YOU WERE WARNED: Groupon Could be the Worst Public Investment EVER

At the beginning of last June, I warned prospective investors that Groupon (NASDAQ:GRPN) had many more red flags than traditional upside. I even went so far as to say buying the Groupon IPO could be one of the worst public investments ever. Well, turns out SEC inquiries, insiders dumping stock pre-IPO, and ZERO barriers to entry are great forecasters of horrible stock performance post-hype.

Groupon’s stock hit a 52-week high of $31.14 on opening day and continues to make new 52-week lows today at $10.60. That’s a strong 65.9% loss in 6 months — a percentage investors probably hoped would be associated with only Groupon’s daily deals.

Look at this ugly, ugly chart:

Yesterday Groupon started letting heads roll. The company announced that Daniel Henry, the chief financial officer of American Express Company (NYSE:AXP) and Robert Bass, a vice chairman of Deloitte LLP will join its Board of Directors. After losing over 65% of shareholders’ money, inexperienced co-founder and CEO Andrew Mason is finally understanding that 31 years on Earth doesn’t necessarily provide enough time to understand how to properly run a multi-billion dollar company.

But hey, Andrew Mason et al knew they didn’t know what they were doing. That’s why they passed the bag early. On June 3rd, I noted:

[I]nvestors should be wary of the dividends Groupon is awarding on preferred stock.

While preferred stockholders are among the first individuals rewarded when companies do well, Groupon’s performance thus far has hardly warranted the significant dividends these individuals have received. In total, Groupon has paid out $930 million to employees and investors. Equally alarming, in spite of losing $390 million from operations in 2010, Groupon spent $52.9 million buying preferred shares. The obvious question raised by all this is why preferred shareholders seem to be squeezing as much out of the company during these preliminary stages.

In general, the preferred stockholders are the founders of Groupon themselves along with the venture capital investors that helped get the website off the ground. It is a rarity for such individuals to receive substantial dividends while a company is still developing, much less losing money. Perhaps the rush to profit is indicative of uncertainty with regards to the long-term viability of the company. In any case, investors jumping on the bandwagon should be wary, since they will never be as well-informed as the founders and managers reaping the benefits of their preferred shares.

This activity violates a critical component of our CHEAT SHEET investing framework “S = Support is Provided By Institutional Investors & Company Insiders”. Clearly, in this case, insiders and institutional investors were selling shares like they were about to evaporate. Groupon also violated our investment requirement “H = Honest Accounting Governs the Company Books”. SEC inquiries are an awesome warning sign investors shouldn’t take lightly.

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