Is Groupon Now Worth Buying?

Oct. 4.12 | About: Groupon, Inc. (GRPN)

Since its IPO, Groupon (NASDAQ:GRPN) hasn't given investors much to be excited about. The stock price has reflected that disappointment, as it has fallen from above $26 per share to the mid $4 range. Factors seem to indicate that Groupon's stock might now be turning around.

Over the last few years, Groupon has impressed investors in two main ways: its incredible growth rate and its astronomical losses. Revenue grew 415% from 2010 to 2011 to an astonishing $1.6 billion last year. However, at the same time, Groupon had an operating margin of negative 134% in 2010 and maintained a loss in 2011 despite the huge growth in revenue.

But things are looking positive for Groupon. Its loss in 2011 was only 14%, not 134%, and it has now posted decent results for three straight quarters. The fourth quarter of 2011, it had operating income of $8 million. In the first quarter of 2012. that increased to $68 million. Q2 operating income increased as well. up to $72 million. These Q2 numbers disappointed many investors when they were released back in August because investors had expected higher growth. The stock took a serious beating over the next several weeks and hasn't recovered since.

Nevertheless, this pattern of growth indicates that Groupon could very well end this year posting its first annual profit as a publicly traded company. This would be great news for the stock. So, will Groupon continue to maintain its profitability? Here are a few reasons that indicate that it will.

First of all, analysts seem to think so, as the earnings estimates for both Q3 and Q4 are positive: a vast improvement from the negative territory where they resided last year.

On top of that, Groupon has made some strategic moves to better position itself for profitable growth. First it acquired Savored, a competitor company based out of NYC that caters to high end restaurants that were afraid they might lose money through a Groupon deal. This site is slightly different from Groupon in two ways. The discounts from Savored tend to be smaller than typical Groupon deals (30-40% rather than 75-80%). Also, this site is focused not so much on having restaurants run deals to get customers in the door, but on restaurants offering up empty tables for patrons to reserve. Many of the high end restaurants on the site offer deals only on off days. This seems like a good acquisition, as it relieves some of the worry merchants have with using Groupon due to the possibility of losing money on the deal if customers don't return. Groupon will now have the ability to provide deals that are more tailored to the merchant.

Groupon already has a large network of businesses it works with, and it has been developing various services to improve the value proposition for merchants considering using Groupon. These include online scheduling software and rewards programs. A recent addition is Groupon's new merchant processing system, which allows business owners to process credit cards on an iPhone through Groupon. Groupon offers what it touts as the lowest fee anywhere at 1.8% plus a 15 cent transaction fee. The idea is to give merchants another reason to work with Groupon. The new merchant processing app will also allow merchants to scan Groupons and track the impact and customer spend for each deal.

While recent growth and expectations might be positive, there are still definitely concerns regarding Groupon. First of all, while Groupon had an operating profit in the first quarter of 2012, it still ended up with a net loss of $3.6 million that quarter. Additionally, while most investors are looking for a growing profitable company, Groupon is much more interested in just growing. As written in its Q2 report:

"We are a high-growth company and have aggressively invested, and intend to continue to invest, to support this growth. As a result, we have incurred net losses in the majority of quarters since our inception. We anticipate that our operating expenses will increase substantially in the foreseeable future as we continue to increase the number and variety of deals we offer each day, broaden our customer base, expand our marketing channels, expand our operations, hire additional employees and develop our technology."

Groupon's biggest expense historically has been marketing. In the first quarter of 2011, it spent $230 million on marketing and spent $220 million in the second quarter. As Groupon develops more of a foothold both nationally and internationally, this expense will diminish. We are already beginning to witness this. The combined marketing expense from Q1 and Q2 of 2012 was only $204 million.

Groupon will continue to invest huge amounts of money in growth, but it seems to be entering an era of profitability where it will begin to recoup the huge losses it has incurred thus far. This seems like an ideal time to purchase this stock in anticipation of continued growth and profitability.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.