Groupon

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June 12. 2011

Fuzzy Accounting Enriches Groupon

By ROBERT CYRAN, ANTONY CURRIE and ROB COX

The world would be richer if Groupon's notions of accounting caught on. Groupon, the Internet coupon company, had an operating loss of $420 million last year. But it thinks investors in its initial public offering should instead look at "adjusted consolidated segment operating income," or adjusted C.S.O.I. It is easy to see why Groupon wants prospective shareholders to view its accounts this way. Strip out marketing expenses, acquisition-related costs, stock compensation, interest expense and payments to the tax man and, presto, the start-up earned $60.6 million. If investors accepted this fantastical form of accounting, all sorts of companies would be worth billions more, too. Groupon argues that adding customers through marketing is a one-time process, stock compensation does not result in direct cash outlays, and taxes and interest payments are not relevant because Groupon does not have debt and is still technically "losing money." In the real world customers leave and need to be replaced, stock options dilute existing shareholders, and taxes are eventually paid. But imagine how this thinking might affect other companies. Take Netflix, which spends heavily on marketing. Use Groupon's arithmetic and this cost can be ignored. Netflix also pays taxes and rewards executives with stock. Subtract these figures from its 2010 accounts, and it would have had around $600 million of adjusted C.S.O.I. Today, Netflix is valued around 48 times trailing operating profits of $284 million. Substitute C.S.O.I., and Netflix would be worth $28 billion. Or consider an old-school enterprise like Johnson & Johnson. Last year it had multiple product recalls. Under adjusted C.S.O.I., costs associated with these may be treated as one-time expenses. Once a drug is invented, the formula is not forgotten, so research and development is a nonrecurring cost, too. Do the...