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The Groupon IPO: A Buying Opportunity or a Risky Bet?

Deal of the day website Groupon was founded in Chicago in November 2008. Today the company has grown from 37 employees to 10,418, with nearly 80,000 participating merchants… and 143 million subscribers.

In last week’s initial public offering, the company raised around $700 million, giving it a market value of as much as $20 billion… and making it the largest U.S. internet IPO since Google went public in 2004 (raising $1.9 billion and valued at $23.1 billion). Shares jumped over 50% on their debut.

The offering was quite a bit hotter than other recent IPOs (such as LinkedIn and Pandora). And it was the second largest this year (after Russian search engine Yandex, according to MarketWatch). But that might be as good as it gets for Groupon.

While there was plenty of excitement swirling around the IPO, generating some excitement doesn’t make the stock a buy. And the initial pop on its first day was simply a matter of supply and demand…this is a standard Wall Street trick in the IPO game. The idea is to issue a small number of shares so that any amount of investor demand will result in a rise in the price. Groupon’s float for the IPO was just 4.7% of outstanding shares…the second lowest in the U.S. in the past decade (the average IPO float is 40%…and 27% for tech companies). That artificial scarcity created a nice bounce for the first day of trading…but that doesn’t mean much.

A lot of first day momentum doesn’t automatically translate to stock performance. Other stocks in the space have seen rapid gains on their IPO with a low float, only to later fizzle:

Company 1st Day Year-to-Date Initial Float

LinkedIn (LNKD) +109% -12.6% 8.3% of shares Zillow (Z) +79% -8.78% 19.9% of shares Pandora (P) +9% -12.63% 9.2% of shares

The real test will be where Groupon is trading months from now. And there are problems the company will have to face.

For one thing, there are concerns about the sustainability of the company’s business model (Groupon basically sells group discounts and splits the revenue with retailers). And there have been complaints from business owners that they lose money on online deals…but more than that, just 20% of daily deal coupon users return for full-price purchases (according to Forbes).

That’s not to mention questions about the company’s accounting, and a restated revenue figure that showed a loss of -$214.5 million for the first three quarters this year. And at the end of September, Groupon owed twice as much to merchants as it held in cash.

And while the company now commands 54% of the daily deal market, it is arguable that their lead is fragile, and barriers to entry into the space are few. The company is already facing serious competition from Google, LivingSocial and Amazon.

Another point of contention is the fact that Groupon calls itself a tech company. Just 5% of Groupon’s over 10,000 employees are in technology. More than that, Groupon frankly looks more like a sales and marketing company. Being on the internet doesn’t automatically make it a tech company.

Groupon is a risky bet. There is simply too much optimism built into its value right now, and this is a stock I wouldn’t go anywhere near.

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