Is Groupon worth investing in?
Groupon is a mass retailer and discounter positioning itself as a technology company and most people think of Groupon in the same way they might think of Google, Facebook or Twitter. I tend to think of Groupon as a company that has figured out a way to transfer wholesale discounts to the customer while at the same shifting the coupon from your mailbox into your inbox.
The business at first glance seems to be growing at a fast rate and that has been attractive to investors, including VC firms. However, is the business model sustainable? Let’s look at a few factors courtesy of Wharton’s Marketing Professor, David Ribstein:
1. The customer base – Groupon currently attracts mainly white collar, price sensitive customers interested in perishable products like spa and beauty treatments that are currently experiencing excess inventory due to the economic recession.
Merchants are more likely to offer deep discounts rather than let beauty treatment time slots go to waste. This may work well in a recession but once the economy picks up and the excess inventory decreases it may be much harder to find these deals.
Deal-prone customers tend to not return after the deal becomes fully priced so merchants expecting to build repeat business may find themselves quite disappointed.
Further, there is concern that the regular customers may become deal prone.
Businesses may lose regular customers paying full price when they learn of the discount offers and lose revenue since most of the Groupons seem to have no expiry date to them meaning that a discount customer can walk in any time and displace a regular customer.
2. Groupon needs hordes of salesmen to trawl the streets forging deals with merchants since it’s a localized business model – I don’t see how this scales without bleeding red ink.
3. Customer loyalty if any, lies with the merchant and not with Groupon although the noun Groupon seems to have entered the urban lingua franca.
4. The business is set to continue to grow at impressive rates due to the underserved need for group buying incentives
5. Groupon is a shark in a pool filled with a growing number of piranhas all swimming in a space that cannot be protected using Intellectual Property rights.
6. Finally I don’t see any value creation by this business in the supply chain other than a transfer of value to the customer at the detriment of some of the merchants.
A quick look at the numbers from the company’s S-1 reveals even more interesting insights:
· Net losses of 389MM in 2010 expected to accelerate to about 500MM in 2011
· Revenue per subscriber in the first quarter of 2011 came in at $40.80 about half the number at the end of 2010 which was $78.98. This may be attributable to the fact that the 2011 figure doesn’t take into consideration summer groupon usage which may have been higher than in the first quarter.
· It costs the company only about $6.40 for each additional subscriber but only 1 in 5 subscribers actually purchases a Groupon. I am not sure what the comp would be for this activity rate at this point.
· The company shows $208MM in cash but leaves out information on what it owes to merchants which by many estimates is double the cash on the balance sheet.
· I did not look at the Adjusted CSOI measure touted by the company since I believe that it is fundamentally flawed and is probably just window-dressing.
All in, the business model seems to be generating healthy revenues and growing at a healthy rate with signed up merchants now up to 40K in the first quarter of 2011. That said, increased competition, continued fragmentation in local advertising, high spending on sales and marketing on both the merchant and subscriber ends and the possibility of an improved economy in the next few years all pose major threats to the company’s viability.
At this point I will wait and see before taking a plunge although I suspect I might buy some long dated puts when they become available.