Groupon Inc. (GRPN)

[FUNMAN]

Groupon Is Chasing A Falling Star
Aug. 8, 2018 1:26 PM ET

Seems to me this writer is focused on the wrong part of Groupon. His focus is on the goods side of the business which Groupon is deliberately scaling back to focus on the more profitable offers that fall into the category of "Things you do everyday".

He doesn't mention it, nor the couponless transition linking credit cards directly to offers in 25 markets where it's being rolled out. Groupon is adding transaction simplicity and removing the embarrassment of handing a voucher to someone in front of a date or business client.

since that is the direction of the company, why would the writer ignore it in his analysis?


Read with charts and graphs here:
https://seekingalpha.com/article/4196418-groupon-chasing-falling-star


By Michael Henage

Summary

How does Groupon sell at full price?. It doesn't.

If Goods is the future for Groupon, the future involves more red ink.

Customers seem to be finding better deals elsewhere, investors should probably follow suit.

Oh Groupon (NASDAQ: GRPN), how frustrating you have been for investors. Not that many years ago, the company seemed like a mis-understood growth story. Groupon’s traditional service revenue was flat, but Goods revenue was exploding. The company’s international aspirations were in their infancy, and it seemed investors should expect positive returns. That was essentially my thesis on the company in 2015. Since that time, the business that seemed to be Groupon’s future, now seems destined to destroy shareholder value.

How does Groupon sell at full price?
When Groupon Goods was introduced, investors got very excited. The theory was simple, take the huge margins on local deals, blend in massive growth from the sale of Goods, and revenue and earnings growth would follow. Unfortunately, even Groupon management is realizing the current setup isn’t working.

Groupon’s CEO Rich Williams indicated more full price offerings are coming. He said on the last conference call, “If you’re going to transact at full-price on our platform, you need to get extra value. And for us, that extra value can be just a better experience. It doesn’t always have to be 50% off or 30% off.” This is a massive shift for the company and not easily navigated.

The company’s name is designed to invoke the idea of a group coupon. The sale of Goods has been growing, because customers are usually willing to wait a little longer to get a better deal. There is no shortage of companies offering the same items. The question facing Groupon is, why would a customer buy at full price, to get the item slower than their competition?

Let’s look at a sample purchase available through Groupon and compare the options through two other sites value conscious customers might visit, Walmart (NYSE: WMT) and eBay (NASDAQ: EBAY).

Company

eBay

Groupon

Walmart

Product

iPad Air 2 16GB Refurbished

iPad Air 2 16GB Refurbished

iPad Air 2 16GB Refurbished

Price

$209.85

$259.99

$234.94 or $250

Shipping speed

“Free delivery in 3 days”

“most orders are delivered within 7 business days from the purchase date”

9 business days or

6 business days (two different sellers)

(Source: Groupon – eBay – Walmart web sites)

Now this is just one example, and we’ve left out the 800-lb gorilla Amazon from the equation. However, the challenge facing Groupon if it wants to compete at full price seems obvious. In short, the type of value-oriented customers that are attracted to Groupon, are going to shop around. It takes about two minutes to look at the information above. Any buyer could realize they can get a $50 discount, a grade A refurbished (from eBay) iPad Air 2, as opposed to a grade B item from Groupon, and they get it multiple days more quickly. In short, Groupon is trying to sell the same items you can buy on Walmart or eBay’s web site, yet at full price the deal makes no sense.

If this is the future, investors should run
The basic premise of most Groupon bulls is, the company’s Goods business will continue to grow, and margins will improve. In the meantime, the traditional service businesses may show declines. Using these assumptions, we get some scary numbers. Let’s work with these assumptions and see where Groupon lands in the next few years.

North America Service revenue continues to decline by 10% annually based on last quarter. During this decline, gross margin is maintained at 88%.
North America Goods revenue cuts its decline to 10% annually (Down from a 20% drop last quarter). Gross margins stay at the current 19% rate.
International Service revenue continues to grow by 5.5%, and gross margin is maintained at 94%.
International Goods revenue continues to grow by 16.6%, and gross margin of 18% is maintained.
(Source: amounts in millions - author projections)

We can see that revenue in this scenario hits a trough in 2020, and begins to climb, reaching an annual growth rate of 4% by 2023. This would seem to be good news, but what this does to the company’s margins is a significant negative.

(Source: amounts in millions - author projections)

As International Goods becomes a bigger part of the puzzle, its significantly lower gross margin puts a squeeze on Groupon’s earnings. By 2023, Groupon’s gross margin has dropped to just over 42%. The company’s SG&A and Marketing expenses hold steady at 35% and 15% of total revenue respectively. The bottom line result? Groupon’s net income steadily declines from a loss of about $4 million next year, to losses exceeding $45 million annually by 2023.

It’s possible that Groupon finds a way to stem the losses in its North American businesses, yet the company’s focus on full-price transactions seems to argue against that conclusion. It’s also possible the company increases its margins on Goods as revenue grows Internationally. However, for Groupon to end with a positive net income figure by 2023 would require the International Goods business to nearly double its gross margin to more than 30%. To put that idea in perspective, Walmart only garners a 25% gross margin. Connected to these issues, Groupon has run through more than 30% of its net cash position in the last six months alone.

For point of comparison. Walmart is growing revenue relatively slowly, yet the company generated over $3 billion in core free cash flow in the last three months. EBay’s future growth likely comes from overseas, but the company is sitting on nearly $1 billion in net cash and generates significant free cash flow. If Groupon’s Goods business continues to grow, it’s difficult to imagine a scenario where Groupon’s cash burn woes aren’t an issue.

Better deals elsewhere
Groupon management is saying all the right things hoping that investors will ignore reality. The company’s growth has come on the back of bargain shoppers looking for a deal they can’t get anywhere else. Throughout Groupon’s last earnings report, the company’s future was clear. When explaining the revenue decline, the reason was, “continued focus on revenue generation that maximizes gross profit.” The improved margin on the Goods business was explained as, “our continued focus on optimizing for gross profit.”

It seems some analysts are buying into this idea as well. The company is expected to grow annual EPS by more than 30% over the next five years yet sells at a forward P/E of just over 18. Based on what we’ve looked at, those numbers seem to come from an alternate reality. Buyers aren’t being given a significant reason to transact at full price with Groupon. Higher prices and slower delivery are a combination that won’t fly in today’s immediate delivery culture.

Walmart isn’t as exciting of a story to follow as Groupon’s turnaround attempt, but investors get a 2.3% yield, and growth that analysts may be underestimating. Walmart invested $16 billion in Flipkart, to try and take a significant portion of India’s e-Commerce market. In the next few years, this investment could represent billions of dollars in sales for the retail giant.

Investors looking for a company connecting buyers and sellers, that has both positive cash flow and growth, eBay would be a better choice. Analysts are calling for growth of 14% annually in eBay’s EPS over the next five years. EBay sells at just 13 times next year’s earnings projections, and in the last quarter, eBay generated over $500 million in core free cash flow.

Groupon stock is more than 25% off its 52-week high, and it seems the shares are headed toward an important technical level. Three times in the last several months shares have found support at about $4.30. If Groupon shares decline past this figure, investors should look out below. In the same way that customers are leaving Groupon to go elsewhere, investors should probably do likewise.