the only way you can get the Starbucks deal which is sold over a million units is you had to basically come to search, click on Starbucks and pull down the deal. And we will continue to do things like that to drive awareness.
On the question about the CSOI to billings, I guess kind of a degradation versus what you saw in the previous quarters. So first, the first portion or the largest portion is really mostly due to makeshift. So on a global basis, local, obviously much higher margin, was that about 57% of the total billings basis and about 31% in goods and about 12 or so in travel.
That flipped in Q3 to actually local down from 57% down to about 54%. And so that’s certainly a large driver of -- for Q3 and part of our expectation for Q4 as well, but we also had -- or the second piece was marketing initiative which is we’ve talked a lot about the different marketing programs we have and you have what -- you have of course the largest portion that is actually in the marketing P&L line of roughly $50 million.
Then you have the stuff that’s we call market initiatives that are not actually in the marketing expense line. And so that includes order discounts to entice new customer activation and free shipping and those two things in particular we actually increased spend on those initiatives by about $11 million quarter-on-quarter. We expect we’ll continue to make those investments, free shipping to drive good business and of course order discounts and other take rates investments to try to drive the pull business.
And then just to clean up the -- third part of your question, which was the TMon consideration. So the TMon consideration was $260 million and the way it worked is at least a $100 million of cash and up to a $160 million of stock. And we will make that decision to get closer to closing and so it may be less than a $160 million of stock they ultimately get.
We -- it represents obviously as you know a very small percentage of our float. And I don’t have any idea if they tend to hold our stock or sell it or distributed to their investors. And they have raised quite a bit of money over the past four years and they may decide to distribute that stock to their investors, we just have no idea.
Thank you. And our next question comes from the line of Scott Devitt from Morgan Stanley.
Scott Devitt - Morgan Stanley
Hi, I had a few -- as you have extended deal bank in North America to open up Google distribution, I at least hope you could talk about how search is progressing off platform both SEO and SEM as contributors to Pull?
Secondly, Eric you noted 2014 as the year that when Playbook brings the full platform to EMEA. And I was just wondering if you could discuss where you are on deal count and pull as a percentage of activity internationally now and when in 2014 you expect to see noticeable changes in that area, like you experienced in North America as you transition the platform in markets outside the US and then finally on the Ticker Monster deal, could you talk a little bit more in terms of how that fits with the strategy of One Playbook and cleaning up international – the rationale for paying all cash and whether or not it was a competitive process?
So let me start with SEO and SEM. So anyway this is somewhat surprising but when we talk about certain things it’s hard to realize Groupon is only five years old and some comments we say, some of the stuff that people [indiscernible] you don’t believe it like, for example, when we actually announced that we just recently deployed a shopping cart and people feel a little bit like I can’t believe you would announce that but it’s crew – up until now we didn’t have a shopping cart. So if you wanted to buy two Groupon goods you have to basically buy one and then you check in to buy another.
Well on the SEO/SEM side, which is – for those who don’t know it’s search engine optimization or marketing, our site up until this recent redesign was largely uncallable by Google. And so with this new design it came out we also fixed the back end, we had a bunch of technical bed that had been built up over the early years of Groupon by virtue of how fast we grew. And so we are seeing some really interesting signs of Google now being able to crawl our site and search out site and so we intend to invest heavily in SEO and SEM. We would like over time that they basically guide – that they basically are bigger part of our revenue as there are rather large e-commerce companies which we are highly under-correlated to that today. It’s still single digits for us, it is although growing and we intend to invest heavily in it.
As we have notified in the good figure, we are making significant progress in rolling out our technology for supply which is predominantly the tools for the same source and operational teams. We are particularly done with most of the big countries in Europe and we are right now in the process of fine tuning the demand which is our smart deal algorithm. And we are making phenomenal progress and the progress could be seen in numbers as we noted EMEA turned around in billings from a negative 8% in Q1 to positive 4 to positive 12. And it is not only helping with our business growth numbers, with our customer satisfaction and merchant satisfaction has continued to raise while the business remains very profitable.
So in terms of deal front, we do have tens of thousands of deals in EMEA and that deal cover is growing very rapidly as we talk and sometime in 2014, the whole strategy of One Playbook which enables us to plan ourselves from daily deal business to a pull marketplace would be imminently feasible in EMEA and we are making fantastic progress on that.
So they actually – it was a competitive process, there were multiple bidders and we were fortunate to be able to win and they actually wanted some of our stock. It was a negotiated point. So I guess I don’t know if their intention is to distribute some of that stock to their investors who might want it, I don’t have any idea. But it’s certainly a small enough percent for us that if it allowed us to win this up that we very much wanted, because it really is – it was important for our – strategically we were okay with giving them a small amount of stock.
And the next question on TMON you asked is, is it going to distract us from the progress we are making in rest of world. And the rest of world is all about helping [ph] – as you could see, we have been very focused on stemming the losses by making sure that we are cutting out unprofitable, unsustainable categories so and so forth, then you could see the results we have accomplished in Q3 that we have in a big way reduced the operating losses there. And the One Playbook rollout is happening in the rest of world as we talk, like I told you in the prior calls it is the work of multiple quarters, we are on the right direction and it will be bumpy but we are very pleased with the progress we have made in the rollout of One Playbook and we believe TMON is not going to distract us. As a matter of fact, TMON is going to provide us lot more scale and opportunity to make the rest of the world a growing thriving business for us.
Scott, just one more thing I want to throw on to, the other thing to know about TMON is, of course the deal is not closed, so I can’t speak to the full financial impact until it’s closed. However based on the financials that we have been presented with, we did disclose that they have over 800 million in annualized billings but they have also indicated that they are about breakeven on adjusted EBITDA basis. And so that’s certainly an indication that from an operational perspective, there is certainly many things to potentially learn from what they are doing.
Scott Devitt - Morgan Stanley
Thank you. (Operator Instructions) Our next question comes from the line Eric Sheridan from UBS.
Eric Sheridan - UBS
Yeah. Hi. So one question. Looking at the number for the app download, you have 60 million app downloads now, but only 43 million customers? I think, you’ve talk a little bit about it on the call, Eric, but just understanding longer term over the next year or two, how you can close that gap and whether it might mean, marketing spend in an offline nature to drive the Groupon brand or acknowledgement that there is Pull? And then you also said on the call that you still suffer little bit from a lack of awareness that you move to being a Pull company in the marketplace? Thanks.
Yeah. I mean, I will tell you, what is interesting is that, we have over 200 million subscribers worldwide and 60 million app downloads. So the first thing to think about is that our app downloads, we hope it will continue to grow, because we are not yet at parity. There are still an enormous number of people that have subscribed to get our email that don’t get our -- have not downloaded our app.
And what we clearly have to do, we’ve talked about that is we have to infuse technology in this process so that we are eventually sending push notification and using incentives intelligently to get people to make that first purchase on mobile.
We also have to increase awareness so that people realize that when they are on about it, they should be starting with Groupon. They should be opening up that app and saying, hey, if we are looking to get some lunch somewhere, let me start with Groupon and see what’s nearby, if my TV broke and I am walking down on isle, let me see if Groupon has a TV that they are selling on goods at an amazing price. So part of this awareness, part of this technology and we are making significant investments in both.
Thank you. And our next question comes from the line of Arvind Bhatia from Sterne, Agee.
Arvind Bhatia - Sterne, Agee
Hey. Thank you. Couple of questions. First one is, I was wondering what’s your guidance for the fourth quarter implies for local billings and goods billings relative to the growth that you saw, the acceleration you saw recently? And then the 6% of total traffic in North America coming search? How does that -- how is it broken out between mobile and desktop?
I’ll go ahead and take the first question. This is Jason. So, on the Q4 guidance we don’t -- because we don’t give guidance on the segments or on the channels. But you could assume that much like you saw last year in Q4, goods is a much more seasonal category more so than local. So you should probably assume that much like how you saw the mix shift a bit more and skew a bit more towards goods in Q4 last year. I assume, you will probably see something similar like that.
And then in terms of your second question, which is how did the 6% breakdown. So, first off all, I want to just clarify for a moment that, this metric we are providing we consider to be kind of like the core nucleus is how should think about whole. What this metric is, people who come into the search box in Groupon either on our site or in our mobile app and type in something, obviously with intent to buy. So we provide that metric, which is 6% of our transactions are driven through that search box.
Then, we tell you basically how much more these people are currently spending, albeit it’s in a rough range it’s not an exact number. We say they spend more than 25% more. And so over time what this should translate into is increased customer spend. If search becomes a bigger part of our business, if they continue to spend more which they will, then that total customer spend is going to grow. This does not include volume we drive from SEO or SEM, because if somebody goes in a Google search box and types in Chicago Spa and lands on a deal page and makes a purchase we don’t include that in this number.
In terms of the breakdown between mobile and web, we don’t disclose that but we have told you that more than half of our business is mobile and you should assume that traffic coming to us into the search box is breaking down roughly in that same proportion.
Arvind Bhatia - Sterne, Agee
Great. Thank you.
Thank you. And the next question comes from the line of Heath Terry from Goldman Sachs.
Heath Terry - Goldman Sachs
Great. Thank you very much. Eric, curios, was there any commonality to the deals that you are seeing that are really driving this reacceleration in the local business, whether it’s the type of merchant,the type of offer, the channel that they are coming through that’s worth noting?
And then, to the SCM question that you sort of touched on, when you feel like the site is fully optimized and with the new design and more persistent deals, how meaningful do you expect transactional marketing to become and what kind of ROI would you be looking for on that?
I will start with the merchant piece and what’s driving some of that local acceleration. I think in general the quality of merchants that we have been adding to the platform has been pretty high but still has a long way to go, we are up to over 65,000 merchants but we still are very unsophisticated in our approach to the market. We still are very much rooted in – most things are half full often. Our margin structure is very similar and you can kind of see that. And over time we have to get more sophisticated in terms of what should our discount rate be, how do we margin as a lever to consistently drive the very best merchants coming on to the platform.
And so you see us quarter after quarter we sometimes play with these dials a little bit and we are effectively trying to find ways to get better merchant kind of platform. I think for pull to really drive long-term we need to have a way more merchants on the platform. So you are going to see us over the next several years I think very focused on how do we make the Groupon platform a solution for every merchant. Some merchants are just twofold, they have too many customers, they offer stuff that’s 50% off, maybe we can get them to offer product at 20% off, 30% off and we want them on the platform too. We want – if we are going to be the starting point for mobile commerce we need people to be able to type in just about anything and get a relevant search result. We are very focused on that.
Let me add a point to that. We have a – we are perfecting a scientific technology called quantum leap which basically tell us that where our customers are, wherever our mobile users are, where our email subscribers are, and that pretty much dictates exactly what the mix means from our customer would look like. And that technology is kind of self-loading, self-correcting adaptive control systems which gets better with the human input than the browser purchase behavior. And we are fine tuning that, it has been nine months old in beta phase, and we have just rolled it in EMEA, as we continue to fine tune the self-loading self-correcting adaptive control systems we expect our ability to target high quality merchants even better and we are also simultaneously building technologies where we can get merchants to call into Groupon or do self-service to register their service within Groupon customers and we have just rolled it out in the United States and we are making progress. And we will see the updates in the US this year and we will get more benefit out of it in the international sector [ph].
And your second question, in terms of the ROI of our transactional marketing spend, the thing of our transactional marketing spend as we have said in the past few quarters, it’s very young. We just started jumping into this a few quarters ago as we began trying to understand how to get good transactional marketing. And it’s a very tricky thing when you are tackling mobile because at the end of the day, it’s much easier to drive transactional marketing when you're picking from a limited SKU set where you’ve got a lot of searches occurring and they are not refracted into that long tail.
Local is by its very nature a long tail, people tend not to search pizza, they send to search pizza by either a ZIP or a by a very specific neighborhood. And so it’s a little harder to do well into kind of find an economic model on the SEM side. The good news is that we’ve got a fantastic team in Seattle that’s been cranking a way at it and we make progress every quarter and we believe that at some point in time that it will become a meaningful part of our business and continues to grow and we look forward to the day when it represents the kind of percent of our business that it goes for the large e-commerce companies.
Our next question is from the line of Gene Munster from Piper Jaffray.
Gene Munster - Piper Jaffray
Just another question, if I ask a couple ways, but take a step back and say, what we are trying to do is really build the search, the marketplace for deals. Two questions, one is on the marketing side, how you are going to build that, [indiscernible] paying out there to build awareness and separately as you think about why the deal Densky [ph] isn’t going faster, can you give us some indications and what the sticking points are with merchants that might ease in the future to try to get some of the deals that tend to accelerate?
The first part is how are we going to market this new marketplace, it’s been asked a few times and so I think the way to think about it is we have an inherent advantage that many other companies don’t have and that is when we want to market a new product, we get to sent basically two emails a day to our kind of customer base, which is over 200 million subscribers worldwide and promote something. Now, when we promote it, it does take some shelf space from the other things we could have been promoted that day and so we have to be careful. But you will see us over the time using email as a lever to promote pull.
Number two, we intend to market it in other conventional ways. We intend to basically drive awareness. The Starbucks Campaign was one way to drive awareness and we will use others. We don’t have any huge TV campaigns plan, but you should see us over time get more and more aggressive to driving the awareness of pull, but it’s a brand new product for us in terms of the website and redesign. It’s a pretty new product in terms of its infrastructure and so we are just kind of evaluating how hard to market it quarter-by-quarter.
And in terms of deal density, for us the issue -- you ask this question all the time, which is what’s the right number of deals and why don’t you have more deals? And at the present moment in our largest markets, we have significant inventory in all of our main categories. You go type in Peach in Chicago or Yoga class in New York and you will see a wide array of deals.
The challenges is, it’s not just about getting more deals for the sake of getting more deals, it’s often about getting the best deals, so that people get result that are really -- there is really great inventory in all these neighborhood and subdivisions and zips. And it’s also about looking at search queries and figuring out where you are not in stock and for Groupon, this is an entirely new methodology.
We are -- our roots are daily deal, their email, we are just building the infrastructure to behave like a real ecommerce company, where you can look at your traffic and look at your searches and say, hey, I need to have inventory in this category, I need to have Thai food in Atlanta when maybe in the email business we don’t need that. But we are getting a lot of search queries and so we are building all of those systems right now. We are fortunate that we have an unbelievable team that have expertise in these areas and will building up these systems and so you will see inventory grow over time but grow intelligently.
Yeah, let me add a quick statistics. As you saw in the press release and the script, our active deals are now at 65,000 or more and the beauty is 75% of our merchants want to be active in Groupon, year in and year out and our active deal count in international like answering the prior question is in tens of thousands and it is growing rapidly. Now, we are building technology, which is going to tell us in a very laser focused way on where to get a deal based on a customer search, customer need and the subscriber heat map. And this is the first time, nobody has build a local market place and Groupon is building a category, not a business and we are inventing our way into giving a great customer experience, while doing it in a way that they are profitable and grew upon our merchants.
Gene Munster - Piper Jaffray
Thank you. And we have time for one more question. Our final question comes from the line of Mark Mahaney from RBC Capital Market.
Mark Mahaney - RBC Capital Market
Thanks. Quick question. Eric, you talked earlier about material increase in a number of merchants on the Groupon platform. We have done our own survey where it seems like merchant satisfaction is pretty high. There should be pretty broad awareness, so why do you think there aren’t enough merchants on the platform or how do you do that, why do you need to it and why do you need to materially increase given the satisfaction levels and how do you do it? Thanks?
Yes, so we are fortunate that our merchant satisfaction is extremely high and our customer satisfaction or CSAT scores are even higher. The issue is, you have to get the supply demand balance right and at the present moment we’ve gone from 1,000 merchants on the platform at a time, we went close to 65,000 in North America alone today and you do run the risk.
If we just flood supply too quickly, you run the risk that merchants are getting too few orders and were just way ahead of our skis in terms of supply. So you have to have demand that is moving forward and gaining momentum at roughly the same pace or at an appropriate pace. And we are getting -- we still get record inbound increase from people that want to run on Groupon.
We just let them all on the platform. That 65,000 number would sky rock it. We get 20,000 to 30,000 a month a people who reach out to us in North America alone and say I would like to run a deal. So it’s not just about opening it up and letting everybody on the platform. Again, it’s the right merchants and it’s balancing with customer awareness, so that the eco system is basically working and if it becomes this kind of network effect where it just builds upon itself.
Let me just add upon here. We are not only trying to build in marketplace with lots of merchant, we are trying to build a demand right in marketplace where basically we are selling the demand we get from our customers, both from our mobile application and through the full transition and that’s the reason why the 65,000 like Eric said, we could make it a much bigger number if we just add them arbitrarily. But we are trying to do it in a very laser focused scientific way to provide a great customer experience and to make sure our merchants are happy and then [indiscernible].
Thank you and we have run out of time for questions. This does conclude our conference for today. We thank you for your participation and you may now disconnect. And everyone have a good evening.
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