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In less than 4 years, private investors in Groupon (GRPN) earned an average return of 6,352% when the company completed an IPO in November 2011. In the process they acquired 20 companies to give the impression of growth and sold shares for $700 million to the public. Did the public get a good deal? Although Goldman Sachs, Morgan Stanley and Credit Suisse might disagree, we think not.

Groupon was capitalized with $1.074 million equity on December 30, ’07. In return for the invested capital, Groupon issued a stunning 321 million common shares and 1 million preference shares. This amounts to 1/3 of a penny per share. Three years later the lucky holders of these shares would have a value in the $13 billion range. This amounts to a return for the first private investors of 13,000% - in 4 years. Is this a coupon bubble – or am I missing something? Somebody please explain this to me.

Groupon has leveraged a strong roster of officers and directors who had the experience and background to engineer a stunning performance which would excite the public to buy shares in the IPO. Eric P. Lefkofsky, an investment banker and database entrepreneur who operated a negative check database service, executed on a plan to consolidate an old industry and present a story of rapid growth. With tremendous foresight, these financial entrepreneurs created an expanding company with a historical growth pattern and sold it to the public at a $20 billion valuation. Did the public buy overpriced stock?

Chart 1.1 indicates that Groupon is highly priced. We compared Groupon market cap to annual sales and book value. We did not consider P/E or P/CF as Groupon produces neither in positive quantities. With the available measures, Groupon is priced in the high end of the ranges. Could the price fall? By how much could it fall? And when could it fall?

Chart 1.1

Price/Book

Price/Revenue

(Latest yearend figures)

(Latest yearend figures)

Groupon Inc. (GRPN)

2,230.8

46.3

Overstock.com Inc. (OSTK)

5.8

0.2

Copart Inc. (CPRT)

5.6

3.6

Amazon.com Inc. (AMZN)

11.5

2.3

Alliance Data (ADS)

226.1

6.2

Groupe Aeroplan Inc. (OTCPK:GAPFF)

1.2

1.0

Priceline.com (PCLN)

13.1

7.8

Average

356.3

9.6

Average ex Groupon

43.9

3.5

Source: Google Finance, TSX, Sedar, Analyst estimates

Rapid revenue growth – Is it sustainable?

One feature of Groupon that attracted investors is growth momentum and plenty of it. The company’s top line growth was a blistering 700% in the nine months ending Sept 30 ‘11 year over year. However, the sustainable growth rate has not performed at this level as the company has yet to earn a profit. Clearly, even if the company controls itself into a profitable growth cycle, it will grow at a mere fraction of historical rates on a long term sustainable basis. When investors pay up for rapid growth that is not sustainable, the share price tends to over inflate.

Quick facts to consider when valuing Groupon:

Average revenue per employee was $41,274 according to the prospectus and $56,705 according to a more recent employee tabulation from Google Finance.

This compares to its peer group as follows:

Employees

Revenue

Revenue/Employee

Groupon Inc. (GRPN)

7,107

$ 403,000,000

$ 56,705

Overstock.com Inc. (OSTK)

1,500

$ 1,089,000,000

$ 726,000

Copart Inc. (CPRT)

2,825

$ 872,000,000

$ 308,673

Amazon.com Inc. (AMZN)

43,200

$ 34,204,000,000

$ 791,759

Alliance Data (ADS)

7,600

$ 2,791,000,000

$ 367,237

Groupe Aeroplan Inc. (OTCPK:GAPFF)

4,711

$ 2,056,000,000

$ 436,425

Priceline.com (PCLN)

3,400

$ 3,084,000,000

$ 907,059

Average

10,049

$ 6,357,000,000

$ 513,408

Average ex Groupon

10,539

$ 7,349,333,333

$ 589,525

Apple Inc. (AAPL)

60,400

$108,000,000,000

$ 1,788,079

Google Inc. (GOOG)

31,353

$ 29,300,000,000

$ 934,520

Source: Google Finance, TSX, Sedar, Analyst estimates

Revenue per employee is a critical measure of any new media company. Revenue per employee of Google and Apple indicate highly productive, probably well paid and happy employees. Groupon’s low revenue per employee may indicate less productive employees.

Average revenue per Groupon sold was $12.00 - $13.00 as of Sept 30, ’11.

Although this figure has grown, compare revenue per customer to some of the most successful companies and you will find a stark contrast.

How investors make money from Groupon lessons

In our view, investors should be looking to buy undervalued stocks and sell overvalued stocks. With a highly valued stock and low operating metrics, Groupon appears overvalued and therefore positioned for a declining stock price throughout 2012.

Source: How Groupon Generated 6,352% Returns For Private Shareholders