Market Overview

No Daily Deal: Groupon Pummeled As Red Flags Mount

To put it delicately, issues continue to mount for Groupon (Nasdaq: GRPN), the purveyor of daily Internet deals. Just a month after revising its fourth-quarter loss to $64.9 million from $42.3 million, Chicago-based Groupon is once again causing consternation for investors on rumors two board members will depart.

Shares of Groupon plunged almost 11% Monday on above average volume with the losses accelerating late in the session following a report by All Things D that cited Starbucks (Nasdaq: SBUX) Chairman and CEO Howard Schultz and Accel Partners' Kevin Efrusy will leave the Groupon board. The All Things D report cites unidentified sources familiar with the matter.

While voluntary, the departures potentially act as one more hurdle for embattled Groupon to overcome. Since its much-ballyhooed November 2011 IPO, Groupon has seen its shares tumble by nearly 59%. The revision of the fourth-quarter financials cast doubt about the efficacy of the company's financial statements and that came just months after the company had battled with the SEC regarding its business model and accounting practices ahead of the November 2011 IPO.

Even in its pre-IPO period, Groupon had to restate revenue after double-dipping on the revenue it actually earned and the revenue that went to merchants that honored the company's ubiquitous daily deals. So perhaps it can be argued the company was poised to be a problem child for investors even before what was, at the time, the most anticipated Internet IPO since Google's (Nasdaq: GOOG).

As the All Things D report noted, Schulz nearly left the board prior to the IPO, but chose to stay on so as to not throw a wrench in Groupon's plans to go public. The report highlights the fact that Schulz and Efrusy may be replaced by candidates with more accounting experience. That might give Groupon investors some slight cause for optimism because, to this point, the board has not displayed a willingness to engage management on the aforementioned accounting woes. All the while, shareholder value has been destroyed.

In the essence of fairness, it must be noted that after the close of U.S. markets on Monday, Groupon announced Daniel Henry, the chief financial officer of American Express Company and Robert Bass, a vice chairman of Deloitte LLP will join the board. Both will serve on the Audit Committee with Audit Chairman Ted Leonsis.

"With their deep financial, accounting and operational experience, Dan and Bob will provide invaluable expertise to the Board going forward,” said Eric Lefkofsky, Groupon Chairman, in a statement.

Those desperate to put a positive spin on things may opt to view the appointments of Henry and Bass to the Groupon board as steps in the right directions and that's exactly what the appointments are. However, two board members alone do not diminish three other major problems facing Groupon in the near-term.

There are still issues to consider. Henry and Bass alone will not be enough to restore Groupon's reputation overnight. Appointing the Pope and Mother Theresa to the company's probably wouldn't be enough reputation restoration for the investment community at this point. Second, Groupon compounds the reputation issue by not being profitable. Investors can tolerate lack of profitability for a while, particularly if there's good reason to trust management and it is evident the company is headed in the right direction. Even if Groupon posts a profitable quarter when it reports next month, it will probably one of the most scrutinized quarterly reports by ANY company in recent memory.

Third, even if the first two scenarios go Groupon's way, neither does anything to change the fact there are probably more than 400 companies out there doing the same thing as Groupon. There are no barriers to entry in the daily deal business, implying Groupon may never be a wide moat type of company.

For now, the red flags loom large and the stock's path of least resistance is arguably lower. The shares trade at less than half the average analyst estimate of just over $22, meaning more downgrades and price target cuts could be on the way, meaning there's no need to try to catch this falling knife.

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