Friday, April 6, 2012

The Groupon goof-up that cost millions: a contracting cautionary tale

GROUPON: contracting gone amok

This past Friday, Groupon released revised fourth quarter 2011 revenue numbers, increasing its net loss by $22.6 million for a total of $65.4 million. In addition, gross revenues were lowered by $14.3 million. Not surprisingly in the wake of such disappointing figures, the stock price took a beating on Monday, opening down nearly $2 per share. By mid-week, the stock was down 18 percent since the announcement, and now the SEC is getting involved to investigate the reason behind the need for the revised numbers.

This is not the first time that Groupon’s accounting has landed it in hot water. It’s a prime example of a company that has grown exponentially in a short period of time but has not been able to adapt its financial infrastructure at the same rate. In the words of its own auditors at Ernst and Young, Groupon possesses a, “material weakness in … internal control over financial reporting which could, if not remediated, result in material misstatements in … financial statements.” These are not words stakeholders want to hear from auditors.

Groupon attributes the losses to a blunder in forecasting on refunds. It recently began promoting more big-ticket items, such as laser hair removal, and didn’t adequately anticipate the number or value of the refunds that would be requested. Instead, Groupon followed the refunding patterns of smaller ticket items in the past and badly miscalculated the overall financial impact.

This is a classic example of contracting gone amok. Here we have two major problems. First, Groupon lacked insight into the capital value of its contracting obligations, and second, it did not adequately account for its refund exposure and how that could potentially impact its financials. The agreements, pricing, and contract terms, including refund structure, were not architected in such a way that it could easily forecast and report its exposure risk or perform what-if scenarios.

Unfortunately, many companies believe that having a contract repository for document storage is sufficient. In reality a mere repository is inadequate, lacking the robust visibility into contracts and their ripple-effect that would have certainly helped prevent this situation at Groupon.

This is why Enterprise Revenue Dynamics (ERD) is so crucial, especially for growing companies. Just as Groupon grew really fast, really quickly, it’s vital to implement an ERD solution early that will scale up as the company grows. Contracts, pricing, and compliance are an interconnected matrix at the very heart of a company’s well-being. The terms, conditions, and contents of a contract directly impact pricing execution, including things like refunding or rebating. The ability to anticipate future demand and adjust current agreements accordingly for maximum profitability is a key differentiator for companies with a forward-thinking ERD strategy. And it’s far better to take a proactive rather than a reactive approach and start early with an ERD solution.

The only constant in business is change, and companies need to be more agile and adaptable with their contracting strategy, procedures, and execution. If not, they risk significant exposure, and in the case of Groupon, the very value of the company.

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