Groupon Tries to Make the SEC Happy, but Loses More Than Ever

There were reports that Groupon's IPO accounting was getting the cold shoulder from the SEC. Now it's official: the company just filed amended S-1 IPO paperwork that downplays some of its more creative accounting.

But Groupon has bigger trouble. The same filing shows second quarter losses doubled year-over-year while revenue increased by only 36 percent. Marketing costs were down, but headcount increased. That's what happens when a company thinks it's an Internet business when it's actually just a business that uses the Internet -- and can't leverage technology to become profitable.

We don't measure ourselves in conventional ways
What caught the attention of the SEC was the term Adjusted Consolidated Segment Operating Income (ACSOI), because Groupon ignored sizeable costs of acquiring customers. Here's how Groupon discussed the metric prior to this latest amended S-1:

Finally, we use a third metric to measure our financial performance--Adjusted Consolidated Segment Operating Income, or Adjusted CSOI. This metric is our consolidated segment operating income before our new subscriber acquisition costs and certain non-cash charges. While not a valuation metric, it provides us with critical visibility into our business.

Third, we track Adjusted Consolidated Segment Operating Income (ACSOI) which is our Consolidated Segment Operating Income (CSOI) reported under U.S. GAAP before our new subscriber acquisition costs. We exclude those costs because, unlike our other marketing expenses, they are an up-front investment to acquire new subscribers that we expect to end when this period of rapid expansion in our subscriber base concludes and we determine that the returns on such investment are no longer attractive. While we track this management metric internally to gauge our performance, we encourage you to base your investment decision on whatever metrics make you comfortable.

However, there is danger in distinguishing items that really can't be considered truly separate, and that may be happening at Groupon. Will the intent to end the acquisition marketing expenses ultimately be enough to drive the company into profitability? It's far from clear.

Losing money but hoping to make it up in volume
The consolidated statements of operations, updated to include the second quarter, show the issues that Groupon faces (click to enlarge):

Year-over-year revenue growth is enormous. But gross profit -- really net revenue after payments to merchant partners -- shows an additional trend. Gross margins for the first six months of 2010 were 41.3 percent. For 2011, they were 40.1 percent. Groupon is getting a smaller piece of the pie over time, which puts more pressure on expenses.

Unfortunately, the expenses aren't getting lower as a percentage of revenue. Factor out the acquisition costs in 2010, and expenses were 135 percent of net revenue. In 2011, they were 136 percent. Spending as a percentage of revenue increased. Marketing went from 65.3 percent in 2010 to 62 percent in 2011. However, overhead -- hiring â€" more than took up the slack.

On the Internet, but not of it
As I've mentioned before, Groupon doesn't leverage technology like a true Internet company. It uses technology, but still scales personnel for expansion and continued sales. Even if the expenses for acquiring new customers went away -- and they can't because of turnover and the significant percentage of people who don't buy into deals -- the costs of selling services to merchants remains.

Sales in this case mean media salespeople who have to call on one small business after another to convince them to offer a hot deal to consumers and then give a large chunk of the money they make to Groupon, even as they take a financial loss on the promotion. With merchants having publicly complained about the lack of return and the huge number of daily deal sites that have exploded on the scene, the convincing only gets tougher.

The need to bring in ever more new customers also doesn't disappear. If anything, it only gets larger. The number of cumulative customers as a percentage of total subscribers was 22.8 percent in the first six months of 2010, but 19.9 percent in 2011. In a year, Groupon has become less effective in converting subscribers into spending money.

The company may well have already gained the core repeat customers that it can hope to get. Average revenue per customer, not subscriber, is down from $21 to $18, even as the average deal price went from $23 to $25. The buying is getting concentrated in fewer customers.

So how does Groupon eventually ramp down those extraordinary expenses? Maybe in can't -- in which case this company will hit a brick wall at race car speeds.

Related:

• Groupon's Wild and Crazy IPO Accounting May Be a No-Go With the SEC
• 6 U.S. Downgrade Dangers for High Tech
• An SEC Probe of Groupon Could Help Tame the Tech Bubble
• Desperate Groupon Tries to Fix Finances with Consumer Privacy
• Groupon Loses So Much Money, It Needs Its Own Daily Deals
• Groupon IPO: Its "Income" Is Dependent on Dodgy Accounting
• Groupon and LivingSocial: The Next Bubble Waiting to Pop