Will JOBS Act Subject Investors to Another Groupon Inc. (Nasdaq: GRPN)?

Groupon Stock Price History
(Nasdaq: GRPN)

Groupon Inc. (Nasdaq: GRPN) slumped 17% in trading today (Monday) on news that it had to revise last quarter's financials, causing critics to worry that the new JOBS Act would lead to more faulty IPOs this year.

Groupon announced Friday it had a "material weakness" in financial controls. That led the company to revise its fourth-quarter financial results to reflect an increase in its "refund reserve accrual."

The results? Quarterly revenue fell by $14.3 million and net income slipped $22.6 million, or 4 cents a share.

Groupon already turned off investors this year when a dismal earnings report - the first since the company went public - came in below expectations. The latest misstep cost the company yet again.

Groupon shares ended the day at $15.27 a share, down 26% for the year and 24% below its IPO price of $20.

Perhaps Money Morning Chief Investment Strategist Keith Fitz-Gerald said it best: "This company is a train wreck."

Groupon Inc. (Nasdaq: GRPN): Third Strike with Investors

Basically, Groupon sold many higher priced deals last quarter but failed to account for the fact that higher priced offers usually result in more refunds which the company didn't properly plan for.

With the deals not nearly the bargains that subscribers hoped for, many asked for their money back. Groupon wasn't able in all cases to get money back from merchants, boosting quarterly operating expenses.

Fitz-Gerald sees this trend of more expensive, extravagant deals as a last-ditch effort to stay on top of its market.

"In my opinion, the company is grasping at straws, and they're hoping to charge higher prices in order to make up ground that's been lost thanks to a failed business model," said Fitz-Gerald.

Groupon said it was already taking steps to fix its internal controls, but could not estimate when - or if - they would be adequately resolved.

These kinds of complications are rare in IPOs, which undergo heavy auditing. But Groupon's unique business model and rapid growth rate complicated the auditing process.

"There is very little history on return rates," IPO consultant Tom Taulli told Bloomberg News. "Groupon hasn't been around for a long time and has been expanding so quickly, it's got to be a nightmare for an auditing firm."

Worst of all, this isn't the first time Groupon has had to restate financial numbers - it's the third time in eight months.

Each time Groupon has reported an accounting or reporting issue, more critics have stepped forward.

Now with this latest gaffe, it's hard to find anyone still in Groupon's corner.

"Barring serious action like replacing its CFO, CEO, and its accountants, I don't see any upside potential for this company," said Fitz-Gerald. "The revenue model is unworkable, expenses are high, and customers don't give a damn because there are half a dozen competitors."

Which is why our Defense and Technology Specialist Michael A. Robinson called it one of the "Five Tech Stocks to Avoid" in 2012.

"True, Groupon has plenty of cash in the bank and no debt, but you can find much better tech companies out there with stronger cash flow and solid earnings," Robinson wrote in a report earlier this year.

Now critics of the JOBS Act (Jumpstart Our Business Startups Act) say this legislation, scheduled to be signed into law this week by U.S. President Barack Obama, could let the accounting issues of future IPOs sneak by investors.

How the JOBS Act Could Hurt Investors

The JOBS Act eases accounting and disclosure rules for "emerging growth companies" like Groupon. These are companies with less than $1 billion in annual revenue, $700 million in market capitalization, and have been public for less than five years.

A small JOBS Act provision allows for such accounting issues like Groupon's "material weakness" to be dealt with out of the public eye. Companies could submit private drafts to the Securities and Exchange Commission for review before they file publicly.

This means in the case of Groupon, its initial disputes with the SEC over accounting concerns would have been confidential making the IPO process for the troubled company appear smoother than it actually was.

"I find it amazing that Congress would allow any firm to work behind closed doors on any accounting or auditing issue," J. Edward Ketz, an associate professor of accounting at Penn State University, told The Wall Street Journal. "We learned a long time ago that sunshine is the best antiseptic."

Had Groupon had the luxury of the JOBS Act, it would've worked out its operating income issues without public scrutiny.

Groupon's first accounting problem was its use of "adjusted consolidated segment operating income," which excluded its marketing costs to land new subscribers. The metric allowed Groupon to show a profit when it actually posted losses.

The company also previously counted as revenue all the money it took in from its daily-deal offers, but it changed that to subtract the portion of that amount that it shares with merchants. The revision dropped Groupon's 2010 revenue by 56%.

JOBS Act supporters claim the legislation will help smaller companies keep information private from competitors. The law requires the SEC to release the private documents 21 days before a company's road show begins, meaning investors who do their appropriate due diligence eventually will be able to review the issues companies had while preparing their IPO filing.

President Obama is scheduled to sign the JOBS Act into law this week.

[Editor's Note: While Keith Fitz-Gerald isn't a fan of Groupon, he is a fan of finding amazing opportunities for his Strike Force Trader service subscribers. Fitz-Gerald used Groupon to suggest such a trade to those subscribers. Click here to learn more about Fitz-Gerald's Strike Force Trader and the profit opportunities it provides.]

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