After talks broke down between Google and Groupon there was a lot of speculation over why the Groupon deal fell through and Google didn’t end up buying the deal of the day giant. It seems that most folks have settled upon the conclusion that Groupon was worried about antitrust issues holding up, or even blocking, the deal and wanted a very large breakup fee that Google wasn’t willing to offer.
The real question in my mind was whether Groupon was worth all of that money that Google was offering in the first place.
How Much Is Groupon Worth?
The company recently filed paperwork to sell up to $950 million of preferred stock in Groupon. (What is preferred stock?) This filing would give Groupon a valuation of $6.4 billion according to VCExperts. That number is on target with the offer Google was making to buy Groupon. In theory, this is confirmation that Groupon is "worth" $6 billion, give or take. However, keep in mind that the $950 million amount is an "up to" number and the actual amount raised may be lower.
The real question is, "Why does Groupon need the money?"
During the negotiations with Google, insiders supposedly said that the company now has annual revenues in the $2 billion range, which was up sharply from earlier estimates of $800 million annually. A company generating that kind of revenue should be turning a healthy profit. Yet, Groupon is raising more money instead. Is that just smart company strategy?
On the one hand, Groupon is currently the "it" company in the venture capital and web media, which means that there are a lot of investors who are very eager to put their money into Groupon at terms that are very favorable to the company. That makes raising more money under these circumstances simply the smart business move for Groupon.
For example, if someone thought your house was so amazing that they would give you a zero percent interest, $1 million mortgage in exchange for a percentage of the sale price when you eventually sold the home (went public), you should take it even if you didn’t need the mortgage.
On the other hand, if Groupon is generating so much revenue, it should be building up piles of cash. Unless, of course, the company is spending so much money to generate that revenue that it isn’t making any real profit at all. In that case, the investors in Groupon are hoping that the company will eventually grow itself into profitability somehow down the line. And, Groupon, itself, needs the new infusion of money in order to keep from going bankrupt or deeply into debt.
That changes the above example. In that case it would be more like if you had a home but could only afford to make payments for a few more months before you ran out of money. In that case, you had better go out and get the biggest zero percent interest mortgage anyone would give you so that you can keep making payments until you figure something else out.
Is Groupon a Good Investment?
Some analysts have suggested that Groupon needs the money for expansion, apparently overseas where this particular business model may or may not be accepted by consumers or business owners. That’s a pretty big gamble and runs the risk of distracting management from developing its current business model into a long-term profitable enterprise.
Others have suggested that Groupon needs even more sales employees to keep things running. This is the scariest of all the prospects. It may be that all of the low hanging fruit has been picked and that there just isn’t enough demand from business or consumers.
As numerous people have noticed, Groupon’s deals are heavily tilted toward certain types of business like massage, sky diving, personal training, and the like. How many of the people who buy those deals are likely to keep buying the same deals? After you’ve taken one intro to skydiving class, how many more will you buy?
If Groupon needs even more sales people to keep it’s model afloat, that isn’t a good sign.
As Techcrunch suggests, this current round of financing may be used to cash out existing investors.
That is a very real possibility. I know that if I had invested $1 million in Groupon (or any company) and that investment would have paid off for $25 million if the Google buyout had gone through, I’d be pressing for a way to cash out at least some of my investment, no matter how well the company was doing. That is just smart investing. Only a fool leaves all their money on the table after making a big profit in a speculative investment.
If this is just an orderly exit for savvy investors, then the new round of financing is just business as usual.
The question is how many of those investors (who get to see the real inside numbers, not just speculation) want out now, and how urgently do they want out?
In other words, do those with skin in the game want to cash out because they don’t see a happy future where Groupon dominates for years in a very lucrative market?
Google executives have suggested that they were buying certain companies because they didn’t have the time to build a similar enterprise. Having been unsuccessful in acquiring Groupon, Google has all the time in the world to build a competitor, as does Microsoft, Apple, and untold other companies.
Groupon executives have said noted that they are still number one despite numerous new competitors who have tried to duplicate what the company is doing. However, none of those competitors has been a deep-pocketed, established technology company or advertising company.
The Groupon model is easy to copy. As Groupon’s management has pointed out, it has already been copied many times by small startups with very little investment. The model is not easy to scale, however, which is why Groupon is still the king and everyone else is a niche player. However, if that is the only moat around Groupon’s business model, the company is in for a very rude surprise when one of the 800 lb. gorillas come to town.
The even bigger threat to Groupon is that its model is easily diluted. In order to work, Groupon’s deals must be "big deals." Businesses can only offer so many big deals and still make a reasonable profit. A merchant who rings up thousands of 50 percent discounts one month may not be able to offer such a deal again for several months, taking a potential customer off of the table, whether the deal gets sold by Groupon or a competitor.
Even worse, becomes the competition between deals. Right now, only certain shoppers know about Groupon. Even fewer know that there are other alternatives. However, as that number grows, people will be looking not just at the Groupon deal, but the deal at other deal of the day sites, whether local or national and choosing between them, which dilutes the "wow factor" that Groupon deals currently enjoy. When the email from Groupon is just another sales email you get every day in your inbox and not a must view, then the company is finished.
Groupon may still get bought out by another tech company for a big amount, or it may be able to make it all the way to an IPO. Groupon is not a sustainable long-term enterprise. If it is sold or taken public fast enough, then it will be a good investment for those who got out in time. If not, then Groupon will eventually shut down or become a shell of its former self. Either way, the clock is ticking.
Tags: Google, Groupon, Internet companies, investing, venture capital, Web 2.0
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