Pardon the pun, but much like its popular "Groupon Now" mobile application feature, the time to short Groupon (GRPN) is now. The earnings report, or lack thereof, was abysmal to say the least. Expected by analysts to earn 3 cents a share the past quarter, Groupon sorely disappointed by losing 2 cents a share. While this company has failed to register a profit since its inception, much worse is its slowing sequential growth in revenue and active users. No profits, no growth, no buy.
Earlier in December, I wrote an article entitled "When to Short Groupon." In that article, I highlighted several red flags that warned this stock would be in trouble. In addition, I predicted the stock's January rise in share price and told bearish investors to wait until after the fourth quarter earnings release to initiate a short position. Now that we have the results confirming our suspicions, the time to sell short is now as I illustrate why below.
Below is a summary of the 4th quarter earnings report released by Groupon:
1) Gross Billings - 1.25 billion
2) Revenue - 506.5 million (40% of gross billings)
3) Operating Expenses - 491.4 million (97% of revenue)
4) Biggest Expense - Marketing (156.4 million - 31% of revenue)
5) Tax - 34.8 million (including 1600% tax rate for international revenues)
6) Adjusted Return - Loss of 42.7 million
7) Adjusted Earnings per share: Loss of .02c vs. expected .03c profit/share
8) Subscribers - 150 million (estimated as of Jan. 23rd)
9) Active Users - 33 million
10) Merchants - 250,000 in 47 countries
11) Employees - 10,000 (7,000 internationally)
12) Projected Revenue - 510-550 million vs. 501 million analyst expectation
Groupon registered just a 3% profit margin ($15 million on 506.5 million of revenue) before interest, taxes, deductions and amortization. While Groupon beat analyst expectations on revenue (506.5 vs. expected 473 million), they failed expectations in earnings per share, with a surprising 42.7 million dollar loss on an adjusted basis. Groupon's failure to register its first profitable quarter in history can largely be attributed to an unexpected and unusually high tax payment of $34.8 million.
In the earnings conference call, CFO Jason Child said the 1600% tax rate came as a result of profitability in overseas markets and establishing an international base in Switzerland. He stated that the tax rate would "decline over time." How long "over time" remains an unknown. Marketing expenses were through the roof, accounting for 31% of gross revenues.
CEO Andrew Mason stated that the marketing expense as a percentage of revenue should decrease but it's "going to take a little while." How long is a "little while" remains an unknown. What we do know is that it won't happen anytime soon. That's because in addition to the army of salesman groupon has been hiring, Mr. Mason revealed that Groupon is about to spend a substantial amount of money on tech hires, in particular engineers.
While gross billings of 1.25 billion seems impressive on a quarter over quarter basis (300% growth from same quarter 2010), sequentially, it's only a 7.8% increase from the third quarter's 1.16 billion. That is probably due to the most troubling aspect of Groupon's quarter - subscriber acquisition. Groupon failed to include in its earnings report the number of subscribers as of December 31, 2012. However, CEO Mason was quoted at the DLD conference held on January 23rd in Germany that Groupon currently had 150 million subscribers. That is a big red flag.
I have included a chart of Groupon's growth in subscribers sequentially the past two years below. As you can see, Groupon has seen substantial growth quarter over quarter. Even when viewed sequentially, subscriber growth has increased notably, until now.
As you can see, Groupon only added 5% to its subscriber base from the previous quarter. That is a substantial drop-off from previous quarters. Beginning in quarter one 2010, growth in subscriber base sequentially has increased 300%, 200%, 237%, 64%, 39%, 23%, to 5% in the last quarter. Of course, over time, growth will slow. That's the law of large numbers. But the latest drop is steep.
Whether the reason for failing to add more subscribers is due to increasing competition from the likes of Amazon (AMZN), Google (GOOG), or Living Social is unknown. But if subscriber growth is going to slow that severely, the revenue per subscriber must increase. Unfortunately for Groupon, that hasn't occurred. Gross revenue per subscriber has been declining quarter over quarter and has remained static in 2011 on a sequential basis as you can see in the spreadsheet. This stagnant revenue growth, combined with increasing costs of subscriber acquisition, spells trouble for the future.
Another problem is that we simply cannot quantify the return on Groupon's investments in technology and labor force. The reason is because Groupon fails to inform investors about critical metrics. I pointed out in my previous article that Groupon fails to inform us how many subscribers actually purchased a groupon in a given quarter. Groupon stated that "as of December 31, 2011, Groupon's worldwide active customer base grew to over 33 million…" At first glance, it seems that we have a number to work with as to who purchased groupons. However, the measurable is misleading. Groupon defines an active user as any customer who purchased a groupon in the past 12 months. Thus, the "active user" base could include customers who failed to purchase a groupon in the 4th quarter, 3rd quarter, and even the 2nd quarter. A subscriber that only purchased one groupon in a full fiscal year is hardly an active user by any reasonable standard.
Moreover, Groupon states that the 33 million active customers "may include individual customers with multiple registrations." So if you have 4 different accounts, (which is not farfetched since Groupon only requires the registration of an email address to count you as a subscriber) Groupon will not only count you as 4 subscribers, but should you make a purchase in each account separately, you would also be considered as 4 active users. And you would be counted as 4 active users for the next 4 quarters. This is definitely a concern for investors.
Why does Groupon feel the need to measure its user base in such a fashion? Instead of creating inflated categories, why don't they just tell us how many of the 150 million subscribers actually purchased a groupon in that given quarter? Groupon is fully capable of detailing how many subscribers, old and new, actually bought a groupon. They refuse to do so and it's likely because the number would not be a good reflection on the supposed "growth story."
It's fair to say that investors were not pleased with the earnings figures and responses to questions at Groupon's first ever earnings call. The stock was down more than 15% in the after hours session at the time this article was written. But the bleeding is not over. Groupon traded sub $15 at one point not long ago and a retracement to those levels is not out of the question.
Buying puts, as opposed to outright shorting the stock, is an ideal way to take advantage of the stock's decline. To those of you who currently own the stock and are hoping for a rebound possibly next quarter, a pretty good site to gauge Groupon's billings growth prior to earnings release is on Yipit. Yipit tracks the number of groupons sold and quantifies gross billings per month. I have included a link to an estimation of what they published for gross billings in the months of October and November of 2011. -Yipit Groupon Estimation.
They estimated 300 million in gross billings for those two months and while I don't have their December calculations, it seems pretty close relatively speaking with Groupon's 506 million figure for the quarter (if you calculate a $200 million December). It also calculates estimates for Groupon rivals like Living Social.
Without question, Groupon does trade at a high P/E multiple. But there are a lot of tech and social networking companies that trade at nosebleed valuations whose share price has been continually rising for quite some time. Companies like Salesforce (CRM), Baidu (BIDU), and Netflix (NFLX) all trade at higher multiples than peers in the same sphere. The difference here is that those companies have a legitimate growth story. At the present moment, the same cannot be said of Groupon.