Groupon (GRPN) Tests Investors' Faith After Revising its Earnings Downward

Last week as not kind to Groupon (GRPN: Charts, News) shareholders. The group discount site posted a fourth quarter loss of 8 cents per share, or $42.7 million, on revenue of $506.5 million. Although revenue nearly tripled, Groupon still failed to control its margins and produce a profit.

Then, on Friday, the company exacerbated investor dismay when it revised its original earnings downward, stating that it had to increase the amount necessary for possible refunds. The new revision drained earnings by another 4 cents per share, or $22.6 million, and lowered its revenue by $14.3 million. Groupon stated that this was due to higher priced sales during the quarter, which had to be guaranteed by higher reserves for refunds.

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Analysts speculated that this revision was symptomatic of Groupon's lack of adequate financial controls, which was also noted by its auditor, Ernst & Young, which flagged the company for "weakness in internal controls". To top off Groupon's problems, the revision has led to several investigations by shareholder rights law firms, including one led by the former attorney general of Louisiana. This may lead to class action lawsuits which could drain its revenue further. The SEC has also started a probe.

Groupon is no stranger to legal probes - prior to its IPO, the SEC claimed that Groupon's revenue had been overstated. Groupon originally stated all gross billings - not just the money it kept after paying the merchants - as revenue. The company was also harshly criticized for excluding marketing costs - its biggest expense - from its quarterly balance sheet. After Groupon complied to SEC demands to change both of these metrics, its revenue came in at half its original amount.

Groupon has performed poorly since its market debut last November. The company capitalized on the momentum of its rejected $6 billion buyout offer from Google (GOOG: Charts, News), pricing its IPO above expectations at $20. The IPO raised $700 million for the company, and shares reached an all-time high of $26.11 before sliding over 30%. Analysts also believe that when Groupon's lockup period expires, many original buyers of the IPO will dump the stock at a loss, rather than wait for the company to turn a profit. The lockup period was originally scheduled to expire on May 2, but has since been postponed to June 1, after the company reports its first quarter earnings on May 12.

Groupon also stated that it had difficulties controlling the costs of hiring more financial staff to support the growing company. Groupon's rapid growth, high marketing costs, non-existent margins and lack of financial controls have drawn unfavorable comparisons to the casualties of the 2000 dot-com bust. Groupon is not alone in this category - recent IPOs LinkedIn (LNKD: Charts, News), Pandora (P: Charts, News), Yelp (YELP: Charts, News) and Zynga (ZNGA: Charts, News) have all faced similar accusations.

Groupon's business model is to send out localized daily deals to subscribers, which are only valid if enough people sign up for a group discount. This idea, although initially profitable, has no competitive barriers, and has already been mimicked by several websites across the web. Merchants have also complained that offering their goods and services at such steep discounts only works for promotional purposes, and customers often "abuse" Groupon's system by reselling the purchased vouchers at a profit. It is also estimated that 75% of Groupon's 110 million users have never made a purchase.

These factors have led to a modest growth forecast for the next quarter, which accounts for fewer new subscribers and merchant partners. However, Groupon still believes that it can deliver projected first quarter revenue between $510 million and $550 million, which is merely single-digit growth compared to its four consecutive quarters of double-digit growth in fiscal 2011. Investors should think twice before buying into any stories of Groupon's growth potential. The company' needs to drop its habit of fuzzy math and undisciplined spending before it can be considered a safe investment.

Other News About GRPN
Why Groupon's Fuzzy Math Should Worry Investors
Groupon's addiction to fuzzy math is scaring off investors.
Groupon Revisions Highlight New Model's Risks
Groupon lets down investors with a confusing business model. Other Stocks in the News
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Published on Apr 3, 2012
By Leo Sun
Leo Sun
Leo Sun is a freelance finance writer and position trader. He focuses on a combination of value and momentum investing, with a strong interest in the trading philosophies of Warren Buffett and Peter Lynch. Leo also has experience writing articles to help small business owners acquire loans and manage their finances. He regularly contributes to the Stock of the Day analysis.

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