Latepost Are You Lot Gear Upward To Value Groupon?

After a serial of missteps, it looks similar the customer acquisition costs were non operating expenses in addition to what should last recorded every bit revenues got inward the agency of the sales pitch. As administration credibility crumbled, the value dropped yesteryear the calendar week in addition to it looks similar the companionship volition at nowadays move yesteryear away world at an estimated value of almost $12 billion, though entirely 5% of the shares volition last offered inward the initial offering.

As alongside the Linkedin in addition to Skype valuations that I did before this year, I idea it would last useful to do a valuation of Groupon. Before I set my numbers down, though, allow me emphasize that I don't guide hold an within rails on this valuation in addition to that these are only my estimates. Rather than challenger them, I would advise that you lot move yesteryear away into the spreadsheet that I guide hold attached alongside the valuation in addition to brand your ain estimates.

Before I do the valuation, though, a petty on Groupon’s line organization model. Groupon industrial plant alongside whatever line organization (retail, restaurant, service) allowing it to sell products/services at a discount (usually 50% or higher). Thus, a eating seat that usually would accuse $50 for a repast tin offering a 50% discount to Groupon customers who would purchase it at $25; Groupon in addition to the line organization in addition to so separate the $25. With a 50/50 split, Groupon's revenues would in addition to so last $12.50. (One of the controversies over the final few calendar month was whether Groupon could claim revenues of $25 (the discounted cost of the service) or $12.50 (its share)).

Valuation of Groupon business

Current numbers

To larn the electrical current numbers, I started alongside the S1 that Groupon filed alongside the SEC inward Oct 2011. This filing has the numbers from 2010 in addition to for the kickoff nine months of 2011 (as good every bit the kickoff nine months of 2010), which tin last used to extract the trailing 12-month numbers for the company.

Trailing 12 calendar month = Last 10K - First nine months, 2010 + First nine months, 2011

Revenue growth

Rationale: This was a tough one! Groupon’s revenues increased from $312 1 one m thousand inward 2010 to $1,290 1 one m thousand inward 2011, an increment of to a greater extent than than 300%. That is going to last impossible to sustain but to brand a judgment on growth rates for the future, I had to gauge the potential market. The potential marketplace position is large since it encompasses “long term excess capacity” at almost whatever consumer-oriented businesses. It is worth noting that this excess capacity is high correct now, because of the miserable nation of the economy, but fifty-fifty allowing for halving inward excess capacity across the board, in that location is enough of room to grow. 

My estimate: 50% compounded revenue growth for adjacent v years, declining to a stable growth charge per unit of measurement of almost 2% inward twelvemonth 10. Groupon’s full revenues inward twelvemonth 10 volition last almost $25 billion.

Target operating margin in addition to reinvestment

Rationale: Groupon is losing coin correct at nowadays in addition to it is doing so because its marketing in addition to client acquisition costs are huge. That, yesteryear itself, is to last expected, given their focus on increasing the set out of subscribers. To gauge what their margins volition be, if they succeed alongside their line organization model, nosotros guide hold to gauge what these 2 expenses volition expression similar for a mature Groupon. I tried to gauge these numbers, using the really express data that is inward the fiscal statements for the final 2 years.

Since I am assuming high growth inward revenues, I idea it prudent that the theatre reinvest to generate this growth. I guide hold estimated a dollar inward working capital missive of the alphabet invested inward the line organization will generate $2 inward incremental revenues. Since the average subscriber inward Groupon generates entirely $11.6 inward revenues for the company, continued high growth volition require substantial costs inward acquiring novel customers in addition to belongings on to existing ones.
My estimate: The pre-tax operating margin volition amend gradually over fourth dimension to 23% inward twelvemonth 10, alongside operating margins staying negative through twelvemonth 6. A legitimate declaration against high margins is that this is a line organization where the challenger is active in addition to aggressive, both from established players similar LivingSocial in addition to Amazon but from novel players. If you lot purchase into this argument, you lot volition role lower, to a greater extent than conservative margins.

Cost of capital

Rationale: Groupon is a small, high growth, high peril line organization correct now. If my revenue growth in addition to margin estimates come upwards to fruition, though, it volition move yesteryear away a larger, to a greater extent than profitable in addition to to a greater extent than stable entity over the adjacent 10 years. As that happens, its cost of working capital missive of the alphabet should change.

My estimate: In the initial period, I assumed that Groupon would proceed to last all-equity funded in addition to guide hold a cost of equity of firms inward the top decile inward terms of risk. (With a beta of 2, a riskfree charge per unit of measurement of almost 2% in addition to an equity peril premium of 6.5%, this industrial plant out to a cost of working capital missive of the alphabet of 15%). In its mature state, I dropped this cost of working capital missive of the alphabet to the market-wide average inward Nov 2011 of almost 8%.

Steady State

Rationale: At some indicate inward time, Groupon’s growth days volition last behind it in addition to it volition last a mature company, growing at roughly the same charge per unit of measurement every bit the economy. When that happens, its peril profile in addition to cost construction volition resemble that of a mature company. I am too assuming, rather optimistically, that in that location is a 0% guide chances that the theatre volition collapse over the adjacent 10 years.

My estimate: Groupon volition move yesteryear away a mature companionship inward 10 years, growing at the same charge per unit of measurement every bit the economic scheme (2.05% inward nominal terms). Its cost of working capital missive of the alphabet volition driblet to 8%. Since it volition guide hold built upwards some meaning competitive advantages at that point, I volition assume that it tin generate a render on working capital missive of the alphabet of 10% inward perpetuity later on twelvemonth 10.


Overall valuation
Based on these inputs for compounded revenue growth, target margin, reinvestment in addition to cost of capital, the value that I obtain for the operating assets of the theatre is $9.73 billion. Look at the valuation page on the Groupon spreadsheet for the numbers. It is worth noting that the acquaint value of the expected cash flows over the adjacent 10 years is -$5.4 billion. That reflects the expectation that the theatre volition necessitate to enhance fresh equity (and thence dilute your portion of value) to fund it's cash flow needs over the adjacent decade.

Valuation of Groupon equity per share

Cash: The cash residual every bit of September 30, 2011, was $243.9 million. To this, I added the expected proceeds of $478.8 1 one m thousand from the IPO, since the proceeds volition last kept inward the theatre to coming together working working capital missive of the alphabet in addition to investment needs. (If the founders had withdrawn the proceeds to cash out some of their ownership, I would non guide hold done this.)

Debt: Groupon has no conventional involvement bearing debt but it does guide hold some leases. Since the magnitude of these leases is small-scale (about $91 million, consider page 76 of S1), I guide hold ignored it inward both my cost of working capital missive of the alphabet computation in addition to inward this phase of the valuation.

Equity options: Groupon has 18.4 1 one m thousand options outstanding, alongside an average practice cost of $1.11 in addition to an assumed maturity of v years. Using the company-provided gauge of volatility of 44% in addition to the expected IPO cost of $16 every bit the stock price, the alternative value was estimated to last $275.53 million.

Value per share: The value per portion tin last computed now:

That is based on the presumption that all shares are equal (in voting rights). Since the shares that volition last offered to Earth are the lesser voting correct shares, the value would guide hold to last adjusted downwards to reverberate that. My gauge would last that the shape Influenza A virus subtype H5N1 shares are worth almost $14/share in addition to that the shape B shares are worth almost $15.50/share.

Bottom line

With my estimates for Groupon, the value per portion that I larn is $14.62, non far off from the depression destination of the IPO make of $16-$18 per share. Allowing for the divergence inward voting rights, I would lower the value per portion to less than $14. Given the high-ball estimates that nosotros guide hold seen on other social media companies that guide hold gone world inward the final few months, this would advise 1 of the following:

1. The marketplace position for social media companies is growing upwards in addition to attaching to a greater extent than reasonable values for these companies.
2. The antics of Groupon administration guide hold wound it inward the market’s eyes; this is the "mismanaged IPO discount" on value.
3. The stock has been deliberately nether priced because entirely 5% of the shares are beingness offered inward the IPO in addition to the companionship (and its investment bankers) desire to consider it popular on solar daytime one.

My guess is that it is a combination of all iii factors. Groupon has to last credited alongside edifice an interesting line organization model that has a large potential marketplace position in addition to is scaleable.  What makes this companionship interesting is that investing inward it is indirectly a bet on the economy. Unlike most immature growth companies that are theme on the economic scheme becoming stronger in addition to to a greater extent than vibrant for higher value, Groupon's value is probable to last higher if the economic scheme stays inward the doldrums. After all, what line organization inward a good for you lot economic scheme wants to sell its products for 70% or 80% of listing price?


Would I purchase Groupon? No, in addition to non only because it is over priced at $16 to $18 ... Having watched how the company's administration has played games alongside investors for the final few months, I am unwilling to tango alongside them, particularly since they guide hold already telegraphed their unwillingness to guide hold input from me (by cutting my voting rights essentially to zero). But that is my choice. You tin brand your ain estimates in addition to justice for yourself...


Postscript: Influenza A virus subtype H5N1 few of you lot guide hold already noted that I guide hold been optimistic inward my assumptions in addition to you lot are absolutely right: high revenue growth, a good for you lot target margin, declining cost of working capital missive of the alphabet in addition to no guide chances of failure. My indicate is that fifty-fifty alongside those assumptions, I am falling curt of the IPO price. Better still, I would similar you lot to move yesteryear away inward in addition to brand your ain estimates inward the Groupon spreadsheet in addition to value the company. To maintain tabs on all of our unlike estimates, I guide hold created a shared Google spreadsheet where you lot tin input estimates in addition to value per share. Should last fun!

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