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3 Surprises in Groupon's Prospectus

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Investors will soon be able to snag -- or pass -- on Groupon.

The wildly popular deal maker is going public, filing its prospectus yesterday with the SEC.

Outside of Facebook and perhaps Twitter, Groupon is the most anticipated dot-com IPO. This makes last month's debut by white-collar social networking site LinkedIn (NYSE: LNKD  ) seem like an appetizer.

It's too soon to begin talking about valuations, though it will be in the tens of billions. Underwriters and the first wave of public buyers will be the ones that decide exactly what price tag Groupon fetches in the coming weeks. However, we now have our first true glimpse under Groupon's hood, and the engine may surprise you.

Top-line growth is there in droves. Groupon moved $713.4 million of its pre-paid vouchers last year, and revenue soared to $644.7 million during just the first three months of the year.

The heady growth isn't a surprise, but let's go over a few things in the prospectus that may throw you for a loop.

1. Groupon is losing a lot of money
All along we've assumed that Groupon has a license to print money. It sells discounted city-specific experiences, pocketing as much as half of that before passing on the rest to its merchants.

Margins have to be huge, right? The reason that niche-specific leaders The Knot (Nasdaq: KNOT  ) , Travelzoo (Nasdaq: TZOO  ) , and OpenTable (Nasdaq: OPEN  ) announced similar initiatives last year is because this is presumably where chunky net profits like to party.

Well, not so fast.

Groupon posted a loss of $456.3 million last year. Nearly half of that was acquisition related, but the red ink continues to flow with a whopping $146.5 million deficit during this year's freshman quarter.

This doesn't mean the model is broken. It's actually just the price of breakneck expansion, as Groupon is now available in 175 North American markets and 43 countries. A much smaller Groupon posted a net loss of $6.9 million in 2009, and that was largely the result of preferred stock dividends.

2. Groupon isn't as greedy as you might think
Groupon's popularity is based on a simple win-win-win scenario.

Restaurants, spas, and any area merchants with the flexibility to offer a deeply discounted experience in exchange for a wave of customers flock to Groupon and smaller copycats. Deals are generally half off, giving customers a great price break. Groupon typically requests to keep half of the proceeds. When a deal is small -- say $4 for $8 worth of drinks at a local bar -- Groupon may even ask to keep all of the money.

Well, reality paints a different picture.

The amount that Groupon reports as revenue is the full amount of the prepaid deals. To find out how much it keeps, investors need to go two line items lower to arrive at gross profit. Last year, Groupon kept just 39% of the revenue generated from its daily deals, though that did spike up to 42% during the first three months of 2011.

In a nutshell, Groupon isn't always splitting things 50/50, so prepare to haggle, merchants.

3. Groupon engagement isn't so great
There were 83.1 million subscribers to Groupon's daily deals, but we're not talking about tens of millions of bargain seekers popping down offers as if they were daily vitamins. Groupon sold just 28.1 million offers during this year's first quarter (and if you're a glutton for data, divide the quarterly revenue of $644.7 million into 28.1 million to arrive at an average deal price of nearly $23).

This doesn't seem like a very engaged audience, but there's a statistic that's even more shocking. Only 15.8 million of Groupon's 83.1 million registrants have actually purchased a deal through the site.

Don't get me wrong. Having 15.8 million cumulative customers for a company that wasn't even around three years ago is phenomenal. This is the reason why the big boys are moving in. Google (Nasdaq: GOOG  ) , (Nasdaq: AMZN  ) , and Facebook have all dived in recently.

However, the illusion of Groupon appears to be more valuable than the reality.

Marketing costs alone last year were nearly enough to swallow down its entire gross profit. Going from competing against cash-strapped upstarts to well-heeled giants may force gross margins to contract.

The growth is there, but this isn't the slam-dunk that many fans and investors were hoping they would be getting. 

Will you be a buyer of Groupon after it goes public? Share your thoughts in the comment box below.

The Motley Fool owns shares of Google. Motley Fool newsletter services have recommended buying shares of Google, OpenTable, and Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Longtime Fool contributor Rick Munarriz routinely checks the deal sites. He does not own shares in any of the stocks in this story.  He is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. 

Read/Post Comments (6) | Recommend This Article (17)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 03, 2011, at 1:57 PM, TMFmd19 wrote:

    I am in the process of doing a Groupon deal for the company I work for and it was pretty standard as to the rate they are charging. We give them what we normally charge for the event and they told us what it would be for the deal (50% off) and then they get half of that plus another 2.5% in CC fees. The rep I have has been great to work but if the event wasn't so high margin for us it wouldn't be worth filling the room using a groupon.

    I have however heard of complaints by restaurant owners I know that say its expensive for them because people buy the deal, use it and never come back. Sounds like some growing pains, will be interesting to watch.

  • Report this Comment On June 03, 2011, at 5:59 PM, CromulentBrad wrote:

    i've been salivating for this ipo for months. now i'm not so sure.

    this is a company with no inventory, produces nothing and should have minimal overhead. how in the world is it losing money??? a few months back, they raised millions privately and blew through that.

    peter lynch says to stay away from horrible management. for now, i think i'll stick to buying their coupons & not their stock.

  • Report this Comment On June 03, 2011, at 7:30 PM, kmacattack wrote:

    I've bought a couple of coupons from groupon in the last two months. I just missed a deal on Old Navy that they offered yesterday, $20 worth of clothes for $10. You were required to spend the coupon this summer to get the discount, but it would still be worth $10 after that time, no expiration. Groupon reminds me of SIRI (sirius xm radio) which I bought a little over a year ago at $1.01 per share. They were losing hundreds of millions of dollars, but were growing steadily, and the profit margins are comparable to Groupon's. Sirius has more than doubled, running up to over $2.40 per share, and I picked up $7,500 yesterday by selling put option, the 4th option I have written in a year on the stock. Sirius will double by the end of 2012, because they are growing steadily, and they have exceeded the "tipping point" of covering their fixed costs, so profit margins increase with every subscriber. Groupon is spending a lot of money to grow their infrastructure rapidly, but with the enormous growth they are experiencing, they will surpass their "tipping point" where the profit margins will grow rapidly. It's a great product,and they are teaming up with Expedia to build travel packages which will include air, hotel, and restaurants worldwide. This is going to be a huge cash cow, an ATM machine for early investors. I'm buying the IPO. Cramer just recommended buying a few minutes ago, and I don't always agree with him, but I think he's right on in recommending Groupon. The price per share isn't going to matter, it will be going up. There will be way more demand than supply. Even if you only wanted to do a short term play, I think you could make a ton of money. I may buy about double what I would like to own long term, and sell off half in a month or so and let the late comers pay for my remaining shares. but I'm planning on owning Groupon long term.

  • Report this Comment On June 03, 2011, at 7:41 PM, kmacattack wrote:

    I failed to mention that on the Old Navy coupon posted yesterday (and they offered several other "daily deals" as well), they sold about 250,000 coupons. If they only received 40 percent of the $10, that's still a fast $1 million in gross profit, on one coupon, in ONE DAY. And this was a single national coupon. When they are offering multiple deals in hundreds of markets worldwide EVERY DAY, the prospects for making a TON OF MONEY look bright. Their costs have largely been due to the rapid buildup of an infrastructure, including hiring over 7,000 employees. If they are collecting 2.5 percent for every credit card transaction, they should be making another 1.25 to 1.5 percent gross profit per transaction. That is a small percentage, but is likely a huge amount of money EVERY DAY.

  • Report this Comment On June 06, 2011, at 5:35 AM, Samfund wrote:

    The fact that Groupon can even think about a 30B IPO is sure sign of a major top....

  • Report this Comment On October 28, 2011, at 6:53 PM, Steven676 wrote:

    I'm sorry. I don't get it. Why do people invest in companies that don't make money? I thought Groupon was a great successful company. They lost $400 million last year. I'll pass thanks.

    Was this their plan when they started the company? Let's just grow a lot in size without actually making any money? What kind of plan is that?

    If you have something insightful to tell me, I'd honestly like to know how you value a company that is not making money.

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