Groupon Is Surging, but I'm Not Buying the Google Buyout Rumor

Yesterday saw a wild day of trading around Groupon (NASDAQ: GRPN  ) , with the stock soaring nearly 23% in spite of seemingly little to no news on the company throughout the day. Let's review the explosive surges accompanied by large changes in volume around the company's shares as the day progressed.

Time

Groupon Price / % Change

Volume (In two minute increment)

10:00 a.m.

$3.86 / Up 1.6%

26,000 shares

11:00 a.m.

$4.09 / Up 7.6%

1,140,000 shares

1:00 p.m.

$4.11 / Up 8.2%

103,660 shares

2:00 p.m.

$4.20 / Up 10.5%

81,370 shares

2:18 p.m.

$4.51 / Up 18.6%

1,862,500 shares

3:00 p.m.

$4.63 / Up 21.8%

318,350 shares

4:00 p.m.

$4.68 / Up 23%

908,940 shares

Sources: Yahoo! Finance, Google Finance

Does anybody know what's going on here?
The day started out with relatively light volume and light gains. However, around 11:00 a.m. ET, the company experienced its first surge, swinging up to 7.6% gains on a sudden gain in volume. By 1:00 p.m. its gains had slowed, but the stock soon took off again. In 18 short minutes after 2:00 p.m. the company saw its shares tack on more than 8 percentage points of gains amid huge levels of volume.

The two spikes were accompanied by little to no news, leaving investors searching for answers. Late in the trading day, Bloomberg came forward with an answer: Google (NASDAQ: GOOGL  ) was thinking buying the company. Yet the article cited a only single analyst at an advisory group, which should leave investors to wonder whether this was the actual news driving the stock-price explosion, or just idle speculation that poured fuel on a fiery surge that was the result of still unknown reasons.

An enticing rumor ...
It's easy to see why investors would latch onto a rumor that Google wants to buy Groupon: The company already tried to! In December of last year, we learned that Groupon had spurned a $6 billion buyout offer from Google. Instead, it and its backers decided to go the IPO route. With the company sailing past $15 billion in the months following its IPO, that move looked wise for a short time.

Yet after those early February peaks, investors lost patience with Groupon's money-losing ways and weary of slowing growth. On Feb. 8 -- ironically, the day of Groupon's peak -- I penned an article titled "Sell Groupon Before It's Too Late," warning that Groupon's efforts to pull back marketing would lead to long-term problems. By their nature, email based marketers like Groupon need to continually re-engage customers. I warned that the move would make the company more profitable in the near term, but at a dangerous long-term cost of slowing sales that would send investors headed for the exit. While my timing publishing the article that day was pure luck, the call has proved correct, with Groupon down 82% since its publication, in spite of recent gains.

Wendy's to Groupon: Where's the beef?
Which leads us back to the central question: Would Google buy Groupon? I'm inclined to be very suspicious of the logic behind this. Back in December 2011, when Google was looking to buy the company, Groupon's last quarter had shown astounding 426% top-line growth. Look at how the growth rate continues to slow.

Quarter

Q3 2011

Q4 2011

Q1 2012

Q2 2012

Q3 2012

Growth Rate

426%

185.6%

89.3%

44.8%

32.2%

Source: S&P CapitalIQ.

Of course its facetious to think any company of Groupon's size can continue growing at rates like 426%, but the slowing growth does show an opportunity more limited than envisioned in 2011.The counterpoint would be that Groupon is cheap by some measures right now. Just look at some of the juicy multiples stacked up against some other Web giants. 

Company

Groupon

Amazon.com (NASDAQ: AMZN  )

Facebook (NASDAQ: FB  )

Market Cap

$3.1 billion

$114.7 billion

$59.5 billion

Operating Cash Flow

$370 million

$3.4 billion

$1.4 billion

Net Cash

$1.2 billion

5.2 bilion

$9.6 billion

EV/FCF*

5.1

103.4

224.8

Source: S&P CapitalIQ.
*EV/FCF is enterprise value divided by free cash flow.
All figures are trailing 12 months.Share counts not reflective of ballooning share counts from vesting restricted stock units. Beware, Facebook investors: The nosebleed P/E level is about to get worse.

Groupon stacks up very favorably versus these Web peers. EV/FCF, a measure of company value less cash divided by its cash available to shareholders, puts Groupon at a bargain-basement multiple of 5. Yet that multiple is deceivingly attractive once you dig deeper.

Groupon's net cash balance of $1.2 billion is overstated by its attractive payment terms. That is, it collects cash from merchants, which it keeps for a time, before later paying them back. Not only are its cash flow gains being driven by increases in growth in "accrued merchants payable," but the company also now maintains more than $573 million in merchants payable on its balance sheet. There are a lot of reasons investors shouldn't simply net out cash when thinking about the buyout potential of companies they own, but in Groupon's case, its cash cycle and the liabilities against that cash leads to even further scrutiny. Bloomberg has a nice video overview of the situation here.

The bottom line is that Groupon's cheap valuation has some deceptive facets, mainly around its cash balance. A $6 billion buyout would still be over 16 times the company's operating cash flow. That's a level far below other tech buyouts, but it's still not exactly cheap when Amazon has been writing off its own investment in Groupon peer LivingSocial in recent quarters.

Google is not Warren Buffett
Here's the real central problem with the idea that Google would purchase Groupon: Google is not a value-hunter. It's not looking to go out and find cigar-butt companies; it's looking to create the next cigar. End of story.

There's no reason for Google to buy Groupon unless Google sees untapped retail disruption that the market is missing. With Groupon consistently "pivoting" -- a tech phrase used when your core business is starting to stink and you're looking for the next opportunity -- to areas in which Google already has its own solutions or no interest, the real appeal of Groupon needs to be its Daily Deals business.

Google could be seeing something in the company we're all missing. It could see just as much promise in Groupon today as it did in 2011 -- when the company had an aura of untold growth opportunities and was growing at more than 10 times today's growth rate -- and be willing to shell out something near the $6 billion it offered last year. Or this Google-buying-Groupon speculation could just as likely be idle speculation dreamt up to explain an unrelated surge in Groupon that could have happened for any number of reasons.

My money is on the latter explanation.

Get expert Groupon advice you can count on
Even if my belief is that Google won't buy Groupon, there are still plenty of investors like you buying Groupon shares because they think it can be a great company whether or not it gets bought out. Will this company live out its American Dream or leave shareholders empty-handed? To answer that question, our analysts have compiled a premium research report with in-depth analysis on whether you should buy or sell Groupon right now, and why. Simply click here now to get started.


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