Why We Reduced Our Price Estimate For Groupon To $4.20

-68.54%
Downside
13.34
Market
4.20
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GRPN: Groupon logo
GRPN
Groupon

Groupon‘s (NASDAQ:GRPN) stock has plunged by over-65% during 2015, on the back of weak financial results and an uncertain future outlook. Moreover, the company recently re-shuffled its top leadership and announced a major overhaul of its growth strategies. These recent strategic moves, which include dramatically raising sales and marketing efforts, trimming down its international portfolio, and moving away from certain low-margin goods businesses, involve a considerable degree of business risk. Based on this, we have reduced our price estimate for Groupon’s stock to $4.20. Nevertheless, our new price estimate still indicates a premium over the market price. This is because the recent changes could help in the turnaround of the company over the long run. Enhancing its focus on fewer, higher quality assets and boosting traction of the pull marketplace could raise the likelihood of long-term success.

Check out our complete analysis of Groupon

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Why We Reduced Our Price Estimate 

We recently revised our price estimate for Groupon’s stock from $7.50 to around $4.20, representing a change of over 40%, based on its downbeat results and weak future guidance in the Q3 earnings report. The company under-performed on both gross billings as well as active customer growth during the third quarter. These weak results, coupled with the recent change in Groupon’s top leadership, add to doubts regarding the viability of Groupon’s business model. Under Rich Williams, who replaced Eric Lefkofsky as the CEO, the company will undertake drastic changes in its growth strategies.

More specifically, the company will significantly ramp up its marketing activities over the coming quarters, to popularize its new brand positioning (which consists of a pull marketplace instead of the traditional email-based business). As a result, it will raise its sales and marketing spending by $150 million to $200 million annually, leading to adverse impact on EBITDA margins in the near future. Moreover, Groupon will continue to restructure its international portfolio by exiting certain geographies, where it sees less chances of establishing market leadership. While Groupon has already exited about 9 countries over the past few quarters, we believe the company will continue to trim down its international footprint in the coming years. Finally, in a third big move, the company aims to move away from the low-margin consumer electronics business, and will increase the proportion of third parties in its goods business.

These three initiatives exacerbate the uncertainty surrounding the company’s future — in the near term, we believe these changes will adversely impact the company’s top and bottom line. Over the long run, growth will likely depend on the success of the company’s new marketing initiatives. Accordingly, we have revised our revenue and EBITDA margin estimates in our valuation model.

Price Estimate Still Ahead Of Market Price

Despite the substantial change in our valuation, our updated price estimate of $4.20 still represents over a 50% premium to the current market price, as the market seems to be pricing in a high degree of pessimism. Notwithstanding the short-term negative impact, we believe the recent change in strategy represents a step in the right direction, and if executed well, could help in the successful turnaround of Groupon. The exit from unprofitable markets and categories should strengthen its chances of success in the long run. Groupon is currently trying to do too much in too many markets, in our view, and restructuring will help enhance the company’s focus on key markets and profitable opportunities. In addition, Groupon’s business model has changed quite significantly over the past few years, as it has moved from a push-only model (wherein it sent millions of emails every day to users) to a pull-based marketplace (where users actively search for deals). An increase in sales and marketing activity should help communicate the same message to prospective customers.

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