Groupon (GRPN 0.25%) has had a rough year, to say the least. The stock has lost almost half its value, which has certainly frustrated its investors. The main culprit for such awful performance is that Groupon hasn't been able to generate profits consistently for a long time. What may come as a surprise to investors is that Groupon has actually grown sales at high rates, even while its stock has crashed.
Groupon is still investing aggressively in new categories and overseas markets to keep fueling top-line growth. While these initiatives have indeed been successful in generating strong sales growth, investors are obviously losing patience that the company cannot produce profits consistently. Here's what Groupon has been up to this year, and why its stock collapsed in 2014.
These investments will drive Groupon's growth
Groupon bought Ticket Monster last year for $260 million in cash and stock to expand into Korea. At the time, the deal was meant to serve as a cornerstone for Groupon's plans for Asia more broadly. In addition, Groupon acquired Ideeli, a women's fashion site based in the United States. This was part of Groupon's expansion into the goods category.
Both of these acquisitions have worked, in the sense that they're driving huge sales growth. For instance, Groupon's Rest of World operating segment saw gross billings soar 133% during the first half, thanks almost entirely to Ticket Monster.
It's true that Groupon's strategic initiatives have definitely helped to grow the company's sales. Groupon produced $1.5 billion in total revenue during the first six months of 2014, representing 24% growth year over year. Unfortunately, investing so aggressively has caused expenses to soar, and that's why Groupon still isn't generating a profit. Groupon's net loss per share more than quadrupled during the first half, from $0.02 per share to $0.09 per share.
Here's what isn't helping Groupon's profitability
Groupon's profits are also not being helped by the company's practice of handing out lucrative stock-based compensation. Digging into Groupon's financial reports reveals a disturbing trend during the past few years. Groupon booked $93 million in stock-based compensation charges in 2011. Stock compensation then jumped 11% in 2012, and another 17% to $121 million last year.
This has all come directly at shareholders' expense, because these stock awards have greatly diluted existing shareholders. Three years ago, Groupon had 362 million shares outstanding. At the end of its most recent quarter, that figure stood at 675 million.
It should be acknowledged that, with high-growth companies in their early stages of growth, investors often look the other way when companies don't generate profits. However, the trade-off is that, sooner or later, the company needs to turn its sales growth into profits, as well. This should theoretically happen once a company gets to a certain size. As a company grows and develops power of scale, it's supposed to be able to wind down the high rate of spending that keeps it from generating profits early on.
When it comes to Groupon, however, that has yet to happen. That's why investors are losing patience and are bailing out of the stock. To be sure, Groupon is delivering impressive sales growth, particularly in new markets. And Groupon has a strong balance sheet, with $868 billion in cash and equivalents on the books at the end of the most recent quarter.
Don't expect profits for the foreseeable future
Sooner or later, Groupon needs to start generating profits in order to prove the merits of its business model to investors. Its practice of awarding exorbitant stock-based compensation to employees certainly isn't helping. Its aggressive investments in new products are still weighing on profits, and Groupon has no plans to change this.
After releasing earnings, Groupon stated that, "Although the Company has the opportunity to reduce marketing spend over the remainder of the year to achieve a higher target, given recent returns on those investments, it believes it is important to maintain flexibility for investment in long-term growth."
The bottom line is that investors will have to be content with strong revenue growth, elevated investment, and little to no profits, for at least the foreseeable future.
