Groupon – A Tech Company With Zero Research and Development

This Post was originally published at Core Earnings.com

In its offering prospectus Groupon billed itself as a ‘local e-commerce’ company which brings ‘the brick and mortar world of local commerce onto the internet’ which clearly defines it as an online tech business.

It is therefore nothing less than astonishing to see no Research & Development expense on the company’s Income Statement. Other companies in the internet/technology space maintain their R&D expense at a fixed percentage of Revenue. The below chart shows the 2012 Q4 R&D / Revenue ratio for several major internet/tech companies :

Most companies have an R&D / Revenue ratio of between 0.1 – 0.2, Apple is the outlier with only 2% of Revenue spent on R&D, which is partly due to its huge Revenue allowing it to still spend a large absolute amount on R&D yet keep the percentage low and also it essentially outsources its R&D to suppliers.

In addition to being a large expense for a tech company R&D is also kept at a very consistent percentage of Revenue over time, this is a clue to just how important of an expense R&D is. The below chart of R&D/Revenue over time for some of Groupon’s ‘peers’ shows how consistent the ratio is kept.

It is possible this is simply an issue of attribution and Groupon’s R&D-type expenses are included under another heading such as ‘Selling, general and administrative’ however Groupon’s filing make no mention of research type activities being included in other expense headings.

 

Capital Expenditure

The first place to look for missing expenses is the Cash Flow Statement to see if it has been capitalized instead of expensed. Capital Expenditure is similar to R&D except that Cap Ex leads directly to the creation of a valuable asset (which can be software) whereas R&D is more general research which has not yet led to the creation of an asset. In terms of accounting, R&D is charged directly against Revenue to arrive at a firm’s profit, whereas Cap Ex is not charged against Revenue and instead creates an asset on the Balance Sheet.

Thus, it can be advantageous for a company to classify R&D as Cap Ex although this is considered at a minimum an aggressive accounting practice. Groupon’s accounting policy is to treat all of its software development as Cap Ex which is a sound policy consistent with accounting policies of some other internet companies such as Amazon. Nevertheless with all of the software development being charged to R&D it remains a concern that not enough is being expensed on the Income Statement.

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