42 Comments

Summary:

Groupon’s precipitous stock decline since its public offering in November 2011 has turned the local commerce company from a web hero to a piñata. The problem is that of false expectations and lofty valuations from a company that was never really a tech-company.

Photo courtesy of NSADAQ

The summer of discontent — well, that’s what it seems to be from the perspective of the not-so-new web darlings — might be coming to an end, but months (perhaps years) of misery awaits these erstwhile rocket ships. The news reports of late have reserved particular vitriol for Groupon, the company that has seen its market valuation decline almost 82 percent since its went public.

Over the weekend, The New York Times columnist James Stewart blamed network effects going into reverse for the declining fortunes of the new web companies, though I don’t think his argument applies to Groupon, which has its own unique set of challenges and isn’t in the same class of companies as Facebook. Today, Wall Street Journal reports that investors like Kleiner Perkins and T. Rowe Price have taken it on the chin with their Groupon investment, but for now they remain believers in Andrew Mason and rest of the team.

The Groupon debacle is particularly telling about Silicon Valley and investors. Why? Because I don’t think it belongs in same category as Facebook and even Zynga. I am not sure it even belongs in the basket of technology stocks. Let me explain:

Some deals are too good to be true

From the day it emerged out of anonymity, Groupon was hailed as the messiah of local commerce, a company that was going to revolutionize retail and advertising. I tried very hard to understand the company and figure out its technology edge. When I saw Groupon, I saw a company that was essentially using e-mails to conduct what was essentially a coupon-clipper business. (Even Groupon Goods, the new discount goods service, reminds me of QVC more than anything else.)

Nevertheless, the company kept getting valued at nosebleed valuations by private investors. Some of the smartest people on the planet were extolling virtues of the company. Google offered to buy if for $6 billion. Maybe I was too old fashioned to label the company as a “technology company.” So, I abstained from writing and tuned out GroupOn. That didn’t stop the company from going public and getting valued at around $12.8 billion, making it the biggest U.S. web IPO since Google. Nothing really changed after the IPO. The more time went by, the more evident it became, at least to me, that Groupon was no technology company. That is the most crucial point of the Groupon saga.

The momentum players

Of course, the problem with Groupon is not entirely of its making. In order for a company like Groupon to get valuations befitting a high-growth technology company instead of a coupon-clipper business, there need to be compliant and willing investors. Many have their own personal compulsions. Kleiner Perkins, having lost its shirt on clean tech and energy investments, decided to double down on social and web investments — price be damned. No one can fault them trying to remake their franchise, which as PE Hub’s Connie Loizos pointed out has been under attack from Marc Andreessen’s investment outfit, A16z.

Other late-stage investors in the company felt the heat from late stage investor DST Global, a relatively new and aggressive investor with faint regard for valuation. For others, it was merely a way to play the momentum, make a quick buck and show a win, so that they can go on and raise yet another big fund.

And then there are the likes of T.Rowe Price, a giant mutual fund that was hoping that it could get a piece of these fast growers and make a killing at the IPO. Well, that plan didn’t work out, but they are still holding onto the stock. [By the way, it is the same fund that bought into Slide at a rumored $500 million valuation. Slide was sold to Google for $250 million.]

Many of these late-stage investors were trying to time the market. And as someone really smart once said — you can’t really time the market. More importantly, it doesn’t matter who you are or how fast you grow, at some point in time companies — both big and small — have to grow into their valuation. Groupon’s late stage investors are living through that harsh reality.

If it quacks like a duck….

Photo of Ducks by Daniel Alvarez via ShutterStock

Groupon isn’t the only company that uses technology but isn’t really a technology company, nonetheless enjoying investors’ decision to value it as a technology company. Just because a company uses the web and uses social networks (instead of real estate and old media) to sell things and find new audiences doesn’t mean that it should be put in the same bucket as, say, a company offering storage services to large companies, or even running world’s biggest social identity platform.

Andreessen once famously said that software will eat everything. I totally agree — but that also means that the software should make things more efficient. That makes the companies that are using software to replace the physical infrastructure (and its limitations) more profitable.

Yes, the Internet, mobile devices and social networks make it easy for these companies to grow their businesses — really really fast — but at the end of the day, if you are selling shoes, you are selling shoes. If anything, the higher growth, efficiency of infrastructure and ability to narrowly and rightfully target your customers should mean that you as a business should have higher margins than a competitive retailer. And if you do, then you should be valued higher than an offline competitor.

However, we continue to see the online-equivalents of retailers and fashion brands being accorded valuations typically reserved for high-growth technology companies. How is a company selling subscription for shoes or underwear a technology company? Many of these online companies might seem special because of there new models, but in the end they aren’t. Like ShoeDazzle that started the whole retail-as-a-subscription madness and is now selling discounted shoes, Groupon is a rude reminder of that reality.

The fact is that the very idea of what is a technology company is starting to morph. The traditional tools of valuing technology startups might not be applicable to companies like Groupon, which are like shooting stars – they grow fast and they fade faster. It means, the venture investors have to go back to the drawing board and figure out how to value the online equivalents of old-line businesses.

  1. good point

    Share
  2. Om, what do you think of Amazon and its valuation? Does the fact that a small chunk of its business is selling cloud services mean that it deserves an agressive tech company multiple?

    Share
  3. Amazon is not much different. Online retail for the most part. Sure they have other tech businesses, but their online retail is a WalMart on the internet. Grossly overvalued IMO too. Razor thin margins.

    Share
  4. Great post, OM – generally agree but would take a more differentiated approach re the valuations of online retailers – if they are vertically integrated like ShoeDazzle, WarbyParker, Indochino, Julep or Chloe & Isabel, they usually have a differentiated position in the market b/c of unique products and enjoy a higher gross margin as they control manufacturing. Those companies are very different to an online retailer that is simply selling the same product I can get offline through an online channel. They might still not be tech companies but generally have a much more interesting value proposition.

    Share
    1. Thanks. Also, appreciate your comment. Good points. The argument I make is that if they have a higher margin, they should get a higher valuation – to their peers in the same retail businesses. To value them as technology businesses doesn’t make sense – at least to me.

      Share
    2. What about Joyus ?

      Share
  5. Nice post. Would you care to substitute “viable” for “tech”?

    Share
    1. Lol – I am not sure if I have the ability to make that call :). Thanks for reading

      Share
  6. Om, I remember your hyper bullish evaluation of facebook at the IPO price of $38. I had even written a comment asking whether your owned any facebook stock.

    What do you think of facebook’s stock now?

    Share
    1. If I remember correctly that your comment was about five links I shared about Facebook. Yeah, you might read it as hyper bullish but to me they were interesting and well written posts. As for owning stock – i only own one stock – GigaOM stock. It is good for me. As far as Facebook stock – well, the market is saying what it is worth.

      Share
  7. None of the 6 stocks I sampled (P, YELP, ZYNGA, GRPN, LNKD, FB) crossed their IPO price. So there is a macro effect here as well. These 6 guys raised $18B on IPO day and now those folks have lost 50% of it (in 6-12 month).

    In the case of GRPN, I am sure the slide would have been less if the economy is doing far worse (i.e their model is favourable in recessionary trends).

    The interesting thing is the fallout from Web 1.0, we are left with GOOG, AMZN, EBAY. I wonder who will be around by 2020 in this crowd. I hope LNKD can grow to be like AMZN.

    Finally I would like to take a shot at Marc Andreesen with a great quote by Alan Kay
    “People who are really serious about software should make their own hardware”. There is either a parallel bubble or real franchaise builders are showing up on the infrastructure platforms with companies like FIO, Palo Alto etc…

    Share
    1. Thanks for the comment. I am not sure the economy had anything to do with it. There is a celing to how much money people can spend, how many deals people can consume and essentially make a go of it.

      Share
      1. Yes, that was broken or limited from day one. Agreed

        Share
  8. very interesting article om but I tend to disagree regarding groupon: they are a local marketplace like ebay – they just happen to sell vouchers. they are not a traditional retailers (don’t carry inventory) and don’t sell goods you can easily find elsewhere at similar or lower price.
    It does not make groupon a better Company – but its problem is its market and its business practices not its lack of technological prowess.
    it’s funny to see that ebay, craigslist and groupon are the most successful marketplaces and are not really perceived as tech powerhouses – they are not the fiercest product innovator for sure!

    Share
  9. Any thoughts on Pricleine vs. Boeing? Is Priceline a technology company?

    Share
  10. >That makes the companies that are using software to replace the physical infrastructure (and its limitations) more profitable.

    Wal-Mart is more profitable than Amazon, even after a decade of growth. How much longer do its shareholders have to wait for the abnormal returns the analysts and VCs were enthusing about in 1999?

    Share

Comments have been disabled for this post