Groupon’s Lesson: Valuation Matters

Reasonable people will disagree on what prices make a sound investment, which is why there’s a stock market.  Take busted IPO Groupon (GRPN.O), which at the time of this writing (late afternoon, November 29, 2012) still has its 32-year old founder Andrew Mason in the CEO role.   The company’s website shows that the Groupon Investor Kit is unavailable (http://investor.groupon.com/investorkit.cfm).

Groupon’s fall from investor grace shows that, regardless of new business models, valuation still matters and highlights the danger of investors being swept away in enthusiasm over the next big thing.  It also illustrates that it is important to examine market expectations and how reasonable they appear.

Below is the chart history of the stock price of Groupon (blue-grey mountain chart) and the StarMine Intrinsic Valuation (dividend discount) Model value (blue line) for Groupon since its inception.

The recent $4.54 price is now closer to StarMine’s Intrinsic Valuation Model calculation of $3.95.   That’s after adjusting for three identifiable analyst biases (high growth stocks have their growth rates overestimated, overestimating longer term growth rates as compared to shorter term growth rates, and failure to fully account for reversion to the mean in growth rates and return on equity).

What would get the stock price much higher?  If the company were able to grow earnings by 40% a year over the next four years, then the intrinsic value would move to $23.15.

On a less enthusiastic basis, a 20% growth rate over the next four years results in an intrinsic value of Groupon stock at $6.02, which is only 32% above the current price.  By way of comparison, the current StarMine SmartGrowth rate for Groupon is 26% for next year and 13% for the following three years.  Within that context you may set your own earnings growth expectations.