Groupon May Be Worth $8 But Execution Is Key

Groupon‘s (NASDAQ:GRPN) stock has plummeted in recent days following the company’s latest earnings release which highlighted the ongoing concerns of the company’s slowing growth. The tech giant also faces broader macroeconomic factors which are affecting its European business, as well as accounting scandals and SEC probes and investor lawsuits. The company nonetheless still has opportunities ahead that it is trying to exploit. The daily deals market is huge and Groupon has a near monopoly in the space.  Living Social, which is Groupon’s biggest competitor, has gross billings that are a tenth of Groupon’s gross billings.

Check out our complete analysis of Groupon

New Offerings Key

Groupon is predominantly a daily deals site, with U.S and international deals making up nearly 85 percent of its value. The business of daily deals is one with low barriers to entry and one in which competitors who offer better terms to retailers, are able to take away market share from larger players like Groupon. Groupon for now has strong networking effects that are acting its favor due to its large population of registered users, but this may not be a very big deterrent in the long run.  To diversify its business, Groupon has rolled out a number of promising tools and services targeted at local businesses. Some of these services are Groupon Now!(a hyper-local location based mobile service), Groupon Scheduler and Groupon Rewards. The company expects to roll out a complete portfolio of marketing and other services eventually for small businesses.

Business Model Changes

• Small Business Credit Card Payment Services:  Groupon has plans to enter the small business credit card processing business similar to Square and PayPal. A credit card processing service makes sense for Groupon as it would enable merchants to merge their vouchers with other payments, thereby reducing transaction costs as well as increasing payment speed. ^[1]
• Groupon Works: Groupon Works helps small businesses reach a larger audience by providing tools such as a scheduler which helps smaller businesses make reservations and appointments online. It also helps businesses get featured deals on the Groupon website, as well as on the mobile application for local deals.

Dropping Customer Acquisition Costs

Groupon reported marketing expenses of $88 million for Q2 2012, which is less than half of what it paid in the same quarter in the prior year. Groupon has an active user base of 38 million and over 100K unique merchants.  If its strong networking effects continue to take root amongst users, Groupon will be able to acquire customers at a much cheaper rate going forward and is likely to contribute to profitability.

Mobile Penetration

In North America, transactions completed on mobile devices were up 35 percent y-o-y and nearly a third of all transactions made on Groupon were completed on a mobile phone. Mobile adoption is key for the growth of new business lines such as Groupon Now, since it uses mobile phone networks to determine a users location and offer deals nearby. Groupon also has entered into a deal with Nokia to show deals on the Nokia Maps platform on the Lumia series. We expect this to become a growth driver in the future.

International Expansion

The European market is the biggest market for Groupon after North American, but the European business is suffering from broader macroeconomic factors facing the region and Groupon is looking to expand into China and other APAC economies. It has already entered the Chinese market through its ownership share in Gaopeng, which recently merged with Tencent backed firm, FTuan. FTuan and Gaopeng are operating in a hyper-competitive Chinese daily deals space as several new players enter the market, trying to cash in on the latest craze. Both players will benefit from cost savings in sourcing, logistics and operations. China is the second largest economy in the world and internet penetration is relatively low with the market bound to grow.

Marketing, Sales and Administrative Costs A Point Of Concern

We have revised our estimates for marketing and selling, general and administrative costs as these expenses haven’t declined as initially expected. Though there has been a slight fall in marketing expenses, the overall drop in expenses is low and this revision has been part of the reason for our price revision of Groupon’s stock to ~$8 from ~$14.

We currently have a $7.75 Trefis price estimate for Groupon, which stands at nearly 50% above the current market price. Daily deals account for a major portion of its overall value. Groupon competes primarily with LivingSocial backed by Amazon (NASDAQ:AMZN), Google (NASDAQ:GOOG) Offers, Yelp (NYSE:YELP) and countless clones, but is looking to expand its offerings in other categories to diversify its revenue streams and drive its core daily deals business.

Understand How a Company’s Products Impact its Stock Price at Trefis

1. Groupon Tests Mobile Payments, community.nasdaq.com, 18 July 2012 [↩]