Groupon 2014 Q2 10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2014
 
OR
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________________ to ________________
Commission file number: 1-35335
Groupon, Inc.
(Exact name of registrant as specified in its charter)
Delaware
 
27-0903295
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
 
 
600 West Chicago Avenue, Suite 400
Chicago, Illinois
 
60654
(Address of principal executive offices)
 
(Zip Code)
312-334-1579
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes  x         No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).         
Yes  x         No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer x                           Accelerated filer         
Non-accelerated filer (Do not check if a smaller reporting company)    Smaller reporting company
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes             No  x 
As of August 1, 2014, there were 666,933,836 shares of the registrant's Class A Common Stock outstanding and 2,399,976 shares of the registrant's Class B Common Stock outstanding.


1

TABLE OF CONTENTS
PART I. Financial Information
Page
Forward-Looking Statements
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30, 2014 (unaudited) and December 31, 2013
Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2014 and 2013 (unaudited)
Condensed Consolidated Statements of Comprehensive Income (Loss) for the three and six months ended June 30, 2014 and 2013 (unaudited)
Condensed Consolidated Statement of Stockholders' Equity for the six months ended June 30, 2014 (unaudited)
Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013 (unaudited)
     Notes to Condensed Consolidated Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Item 4. Controls and Procedures
PART II. Other Information
 
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered sales of equity securities and use of proceeds
Item 5. Other Information
Item 6. Exhibits
Signatures
Exhibits

______________________________________________________




2

PART I. Financial Information
FORWARD‑LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including statements regarding our future results of operations and financial position, business strategy and plans and our objectives for future operations. The words "may," "will," "should," "could," "expect," "anticipate," "believe," "estimate," "intend," "continue" and other similar expressions are intended to identify forward-looking statements. We have based these forward looking statements largely on current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy, short-term and long-term business operations and objectives, and financial needs. These forward-looking statements involve risks and uncertainties that could cause our actual results to differ materially from those expressed or implied in our forward-looking statements. Such risks and uncertainties include, among others, those discussed in "Item 1A. Risk Factors" of our 2013 Annual Report on Form 10-K and Part II, "Item 1A. Risk Factors" of this Quarterly Report on Form 10-Q, as well as in our condensed consolidated financial statements, related notes, and the other financial information appearing elsewhere in this report and our other filings with the Securities and Exchange Commission. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. We do not intend, and undertake no obligation, to update any of our forward-looking statements after the date of this report to reflect actual results or future events or circumstances. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.
As used herein, "Groupon," "we," "our," and similar terms include Groupon, Inc. and its subsidiaries, unless the context indicates otherwise.


3

ITEM 1. FINANCIAL STATEMENTS

GROUPON, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)

 
June 30, 2014
 
December 31, 2013
 
(unaudited)
 
 
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
868,088

 
$
1,240,472

Accounts receivable, net
134,127

 
83,673

Deferred income taxes
30,033

 
27,938

Prepaid expenses and other current assets
237,092

 
210,415

Total current assets
1,269,340

 
1,562,498

Property, equipment and software, net
173,403

 
134,423

Goodwill
460,972

 
220,827

Intangible assets, net
136,182

 
28,443

Investments
23,588

 
20,652

Deferred income taxes, non-current
45,062

 
35,941

Other non-current assets
28,892

 
39,226

Total Assets
$
2,137,439

 
$
2,042,010

Liabilities and Equity
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
31,002

 
$
27,573

Accrued merchant and supplier payables
803,374

 
752,943

Accrued expenses
234,355

 
226,986

Deferred income taxes
48,915

 
47,558

Other current liabilities
127,434

 
132,718

Total current liabilities
1,245,080

 
1,187,778

Deferred income taxes, non-current
12,871

 
10,853

Other non-current liabilities
148,552

 
131,697

Total Liabilities
1,406,503

 
1,330,328

Commitments and contingencies (see Note 6)

 

Stockholders' Equity
 
 
 
Class A common stock, par value $0.0001 per share, 2,000,000,000 shares authorized, 690,335,467 shares issued and 665,598,175 shares outstanding at June 30, 2014 and 670,149,976 shares issued and 665,717,176 shares outstanding at December 31, 2013
69

 
67

Class B common stock, par value $0.0001 per share, 10,000,000 shares authorized, 2,399,976 shares issued and outstanding at June 30, 2014 and December 31, 2013
—

 
—

Common stock, par value $0.0001 per share, 2,010,000,000 shares authorized, no shares issued and outstanding at June 30, 2014 and December 31, 2013
—

 
—

Additional paid-in capital
1,791,896

 
1,584,211

Treasury stock, at cost, 24,737,292 shares at June 30, 2014 and 4,432,800 shares at December 31, 2013
(182,046
)
 
(46,587
)
Accumulated deficit
(909,540
)
 
(848,870
)
Accumulated other comprehensive income
32,712

 
24,830

Total Groupon, Inc. Stockholders' Equity
733,091

 
713,651

Noncontrolling interests
(2,155
)
 
(1,969
)
Total Equity
730,936

 
711,682

Total Liabilities and Equity
$
2,137,439

 
$
2,042,010


See Notes to unaudited Condensed Consolidated Financial Statements.


4

GROUPON, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share amounts)
(unaudited)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Revenue:
 
 
 
 
 
 
 
Third party and other
$
405,941

 
$
418,871

 
$
832,370

 
$
857,979

Direct
345,635

 
189,876

 
676,843

 
352,170

Total revenue
751,576

 
608,747

 
1,509,213

 
1,210,149

Cost of revenue:
 
 
 
 
 
 
 
Third party and other
58,378

 
55,507

 
120,729

 
125,523

Direct
303,336

 
168,546

 
612,901

 
320,923

Total cost of revenue
361,714

 
224,053

 
733,630

 
446,446

Gross profit
389,862

 
384,694

 
775,583

 
763,703

Operating expenses:
 
 
 
 
 
 
 
Marketing
64,275

 
55,497

 
143,199

 
105,054

Selling, general and administrative
332,844

 
302,600

 
657,809

 
610,806

Acquisition-related expense (benefit), net
597

 
(815
)
 
2,382

 
(747
)
  Total operating expenses
397,716

 
357,282

 
803,390

 
715,113

(Loss) income from operations
(7,854
)
 
27,412

 
(27,807
)
 
48,590

Other expense, net
(1,023
)
 
(5,579
)
 
(1,863
)
 
(10,662
)
(Loss) income before provision for income taxes
(8,877
)
 
21,833

 
(29,670
)
 
37,928

Provision for income taxes
12,045

 
27,384

 
26,615

 
46,721

Net loss
(20,922
)
 
(5,551
)
 
(56,285
)
 
(8,793
)
Net income attributable to noncontrolling interests
(1,953
)
 
(2,023
)
 
(4,385
)
 
(2,773
)
Net loss attributable to Groupon, Inc.
$
(22,875
)
 
$
(7,574
)
 
$
(60,670
)
 
$
(11,566
)
 
 
 
 
 
 
 
 
Net loss per share
 
 
 
 
 
 
 
Basic
$(0.03)
 
$(0.01)
 
$(0.09)
 
$(0.02)
Diluted
$(0.03)
 
$(0.01)
 
$(0.09)
 
$(0.02)
 
 
 
 
 
 
 
 
Weighted average number of shares outstanding
 
 
 
 
 
 
 
Basic
675,538,392

 
662,361,436

 
678,958,541

 
660,580,927

Diluted
675,538,392

 
662,361,436

 
678,958,541

 
660,580,927


See Notes to unaudited Condensed Consolidated Financial Statements.


5

GROUPON, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands)
(unaudited)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Net loss
$
(20,922
)
 
$
(5,551
)
 
$
(56,285
)
 
$
(8,793
)
Other comprehensive income, net of tax:
 
 
 
 
 
 
 
   Foreign currency translation adjustments
12,684

 
10,345

 
8,072

 
12,488

Unrealized (loss) gain on available-for-sale debt securities
(73
)
 
(67
)
 
(374
)
 
90

Other comprehensive income
12,611

 
10,278

 
7,698

 
12,578

Comprehensive (loss) income
(8,311
)
 
4,727

 
(48,587
)
 
3,785

Comprehensive income attributable to noncontrolling interests
(1,872
)
 
(2,314
)
 
(4,201
)
 
(3,023
)
Comprehensive (loss) income attributable to Groupon, Inc.
$
(10,183
)
 
$
2,413

 
$
(52,788
)
 
$
762


See Notes to unaudited Condensed Consolidated Financial Statements.


6

GROUPON, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands, except share amounts)
(unaudited)
 
Groupon, Inc. Stockholders' Equity
 
 
 
 
 
Common Stock
 
Additional Paid-In Capital
 
Treasury Stock
 
Accumulated Deficit
 
Accumulated Other Comprehensive Income
 
Total Groupon Inc. Stockholders' Equity
 
Non-controlling Interests
 
Total Equity
 
Shares
 
Amount
Shares
 
Amount
 
Balance at December 31, 2013
672,549,952

 
$
67

 
$
1,584,211

 
(4,432,800
)
 
$
(46,587
)
 
$
(848,870
)
 
$
24,830

 
$
713,651

 
$
(1,969
)
 
$
711,682

Net loss
—

 
—

 
—

 
—

 
—

 
(60,670
)
 
—

 
(60,670
)
 
4,385

 
(56,285
)
Foreign currency translation
—

 
—

 
—

 
—

 
—

 


 
8,256

 
8,256

 
(184
)
 
8,072

Unrealized loss on available-for-sale debt securities, net of tax
—

 
—

 
—

 
—

 
—

 
—

 
(374
)
 
(374
)
 
—

 
(374
)
Common stock issued in connection with acquisition of business, net of issuance costs
13,825,283

 
1

 
162,704

 
—

 
—

 
—

 
—

 
162,705

 
—

 
162,705

Shares issued to settle liability-classified awards and contingent consideration
102,180

 
—

 
1,041

 
—

 
—

 
—

 
—

 
1,041

 
—

 
1,041

Exercise of stock options
569,374

 


 
626

 
—

 
—

 
—

 
—

 
626

 
—

 
626

Vesting of restricted stock units
8,107,006

 
1

 
(1
)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

Shares issued under employee stock purchase plan
333,824

 
—

 
2,450

 
—

 
—

 
—

 
—

 
2,450

 
—

 
2,450

Tax withholdings related to net share settlements of stock-based compensation awards
(2,752,176
)
 
—

 
(24,070
)
 
—

 
—

 
—

 
—

 
(24,070
)
 
—

 
(24,070
)
Stock-based compensation on equity-classified awards
—

 
—

 
60,498

 
—

 
—

 
—

 
—

 
60,498

 
—

 
60,498

Excess tax benefits, net of shortfalls, on stock-based compensation awards
—

 
—

 
4,437

 
—

 
—

 
—

 
—

 
4,437

 
—

 
4,437

Purchases of treasury stock
—

 
—

 
—

 
(20,304,492
)
 
(135,459
)
 
—

 
—

 
(135,459
)
 
—

 
(135,459
)
Partnership distributions to noncontrolling interest holders
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(4,387
)
 
(4,387
)
Balance at June 30, 2014
692,735,443

 
$
69

 
$
1,791,896

 
(24,737,292
)
 
$
(182,046
)
 
$
(909,540
)
 
$
32,712

 
$
733,091

 
$
(2,155
)
 
$
730,936


See Notes to unaudited Condensed Consolidated Financial Statements.


7

GROUPON, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
Six Months Ended June 30,
 
2014
 
2013
Operating activities
 
 
 
Net loss
$
(56,285
)
 
$
(8,793
)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
 
 
 
Depreciation and amortization of property, equipment and software
45,159

 
31,369

Amortization of acquired intangible assets
24,239

 
10,799

Stock-based compensation
55,384

 
62,353

Deferred income taxes
516

 
(566
)
Excess tax benefits on stock-based compensation
(9,932
)
 
(3,768
)
Loss on equity method investments
368

 
33

Net gain from changes in fair value of contingent consideration
(39
)
 
(747
)
Impairment of cost method investments
588

 
—

Change in assets and liabilities, net of acquisitions:
 
 
 
Restricted cash
921

 
3,267

Accounts receivable
(27,265
)
 
(2,941
)
Prepaid expenses and other current assets
(5,898
)
 
15,992

Accounts payable
(5,153
)
 
(22,831
)
Accrued merchant and supplier payables
(41,945
)
 
(37,975
)
Accrued expenses and other current liabilities
(36,881
)
 
(7,237
)
Other, net
12,759

 
13,107

Net cash (used in) provided by operating activities
(43,464
)
 
52,062

Investing activities
 
 
 
Purchases of property and equipment and capitalized software
(47,408
)
 
(28,510
)
Acquisitions of businesses, net of acquired cash
(120,749
)
 
(1,469
)
Purchases of investments
(4,599
)
 
(13,083
)
Settlement of liabilities related to purchase of additional interest in consolidated subsidiary
—

 
(1,959
)
Purchases of intangible assets
(350
)
 
(1,520
)
Net cash used in investing activities
(173,106
)
 
(46,541
)
Financing activities
 
 
 
Payments for purchases of treasury stock
(135,474
)
 
—

Excess tax benefits on stock-based compensation
9,932

 
3,768

Taxes paid related to net share settlements of stock-based compensation awards
(24,306
)
 
(16,016
)
Common stock issuance costs in connection with acquisition of business
(158
)
 
—

Payments of contingent consideration from acquisitions
—

 
(30
)
Settlements of purchase price obligations related to acquisitions
(3,136
)
 
(5,000
)
Proceeds from stock option exercises and employee stock purchase plan
3,076

 
3,015

Partnership distribution payments to noncontrolling interest holders
(4,093
)
 
(2,815
)
Payments of capital lease obligations
(2,086
)
 
(205
)
Net cash used in financing activities
(156,245
)
 
(17,283
)
Effect of exchange rate changes on cash and cash equivalents
431

 
(15,516
)
Net decrease in cash and cash equivalents
(372,384
)
 
(27,278
)
Cash and cash equivalents, beginning of period
1,240,472

 
1,209,289

Cash and cash equivalents, end of period
$
868,088

 
$
1,182,011



8

Non-cash investing and financing activities
 
 
 
Issuance of common stock in connection with acquisition of business
$
162,862

 
$
—

Contingent consideration liabilities incurred in connection with acquisitions
$
4,006

 
$
30

Receivable from seller for working capital adjustment in connection with acquisitions
$
3,446

 
$
—

Equipment acquired under capital lease obligations
$
7,933

 
$
6,482

Shares issued to settle liability-classified awards and contingent consideration
$
1,041

 
$
2,263

Liability for purchases of treasury stock
$
1,732

 
$
—

Liability for purchase consideration
$
359

 
$
—

Accounts payable and accrued expenses related to purchases of property and equipment and capitalized software
$
12,228

 
$
1,660


See Notes to unaudited Condensed Consolidated Financial Statements.


9

GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1.     DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION    
Company Information
Groupon, Inc. and subsidiaries (the "Company"), which commenced operations in October 2008, operates online local commerce marketplaces throughout the world that connect merchants to consumers by offering goods and services at a discount. The Company also offers deals on products for which it acts as the merchant of record. Customers can access the Company's deal offerings directly through its websites and mobile applications. The Company also sends emails to its subscribers with deal offerings that are targeted by location and personal preferences.
The Company's operations are organized into three principal segments: North America, EMEA, which is comprised of Europe, Middle East and Africa, and the remainder of the Company's international operations ("Rest of World"). See Note 11 "Segment Information."
Unaudited Interim Financial Information
The Company has prepared the accompanying condensed consolidated financial statements pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC") for interim financial reporting. These condensed consolidated financial statements are unaudited and, in the Company's opinion, include all adjustments, consisting of normal recurring adjustments and accruals, necessary for a fair presentation of the Company's condensed consolidated balance sheets, statements of operations, comprehensive income (loss), cash flows and stockholders' equity for the periods presented. Operating results for the periods presented are not necessarily indicative of the results to be expected for the full year ending December 31, 2014. Certain information and disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP") have been omitted in accordance with the rules and regulations of the SEC. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2013, as filed with the SEC on February 20, 2014.
Principles of Consolidation
The condensed consolidated financial statements include the accounts of the Company and its subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. The Company's consolidated financial statements were prepared in accordance with U.S. GAAP and include the assets, liabilities, revenue and expenses of all wholly‑owned subsidiaries and majority‑owned subsidiaries over which the Company exercises control and variable interest entities for which the Company has determined that it is the primary beneficiary. Outside stockholders' interests in subsidiaries are shown on the condensed consolidated financial statements as "Noncontrolling interests." Equity investments in entities in which the Company does not have a controlling financial interest are accounted for under either the equity method, the cost method or as available-for-sale securities, as appropriate.
Reclassifications
Certain reclassifications have been made to the condensed consolidated financial statements of prior periods and the accompanying notes to conform to the current period presentation.
Use of Estimates
The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts and classifications of assets and liabilities, revenue and expenses, and the related disclosures of contingent liabilities in the condensed consolidated financial statements and accompanying notes. Estimates are utilized for, but not limited to, stock‑based compensation, income taxes, valuation of acquired goodwill and intangible assets, investments, customer refunds, contingent liabilities and the useful lives of property, equipment and software and intangible assets.


10
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


Actual results could differ materially from those estimates.
2. BUSINESS COMBINATIONS
The Company acquired four businesses during the six months ended June 30, 2014.  These business combinations were accounted for using the acquisition method, and the results of each of those acquired businesses have been included in the condensed consolidated financial statements beginning on the respective acquisition dates. The fair value of consideration transferred in business combinations is allocated to the tangible and intangible assets acquired and liabilities assumed at the acquisition date, with the remaining unallocated amount recorded as goodwill. The allocations of the acquisition price for recent acquisitions have been prepared on a preliminary basis, and changes to those allocations may occur as a result of final working capital adjustments and 2013 tax return filings. Acquired goodwill represents the premium the Company paid over the fair value of the net tangible and intangible assets acquired. The Company paid this premium for a number of reasons, including growing the Company's merchant and customer base, acquiring assembled workforces, expanding its presence in international markets, expanding and advancing its product offerings and enhancing technology capabilities. The goodwill from these business combinations is generally not deductible for tax purposes.
For the three and six months ended June 30, 2014, $0.6 million and $2.4 million, respectively, of external transaction costs related to business combinations, primarily consisting of legal and advisory fees, are classified within "Acquisition-related expense, net" on the condensed consolidated statements of operations.
LivingSocial Korea, Inc.
On January 2, 2014, the Company acquired all of the outstanding equity interests of LivingSocial Korea, Inc., a Korean corporation and holding company of Ticket Monster Inc. ("Ticket Monster"). Ticket Monster is an e-commerce company based in the Republic of Korea that connects merchants to consumers by offering goods and services at a discount. The primary purpose of this acquisition was to grow the Company's merchant and customer base and expand its presence in the Korean e-commerce market. The aggregate acquisition-date fair value of the consideration transferred for the Ticket Monster acquisition totaled $259.4 million, which consisted of the following (in thousands):
Cash
 
$
99,942

Issuance of 13,825,283 shares of Class A common stock
 
162,862

Receivable from seller for final working capital adjustment
 
(3,446
)
Total
 
$
259,358

The fair value of the Class A Common Stock issued as consideration was measured based on the stock price upon closing of the transaction on January 2, 2014.


11
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the allocation of the aggregate acquisition price of the Ticket Monster acquisition (in thousands):
Cash and cash equivalents
$
24,768

Accounts receivable
15,832

Deferred income taxes
1,264

Prepaid expenses and other current assets
829

Property, equipment and software
5,944

Goodwill
220,592

Intangible assets:(1)
 
Subscriber relationships
57,022

Merchant relationships
32,176

Developed technology
571

Trade name
19,325

Other non-current assets
3,033

Total assets acquired
$
381,356

Accounts payable
$
5,951

Accrued merchant and supplier payables
82,934

Accrued expenses
22,700

Other current liabilities
3,482

Deferred income taxes, non-current
1,264

Other non-current liabilities
5,667

Total liabilities assumed
$
121,998

Total acquisition price
$
259,358

(1)
The acquired intangible assets have estimated useful lives of between 2 and 5 years.
     Ideeli, Inc.
On January 13, 2014, the Company acquired all of the outstanding equity interests of Ideeli, Inc. ("Ideeli"), a fashion flash site based in the United States. The primary purpose of this acquisition was to expand and advance the Company's product offerings. The aggregate acquisition-date fair value of the consideration transferred for the Ideeli acquisition totaled $42.7 million, which consisted of the following (in thousands):
Cash
 
$
42,339

Liability for purchase consideration
 
359

Total
 
$
42,698

    



12
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the allocation of the aggregate acquisition price of the Ideeli acquisition (in thousands):
Cash and cash equivalents
$
79

Accounts receivable
988

Deferred income taxes
572

Prepaid expenses and other current assets
22,081

Property, equipment and software
8,173

Goodwill
5,379

Intangible assets:(1)
 
Subscriber relationships
5,490

Brand relationships
7,100

Trade name
4,500

Deferred income taxes, non-current
7,753

Total assets acquired
$
62,115

Accounts payable
$
1,640

Accrued supplier payables
4,092

Accrued expenses
9,118

Other current liabilities
482

Deferred income taxes, non-current
332

Other non-current liabilities
3,753

Total liabilities assumed
$
19,417

Total acquisition price
$
42,698

(1)
The acquired intangible assets have estimated useful lives of between 3 and 5 years.
Other Acquisitions
The Company acquired two other businesses during the six months ended June 30, 2014. The primary purpose of these acquisitions was to acquire an experienced workforce, expand and advance product offerings and enhance technology capabilities. The aggregate acquisition-date fair value of the consideration transferred for these acquisitions totaled $7.5 million, which consisted of the following (in thousands):
    
Cash
 
$
3,477

Contingent consideration
 
4,006

Total
 
$
7,483



13
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the allocation of the aggregate purchase price of these other acquisitions (in thousands):
Net working capital (including acquired cash of $0.2 million)
 
$
(52
)
Goodwill
 
6,261

Intangible assets: (1)
 
 
Subscriber relationships
 
560

Merchant relationships
 
579

Developed technology
 
568

Deferred income taxes, non-current
 
(433
)
Total acquisition price
 
$
7,483

(1)
Acquired intangible assets have estimated useful lives of between 3 and 5 years.
Pro forma results of operations presented below do not include the results of these other acquisitions because the effects of these acquisitions, individually and in the aggregate, were not material to the Company's condensed consolidated results of operations.
Pro Forma Financial Information
     The following unaudited pro forma information presents the combined operating results of the Company for the three and six months ended June 30, 2013, as if the Company had acquired Ticket Monster and Ideeli as of January 1, 2013 (in thousands). Pro forma results of operations have not been presented for the six months ended June 30, 2014, because the operating results of Ticket Monster and Ideeli from January 1, 2014 through their respective acquisition dates were not material to the Company's consolidated results of operations for the six months ended June 30, 2014. The underlying pro forma results include the historical financial results of the Company and these two acquired businesses adjusted for depreciation and amortization expense associated with the assets acquired. The unaudited pro forma results do not reflect any operating efficiencies or potential cost savings which may result from the consolidation of the operations of the Company and the acquired entities. Accordingly, these unaudited pro forma results are not necessarily indicative of what the actual results of operations of the combined company would have been if the acquisitions had occurred as of January 1, 2013, nor are they indicative of future results of operations.
    
 
Three Months Ended 
 June 30, 2013
Six Months Ended 
 June 30, 2013
Revenue
$
654,661

$
1,306,761

Net loss
(28,508
)
(56,932
)
     The revenue and net loss of Ticket Monster included in our condensed consolidated statements of operations were $35.4 million and $10.2 million for the three months ended June 30, 2014, respectively, and $64.6 million and $23.8 million for the six months ended June 30, 2014, respectively. The revenue and net loss of Ideeli included in our condensed consolidated statements of operations were $21.6 million and $0.7 million for the three months ended June 30, 2014, respectively, and $37.5 million and $3.2 million for the six months ended June 30, 2014, respectively.
3. GOODWILL AND OTHER INTANGIBLE ASSETS
The following table summarizes the Company's goodwill activity by segment for the six months ended June 30, 2014 (in thousands):


14
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


 
 
North America
 
EMEA
 
Rest of World
 
Consolidated
Balance as of December 31, 2013
 
$
85,457

 
$
115,669

 
$
19,701

 
$
220,827

Goodwill related to acquisitions
 
11,640

 
—

 
220,592

 
232,232

Other adjustments(1)
 
115

 
(881
)
 
8,679

 
7,913

Balance as of June 30, 2014
 
$
97,212

 
$
114,788

 
$
248,972

 
$
460,972

(1)
Includes changes in foreign exchange rates for goodwill and purchase accounting adjustments.
The following tables summarize the Company's other intangible assets (in thousands):
 
 
June 30, 2014
Asset Category
 
Gross Carrying Value
 
Accumulated Amortization
 
Net Carrying Value
Subscriber relationships
 
$
110,648

 
$
42,068

 
$
68,580

Merchant relationships
 
42,551

 
14,253

 
28,298

Trade names
 
31,265

 
9,155

 
22,110

Developed technology
 
24,227

 
21,577

 
2,650

Brand relationships
 
7,690

 
701

 
6,989

Other intangible assets
 
17,162

 
9,607

 
7,555

Total
 
$
233,543

 
$
97,361

 
$
136,182

 
 
December 31, 2013
Asset Category
 
Gross Carrying Value
 
Accumulated Amortization
 
Net Carrying Value
Subscriber relationships
 
$
45,541

 
$
30,866

 
$
14,675

Merchant relationships
 
9,186

 
7,991

 
1,195

Trade names
 
6,739

 
6,739

 
—

Developed technology
 
23,038

 
19,547

 
3,491

Other intangible assets
 
16,776

 
7,694

 
9,082

Total
 
$
101,280

 
$
72,837

 
$
28,443

Amortization of intangible assets is computed using the straight-line method over their estimated useful lives, which range from 1 to 5 years. Amortization expense related to intangible assets was $11.6 million and $5.2 million for the three months ended June 30, 2014 and 2013, respectively, and $24.2 million and $10.8 million for the six months ended June 30, 2014 and 2013, respectively. As of June 30, 2014, the Company's estimated future amortization expense related to intangible assets is as follows (in thousands):
Remaining amounts in 2014
 
$
23,256

2015
 
40,691

2016
 
34,170

2017
 
19,252

2018
 
18,741

Thereafter
 
72

Total
 
$
136,182



15
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


4. INVESTMENTS
The following table summarizes the Company's investments (dollars in thousands):
 
June 30, 2014
 
Percent Ownership of Voting Stock
 
December 31, 2013
 
Percent Ownership of Voting Stock
Cost and equity method investments:
 
 
 
 
 
 
 
 
 
 
 
Cost method investments
$
15,092

 
6
%
to
19
%
 
$
15,788

 
6
%
to
19
%
Equity method investments
1,322

 
21
%
to
50
%
 
1,690

 
21
%
to
50
%
Total cost and equity method investments
16,414

 
 
 
17,478

 
 
Available-for-sale securities:
 
 
 
 
 
 
 
Convertible debt securities
2,630

 
 
 
3,174

 
 
Redeemable preferred shares
4,544

 
19
%
to
23
%
 
—

 
19
%
 
 
Total available-for-sale securities
7,174

 
 
 
3,174

 
 
Total investments
$
23,588

 
 
 
$
20,652

 
 
In February 2014, the Company acquired redeemable preferred shares in an online home services company for $4.6 million. The shares are accounted for as available-for-sale securities.
The following table summarizes the amortized cost, gross unrealized loss and fair value of the Company's available-for-sale securities as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
 
Amortized Cost
 
Gross Unrealized Loss
 
Fair Value
 
Amortized Cost
 
Gross Unrealized Loss
 
Fair Value
Available-for-sale securities:
 
 
 
 
 
 
 
 
 
 
 
Convertible debt securities
$
3,370

 
$
(740
)
 
$
2,630

 
$
3,370

 
$
(196
)
 
$
3,174

Redeemable preferred shares
4,599

 
(55
)
 
4,544

 
—

 
—

 
—

Total available-for-sale securities
$
7,969

 
$
(795
)
 
$
7,174

 
$
3,370

 
$
(196
)
 
$
3,174

The Company's investments in available-for-sale securities have been in an unrealized loss position for less than one year as of June 30, 2014.
Other-Than-Temporary Impairment
An unrealized loss exists when the current fair value of an investment is less than its amortized cost basis. The Company conducts reviews of all of its investments with unrealized losses on a quarterly basis to evaluate whether those impairments are other-than-temporary. This evaluation, which is performed at the individual investment level, consists of several qualitative and quantitative factors regarding the severity and duration of the unrealized loss as well as the Company's intent and ability to hold the investment for a period of time that is sufficient to allow for an anticipated recovery in value. Evidence considered in this evaluation includes the amount of the impairment, the length of time that the investment has been impaired, the factors contributing to the impairment, the financial condition and near-term prospects of the investee, recent operating trends and forecasted performance of the investee, market conditions in the geographic area or industry in which the investee operates, and the Company's strategic plans for holding the investment in relation to the period of time expected for an anticipated recovery in value. Additionally, the Company considers whether it intends to sell the investment or whether it is more likely than not that it will be required to sell the investment before recovery of its amortized cost basis. Investments with unrealized losses that are determined to be other-than-temporary are written down to fair value with a charge to earnings. Unrealized losses that are determined to be temporary in nature are not recorded for cost method investments and equity method investments, while such losses are recorded, net of tax, in accumulated other comprehensive income for available-for-sale securities. The Company's investment in Life Media Limited ("F-


16
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


tuan"), an entity with operations based in China, was written down to zero through an other-than-temporary impairment charge as of December 31, 2013, and continues to have an estimated fair value of zero as of June 30, 2014.
5. SUPPLEMENTAL CONSOLIDATED BALANCE SHEETS AND STATEMENTS OF OPERATIONS INFORMATION
The following table summarizes the Company's other expense, net for the three and six months ended June 30, 2014 and 2013 (in thousands):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Interest income
$
418

 
$
441

 
$
796

 
$
870

Interest expense
(134
)
 
(101
)
 
(221
)
 
(158
)
Impairment of investments
(191
)
 
—

 
(588
)
 
—

Loss on equity method investments
(420
)
 
(14
)
 
(368
)
 
(33
)
Foreign exchange and other
(696
)
 
(5,905
)
 
(1,482
)
 
(11,341
)
Other expense, net
$
(1,023
)
 
$
(5,579
)
 
$
(1,863
)
 
$
(10,662
)
The following table summarizes the Company's prepaid expenses and other current assets as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Current portion of unamortized tax effects on intercompany transactions
$
26,819

 
$
28,502

Finished goods inventories
55,452

 
57,097

Prepaid expenses
48,094

 
29,404

Restricted cash
21,702

 
14,579

VAT and income taxes receivable
60,757

 
52,960

Prepaid marketing
14,444

 
17,301

Other
9,824

 
10,572

Total prepaid expenses and other current assets
$
237,092

 
$
210,415

    


17
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the Company's accrued merchant and supplier payables as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Accrued merchant payables
$
623,204

 
$
518,233

Accrued supplier payables(1)
180,170

 
234,710

Total accrued merchant and supplier payables
$
803,374

 
$
752,943

(1)
Amounts include payables to suppliers of inventories and providers of shipping and fulfillment services.
The following table summarizes the Company's accrued expenses as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Marketing
$
12,609

 
$
12,001

Refunds reserve
32,279

 
38,597

Payroll and benefits
67,526

 
64,966

Customer credits
48,666

 
44,728

Professional fees
22,204

 
24,670

Other
51,071

 
42,024

Total accrued expenses
$
234,355

 
$
226,986

The following table summarizes the Company's other current liabilities as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Income taxes payable
$
20,082

 
$
21,994

VAT payable
33,999

 
37,627

Sales taxes payable
5,535

 
10,412

Deferred revenue
49,534

 
47,259

Other
18,284

 
15,426

Total other current liabilities
$
127,434

 
$
132,718

The following table summarizes the Company's other non-current liabilities as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Long-term tax liabilities
$
110,300

 
$
109,286

Deferred rent
12,532

 
9,148

Other
25,720

 
13,263

Total other non-current liabilities
$
148,552

 
$
131,697

    


18
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the components of accumulated other comprehensive income as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
Foreign currency translation adjustments
$
33,208

 
$
24,952

Unrealized loss on available-for-sale securities, net of tax
(496
)
 
(122
)
Accumulated other comprehensive income
$
32,712

 
$
24,830

6. COMMITMENTS AND CONTINGENCIES
Except for commitments under operating leases that were assumed in connection with the Ticket Monster and Ideeli acquisitions, as described in Note 2, "Business Combinations," the Company's commitments as of June 30, 2014 did not materially change from the amounts set forth in its 2013 Annual Report on Form 10-K. As of June 30, 2014, estimated future payments under operating leases assumed in connection with the Ticket Monster and Ideeli acquisitions for each of the next five years and thereafter are as follows (in thousands):
 
 
Operating leases
2014
 
$
2,735

2015
 
5,243

2016
 
5,034

2017
 
4,418

2018
 
2,631

Thereafter
 
11,110

Total minimum lease payments
 
$
31,171

Legal Matters
From time to time, the Company is party to various legal proceedings incident to the operation of its business. For example, the Company is currently involved in proceedings by stockholders, former employees, intellectual property infringement suits and suits by customers (individually or as class actions) alleging, among other things, violation of the Credit Card Accountability, Responsibility and Disclosure Act and state laws governing gift cards, stored value cards and coupons. Additionally, the Company is subject to general customer complaints seeking monetary damages, particularly in its Rest of World segment. The following is a brief description of the more significant legal proceedings.
On February 8, 2012, the Company issued a press release announcing its expected financial results for the fourth quarter of 2011.  After finalizing its year-end financial statements, the Company announced on March 30, 2012 revised financial results, as well as a material weakness in its internal control over financial reporting related to deficiencies in its financial statement close process.  The revisions resulted in a reduction to fourth quarter 2011 revenue of $14.3 million. The revisions also resulted in an increase to fourth quarter operating expenses that reduced operating income by $30.0 million, net income by $22.6 million and earnings per share by $0.04.  Following this announcement, the Company and several of its current and former directors and officers were named as parties to the following outstanding securities and stockholder derivative lawsuits all arising out of the same alleged events and facts.                 
The Company is currently a defendant in a proceeding pursuant to which, on October 29, 2012, a consolidated amended class action complaint was filed against the Company, certain of its directors and officers, and the underwriters that participated in the initial public offering of the Company's Class A common stock.  Originally filed in April 2012, the case is currently pending before the United States District Court for the Northern District of Illinois: In re Groupon, Inc. Securities Litigation. The complaint asserts claims pursuant to Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934.  Allegations in the consolidated amended complaint include that the Company and its officers and directors made untrue statements or omissions of material fact by issuing inaccurate financial statements for the fiscal quarter and the fiscal year


19
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


ending December 31, 2011 and by failing to disclose information about the Company's financial controls in the registration statement and prospectus for the Company's initial public offering of Class A common stock and in the Company's subsequently-issued earnings release dated February 8, 2012.  The putative class action lawsuit seeks an unspecified amount of monetary damages, reimbursement for fees and costs incurred in connection with the actions, including attorneys' fees, and various other forms of monetary and non-monetary relief.  The plaintiff filed an amended motion for class certification on December 4, 2013.  On March 18, 2014, the court entered a scheduling order setting deadlines for fact discovery by March 13, 2015, expert discovery by August 31, 2015, and dispositive motions by October 30, 2015. On May 2, 2014, defendants filed a motion requesting exclusion of the opinions of plaintiff’s proposed market efficiency expert in resolving the motion for class certification. The hearing on the motion to exclude plaintiff’s expert is scheduled for September 11, 2014.

In addition, federal and state purported stockholder derivative lawsuits have been filed against certain of the Company's current and former directors and officers.  The federal purported stockholder derivative lawsuit was originally filed in April 2012 and a consolidated stockholder derivative complaint, filed on July 30, 2012, is currently pending in the United States District Court for the Northern District of Illinois: In re Groupon Derivative Litigation.  Plaintiffs assert claims for breach of fiduciary duty and abuse of control.  The state derivative cases are currently pending before the Chancery Division of the Circuit Court of Cook County, Illinois: Orrego v. Lefkofsky, et al., was filed on April 5, 2012; and Kim v. Lefkofsky, et al., was filed on May 25, 2012. The state derivative complaints generally allege that the defendants breached their fiduciary duties by purportedly mismanaging the Company's business by, among other things, failing to utilize proper accounting controls and, in the case of one of the state derivative lawsuits, by engaging in alleged insider trading of the Company's Class A common stock and misappropriating information.  In addition, one state derivative case asserts a claim for unjust enrichment.  The derivative lawsuits purport to seek to recoup for the Company an unspecified amount of monetary damages allegedly sustained by the Company, restitution from defendants, reimbursement for fees and costs incurred in connection with the actions, including attorneys' fees, and various other forms of monetary and non-monetary relief.  On June 20, 2012, the Company and the individual defendants filed a motion requesting that the court stay the consolidated federal derivative action pending resolution of the consolidated federal class actions.  On July 31, 2012, the court granted defendants' motion in part, and stayed the consolidated federal derivative action pending a separate resolution of upcoming motions to dismiss in the consolidated federal class actions.  On June 15, 2012, the state plaintiffs filed a motion to consolidate the state derivative actions, which was granted on July 2, 2012, and on July 5, 2012, the plaintiffs filed a motion for appointment of co-lead plaintiffs and co-lead counsel, which was granted on July 27, 2012.  No consolidated complaint has been filed in the state derivative action. On September 14, 2012, the court granted a motion filed by the parties requesting that the court stay the state derivative actions pending the federal court's resolution of anticipated motions to dismiss in the consolidated federal class action.  On April 18, 2013, the state court appointed a lead plaintiff and approved its selection of lead counsel and local counsel for the purported class. Following entry of the court's order denying defendants' motions to dismiss in In re Groupon Securities Litigation, the courts in both the state and federal derivative actions granted motions requesting that the respective courts extend the litigation stays currently in place pending further developments in In re Groupon, Inc. Securities Litigation.  
The Company intends to defend all of the securities and stockholder derivative lawsuits vigorously.
In 2010, the Company was named as a defendant in a series of class actions that came to be consolidated into a single case in the U.S. District Court for the Southern District of California.  The consolidated case is referred to as In re Groupon Marketing and Sales Practices Litigation. The Company denies liability, but the parties agreed to settle the litigation for $8.5 million before any determination had been made on the merits or with respect to class certification.  Because the case had been filed as a class action, the parties were required to provide proper notice and obtain court approval for the settlement. During that process, certain individuals asserted various objections to the settlement.  The parties to the case opposed the objections and on December 14, 2012, the district court approved the settlement over the various objections.
Subsequent to the entry of the order approving settlement, certain of the objectors filed a notice of appeal, contesting the settlement and appealing the matter to the Ninth Circuit of the U.S. Court of Appeals, where the case remains pending.  The Company believes that the settlement is valid and intends to oppose the appeal.  Plaintiffs also maintain that the settlement is valid and will be opposing the appeal.  The settlement, however, is not effective during the pendency of the appeal.  The Company does not know when the appeal will be resolved.  Depending on the outcome of the appeal, it is possible that the settlement will be rejected, or that there will be further proceedings in the appellate court or district court, or that the settlement will be enforced at that time without further objections or proceedings.
In addition, third parties have from time to time claimed, and others may claim in the future, that the Company has infringed their intellectual property rights. The Company is subject to intellectual property disputes, and expects that it will


20
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


increasingly be subject to intellectual property infringement claims as its services expand in scope and complexity. The Company has in the past litigated such claims, and several of these claims are currently pending. The Company may also become more vulnerable to third party claims as laws such as the Digital Millennium Copyright Act are interpreted by the courts, and as the Company becomes subject to laws in jurisdictions where the underlying laws with respect to the potential liability of online intermediaries are either unclear or less favorable. The Company believes that additional lawsuits alleging that it has violated patent, copyright or trademark laws will be filed against it. Intellectual property claims, whether meritorious or not, are time consuming and costly to resolve, could require expensive changes in the Company's methods of doing business, or could require it to enter into costly royalty or licensing agreements.
The Company is also subject to, or in the future may become subject to, a variety of regulatory inquiries across the jurisdictions where the Company conducts its business, including, for example, consumer protection, marketing practices, tax and privacy rules and regulations. Any regulatory actions against the Company, whether meritorious or not, could be time consuming, result in costly litigation, damage awards, injunctive relief or increased costs of doing business through adverse judgment or settlement, require the Company to change its business practices in expensive ways, require significant amounts of management time, result in the diversion of significant operational resources or otherwise harm the Company's business.
The Company establishes an accrued liability for loss contingencies related to legal and regulatory matters when the loss is both probable and estimable. This accrual represents management's best estimate of probable loss and in such cases, there may be an exposure to loss in excess of the amounts accrued. For each matter described above, there is inherent and significant uncertainties based on, among other factors, the stage of the proceedings, developments in the applicable facts of law, or the lack of a specific damage claim. In addition, for some matters for which a loss is probable or reasonably possible, an estimate of the amount of loss or range of loss is not possible, and we may be unable to estimate the possible loss or range of losses that could potentially result from the application of non-monetary remedies. Currently, the Company is unable to reasonably estimate the amount of reasonably possible losses in excess of the amounts accrued for the securities and stockholder derivative lawsuits. For the remaining matters described above, the Company believes that the amount of reasonably possible losses in excess of the amounts accrued would not have a material adverse effect on its business, consolidated financial position, results of operations or cash flows. The Company's accrued liabilities for loss contingencies related to legal and regulatory matters may change in the future as a result of new developments, including, but not limited to, the occurrence of new legal matters, changes in the law or regulatory environment, adverse of favorable rulings, newly discovered facts relevant to the matter, or changes in the strategy for the matter. Regardless of the outcome, litigation can have an adverse impact on the Company because of defense and settlement costs, diversion of management resources and other factors.
Indemnifications
In the normal course of business to facilitate transactions related to its operations, the Company indemnifies certain parties, including employees, lessors, service providers and merchants, with respect to various matters. The Company has agreed to hold certain parties harmless against losses arising from a breach of representations or covenants, or other claims made against those parties. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. The Company is also subject to increased exposure to various claims as a result of its acquisitions, particularly in cases where the Company is entering into new businesses in connection with such acquisitions. The Company may also become more vulnerable to claims as it expands the range and scope of its services and is subject to laws in jurisdictions where the underlying laws with respect to potential liability are either unclear or less favorable. In addition, the Company has entered into indemnification agreements with its officers and directors, and the Company's bylaws contain similar indemnification obligations to agents.
It is not possible to determine the maximum potential amount under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement. Historically, any payments that the Company has made under these agreements have not had a material impact on the operating results, financial position or cash flows of the Company.





21
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


7. STOCKHOLDERS' EQUITY AND STOCK-BASED COMPENSATION
Common Stock
The Company's Certification of Incorporations authorizes three classes of common stock: Class A common stock, Class B common stock and common stock. No shares of common stock will be issued or outstanding until October 31, 2016, at which time all outstanding shares of Class A common stock and Class B common stock will automatically convert into shares of common stock. In addition, the Company's Certification of Incorporation authorizes shares of undesignated preferred stock, the rights, preferences and privileges of which may be designated from time to time by the Board.
Share Repurchase Programs
The Board has authorized the Company to purchase up to $300 million of its outstanding Class A common stock through August 2015. The timing and amount of any share repurchases is determined based on market conditions, share price and other factors, and the program may be discontinued or suspended at any time. During the three and six months ended June 30, 2014, the Company purchased 17,228,792 shares and 20,304,492 shares, respectively, of Class A common stock for an aggregate purchase price of $106.0 million and $135.5 million (including fees and commissions), respectively, under the share repurchase program. As of June 30, 2014, up to $118.0 million of Class A common stock remains available for repurchase under the share repurchase program.
Groupon, Inc. Stock Plans
The Groupon, Inc. Stock Plans (the "Plans") are administered by the Compensation Committee of the Board, which determines the number of awards to be issued, the corresponding vesting schedule and the exercise price for options. As of June 30, 2014, 46,569,481 shares were available for future issuance under the Plans.
The Company recognized stock-based compensation expense of $31.7 million and $32.4 million for the three months ended June 30, 2014 and 2013, respectively, and $55.4 million and $62.4 million for the six months ended June 30, 2014 and 2013, respectively, related to stock awards issued under the Plans, acquisition-related awards and subsidiary awards. The Company also capitalized $2.8 million and $2.1 million of stock-based compensation for the three months ended June 30, 2014 and 2013, respectively, and $5.1 million and $4.7 million of stock-based compensation for the six months ended June 30, 2014 and 2013, respectively, in connection with internally-developed software.
As of June 30, 2014, a total of $240.5 million of unrecognized compensation costs related to unvested stock awards and unvested acquisition-related awards are expected to be recognized over a remaining weighted average period of 1.4 years.
Employee Stock Purchase Plan
The Company is authorized to grant up to 10,000,000 shares of common stock under its employee stock purchase plan ("ESPP"). For the six months ended June 30, 2014 and 2013, 333,824 and 271,402 shares of common stock were issued under the ESPP, respectively.
Stock Options
The table below summarizes the stock option activity for the six months ended June 30, 2014:


22
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


 
 
Options
 
Weighted- Average Exercise Price
 
Weighted- Average Remaining Contractual Term (in years)
 
Aggregate Intrinsic Value
(in thousands) (1)
Outstanding at December 31, 2013
 
3,355,054

 
$
1.11

 
6.04
 
$
35,742

    Exercised
 
(569,374
)
 
$
1.10

 
 
 
 
    Forfeited
 
(11,710
)
 
$
2.27

 
 
 
 
Outstanding at June 30, 2014
 
2,773,970

 
$
1.10

 
5.53
 
$
15,320

 
 
 
 
 
 
 
 
 
Exercisable at June 30, 2014
 
2,686,103

 
$
1.05

 
5.51
 
$
14,971

(1)
The aggregate intrinsic value of options outstanding and exercisable represents the total pretax intrinsic value (the difference between the fair value of the Company's stock on the last day of each period and the exercise price, multiplied by the number of options where the fair value exceeds the exercise price) that would have been received by the option holders had all option holders exercised their options as of June 30, 2014 and December 31, 2013, respectively.
Restricted Stock Units
The table below summarizes activity regarding unvested restricted stock units under the Plans for the six months ended June 30, 2014:
 
 
Restricted Stock Units
 
Weighted- Average Grant Date Fair Value (per share)
Unvested at December 31, 2013
 
41,648,055

 
$
8.06

    Granted
 
18,257,977

 
$
8.17

    Vested
 
(8,107,006
)
 
$
7.71

    Forfeited
 
(7,556,342
)
 
$
8.21

Unvested at June 30, 2014
 
44,242,684

 
$
8.17

Performance Share Units
The Company completed its acquisition of Ticket Monster on January 2, 2014, as described in Note 2 "Business Combinations," and approximately 2,000,000 performance share units were granted to certain key employees of that subsidiary. The vesting of these awards into shares of the Company's Class A common stock is contingent upon the subsidiary's achievement of specified financial targets over three annual performance periods for the years ending December 31, 2014, 2015 and 2016 and is subject to continued employment at the end of each performance period. If the financial targets for a performance period are not achieved, no shares will be issued for that performance period. The grant date fair value of the performance share units was $8.07 per share.
Restricted Stock Awards
The Company has granted restricted stock awards in connection with prior period business combinations. Compensation expense on these awards is recognized on a straight-line basis over the requisite service periods.
The table below summarizes activity regarding unvested restricted stock for the six months ended June 30, 2014:
 
 
Restricted Stock
 
Weighted- Average Grant Date Fair Value (per share)
Unvested at December 31, 2013
 
97,677

 
$
14.00

    Vested
 
(47,299
)
 
$
14.37

    Forfeited
 
(7,693
)
 
$
17.07

Unvested at June 30, 2014
 
42,685

 
$
15.84



23
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


8. INCOME TAXES
The Company's tax provision for interim periods is determined using an estimate of its annual effective tax rate, adjusted for discrete items.
For the three months ended June 30, 2014, the Company recorded income tax expense of $12.0 million on pre-tax losses of $8.9 million, for an effective tax rate of (135.7)%. For the three months ended June 30, 2013, the Company recorded income tax expense of $27.4 million on pre-tax income of $21.8 million, for an effective tax rate of 125.4%.
For the six months ended June 30, 2014, the Company recorded income tax expense of $26.6 million on pre-tax losses of $29.7 million, for an effective tax rate of (89.7)%. For the six months ended June 30, 2013, the Company recorded income tax expense of $46.7 million on pre-tax income of $37.9 million, for an effective tax rate of 123.2%.
The Company's U.S. statutory rate is 35%. The most significant factors impacting the effective tax rate for the three and six months ended June 30, 2014 and 2013 were losses in jurisdictions that the Company is not able to benefit due to uncertainty as to the realization of those losses, amortization of the tax effects of intercompany sales of intellectual property and nondeductible stock-based compensation expense.
The Company is subject to income tax audits in multiple jurisdictions. There are many factors, including factors outside of the Company's control, which influence the progress and completion of these audits. As of June 30, 2014, the Company believes that it is reasonably possible that a change of up to $48.0 million in unrecognized tax benefits may occur within the next 12 months upon closing of income tax audits or the expiration of applicable statutes of limitations.
As of June 30, 2014, the unamortized tax effects of intercompany transactions of $26.8 million and $6.8 million are included within "Prepaid expenses and other current assets" and "Other non-current assets," respectively, on the condensed consolidated balance sheet. As of December 31, 2013, unamortized tax effects of intercompany transactions of $28.5 million and $20.4 million are included within "Prepaid expenses and other current assets" and "Other non-current assets," respectively, on the condensed consolidated balance sheet. As of June 30, 2014, the estimated future amortization of the tax effects of intercompany transactions to income tax expense is $13.4 million for the remainder of 2014 and $20.2 million for 2015. These amounts exclude the benefits, if any, for tax deductions in other jurisdictions that the Company may be entitled to as a result of the related intercompany transactions.
9. FAIR VALUE MEASUREMENTS
Fair value is defined under U.S. GAAP as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. As such, fair value is a market-based measurement that is determined based on assumptions that market participants would use in pricing an asset or a liability.
To increase the comparability of fair value measures, the following hierarchy prioritizes the inputs in valuation methodologies used to measure fair value:
Level 1-Measurements that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2-Measurements that include other inputs that are directly or indirectly observable in the marketplace.
Level 3-Measurements derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. These fair value measurements require significant judgment.
In determining fair value, the Company uses various valuation approaches within the fair value measurement framework. The valuation methodologies used for the Company's assets and liabilities measured at fair value and their classification in the valuation hierarchy are summarized below:
Cash equivalents - Cash equivalents primarily consist of AAA-rated money market funds with overnight liquidity and no stated maturities. The Company classified cash equivalents as Level 1 due to the short-term nature of these instruments


24
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


and measured the fair value based on quoted prices in active markets for identical assets.
Available-for-sale securities - The Company has investments in redeemable preferred shares and convertible debt securities issued by nonpublic entities. The Company measures the fair value of available-for-sale securities using the discounted cash flow method, which is an income approach, and the probability-weighted expected return method, which is an income approach that incorporates probability-weighted outcomes.
The Company has classified its investments in available-for-sale securities as Level 3 due to the lack of observable market data over fair value inputs such as cash flow projections, discount rates and probability-weightings. Increases in projected cash flows and decreases in discount rates contribute to increases in the estimated fair values of available-for-sale securities, whereas decreases in projected cash flows and increases in discount rates contribute to decreases in their fair values. Additionally, increases in the probabilities of favorable investment outcomes, such as a sale or initial public offering of the investee, and decreases in the probabilities of unfavorable outcomes, such as a default by the investee, contribute to increases in the estimated fair value of available-for-sale securities, whereas decreases in the probabilities of favorable investment outcomes and increases in the probabilities of unfavorable investment outcomes contribute to decreases in their fair values.
Contingent consideration - The Company has contingent obligations to transfer cash payments to the former owners in conjunction with certain acquisitions if specified financial results are met over future reporting periods. Liabilities for contingent consideration (i.e., earn-outs) are measured at fair value each reporting period, with the acquisition-date fair value included as part of the consideration transferred and subsequent changes in fair value are recorded in earnings within "Acquisition-related expense (benefit), net" on the condensed consolidated statements of operations.
The Company uses an income approach to value contingent consideration liabilities, which is determined based on the present value of probability-weighted future cash flows. The Company has generally classified the contingent consideration liabilities as Level 3 due to the lack of relevant observable market data over fair value inputs such as probability-weighting of payment outcomes. Increases in the assessed likelihood of a higher payout under a contingent consideration arrangement contribute to increases in the fair value of the related liability. Conversely, decreases in the assessed likelihood of a higher payout under a contingent consideration arrangement contribute to decreases in the fair value of the related liability. Changes in assumptions could have an impact on the payout of contingent consideration arrangements with a maximum cash payout of $7.3 million as of June 30, 2014.


25
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following tables summarize the Company's assets and liabilities that are measured at fair value on a recurring basis (in thousands):
 
 
 
Fair Value Measurement at Reporting Date Using
Description
June 30, 2014
 
Quoted Prices in Active Markets for
Identical Assets
(Level 1)
 
Significant Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Assets:
 
 
 
 
 
 
 
Cash equivalents
$
500,558

 
$
500,558

 
$
—

 
$
—

Available-for-sale securities:
 
 
 
 
 
 
 
Convertible debt securities
$
2,630

 
$
—

 
$
—

 
$
2,630

Redeemable preferred shares
$
4,544

 
$
—

 
$
—

 
$
4,544

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 Contingent consideration
$
4,006

 
$
—

 
$
—

 
$
4,006

 
 
 
Fair Value Measurement at Reporting Date Using
Description
December 31, 2013
 
Quoted Prices in Active Markets for
Identical Assets
(Level 1)
 
Significant Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Assets:
 
 
 
 
 
 
 
Cash equivalents
$
585,514

 
$
585,514

 
$
—

 
$
—

Available-for-sale securities:
 
 
 
 
 
 
 
Convertible debt securities
$
3,174

 
$
—

 
$
—

 
$
3,174

Redeemable preferred shares
$
—

 
$
—

 
$
—

 
$
—

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 Contingent consideration
$
606

 
$
—

 
$
—

 
$
606

    


26
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table provides a roll-forward of the fair value of recurring Level 3 fair value measurements for the three and six months ended June 30, 2014 and 2013 (in thousands):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Assets
 
 
 
 
 
 
 
Available-for-sale securities
 
 
 
 
 
 
 
Convertible debt securities:
 
 
 
 
 
 
 
Beginning Balance
$
2,693

 
$
3,341

 
$
3,174

 
$
3,087

Total (losses) gains included in other comprehensive (loss) income
(63
)
 
(108
)
 
(544
)
 
146

Ending Balance
$
2,630

 
$
3,233

 
$
2,630

 
$
3,233

Unrealized (losses) gains still held(1)
$
(63
)
 
$
(108
)
 
$
(544
)
 
$
146

Redeemable preferred shares(2):
 
 
 
 
 
 
 
Beginning Balance
$
4,599

 
$
42,539

 
$
—

 
$
42,539

Purchase of redeemable preferred shares
—

 
—

 
4,599

 
—

Total (losses) gains included in other comprehensive (loss) income
(55
)
 
—

 
(55
)
 
—

Ending Balance
$
4,544

 
$
42,539

 
$
4,544

 
$
42,539

Unrealized (losses) gains still held(1)
$
(55
)
 
$
—

 
$
(55
)
 
$
—

 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
Contingent Consideration:
 
 
 
 
 
 
 
Beginning Balance
$
—

 
$
7,699

 
$
606

 
$
7,601

Issuance of contingent consideration in connection with acquisitions
4,006

 
—

 
4,006

 
30

Settlements of contingent consideration liabilities
—

 
(30
)
 
(424
)
 
(30
)
Reclass to non-fair value liabilities when no longer contingent
—

 
—

 
(143
)
 
—

Total (gains) losses included in earnings(3)
—

 
(815
)
 
(39
)
 
(747
)
Ending Balance
$
4,006

 
$
6,854

 
$
4,006

 
$
6,854

Unrealized (gains) losses still held(1)
$
—

 
$
(815
)
 
$
—

 
$
(747
)
(1)
Represents the unrealized losses or gains recorded in earnings or other comprehensive (loss) income during the period for assets and liabilities classified as Level 3 that are still held (or outstanding) at the end of the period.
(2)
For the three and six months ending June 30, 2013, the Company's investments in Life Media Limited (F-tuan) preferred shares were previously classified as cost method investments and have been reclassified to the available-for-sale category in this table. The balance as of June 30, 2013 represents the Company’s investments in F-tuan preferred shares, which were written down to zero through an other-than-temporary impairment charge as of December 31, 2013 and continue to have an estimated fair value of zero as of June 30, 2014. The $4.5 million balance as of June 30, 2014 represents the Company's investment in the preferred shares of an online home services company during the current period, as described in Note 4 "Investments."
(3)
Changes in the fair value of contingent consideration liabilities are classified within "Acquisition-related expense (benefit), net" on the condensed consolidated statements of operations.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Certain assets and liabilities are measured at fair value on a nonrecurring basis, including assets that are written down to fair value as a result of an impairment. The Company did not record any significant nonrecurring fair value measurements after initial recognition during the three and six months ended June 30, 2014 and 2013.


27
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


Estimated Fair Value of Financial Assets and Liabilities Not Measured at Fair Value
The following table presents the carrying amounts and fair values of financial instruments that are not carried at fair value in the condensed consolidated financial statements (in thousands):
 
 
June 30, 2014
 
December 31, 2013
 
 
Carrying Amount
 
Fair Value
 
Carrying Amount
 
Fair Value
Cost method investments
 
$
15,092

 
$
17,593

 
$
15,788

 
$
15,573

The fair values of the Company's cost method investments were determined using the market approach or the income approach, depending on the availability of fair value inputs such as financial projections for the investees and market multiples for comparable companies. The Company has classified the fair value measurements of its cost method investments as Level 3 measurements within the fair value hierarchy because they involve significant unobservable inputs such as cash flow projections and discount rates.
The Company's other financial instruments not carried at fair value consist primarily of short term certificates of deposit, accounts receivable, restricted cash, accounts payable, accrued merchant and supplier payables and accrued expenses. The carrying values of these assets and liabilities approximate their respective fair values as of June 30, 2014 and December 31, 2013 due to their short term nature.
10. LOSS PER SHARE OF CLASS A AND CLASS B COMMON STOCK
The Company computes loss per share of Class A and Class B common stock using the two-class method. Basic loss per share is computed using the weighted-average number of common shares outstanding during the period. Diluted loss per share is computed using the weighted-average number of common shares and the effect of potentially dilutive equity awards outstanding during the period. Potentially dilutive securities consist of stock options, restricted stock units, unvested restricted stock awards, performance share units and ESPP shares. The dilutive effect of these equity awards are reflected in diluted loss per share by application of the treasury stock method. The computation of the diluted loss per share of Class A common stock assumes the conversion of Class B common stock, if dilutive, while the diluted loss per share of Class B common stock does not assume the conversion of those shares.
The rights, including the liquidation and dividend rights, of the holders of Class A and Class B common stock are identical, except with respect to voting. Under the two-class method, the undistributed earnings for each period are allocated based on the contractual participation rights of the Class A and Class B common shares as if the earnings for the period had been distributed. As the liquidation and dividend rights are identical, the undistributed earnings are allocated on a proportionate basis. Further, as the Company assumes the conversion of Class B common stock, if dilutive, in the computation of the diluted loss per share of Class A common stock, the undistributed earnings are equal to net income for that computation.


28
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table sets forth the computation of basic and diluted loss per share of Class A and Class B common stock for the three and six months ended June 30, 2014 and 2013 (in thousands, except share amounts and per share amounts):
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
 
 
Class A
 
Class B
 
Class A
 
Class B
 
Class A
 
Class B
 
Class A
 
Class B
Basic loss per share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Numerator
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Allocation of net loss
 
$
(20,847
)
 
$
(75
)
 
$
(5,530
)
 
$
(21
)
 
$
(56,085
)
 
$
(200
)
 
$
(8,761
)
 
$
(32
)
Less: Allocation of net income attributable to noncontrolling interests
 
1,946

 
7

 
2,016

 
7

 
4,369

 
16

 
2,763

 
10

Allocation of net loss attributable to common stockholders
 
$
(22,793
)
 
$
(82
)
 
$
(7,546
)
 
$
(28
)
 
$
(60,454
)
 
$
(216
)
 
$
(11,524
)
 
$
(42
)
Denominator
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding
 
673,138,416

 
2,399,976

 
659,961,460

 
2,399,976

 
676,558,565

 
2,399,976

 
658,180,951

 
2,399,976

Basic loss per share
 
$
(0.03
)
 
$
(0.03
)
 
$
(0.01
)
 
$
(0.01
)
 
$
(0.09
)
 
$
(0.09
)
 
$
(0.02
)
 
$
(0.02
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Diluted loss per share:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Numerator
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Allocation of net loss attributable to common stockholders
 
$
(22,793
)
 
$
(82
)
 
$
(7,546
)
 
$
(28
)
 
$
(60,454
)
 
$
(216
)
 
$
(11,524
)
 
$
(42
)
Reallocation of net income attributable to common stockholders as a result of conversion of Class B(1)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Allocation of net loss attributable to common stockholders
 
$
(22,793
)
 
$
(82
)
 
$
(7,546
)
 
$
(28
)
 
$
(60,454
)
 
$
(216
)
 
$
(11,524
)
 
$
(42
)
Denominator
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding used in basic computation
 
673,138,416

 
2,399,976

 
659,961,460

 
2,399,976

 
676,558,565

 
2,399,976

 
658,180,951

 
2,399,976

Conversion of Class B(1)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Employee stock options(1)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Restricted shares and RSUs(1)
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Weighted-average diluted shares outstanding(1)
 
673,138,416

 
2,399,976

 
659,961,460

 
2,399,976

 
676,558,565

 
2,399,976

 
658,180,951

 
2,399,976

Diluted loss per share
 
$
(0.03
)
 
$
(0.03
)
 
$
(0.01
)
 
$
(0.01
)
 
$
(0.09
)
 
$
(0.09
)
 
$
(0.02
)
 
$
(0.02
)
(1)
Conversion of Class B shares into Class A shares and outstanding equity awards have not been reflected in the diluted loss per share calculation for the three and six months ended June 30, 2014 and 2013 because the effect would be antidilutive.


29
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following outstanding equity awards are not included in the diluted loss per share calculation above because they would have had an antidilutive effect:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
Stock options
2,871,939

 
6,268,708

 
3,052,703

 
6,851,765

Restricted stock units
43,983,986

 
42,601,423

 
42,075,003

 
37,075,549

Restricted stock
62,158

 
302,715

 
69,583

 
427,506

ESPP shares
697,244

 
550,165

 
560,058

 
559,170

Total
47,615,327

 
49,723,011

 
45,757,347

 
44,913,990

In addition to the antidilutive awards as set forth in the table above, the Company also granted approximately 2,000,000 performance share units in connection with its acquisition of Ticket Monster during the six months ended June 30, 2014. Contingently issuable shares are excluded from the computation of diluted EPS if, based on current period results, the shares would not be issuable if the end of the reporting period were the end of the contingency period. These outstanding performance share units have been excluded from the table above for the six months ended June 30, 2014 as the performance conditions would not have been satisfied as of the end of the period.
11. SEGMENT INFORMATION
The company organizes its operations into three principal segments: North America, EMEA, which is comprised of Europe, Middle East and Africa, and the remainder of the Company's international operations ("Rest of World"). Segment operating results reflect earnings before stock-based compensation, acquisition-related expense (benefit), net, other income (expense), net and provision for income taxes. Segment information reported in the tables below represents the operating segments of the Company organized in a manner consistent with which separate information is available and for which segment results are evaluated regularly by the Company's chief operating decision-maker in assessing performance and allocating resources.


30
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


Revenue and profit or loss information by reportable segment reconciled to consolidated net loss for the three and six months ended June 30, 2014 and 2013 were as follows (in thousands):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
North America
 
 
 
 
 
 
 
Revenue(1)
$
423,931

 
$
377,182

 
$
854,993

 
$
716,736

Segment cost of revenue and operating expenses(2)
409,386

 
328,674

 
829,063

 
626,862

   Segment operating income(2)
14,545

 
48,508

 
25,930

 
89,874

EMEA
 
 
 
 
 
 
 
Revenue(3)
227,690

 
159,962

 
458,583

 
343,760

Segment cost of revenue and operating expenses(2)
199,981

 
135,254

 
411,951

 
284,876

   Segment operating income(2)
27,709

 
24,708

 
46,632

 
58,884

Rest of World
 
 
 
 
 
 
 
Revenue
99,955

 
71,603

 
195,637

 
149,653

Segment cost of revenue and operating expenses(2)
117,811

 
85,776

 
238,240

 
188,215

   Segment operating loss(2)
(17,856
)
 
(14,173
)
 
(42,603
)
 
(38,562
)
Consolidated
 
 
 
 
 
 
 
Revenue
751,576

 
608,747

 
1,509,213

 
1,210,149

Segment cost of revenue and operating expenses(2)
727,178

 
549,704

 
1,479,254

 
1,099,953

Segment operating income(2)
24,398

 
59,043

 
29,959

 
110,196

Stock-based compensation
31,655

 
32,446

 
55,384

 
62,353

Acquisition-related expense (benefit), net
597

 
(815
)
 
2,382

 
(747
)
(Loss) income from operations
(7,854
)
 
27,412

 
(27,807
)
 
48,590

Other expense, net
(1,023
)
 
(5,579
)
 
(1,863
)
 
(10,662
)
(Loss) income before provision for income taxes
(8,877
)
 
21,833

 
(29,670
)
 
37,928

Provision for income taxes
12,045

 
27,384

 
26,615

 
46,721

Net loss
$
(20,922
)
 
$
(5,551
)
 
$
(56,285
)
 
$
(8,793
)
(1)
North America includes revenue from the United States of $413.2 million and $363.8 million for the three months ended June 30, 2014 and 2013, respectively, and $833.1 million and $690.6 million for the six months ended June 30, 2014 and 2013, respectively.
(2)
Segment cost of revenue and operating expenses and segment operating income (loss) exclude stock-based compensation and acquisition-related expense (benefit), net. This presentation corresponds to the measure of segment profit or loss that the Company's chief operating decision-maker uses in assessing segment performance and making resource allocation decisions. The following table summarizes the Company's stock-based compensation expense and acquisition-related expense (benefit), net by reportable segment for the three and six months ended June 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
 
 
Stock-based compensation
 
Acquisition-related
 
Stock-based compensation
 
Acquisition-related
 
Stock-based compensation
 
Acquisition-related
 
Stock-based compensation
 
Acquisition-related
North America
 
$
26,206

 
$
597

 
$
25,610

 
$
(523
)
 
$
45,686

 
$
2,238

 
$
48,412

 
$
(380
)
EMEA
 
2,227

 
—

 
3,331

 
(292
)
 
4,500

 
144

 
6,466

 
(367
)
Rest of World
 
3,222

 
—

 
3,505

 
—

 
5,198

 
—

 
7,475

 
—

Consolidated
 
$
31,655

 
$
597

 
$
32,446

 
$
(815
)
 
$
55,384

 
$
2,382

 
$
62,353

 
$
(747
)
Acquisition-related expense (benefit), net for the North America segment includes acquisition costs and gains and losses relating to contingent consideration obligations incurred by U.S. legal entities relating to purchases of businesses that became part of the EMEA and Rest of World segments, which is consistent with the attribution used for internal reporting purposes.


31
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


(3)
Beginning in September 2013, direct revenue transactions in the EMEA Goods category have been transacted through a Switzerland-based subsidiary. As a result, EMEA includes revenue from Switzerland of $102.4 million and $194.3 million for the three and six months ended June 30, 2014, respectively.
The following table summarizes the Company's total assets by reportable segment as of June 30, 2014 and December 31, 2013 (in thousands):
 
June 30, 2014
 
December 31, 2013
North America (1)
$
1,011,970

 
$
1,267,158

EMEA
574,850

 
616,126

Rest of World (1)
550,619

 
158,726

Consolidated total assets
$
2,137,439

 
$
2,042,010

(1)
North America contains assets from the United States of $977.4 million and $1,231.3 million as of June 30, 2014 and December 31, 2013, respectively. Rest of World contains assets from the Republic of Korea, including those assets acquired as a part of our acquisition of Ticket Monster described in Note 2 "Business Combinations," of $399.4 million as of June 30, 2014. There were no other individual countries that represented more than 10% of consolidated total assets as of June 30, 2014 and December 31, 2013, respectively.
Category Information    
The Company offers goods and services through three primary categories: Local Deals ("Local"), Groupon Goods ("Goods") and Groupon Getaways ("Travel"). The Company also earns advertising revenue, payment processing revenue, point of sale revenue, reservation revenue and commission revenue. Revenue and gross profit from these other sources were previously considered to be distinct from our primary categories and were aggregated with revenue and gross profit from Travel, our smallest category. In recent periods, these other revenue sources have been increasingly viewed by management as a component of the Local category, as they are primarily generated through the Company's relationships with local and national merchants. Accordingly, the Company has updated its presentation of category information in the current period to include other revenue and gross profit within the Local category in the tables below, and the prior period category information has been retrospectively adjusted to conform to the current period presentation.
The following table summarizes the Company's third party and other and direct revenue by category for its three reportable segments for the three months ended June 30, 2014 and 2013 (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended June 30,
 
Three Months Ended June 30,
 
Three Months Ended June 30,
 
Three Months Ended June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other
$
164,500

 
$
176,684

 
$
96,485

 
$
110,229

 
$
42,711

 
$
43,849

 
$
303,696

 
$
330,762

Direct
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
164,500

 
177,377

 
96,485

 
110,229

 
42,711

 
43,849

 
303,696

 
331,455

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
1,399

 
4,651

 
16,845

 
32,938

 
38,697

 
14,985

 
56,941

 
52,574

Direct
240,227

 
181,377

 
98,568

 
2,181

 
6,840

 
5,625

 
345,635

 
189,183

Total
241,626

 
186,028

 
115,413

 
35,119

 
45,537

 
20,610

 
402,576

 
241,757

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
17,805

 
13,777

 
15,792

 
14,614

 
11,707

 
7,144

 
45,304

 
35,535

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total revenue
$
423,931

 
$
377,182

 
$
227,690

 
$
159,962

 
$
99,955

 
$
71,603

 
$
751,576

 
$
608,747

(1)
Includes revenue from deals with local merchants, from deals with national merchants, and through local events.


32
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the Company's third party and other and direct revenue by category for its three reportable segments for the six months ended June 30, 2014 and 2013 (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other
$
341,747

 
$
348,978

 
$
205,605

 
$
221,818

 
$
86,525

 
$
89,263

 
$
633,877

 
$
660,059

Direct
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
341,747

 
349,671

 
205,605

 
221,818

 
86,525

 
89,263

 
633,877

 
660,752

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
2,720

 
7,795

 
34,320

 
78,813

 
74,872

 
33,047

 
111,912

 
119,655

Direct
476,341

 
329,442

 
187,982

 
9,632

 
12,520

 
12,403

 
676,843

 
351,477

Total
479,061

 
337,237

 
222,302

 
88,445

 
87,392

 
45,450

 
788,755

 
471,132

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
34,185

 
29,828

 
30,676

 
33,497

 
21,720

 
14,940

 
86,581

 
78,265

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total revenue
$
854,993

 
$
716,736

 
$
458,583

 
$
343,760

 
$
195,637

 
$
149,653

 
$
1,509,213

 
$
1,210,149

(1)
Includes revenue from deals with local merchants, from deals with national merchants, and through local events.
The following table summarizes the Company's gross profit by category for its three reportable segments for the three months ended June 30, 2014 and 2013 (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other
$
142,674

 
$
155,671

 
$
90,373

 
$
99,318

 
$
35,618

 
$
35,885

 
$
268,665

 
$
290,874

Direct
—

 
57

 
—

 
—

 
—

 
—

 
—

 
57

Total
142,674

 
155,728

 
90,373

 
99,318

 
35,618

 
35,885

 
268,665

 
290,931

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
1,128

 
4,129

 
14,990

 
28,233

 
24,599

 
9,416

 
40,717

 
41,778

Direct
21,833

 
22,848

 
20,442

 
(1,125
)
 
24

 
(450
)
 
42,299

 
21,273

Total
22,961

 
26,977

 
35,432

 
27,108

 
24,623

 
8,966

 
83,016

 
63,051

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
14,365

 
11,881

 
14,894

 
13,105

 
8,922

 
5,726

 
38,181

 
30,712

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross profit
$
180,000

 
$
194,586

 
$
140,699

 
$
139,531

 
$
69,163

 
$
50,577

 
$
389,862

 
$
384,694

(1)
Includes gross profit from deals with local merchants, from deals with national merchants, and through local events.




33
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


The following table summarizes the Company's gross profit by category for its three reportable segments for the six months ended June 30, 2014 and 2013 (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other
$
295,296

 
$
302,050

 
$
190,439

 
$
196,707

 
$
70,366

 
$
75,375

 
$
556,101

 
$
574,132

Direct
—

 
57

 
—

 
—

 
—

 
—

 
—

 
57

Total
295,296

 
302,107

 
190,439

 
196,707

 
70,366

 
75,375

 
556,101

 
574,189

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
2,288

 
6,798

 
30,712

 
68,228

 
48,115

 
15,977

 
81,115

 
91,003

Direct
33,277

 
32,635

 
32,022

 
(1,146
)
 
(1,357
)
 
(299
)
 
63,942

 
31,190

Total
35,565

 
39,433

 
62,734

 
67,082

 
46,758

 
15,678

 
145,057

 
122,193

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
28,807

 
25,402

 
28,563

 
29,463

 
17,055

 
12,456

 
74,425

 
67,321

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross profit
$
359,668

 
$
366,942

 
$
281,736

 
$
293,252

 
$
134,179

 
$
103,509

 
$
775,583

 
$
763,703

(1)
Includes gross profit from deals with local merchants, from deals with national merchants, and through local events.
 


34
GROUPON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)


12. SUBSEQUENT EVENTS
On August 1, 2014, the Company entered into a three-year senior secured revolving credit agreement (the "Credit Agreement") that provides for aggregate principal borrowings of up to $250.0 million. Borrowings under the Credit Agreement bear interest, at the Company’s option, at a rate per annum equal to the Alternate Base Rate or Adjusted LIBO Rate (each as defined in the Credit Agreement) plus an additional margin ranging between 0.25% and 2.00%. The Company is required to pay quarterly commitment fees ranging from 0.20% to 0.35% per annum of the average daily amount available under the Credit Agreement. The Credit Agreement also provides for the issuance of up to $45.0 million in letters of credit, provided that the sum of outstanding borrowings and letters of credit do not exceed the maximum funding commitment of $250.0 million.
The Credit Agreement is secured by substantially all of the Company's and its subsidiaries' tangible and intangible assets, including a pledge of 100% of the outstanding capital stock of substantially all of its direct and indirect domestic subsidiaries and 65% of the shares or equity interests of first-tier foreign subsidiaries and each U.S. entity whose assets substantially consist of capital stock and/or intercompany debt of one or more foreign subsidiaries, subject to certain exceptions. Certain of the Company’s domestic subsidiaries are guarantors under the Credit Agreement.
The Credit Agreement contains various customary restrictive covenants that limit the Company’s ability to, among other things: incur additional indebtedness; enter into sale or leaseback transactions; make investments, loans or advances; grant or incur liens on assets; sell assets; engage in mergers, consolidations, liquidations or dissolutions; engage in transactions with affiliates; and make dividend payments. The Credit Agreement requires the Company to maintain compliance with specified financial covenants, comprised of a minimum fixed charge coverage ratio, a maximum leverage ratio, and a minimum liquidity ratio, each as set forth in the Credit Agreement. The Company is also required to maintain, as of the last day of each fiscal quarter, unrestricted cash of at least $400.0 million, including $200.0 million in accounts held with lenders under the Credit Agreement or their affiliates. Non-compliance with these covenants may result in termination of the commitments under the Credit Agreement and any then outstanding borrowings may be declared due and payable immediately. The Company has the right to terminate the Credit Agreement or reduce the available commitments at any time. No borrowings are currently outstanding under the Credit Agreement.


35

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read together with our condensed consolidated financial statements and related notes included under Part I, Item 1 of this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements about our business and operations. Our actual results may differ materially from those we currently anticipate as a result of many factors, including those we describe under "Risk Factors" and elsewhere in this Quarterly Report.
Overview
Groupon operates online local commerce marketplaces throughout the world that connect merchants to consumers by offering goods and services at a discount. Traditionally, local merchants have tried to reach consumers and generate sales through a variety of methods, including online advertising, the yellow pages, direct mail, newspaper, radio, television, and promotions. By bringing the brick and mortar world of local commerce onto the Internet, Groupon is helping local merchants to attract customers and sell goods and services. We provide consumers with savings and help them discover what to do, eat, see, buy and where to travel.
Current and potential customers are able to access our deal offerings directly through our websites and mobile applications. We also send emails to our subscribers each day with deal offerings that are targeted by location and personal preferences. We offer deals in three primary categories: Local Deals ("Local"), Groupon Goods ("Goods") and Groupon Getaways ("Travel"). In our Goods category, through which we offer deals on merchandise, we often act as the merchant of record, particularly for deals in North America and for deals in EMEA, which is comprised of Europe, Middle East and Africa, beginning in September 2013. Our revenue from deals where we act as the third party marketing agent is the purchase price paid by the customer for a Groupon voucher ("Groupon") less an agreed upon portion of the purchase price paid to the featured merchants, excluding applicable taxes and net of estimated refunds for which the merchant's share is recoverable. Our direct revenue from deals where we act as the merchant of record is the purchase price paid by the customer, excluding applicable taxes and net of estimated refunds. We generated revenue of $751.6 million during the three months ended June 30, 2014, as compared to $608.7 million during the three months ended June 30, 2013. We generated revenue of $1,509.2 million during the six months ended June 30, 2014, as compared to $1,210.1 million during the six months ended June 30, 2013.
Our operations are organized into three principal segments: North America, EMEA and the remainder of our international operations ("Rest of World"). See Note 11 "Segment Information" for further information. For the three months ended June 30, 2014, we derived 56.4% of our revenue from our North America segment, 30.3% of our revenue from our EMEA segment and 13.3% of our revenue from our Rest of World segment. For the six months ended June 30, 2014, we derived 56.7% of our revenue from our North America segment, 30.4% of our revenue from our EMEA segment and 12.9% of our revenue from our Rest of World segment.
We have an accumulated deficit of $909.5 million as of June 30, 2014. Since our inception, we have made substantial investments in infrastructure and marketing to increase subscriber acquisition and customer activation. In particular, our significant net losses in previous years were driven in part by the rapid expansion of our EMEA and Rest of World segments, which involved investing heavily in upfront marketing, sales and infrastructure related to the build out of our operations in early stage countries.
On January 2, 2014, we acquired all of the outstanding equity interests of LivingSocial Korea, Inc., including its subsidiary Ticket Monster Inc. ("Ticket Monster"), for an aggregate acquisition price of $259.4 million, after closing working capital adjustments, of which $99.9 million was paid in cash and the balance was paid in our Class A common stock. Ticket Monster is an e-commerce company based in the Republic of Korea that connects merchants to consumers by offering goods and services at a discount. The operations of Ticket Monster are reported within our Rest of World segment for the three and six months ended June 30, 2014. On January 13, 2014, we acquired all of the outstanding equity interests of Ideeli, Inc. ("Ideeli"), a fashion flash site based in the United States, for an aggregate acquisition price of $42.7 million in cash. Ideeli is focused on women's fashion apparel, accessories and home decor, and the operations of Ideeli are reported within our North America segment for the three and six months ended June 30, 2014. 
How We Measure Our Business
We measure our business with several financial and operating metrics. We use these metrics to assess the progress of our business, make decisions on where to allocate capital, time and technology investments and assess the long-term performance of our marketplaces. Certain of the financial metrics are reported in accordance with U.S. generally accepted accounting principles


36

("U.S. GAAP") and certain of these metrics are considered non-GAAP financial measures. As our business evolves, we may make changes to our key financial and operating metrics used to measure our business in future periods. For further information and a reconciliation to the most applicable financial measure under U.S. GAAP, refer to our discussion under Non-GAAP Financial Measures in the "Results of Operations" section.
Financial Metrics
•
Gross billings. This metric represents the total dollar value of customer purchases of goods and services, excluding applicable taxes and net of estimated refunds. For third party revenue deals, gross billings differs from third party revenue reported in our consolidated statements of operations, which is presented net of the merchant's share of the transaction price. For direct revenue deals, gross billings are equivalent to direct revenue reported in our consolidated statements of operations. We consider this metric to be an important indicator of our growth and business performance as it is a proxy for the dollar volume of transactions generated through our marketplaces. Tracking gross billings on third party revenue deals also allows us to track changes in the percentage of gross billings that we are able to retain after payments to our merchants.
•
Revenue. Third party revenue is derived from deals where we act as the marketing agent and is the purchase price paid by the customer less an agreed upon portion of the purchase price paid to the featured merchant, excluding applicable taxes and net of estimated refunds for which the merchant's share is recoverable. Direct revenue, when the Company is selling the product as the merchant of record, is the purchase price paid by the customer, excluding applicable taxes and net of estimated refunds.
•
Gross profit. Gross profit reflects the net margin earned after deducting our cost of revenue from our revenue. Due to the lack of comparability between third party revenue, which is presented net of the merchant's share of the transaction price, and direct revenue, which is reported on a gross basis, we believe that gross profit is an important measure for evaluating our performance.
•
Adjusted EBITDA. Adjusted EBITDA is a non-GAAP financial measure that comprises net income (loss) excluding income taxes, interest and other non-operating items, depreciation and amortization, stock-based compensation and acquisition-related expense (benefit), net. We exclude stock-based compensation expense and depreciation and amortization because they are primarily non-cash in nature, and we believe that non-GAAP financial measures excluding these items provide meaningful supplemental information about our operating performance and liquidity. Acquisition-related expense (benefit), net is comprised of the change in the fair value of contingent consideration arrangements and external transaction costs related to business combinations, primarily consisting of legal and advisory fees. Our definition of Adjusted EBITDA may differ from similar measures used by other companies, even when similar terms are used to identify such measures. We believe that Adjusted EBITDA is a meaningful measure for evaluating our operating performance. For further information and a reconciliation to the most applicable financial measure under U.S. GAAP, refer to our discussion under Non-GAAP Financial Measures in the "Results of Operations" section.
•
Free cash flow. Free cash flow is a non-GAAP financial measure that comprises net cash (used in) provided by operating activities less purchases of property and equipment and capitalized software. We use free cash flow, and ratios based on it, to conduct and evaluate our business because, although it is similar to cash flow from operations, we believe that it typically represents a more useful measure of cash flows because purchases of fixed assets, software developed for internal use and website development costs are necessary components of our ongoing operations. Free cash flow is not intended to represent the total increase or decrease in our cash balance for the applicable period. For further information and a reconciliation to the most applicable financial measure under U.S. GAAP, refer to our discussion under Non-GAAP Financial Measures in the "Results of Operations" section.
The following table presents the above Financial Metrics for the three and six months ended June 30, 2014 and 2013 (in thousands):


37

 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
Gross billings
 
$
1,819,046

 
$
1,413,806

 
$
3,636,257

 
$
2,821,575

Revenue
 
751,576

 
608,747

 
1,509,213

 
1,210,149

Gross profit
 
389,862

 
384,694

 
775,583

 
763,703

Adjusted EBITDA
 
59,056

 
80,511

 
99,357

 
152,364

Free cash flow
 
(53,800
)
 
29,260

 
(90,872
)
 
23,552

Operating Metrics
•
Active customers. We define active customers as unique user accounts that have purchased a voucher or product from us during the trailing twelve months. We consider this metric to be an important indicator of our business performance as it helps us to understand how the number of customers actively purchasing our deals is trending.
•
Gross billings per average active customer. This metric represents the trailing twelve months gross billings generated per average active customer. This metric is calculated as the total gross billings generated in the trailing twelve months, divided by the average number of active customers in such time period. Although we believe total gross billings, not trailing twelve months gross billings per average active customer, is a better indication of the overall growth of our marketplaces over time, trailing twelve months gross billings per average active customer provides an opportunity to evaluate whether our growth is primarily driven by growth in total customers or in spend per customer in any given period.
•
Units. This metric represents the number of vouchers and products purchased from us by our customers, before refunds and cancellations. We consider unit growth to be an important indicator of the total volume of business conducted through our marketplaces.
Our Active customers and Gross billings per average active customer for the trailing twelve months ("TTM") ended June 30, 2014 and 2013 were as follows:
 
 
Trailing twelve months ended June 30,
 
 
2014
 
2013
TTM Active customers (in thousands)
 
53,225

 
42,567

TTM Gross billings per average active customer
 
$
137.21

 
$
137.95

The increase in active customers for the trailing twelve months ended June 30, 2014, as compared to the prior year period, was primarily attributable to the acquisitions of Ticket Monster and Ideeli.
Our Units for the three and six months ended June 30, 2014 and 2013 were as follows:
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
Units (in thousands)
 
82,894

 
46,389

 
166,505

 
91,571

The increase in units for the three and six months ended June 30, 2014, as compared to the prior year period, was primarily attributable to the acquisitions of Ticket Monster and Ideeli.
Factors Affecting Our Performance
Deal sourcing and quality. We consider our merchant relationships to be a vital part of our business model and have made significant investments in order to expand the variety of tools that we can provide to our merchants. We depend on our ability to attract and retain merchants that are prepared to offer products or services on compelling terms, particularly as we attempt to expand our product and service offerings in order to create more complete online marketplaces for local commerce. In North America and many of our foreign markets, we offer deals in which the merchant has a continuous presence on our websites and mobile applications by offering vouchers on an ongoing basis for an extended period of time. Currently, a substantial majority of our merchants in North America elect to offer deals in this manner, and we expect that trend to continue. These marketplaces,


38

which we refer to as "pull," enable customers to search for specific types of deals (e.g., steakhouse, pizza, massage, nail salon, golf lessons, yoga) on our websites and mobile applications. However, merchants have the ability to withdraw their extended deal offerings, and we generally do not have noncancelable long-term arrangements to guarantee availability of deals. In order to attract merchants that may not have run deals on our platform or would have run deals on a competing platform, we have been willing to accept lower deal margins across all three of our segments and we expect that trend to continue. This has contributed to lower deal margins during the three and six months ended June 30, 2014, as compared to the prior year period. If new merchants do not find our marketing and promotional services effective, or if our existing merchants do not believe that utilizing our services provides them with a long-term increase in customers, revenue or profit, they may stop making offers through our marketplaces or they may only continue offering deals if we accept lower margins.
International operations. Our international operations are critical to our revenue growth and our ability to achieve and maintain profitability. For the three months ended June 30, 2014 and 2013, 30.3% and 26.3% of our revenue was generated from our EMEA segment, respectively, and 13.3% and 11.7% of our revenue was generated from our Rest of World segment, respectively. For the six months ended June 30, 2014 and 2013, 30.4% and 28.4% of our revenue was generated from our EMEA segment, respectively, and 12.9% and 12.4% of our revenue was generated from our Rest of World segment, respectively. Operating a global business requires management attention and resources and requires us to localize our services to conform to a wide variety of local cultures, business practices, laws and regulations. The different commercial and regulatory environments in other countries may make it more difficult for us to successfully operate our business. In addition, many of the automation tools and technology enhancements that we have implemented in our North America segment are close to being fully implemented in most EMEA countries but have not been substantially rolled out to the countries in our Rest of World segment. Revenue from our EMEA and Rest of World segments increased for the three and six months ended June 30, 2014, as compared to the prior year period, and the percentage of total revenue generated by those segments increased on a year-over-year basis. Revenue from our North America segment increased for the three and six months ended June 30, 2014, as compared to the prior year period, and the percentage of total revenue generated by our North America segment decreased on a year-over-year basis. The decrease in North America revenue as a percentage of total revenue was primarily due the increase in direct revenue transactions from our Groupon Goods business in EMEA, as direct revenue is presented on a gross basis in our consolidated statements of operations.
Marketing activities. We must continue to acquire and retain customers in order to increase revenue and attempt to achieve profitability. If consumers do not perceive our Groupon offerings to be attractive, or if we fail to introduce new or more relevant deals, we may not be able to acquire or retain customers. In addition, as we build out more complete marketplaces, our success will depend on our ability to increase consumer awareness of deals available through those marketplaces. As discussed under "Components of Results of Operations," we consider order discounts, free shipping on qualifying merchandise sales and reducing margins on our deals to be marketing-related activities, even though these activities are not presented as marketing expenses in our consolidated statements of operations. We have, and expect to continue to, reduce our deal margins when we believe that by doing so we can offer our customers a product or service from a merchant who might not have otherwise been willing to conduct business through our marketplaces. We use this as a marketing tool because we believe that in some instances this is an effective method of retaining or activating a customer, as compared to other methods of retention or activation, such as traditional advertising or discounts.
Investment in growth. We have aggressively invested, and intend to continue to invest, in our products and infrastructure to support our growth. We anticipate that we will make substantial investments in the foreseeable future as we continue to increase the number and variety of deals we offer each day, broaden our customer base, expand our marketing channels, expand our operations, hire additional employees and develop our technology. Additionally, we believe that our efforts to automate our internal processes through investments in technology should allow us to improve our cost structure over time, as we are able to more efficiently run our business and minimize manual processes.
We recently announced the launch of a tablet-based platform for merchants, which we refer to as "Gnome," that will streamline the voucher redemption process.  The tablet can also be used in connection with our credit card payment processing service.  In addition, we expect to add additional content about local merchants to our web sites and mobile applications in the coming months, including merchants who have not offered deals through our marketplace. This new content, which we refer to as "Pages," is intended to provide customers with the ability to discover more local businesses through our web sites and mobile applications. While we believe that both of these initiatives will contribute to the future success of our business, we do not expect that they will generate a material amount of revenue in the near term. 

Competitive pressure. A substantial number of companies that attempt to replicate our business model have emerged around the world. In addition to such competitors, we expect to increasingly compete against other large Internet and technology‑based businesses that have launched initiatives which are directly competitive to our core business as well as our other categories and our suite of merchant products, such as payment processing and point of sale. We also expect to compete against other Internet sites that are focused on specific communities or interests and offer coupons or discount arrangements related to


39

such communities or interests. Increased competition in the future may adversely impact our gross billings, revenue and profit margins.
Growth of Groupon Goods. Our Groupon Goods category has experienced significant revenue growth in recent periods. This category has lower margins than our Local and Travel categories, primarily as a result of shipping and fulfillment costs related to direct revenue transactions. The percentage of revenue generated from our Goods category was 53.6% and 39.7% for the three months ended June 30, 2014 and 2013, respectively, and 52.3% and 38.9% for the six months ended June 30, 2014 and 2013, respectively. We are often the merchant of record for transactions in our Goods category, particularly in North America and also in EMEA beginning in September 2013, such that the resulting direct revenue is reported on a gross basis in our consolidated statements of operations. Growth in direct revenue results in a smaller increase to income and cash flows than growth in third party revenue because direct revenue includes the entire amount of gross billings, before deducting the cost of the related inventory, while third party revenue is net of the merchant’s share of the transaction price. Gross profit as a percentage of revenue on direct revenue transactions in our Goods category was 12.2% and 9.4% for the three and six months ended June 30, 2014, respectively. As direct revenue transactions in our Goods category have become a larger component of our overall business in recent periods, the significant revenue growth generated by those transactions has not resulted in comparable growth in gross profit, operating income or cash flows.
Components of Results of Operations
Third Party and Other Revenue
Third party revenue arises from transactions in which we are acting as a third party marketing agent and consists of the net amount we retain from the sale of Groupons after paying an agreed upon portion of the purchase price to the featured merchant, excluding applicable taxes and net of estimated refunds for which the merchant's share is recoverable. Other revenue primarily consists of advertising revenue, payment processing revenue, point of sale revenue, reservation revenue and commission revenue.
Direct Revenue
Direct revenue arises from transactions, primarily in our Goods category, in which we are the merchant of record and consists of the gross amount we receive from the customer, excluding applicable taxes and net of estimated refunds.
Cost of Revenue
Cost of revenue is comprised of direct and certain indirect costs incurred to generate revenue. For direct revenue transactions, cost of revenue includes the cost of inventory, shipping and fulfillment costs and inventory markdowns. Fulfillment costs are comprised of third party logistics provider costs, as well as rent, depreciation, personnel costs and other costs of operating our own fulfillment center, which began operations in the fourth quarter of 2013. For third party revenue transactions, cost of revenue includes estimated refunds for which the merchant's share is not recoverable. Other costs incurred to generate revenue, which include credit card processing fees, editorial costs, certain technology costs, web hosting, and other processing fees, are allocated to cost of third party revenue, direct revenue and other revenue in proportion to gross billings during the period.
Technology costs within cost of revenue include the payroll and stock‑based compensation expense related to the Company's technology support personnel who are responsible for operating and maintaining the infrastructure of the Company's existing website. Technology costs also include a portion of amortization expense from internal-use software, primarily related to website development. Remaining technology costs within cost of revenue include email distribution costs. Editorial costs included in cost of revenue consist of payroll and stock‑based compensation expense related to the Company's editorial personnel, as these staff members are primarily dedicated to drafting and promoting deals.
Marketing
Marketing expense consists primarily of targeted online marketing costs, such as sponsored search, advertising on social networking sites, email marketing campaigns, affiliate programs and, to a lesser extent, offline marketing costs such as television, radio and print advertising. Additionally, marketing payroll and stock‑based compensation expense are classified as marketing expense. We record these costs within "Marketing" on the consolidated statements of operations when incurred. From time to time, we offer deals with well-known national merchants for subscriber acquisition and customer activation purposes, for which the amount we owe the merchant for each voucher sold exceeds the transaction price paid by the customer. Our gross billings from those transactions generate no third party revenue and our net cost (i.e., the excess of the amount owed to the merchant over the amount paid by the customer) is classified as marketing expense. Our marketing activities also include elements that are not


40

presented as "Marketing" on our consolidated statements of operations, such as order discounts, free shipping on qualifying merchandise sales and accepting lower margins on our deals. Marketing is the primary method by which we acquire customers and, as such, is a critical part of our growth strategy.
Selling, General and Administrative
Selling expenses reported within "Selling, general and administrative" on the consolidated statements of operations consist of payroll, stock-based compensation expense and sales commissions for sales representatives, as well as costs associated with supporting the sales function such as technology, telecommunications and travel. General and administrative expenses consist of payroll and stock-based compensation expense for employees involved in general corporate functions, including accounting, finance, tax, legal and human resources, among others. Additional costs included in general and administrative include customer service and operations, depreciation and amortization, rent, professional fees, litigation costs, travel and entertainment, charitable contributions, recruiting, office supplies, maintenance, certain technology costs and other general corporate costs.
Acquisition‑Related
Acquisition-related expense (benefit), net includes the change in the fair value of contingent consideration arrangements related to business combinations. See Note 9 "Fair Value Measurements." For the three and six months ended June 30, 2014, acquisition-related expense, net also includes external transaction costs related to business combinations, primarily consisting of legal and advisory fees.
Other Income (Expense), Net
Other income (expense), net includes interest income on our cash and cash equivalents, interest expense on capital leases, gains and losses on equity method investments and foreign currency transaction gains and losses, primarily resulting from intercompany balances related to our foreign subsidiaries that are denominated in currencies other than their functional currencies.


41

Results of Operations
Comparison of the Three Months Ended June 30, 2014 and 2013:
 
 
Three Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Revenue:
 
 
 
 
Third party and other
 
$
405,941

 
$
418,871

Direct
 
345,635

 
189,876

Total revenue
 
751,576

 
608,747

Cost of revenue:
 
 
 
 
Third party and other
 
58,378

 
55,507

Direct
 
303,336

 
168,546

Total cost of revenue
 
361,714

 
224,053

Gross profit
 
389,862

 
384,694

Operating expenses:
 
 
 
 
Marketing
 
64,275

 
55,497

Selling, general and administrative
 
332,844

 
302,600

Acquisition-related expense (benefit), net
 
597

 
(815
)
  Total operating expenses
 
397,716

 
357,282

(Loss) income from operations
 
(7,854
)
 
27,412

Other expense, net
 
(1,023
)
 
(5,579
)
(Loss) income before provision for income taxes
 
(8,877
)
 
21,833

Provision for income taxes
 
12,045

 
27,384

Net loss
 
(20,922
)
 
(5,551
)
Net income attributable to noncontrolling interests
 
(1,953
)
 
(2,023
)
Net loss attributable to Groupon, Inc.
 
$
(22,875
)
 
$
(7,574
)





























42

Classification of stock-based compensation within cost of revenue and operating expenses
Cost of revenue and operating expenses include stock-based compensation as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
2013
 
 
Statement of Operations line item
 
Stock-based compensation included in line item
 
Statement of Operations line item
 
Stock-based compensation included in line item
 
 
(in thousands)
Total cost of revenue
 
$
361,714

 
$
763

 
$
224,053

 
$
515

 
 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
 
Marketing
 
$
64,275

 
$
2,416

 
$
55,497

 
$
2,238

Selling, general and administrative
 
332,844

 
28,476

 
302,600

 
29,693

Acquisition-related expense (benefit), net
 
597

 
—

 
(815
)
 
—

  Total operating expenses
 
$
397,716

 
$
30,892

 
$
357,282

 
$
31,931

Foreign exchange rate neutral operating results
The effect on our gross billings, revenue, cost of revenue and operating expenses, and (loss) income from operations for the three months ended June 30, 2014 from changes in exchange rates versus the U.S. dollar was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
 
At Avg.
 
Exchange
 
 
 
 
Q2 2013
 
Rate
 
As
 
 
Rates (1)
 
Effect (2)
 
Reported
 
 
(in thousands)
Gross billings
 
$
1,789,057

 
$
29,989

 
$
1,819,046

 
 
 
 
 
 
 
Revenue
 
$
744,563

 
$
7,013

 
$
751,576

Cost of revenue and operating expenses
 
753,626

 
5,804

 
759,430

(Loss) income from operations
 
$
(9,063
)
 
$
1,209

 
$
(7,854
)
(1)
Represents the financial statement balances that would have resulted had exchange rates in the reporting period been the same as those in effect in the comparable prior year period.
(2)
Represents the increase or decrease in reported amounts resulting from changes in exchange rates from those in effect in the comparable prior year period.
Gross Billings
Gross billings represents the total dollar value of customer purchases of goods and services, excluding applicable taxes and net of estimated refunds. Gross billings for the three months ended June 30, 2014 and 2013 were as follows:
 
Three Months Ended June 30,
 
2014
 
2013
 
(in thousands)
Gross billings:
 
 
 
Third party
$
1,467,307

 
$
1,220,089

Direct
345,635

 
189,876

Other
6,104

 
3,841

Total gross billings
$
1,819,046

 
$
1,413,806



43

For third party revenue deals, gross billings differs from third party revenue reported in our consolidated statements of operations, which is presented net of the merchant's share of the transaction price. For direct revenue deals and other revenue, gross billings are equivalent to direct revenue and other revenue reported in our consolidated statements of operations. Gross billings increased by $405.2 million to $1,819.0 million for the three months ended June 30, 2014, as compared to $1,413.8 million for the three months ended June 30, 2013, primarily due to the acquisition of Ticket Monster which contributed $317.0 million in gross billings for the three months ended June 30, 2014. The increase was comprised of a $247.2 million increase in gross billings from third party revenue transactions and a $155.8 million increase in gross billings from direct revenue transactions. The increase in gross billings was driven by an increase in active customers and the volume of transactions. The favorable impact on gross billings from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $30.0 million.
We offer goods and services through three primary categories: Local, Goods and Travel within our North America, EMEA and Rest of World segments. We also earn advertising revenue, payment processing revenue, point of sale revenue, reservation revenue and commission revenue. Gross billings, revenue, cost of revenue and gross profit from these other sources were previously considered to be distinct from our primary categories and were aggregated with gross billings, revenue, cost of revenue and gross profit from Travel, our smallest category. In recent periods, these other revenue sources have been increasingly viewed by management as a component of the Local category, as they are primarily generated through our relationships with local and national merchants. Accordingly, we have updated our presentation of category information in the current period to include other gross billings, revenue, cost of revenue and gross profit within the Local category in the tables below, and the prior period category information has been retrospectively adjusted to conform to the current period presentation. The increase in our gross billings was comprised of a $283.0 million increase in our Goods category, a $48.8 million increase in our Local category and a $73.4 million increase in our Travel category.
Gross Billings by Segment
Gross billings by segment for the three months ended June 30, 2014 and 2013 were as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
Gross billings:
 
 
 
 
 
 
 
 
North America
 
$
798,845

 
43.9
%
 
$
712,205

 
50.4
%
EMEA
 
483,255

 
26.6

 
482,250

 
34.1

Rest of World
 
536,946

 
29.5

 
219,351

 
15.5

Total gross billings
 
$
1,819,046

 
100.0
%
 
$
1,413,806

 
100.0
%


44

Gross billings by category and segment for the three months ended June 30, 2014 and 2013 were as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
461,366

 
$
452,337

 
$
227,266

 
$
241,856

 
$
170,237

 
$
115,156

 
$
858,869

 
$
809,349

Direct
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
461,366

 
453,030

 
227,266

 
241,856

 
170,237

 
115,156

 
858,869

 
810,042

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
7,391

 
15,501

 
92,389

 
165,413

 
274,460

 
66,774

 
374,240

 
247,688

Direct
240,227

 
181,377

 
98,568

 
2,181

 
6,840

 
5,625

 
345,635

 
189,183

Total
247,618

 
196,878

 
190,957

 
167,594

 
281,300

 
72,399

 
719,875

 
436,871

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
89,861

 
62,297

 
65,032

 
72,800

 
85,409

 
31,796

 
240,302

 
166,893

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross billings
$
798,845

 
$
712,205

 
$
483,255

 
$
482,250

 
$
536,946

 
$
219,351

 
$
1,819,046

 
$
1,413,806

(1)
Includes gross billings from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other gross billings as a component of the Local category. Other gross billings were previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment gross billings increased by $86.6 million to $798.8 million for the three months ended June 30, 2014, as compared to $712.2 million for the three months ended June 30, 2013. The increase in gross billings was comprised of a $50.7 million increase in our Goods category, which included $21.6 million of gross billings from our Ideeli acquisition. The increase in gross billings was also comprised of a $27.6 million increase in our Travel category and an $8.3 million increase in our Local category. The increase in gross billings in the North America segment resulted from higher unit sales and an increase in active customers, partially offset by lower gross billings per average active customer and increased order discounts for the three months ended June 30, 2014, as compared to the prior year period. We believe that increases in transaction activity by active customers who make purchases on mobile devices and in the number of deals that we offered contributed to the growth in billings for our North America segment. In addition, we have continued to refine our approach to targeting customers and have undertaken marketing initiatives to increase consumer awareness of deals available through our marketplaces, which we believe contributed to the billings growth.
Although North America segment gross billings increased by 12.2% during the three months ended June 30, 2014, as compared to the prior year, we believe that the continued growth of our online marketplaces of deals, where merchants have a continuous presence on our websites for an extended period of time, is impacting the timing of customer purchases in our Local category. Historically, our customers often purchased a Groupon voucher when they received our email with a limited-time offer, even though they may not have intended to use the voucher in the near term. However, the growth of our marketplaces of deals enables customers to wait until they are ready to use the related vouchers before making purchases, which we believe is currently adversely impacting gross billings.
EMEA
EMEA segment gross billings increased by $1.0 million to $483.3 million for the three months ended June 30, 2014, as compared to $482.3 million for the three months ended June 30, 2013. The increase in gross billings was comprised of a $23.4 million increase in our Goods category, resulting from higher unit sales in this category for the three months ended June 30, 2014, as compared to the prior year period. The increase in gross billings was partially offset by a $14.6 million decrease in our Local category, resulting from lower unit sales, and a $7.8 million decrease in our Travel category. Our gross billings were also negatively impacted by lower gross billings per average active customer in our EMEA segment for the three months ended June 30, 2014,


45

as compared to the prior year period. The favorable impact on gross billings from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $21.2 million.
    Rest of World
Rest of World segment gross billings increased by $317.6 million to $536.9 million for the three months ended June 30, 2014, as compared to $219.4 million for the three months ended June 30, 2013. The increase in gross billings was attributable to our acquisition of Ticket Monster, which contributed $317.0 million in gross billings for the three months ended June 30, 2014, and also generated higher unit sales and an increase in active customers for the three months ended June 30, 2014, as compared to the prior year period. The increase in gross billings was comprised of a $208.9 million increase in our Goods category, a $55.1 million increase in our Local category and a $53.6 million increase in our Travel category. The favorable impact on gross billings from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $9.4 million.
On a pro forma basis, the combined gross billings of our Rest of World segment, as if the Company had acquired Ticket Monster as of January 1, 2013, were $418.1 million for the three months ended June 30, 2013. This pro forma gross billings amount is not necessarily indicative of what the actual results of the combined company would have been if the acquisition had occurred as of January 1, 2013, nor is it indicative of future results.
Revenue
We generate revenue from third party revenue deals, direct revenue deals and other transactions. Revenue for the three months ended June 30, 2014 and 2013 was as follows:
 
Three Months Ended June 30,
 
2014
 
2013
 
(in thousands)
Revenue:
 
 
 
Third party
$
399,837

 
$
415,030

Direct
345,635

 
189,876

Other
6,104

 
3,841

Total revenue
$
751,576

 
$
608,747

Revenue increased by $142.8 million to $751.6 million for the three months ended June 30, 2014, as compared to $608.7 million for the three months ended June 30, 2013. This increase was attributable to the $155.8 million increase in direct revenue from transactions in our Goods category where we are the merchant of record and for which revenue is reported on a gross basis. The increase in revenue was partially offset by a $15.2 million decrease in third party revenue. The net increase in revenue was attributable to higher unit sales and an increase in active customers for the three months ended June 30, 2014 as compared to the prior year period. We also increased the number of merchant relationships and the volume of deals we offer to our customers. Our acquisitions of Ticket Monster and Ideeli contributed $35.4 million and $21.6 million of revenue, respectively, for the three months ended June 30, 2014. The favorable impact on revenue from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $7.0 million.
Third Party Revenue
Third party revenue decreased by $15.2 million to $399.8 million for the three months ended June 30, 2014, as compared to $415.0 million for the three months ended June 30, 2013. The decrease in third party revenue is primarily due to a $29.3 million decrease in our Local category. Although third party billings in our Local category increased $47.3 million, the percentage of gross billings that we retained after deducting the merchant's share decreased to 34.9% for the three months ended June 30, 2014, as compared to 40.6% for the three months ended June 30, 2013. The decrease in third party revenue was offset by a $9.8 million increase in our Travel category, which resulted from a $73.4 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 18.9% for the three months ended June 30, 2014, as compared to 21.3% for the three months ended June 30, 2013. Our acquisition of Ticket Monster contributed $35.4 million of revenue, primarily third party revenue, for the three months ended June 30, 2014. The decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins.


46

Direct Revenue
Direct revenue increased by $155.8 million to $345.6 million for the three months ended June 30, 2014, as compared to $189.9 million for the three months ended June 30, 2013. Direct revenue for the three months ended June 30, 2014 includes $21.6 million from our Ideeli acquisition. We are often the merchant of record for transactions in the Goods category, particularly in North America and also in EMEA beginning in September 2013, such that the resulting revenue is reported on a gross basis within direct revenue. In addition, growth in direct revenue results in a smaller increase in income from operations than growth in third party revenue because direct revenue includes the entire amount of gross billings, before deducting the cost of the related inventory, while third party revenue is net of the merchant's share of the transaction price. Additionally, our Goods category has lower margins than our Local category, primarily as a result of shipping and fulfillment costs related to direct revenue transactions. 
We believe that direct revenue deals in our Goods category will increase in the future in the EMEA and Rest of World segments as we continue to build out our global supply chain infrastructure.
Other Revenue
Other revenue increased by $2.3 million to $6.1 million for the three months ended June 30, 2014, as compared to $3.8 million for the three months ended June 30, 2013, primarily due to an increase in payment processing revenue and commission revenue, which we launched in the fourth quarter of 2013. Other revenue also includes reservation revenue, which we launched in the third quarter of 2013, and point of sale revenue. Those other revenue sources were not significant for the three months ended June 30, 2014 and 2013, and we do not expect them to be material in the near term.
Revenue by Segment
Revenue by segment for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
183,704

 
24.4
%
 
$
195,112

 
32.1
%
Direct
 
240,227

 
32.0

 
182,070

 
29.9

Total segment revenue
 
423,931

 
56.4

 
377,182

 
62.0

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
129,122

 
17.2

 
157,781

 
25.9

Direct
 
98,568

 
13.1

 
2,181

 
0.4

Total segment revenue
 
227,690

 
30.3

 
159,962

 
26.3

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
93,115

 
12.4

 
65,978

 
10.8

Direct
 
6,840

 
0.9

 
5,625

 
0.9

Total segment revenue
 
99,955

 
13.3

 
71,603

 
11.7

Total revenue
 
$
751,576

 
100.0
%
 
$
608,747

 
100.0
%


47

Revenue by category and segment for the three months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
164,500

 
$
176,684

 
$
96,485

 
$
110,229

 
$
42,711

 
$
43,849

 
$
303,696

 
$
330,762

Direct revenue
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
164,500

 
177,377

 
96,485

 
110,229

 
42,711

 
43,849

 
303,696

 
331,455

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
1,399

 
4,651

 
16,845

 
32,938

 
38,697

 
14,985

 
56,941

 
52,574

Direct revenue
240,227

 
181,377

 
98,568

 
2,181

 
6,840

 
5,625

 
345,635

 
189,183

Total
241,626

 
186,028

 
115,413

 
35,119

 
45,537

 
20,610

 
402,576

 
241,757

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
17,805

 
13,777

 
15,792

 
14,614

 
11,707

 
7,144

 
45,304

 
35,535

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total revenue
$
423,931

 
$
377,182

 
$
227,690

 
$
159,962

 
$
99,955

 
$
71,603

 
$
751,576

 
$
608,747

(1)
Includes revenue from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other revenue as a component of the Local category. Other revenue was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment revenue increased by $46.7 million to $423.9 million for the three months ended June 30, 2014, as compared to $377.2 million for the three months ended June 30, 2013. The increase in revenue primarily resulted from a $58.9 million increase in direct revenue from our Goods category, which included $21.6 million of direct revenue from our Ideeli acquisition. Direct revenue, which is recorded on a gross basis, is derived primarily from selling products through our Goods category where we are the merchant of record. The increase in revenue was offset by a $12.2 million decrease in third party and other revenue from our Local category, which resulted from a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 35.7% for the three months ended June 30, 2014, as compared to 39.1% for the three months ended June 30, 2013. We were willing to accept lower deal margins in our Local category, as compared to the prior year period, in order to improve the quality and increase the number of deals offered to our customers by offering more attractive terms to merchants. The increase in revenue was also due to higher unit sales and an increase in active customers, partially offset by lower gross billings per average active customer and increased order discounts for the three months ended June 30, 2014, as compared to the prior year period. Currently, we incur the entire cost of order discounts through lower gross billings without a corresponding reduction to the merchant's share of a voucher sale. In future periods, we intend to seek opportunities to share the cost of order discounts with merchants in North America as we negotiate future merchant agreements.
We believe that increases in transaction activity on mobile devices and in the number of deals that we offered contributed to the growth in revenue for our North America segment. In addition, we have continued to refine our approach to targeting customers and have undertaken marketing initiatives to increase consumer awareness of deals available through our marketplaces, which we believe contributed to the revenue growth.
EMEA
EMEA segment revenue increased by $67.7 million to $227.7 million for the three months ended June 30, 2014, as compared to $160.0 million for the three months ended June 30, 2013. The increase in revenue primarily resulted from an $96.4 million increase in direct revenue from our Goods category. Revenue from transactions in our Goods category in our EMEA segment were primarily presented on a net basis within third party revenue in the prior year period, as we were not typically the merchant of record for those transactions outside of the United States. However, we began increasing the number of product deals offered in our EMEA segment for which we are the merchant of record beginning in September 2013. As a result, the proportion


48

of direct revenue deals in the Goods category of our EMEA segment increased in the second quarter of 2014 as compared to the prior year period, and we expect that the proportion of direct revenue deals in the Goods category of our EMEA segment will continue to increase in future periods.
The increase in direct revenue in our Goods category was partially offset by a $16.1 million decrease in third party revenue in our Goods category, which resulted from a $73.0 million decrease in gross billings and a decrease in the percentage of gross billings that we retained after deducting the merchant's share to 18.2% for the three months ended June 30, 2014, as compared to 19.9% for the three months ended June 30, 2013. The increase in revenue was also partially offset by a $13.7 million decrease in third party and other revenue from our Local category, which resulted from a decrease in the percentage of gross billings that we retained after deducting the merchant's share to 42.5% for the three months ended June 30, 2014, as compared to 45.6% for the three months ended June 30, 2013. These decreases in the percentage of gross billings that we retained during the three months ended June 30, 2014 reflect the overall results of individual deal-by-deal negotiations with our merchants and can vary significantly from period-to-period. We were willing to accept lower deal margins in our Local category, as compared to the prior year period, in order to improve the quality and increase the number of deals offered to our customers by offering more attractive terms to merchants.
The overall increase in revenue in our EMEA segment was also due to higher unit sales and an increase in active customers, partially offset by lower gross billings per average active customer for the three months ended June 30, 2014, as compared to the prior year period. The favorable impact on revenue from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $10.2 million.
Rest of World
Rest of World segment revenue increased by $28.4 million to $100.0 million for the three months ended June 30, 2014, as compared to $71.6 million for the three months ended June 30, 2013. The increase in revenue was primarily attributable to our acquisition of Ticket Monster, which contributed $35.4 million in revenue for the three months ended June 30, 2014. Revenue from our Goods category increased by $24.9 million for the three months ended June 30, 2014, as compared to the prior year period, due to a $23.7 million increase in third party revenue, which resulted from a $207.7 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 14.1% for the three months ended June 30, 2014, as compared to 22.4% in the prior year period. The increase in third party revenue from our Goods category was attributable to the Ticket Monster acquisition, and the decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins. In our Rest of World segment, revenue from transactions in our Goods category are primarily presented on a net basis within third party revenue, as we have not typically been the merchant of record for those transactions outside of the United States and EMEA.
The increase in revenue from our Rest of World segment was also due to a $4.6 million increase in revenue from our Travel category, which resulted from a $53.6 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 13.7% for the three months ended June 30, 2014, as compared to 22.5% in the prior year period. Although gross billings on third party and other revenue transactions in our Local category increased by $55.1 million, third party and other revenue in our Local category decreased by $1.1 million, which resulted from a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 25.1% for the three months ended June 30, 2014, as compared to 38.1% for the three months ended June 30, 2013. The decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins. The unfavorable impact on revenue from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $3.0 million.


49

Cost of Revenue
Cost of revenue on third party, direct revenue and other deals for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Cost of revenue:
 
 
 
 
Third party
 
$
54,858

 
$
54,297

Direct
 
303,336

 
168,546

Other
 
3,520

 
1,210

Total cost of revenue
 
$
361,714

 
$
224,053

Cost of revenue is comprised of direct and certain indirect costs incurred to generate revenue. For direct revenue deals, cost of revenue includes the cost of inventory, shipping and fulfillment costs and inventory markdowns. Fulfillment costs are comprised of third party logistics provider costs, as well as rent, depreciation, personnel costs and other costs of operating our own fulfillment center, which began operations in the fourth quarter of 2013. For third party revenue transactions, cost of revenue includes estimated refunds for which the merchant's share is not recoverable. Other costs incurred to generate revenue, which include credit card processing fees, editorial costs, certain technology costs, web hosting and other processing fees, are allocated to cost of third party revenue, direct revenue, and other revenue in proportion to gross billings during the period. As a result of the significant growth we have experienced from direct revenue transactions relative to our total gross billings for the three months ended June 30, 2014, as compared to the prior year period, an increased share of those allocable costs has been allocated to cost of direct revenue in our condensed consolidated statement of operations for the three months ended June 30, 2014.
Cost of revenue increased by $137.7 million to $361.7 million for the three months ended June 30, 2014, as compared to $224.1 million for the three months ended June 30, 2013, which was attributable to the growth in direct revenue from our Goods category. The increase in cost of revenue was primarily driven by the cost of inventory and related shipping and fulfillment costs on direct revenue deals, which were not as significant during the prior year. We currently outsource most of our inventory fulfillment activities in the United States to third party logistics providers. However, we expect to reduce our usage of those third parties in future periods by transitioning additional inventory fulfillment work in the United States to internal resources. For example, we launched our own fulfillment center in the fourth quarter of 2013. Additionally, to further reduce the involvement of third party logistics providers in the fulfillment process in the United States, we have increased our use of arrangements in which the suppliers of our product offerings ship merchandise directly to our customers. We are also refining our inventory management practices to better allocate inventories among warehouses in different geographic regions throughout the United States to reduce shipping distances to customers and increase units per order. We believe that these initiatives will ultimately reduce our fulfillment costs and improve the margins on direct revenue transactions in our Goods category. Those margins improved on a sequential basis in the second quarter of 2014 as compared to the first quarter of 2014. However, we may incur increased fulfillment costs from time to time as we enhance our internal processes and continue to transition fulfillment work from third party logistics providers.


50

Cost of Revenue by Segment
Cost of revenue by segment for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
dollars in thousands
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
25,537

 
7.1
%
 
$
23,431

 
10.5
%
Direct
 
218,394

 
60.3

 
159,165

 
71.0

Total segment cost of revenue
 
243,931

 
67.4

 
182,596

 
81.5

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
8,865

 
2.5

 
17,125

 
7.6

Direct
 
78,126

 
21.6

 
3,306

 
1.5

Total segment cost of revenue
 
86,991

 
24.1

 
20,431

 
9.1

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
23,976

 
6.6

 
14,951

 
6.7

Direct
 
6,816

 
1.9

 
6,075

 
2.7

Total segment cost of revenue
 
30,792

 
8.5

 
21,026

 
9.4

Total cost of revenue
 
$
361,714

 
100.0
%
 
$
224,053

 
100.0
%
Cost of revenue by category and segment for the three months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
21,826

 
$
21,013

 
$
6,112

 
$
10,911

 
$
7,093

 
$
7,964

 
$
35,031

 
$
39,888

Direct
—

 
636

 
—

 
—

 
—

 
—

 
—

 
636

Total
21,826

 
21,649

 
6,112

 
10,911

 
7,093

 
7,964

 
35,031

 
40,524

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
271

 
522

 
1,855

 
4,705

 
14,098

 
5,569

 
16,224

 
10,796

Direct
218,394

 
158,529

 
78,126

 
3,306

 
6,816

 
6,075

 
303,336

 
167,910

Total
218,665

 
159,051

 
79,981

 
8,011

 
20,914

 
11,644

 
319,560

 
178,706

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
3,440

 
1,896

 
898

 
1,509

 
2,785

 
1,418

 
7,123

 
4,823

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total cost of revenue
$
243,931

 
$
182,596

 
$
86,991

 
$
20,431

 
$
30,792

 
$
21,026

 
$
361,714

 
$
224,053

(1)
Includes cost of revenue from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other cost of revenue as a component of the Local category. Other cost of revenue was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment cost of revenue increased by $61.3 million to $243.9 million for the three months ended June 30, 2014, as compared to $182.6 million for the three months ended June 30, 2013. The increase in cost of revenue was primarily driven by the cost of inventory and shipping and fulfillment costs related to direct revenue deals in our Goods category, due to the growth of that category as compared to the prior year. Cost of revenue for the three months ended June 30, 2014 includes $18.0 million from the Ideeli acquisition.


51

EMEA
EMEA segment cost of revenue increased by $66.6 million to $87.0 million for the three months ended June 30, 2014, as compared to $20.4 million for the three months ended June 30, 2013. The increase in cost of revenue was primarily driven by the cost of inventory and shipping and fulfillment costs related to direct revenue deals in our Goods category, as we began increasing the number of product deals offered in our EMEA segment for which we are the merchant of record beginning in September 2013.
Rest of World
Rest of World segment cost of revenue increased by $9.8 million to $30.8 million for the three months ended June 30, 2014, as compared to $21.0 million for the three months ended June 30, 2013. Cost of revenue for the three months ended June 30, 2014 includes $11.9 million from the Ticket Monster acquisition, which primarily consists of credit card processing fees.
Gross Profit
Gross profit for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Gross profit:
 
 
 
 
Third party
 
$
344,979

 
$
360,733

Direct
 
42,299

 
21,330

Other
 
2,584

 
2,631

Total gross profit
 
$
389,862

 
$
384,694

Gross profit increased by $5.2 million to $389.9 million for the three months ended June 30, 2014, as compared to $384.7 million for the three months ended June 30, 2013. This increase in gross profit resulted from the $142.8 million increase in revenue during the three months ended June 30, 2014, partially offset by the $137.7 million increase in cost of revenue. The acquisitions of Ticket Monster and Ideeli contributed $23.5 million and $3.6 million of gross profit, respectively, for the three months ended June 30, 2014.
Gross profit as a percentage of revenue decreased to 51.9% for the three months ended June 30, 2014, as compared to 63.2% for the three months ended June 30, 2013. The decrease in gross profit as a percentage of revenue during the three months ended June 30, 2014, as compared to the prior year period, was primarily attributable to the increase in direct revenue. Direct revenue primarily relates to deals in our Goods category, which typically have lower margins than deals in our Local and Travel categories. Additionally, direct revenue and the related cost of revenue are presented on a gross basis in our consolidated statements of operations, which contributes to lower gross profit as a percentage of revenue.
Gross profit on third party revenue decreased by $15.8 million to $345.0 million for the three months ended June 30, 2014, as compared to $360.7 million for the three months ended June 30, 2013. This decrease in gross profit resulted from the $15.2 million decrease in third party revenue and the $0.6 million increase in the cost of third party revenue. Gross profit as a percentage of revenue on third party revenue deals decreased to 86.3% for the three months ended June 30, 2014, as compared to 86.9% for the three months ended June 30, 2013.
Gross profit on direct revenue increased by $21.0 million to $42.3 million for the three months ended June 30, 2014, as compared to $21.3 million for the three months ended June 30, 2013. This increase in gross profit resulted from the $155.8 million increase in direct revenue to $345.6 million for the three months ended June 30, 2014, as compared to $189.9 million for the three months ended June 30, 2013, partially offset by the $134.8 million increase in cost of revenue on direct revenue deals to $303.3 million for the three months ended June 30, 2014, as compared to $168.5 million for the three months ended June 30, 2013. Gross profit as a percentage of revenue on direct revenue deals increased to 12.2% for the three months ended June 30, 2014, as compared to 11.2% for the three months ended June 30, 2013. The increase in gross profit as a percentage of revenue on direct revenue deals was attributable, in part, to lower shipping and fulfillment costs as a percentage of direct revenue, partially offset by increased cost of inventory sold as a percentage of direct revenue.
    


52

Gross Profit by Segment
Gross profit by segment for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
158,167

 
40.6
%
 
$
171,681

 
44.6
 %
Direct
 
21,833

 
5.6

 
22,905

 
6.0

Total gross profit
 
180,000

 
46.2

 
194,586

 
50.6

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
120,257

 
30.8

 
140,656

 
36.6

Direct
 
20,442

 
5.3

 
(1,125
)
 
(0.3
)
Total gross profit
 
140,699

 
36.1

 
139,531

 
36.3

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
69,139

 
17.7

 
51,027

 
13.3

Direct
 
24

 
—

 
(450
)
 
(0.2
)
Total gross profit
 
69,163

 
17.7

 
50,577

 
13.1

Total gross profit
 
$
389,862

 
100.0
%
 
$
384,694

 
100.0
 %
Gross profit by category and segment for the three months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
Three Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
142,674

 
$
155,671

 
$
90,373

 
$
99,318

 
$
35,618

 
$
35,885

 
$
268,665

 
$
290,874

Direct
—

 
57

 
—

 
—

 
—

 
—

 
—

 
57

Total
142,674

 
155,728

 
90,373

 
99,318

 
35,618

 
35,885

 
268,665

 
290,931

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
1,128

 
4,129

 
14,990

 
28,233

 
24,599

 
9,416

 
40,717

 
41,778

Direct
21,833

 
22,848

 
20,442

 
(1,125
)
 
24

 
(450
)
 
42,299

 
21,273

Total
22,961

 
26,977

 
35,432

 
27,108

 
24,623

 
8,966

 
83,016

 
63,051

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
14,365

 
11,881

 
14,894

 
13,105

 
8,922

 
5,726

 
38,181

 
30,712

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross profit
$
180,000

 
$
194,586

 
$
140,699

 
$
139,531

 
$
69,163

 
$
50,577

 
$
389,862

 
$
384,694

(1)
Includes gross profit from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other gross profit as a component of the Local category. Other gross profit was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America gross profit decreased by $14.6 million to $180.0 million for the three months ended June 30, 2014, as compared to $194.6 million for the three months ended June 30, 2013. The decrease in gross profit was comprised of a $13.1 million decrease in the Local category, a $4.0 million decrease in the Goods category and a $2.5 million increase in the Travel category.


53

EMEA
EMEA gross profit increased by $1.2 million to $140.7 million for the three months ended June 30, 2014, as compared to $139.5 million for the three months ended June 30, 2013. The increase in gross profit was comprised of an $8.3 million increase in the Goods category and a $1.8 million increase in the Travel category, partially offset by an $8.9 million decrease in the Local category.
Rest of World
Rest of World gross profit increased by $18.6 million to $69.2 million for three months ended June 30, 2014, as compared to $50.6 million for the three months ended June 30, 2013. The increase in gross profit was comprised of a $15.7 million increase in the Goods category and a $3.2 million increase in the Travel category, partially offset by a $0.3 million decrease in the Local category.
Marketing
For the three months ended June 30, 2014 and 2013, marketing expense was $64.3 million and $55.5 million, respectively. Marketing expense by segment as a percentage of segment revenue and as a percentage of total marketing expense for the three months ended June 30, 2014 and 2013 was as follows:
 
 
Three Months Ended June 30,
 
 
2014
 
% of Segment Revenue
 
% of Total Marketing
 
2013
 
% of Segment Revenue
 
% of Total Marketing
 
 
(dollars in thousands)
North America
 
$
36,637

 
8.6
%
 
57.0
%
 
$
29,011

 
7.7
%
 
52.3
%
EMEA
 
14,605

 
6.4

 
22.7

 
17,552

 
11.0

 
31.6

Rest of World
 
13,033

 
13.0

 
20.3

 
8,934

 
12.5

 
16.1

Marketing
 
$
64,275

 
8.6

 
100.0
%
 
$
55,497

 
9.1

 
100.0
%
Our marketing expense increased by $8.8 million to $64.3 million for the three months ended June 30, 2014, as compared to $55.5 million for the three months ended June 30, 2013. Marketing expense as a percentage of revenue decreased to 8.6% for the three months ended June 30, 2014, as compared to 9.1% for the three months ended June 30, 2013. We evaluate marketing expense as a percentage of revenue because it gives us an indication of how well our marketing spend is driving revenue growth.
Our subscriber acquisition and customer activation marketing activities also include elements that are not presented as "Marketing" on our consolidated statements of operations, such as order discounts, free shipping on qualifying merchandise sales and accepting lower margins on our deals. Marketing is the primary method by which we acquire customers, and as such, is an important part of our business.
North America
North America segment marketing expense increased by $7.6 million to $36.6 million for the three months ended June 30, 2014, as compared to $29.0 million for the three months ended June 30, 2013. For the three months ended June 30, 2014, marketing expense as a percentage of revenue for the North America segment increased to 8.6%, as compared to 7.7% for the three months ended June 30, 2013. These increases were primarily attributable to an increase in offline marketing in connection with our initiatives to grow our active customer base and increase awareness of the pull marketplaces and increased spending on online marketing channels, such as affiliate programs that utilize third parties to promote our deals online.


54

EMEA
EMEA segment marketing expense decreased by $2.9 million to $14.6 million for the three months ended June 30, 2014, as compared to $17.6 million for the three months ended June 30, 2013. For the three months ended June 30, 2014, marketing expense as a percentage of revenue for the EMEA segment decreased to 6.4%, as compared to 11.0% for the three months ended June 30, 2013. These decreases were primarily due to decreased spending on online marketing channels, such as search engine marketing and affiliate programs that utilize third parties to promote our deals online.
Rest of World
Rest of World segment marketing expense increased by $4.1 million to $13.0 million for the three months ended June 30, 2014, as compared to $8.9 million for the three months ended June 30, 2013. For the three months ended June 30, 2014, marketing expense as a percentage of revenue for the Rest of World segment increased to 13.0%, as compared to 12.5% for the three months ended June 30, 2013. These increases were primarily attributable to our acquisition of Ticket Monster, as we incurred $6.6 million of marketing expenditures for the three months ended June 30, 2014 in connection with our initiatives to grow the business.
Selling, General and Administrative
Selling, general and administrative expense increased by $30.2 million to $332.8 million for the three months ended June 30, 2014, as compared to $302.6 million for the three months ended June 30, 2013. This increase was attributable to the Ticket Monster and Ideeli acquisitions. Wages and benefits (excluding stock-based compensation) within selling, general and administrative expense increased by $20.1 million for the three months ended June 30, 2014, as compared to the prior year period, primarily due to the additional employees from those acquisitions. Depreciation and amortization recorded within selling, general and administrative expense increased by $12.3 million for the three months ended June 30, 2014, primarily due to increased amortization expense related to intangible assets acquired as part of those acquisitions.
Selling, general and administrative expense as a percentage of revenue was 44.3% for the three months ended June 30, 2014, as compared to 49.7% for the three months ended June 30, 2013, respectively. Although revenue increased by $142.8 million, or 23.5%, for the three months ended June 30, 2014, as compared to the prior year period, selling, general and administrative expense increased by $30.2 million, or 10.0%. We are continuing to refine our sales management and administrative processes, including through automation and ongoing regionalization of back-office functions, in connection with our efforts to generate increased operating efficiencies.
Acquisition‑Related Expense (Benefit), Net
For the three months ended June 30, 2014, we incurred net acquisition-related expenses of $0.6 million consisting of transaction costs related to business combinations. For the three months ended June 30, 2013, the net acquisition-related benefit of $0.8 million related to changes in the fair value of contingent consideration. See Note 9 "Fair Value Measurements" for information about fair value measurements of contingent consideration arrangements.
(Loss) Income from Operations
The loss from operations for the three months ended June 30, 2014 was $7.9 million, as compared to income from operations for the three months ended June 30, 2013 of $27.4 million. The change in (loss) income from operations for the three months ended June 30, 2014, as compared to the prior year period, was primarily due to the increase in selling, general and administrative expense of $30.2 million and marketing expense of $8.8 million, partially offset by the increase in gross profit of of $5.2 million. The favorable impact on the loss from operations from year-over-year changes in foreign exchange rates for the three months ended June 30, 2014 was $1.2 million.
North America
Segment operating income in our North America segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, decreased by $34.0 million to $14.5 million for the three months ended June 30, 2014, as compared to $48.5 million for the three months ended June 30, 2013. The decrease in segment operating income was primarily attributable to an increase in segment operating expenses and a decrease in segment gross profit.


55

EMEA
Segment operating income in our EMEA segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, increased by $3.0 million to $27.7 million for the three months ended June 30, 2014, as compared to $24.7 million for the three months ended June 30, 2013. The increase in segment operating income was primarily attributable to an increase in segment gross profit and a decrease in segment operating expenses.
Rest of World
Segment operating loss in our Rest of World segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, increased by $3.7 million to a loss of $17.9 million for the three months ended June 30, 2014, as compared to a loss of $14.2 million for the three months ended June 30, 2013. The increased segment operating loss was primarily attributable to an increase in segment operating expenses, partially offset by an increase in segment gross profit.
Other Expense, Net
Other expense, net was $1.0 million for the three months ended June 30, 2014, as compared to $5.6 million for the three months ended June 30, 2013. The decrease in other expense, net was primarily due to a decrease in foreign currency transaction losses for the three months ended June 30, 2014, as compared to the prior year period.
Provision for Income Taxes
For the three months ended June 30, 2014 and 2013, we recorded income tax expense of $12.0 million and $27.4 million, respectively.
The effective tax rate was (135.7)% for the three months ended June 30, 2014, as compared to 125.4% for the three months ended June 30, 2013. The most significant factors impacting our effective tax rate for the three months ended June 30, 2014 and 2013 were losses in jurisdictions that we are not able to benefit due to uncertainty as to the realization of those losses, amortization of the tax effects of intercompany sales of intellectual property and nondeductible stock-based compensation expense.
We expect that our consolidated effective tax rate in future periods will continue to differ significantly from the U.S. federal income tax rate as a result of our tax obligations in jurisdictions with profits and valuation allowances in jurisdictions with losses. Our consolidated effective tax rate in future periods will also be adversely impacted by the amortization of the tax effects of intercompany transactions, including intercompany sales of intellectual property that we expect to undertake in the future.
We are subject to income tax audits in multiple jurisdictions. There are many factors, including factors outside of our control, which influence the progress and completion of these audits. As of June 30, 2014, we believe that it is reasonably possible that a change of up to $48.0 million in unrecognized tax benefits may occur within the next 12 months upon closing of income tax audits or the expiration of applicable statutes of limitations.




56

Results of Operations
Comparison of the Six Months Ended June 30, 2014 and 2013:
 
 
Six Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Revenue:
 
 
 
 
Third party and other
 
$
832,370

 
$
857,979

Direct
 
676,843

 
352,170

Total revenue
 
1,509,213

 
1,210,149

Cost of revenue:
 
 
 
 
Third party and other
 
120,729

 
125,523

Direct
 
612,901

 
320,923

Total cost of revenue
 
733,630

 
446,446

Gross profit
 
775,583

 
763,703

Operating expenses:
 
 
 
 
Marketing
 
143,199

 
105,054

Selling, general and administrative
 
657,809

 
610,806

Acquisition-related expense (benefit), net
 
2,382

 
(747
)
  Total operating expenses
 
803,390

 
715,113

(Loss) income from operations
 
(27,807
)
 
48,590

Other expense, net
 
(1,863
)
 
(10,662
)
(Loss) income before provision for income taxes
 
(29,670
)
 
37,928

Provision for income taxes
 
26,615

 
46,721

Net loss
 
(56,285
)
 
(8,793
)
Net income attributable to noncontrolling interests
 
(4,385
)
 
(2,773
)
Net loss attributable to Groupon, Inc.
 
$
(60,670
)
 
$
(11,566
)



57

Classification of stock-based compensation within cost of revenue and operating expenses
Cost of revenue and operating expenses include stock-based compensation as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
2013
 
 
Statement of Operations line item
 
Stock-based compensation included in line item
 
Statement of Operations line item
 
Stock-based compensation included in line item
 
 
(in thousands)
Total cost of revenue
 
$
733,630

 
$
1,420

 
$
446,446

 
$
1,229

 
 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
 
Marketing
 
$
143,199

 
$
4,597

 
$
105,054

 
$
4,499

Selling, general and administrative
 
657,809

 
49,367

 
610,806

 
56,625

Acquisition-related expense (benefit), net
 
2,382

 
—

 
(747
)
 
—

  Total operating expenses
 
$
803,390

 
$
53,964

 
$
715,113

 
$
61,124

Foreign exchange rate neutral operating results
The effect on our gross billings, revenue, cost of revenue and operating expenses, and (loss) income from operations for the six months ended June 30, 2014 from changes in exchange rates versus the U.S. dollar was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
 
At Avg.
 
Exchange
 
 
 
 
Q2 2013 YTD
 
Rate
 
As
 
 
Rates (1)
 
Effect (2)
 
Reported
 
 
(in thousands)
Gross billings
 
$
3,616,538

 
$
19,719

 
$
3,636,257

 
 
 
 
 
 
 
Revenue
 
$
1,505,068

 
$
4,145

 
$
1,509,213

Cost of revenue and operating expenses
 
1,535,586

 
1,434

 
1,537,020

(Loss) income from operations
 
$
(30,518
)
 
$
2,711

 
$
(27,807
)
(1)
Represents the financial statement balances that would have resulted had exchange rates in the reporting period been the same as those in effect in the comparable prior year period.
(2)
Represents the increase or decrease in reported amounts resulting from changes in exchange rates from those in effect in the comparable prior year period.
Gross Billings
Gross billings represents the total dollar value of customer purchases of goods and services, excluding applicable taxes and net of estimated refunds. Gross billings for the six months ended June 30, 2014 and 2013 were as follows:
 
Six Months Ended June 30,
 
2014
 
2013
 
(in thousands)
Gross billings:
 
 
 
Third party
$
2,947,913

 
$
2,463,660

Direct
676,843

 
352,170

Other
11,501

 
5,745

Total gross billings
$
3,636,257

 
$
2,821,575



58

For third party revenue deals, gross billings differs from third party revenue reported in our consolidated statements of operations, which is presented net of the merchant's share of the transaction price. For direct revenue deals and other revenue, gross billings are equivalent to direct revenue and other revenue reported in our consolidated statements of operations. Gross billings increased by $814.7 million to $3,636.3 million for the six months ended June 30, 2014, as compared to $2,821.6 million for the six months ended June 30, 2013, primarily due to the acquisition of Ticket Monster which contributed $613.5 million in gross billings for the six months ended June 30, 2014. The increase was comprised of a $484.3 million increase in gross billings from third party revenue transactions and a $324.7 million increase in gross billings from direct revenue transactions. The increase in gross billings was driven by an increase in active customers and the volume of transactions. The favorable impact on gross billings from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $19.7 million.
We offer goods and services through three primary categories: Local, Goods and Travel within our North America, EMEA and Rest of World segments. We also earn advertising revenue, payment processing revenue, point of sale revenue, reservation revenue and commission revenue. Gross billings, revenue, cost of revenue and gross profit from these other sources were previously considered to be distinct from our primary categories and were aggregated with gross billings, revenue, cost of revenue and gross profit from Travel, our smallest category. In recent periods, these other revenue sources have been increasingly viewed by management as a component of the Local category, as they are primarily generated through our relationships with local and national merchants. Accordingly, we have updated our presentation of category information in the current period to include other gross billings, revenue, cost of revenue and gross profit within the Local category in the tables below, and the prior period category information has been retrospectively adjusted to conform to the current period presentation. The increase in our gross billings was comprised of a $599.7 million increase in our Goods category, a $104.3 million increase in our Local category and a $110.7 million increase in our Travel category.
Gross Billings by Segment
Gross billings by segment for the six months ended June 30, 2014 and 2013 were as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
Gross billings:
 
 
 
 
 
 
 
 
North America
 
$
1,580,614

 
43.5
%
 
$
1,393,524

 
49.4
%
EMEA
 
996,843

 
27.4

 
974,568

 
34.5

Rest of World
 
1,058,800

 
29.1

 
453,483

 
16.1

Total gross billings
 
$
3,636,257

 
100.0
%
 
$
2,821,575

 
100.0
%


59

Gross billings by category and segment for the six months ended June 30, 2014 and 2013 were as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
918,318

 
$
903,178

 
$
489,407

 
$
502,153

 
$
338,070

 
$
235,475

 
$
1,745,795

 
$
1,640,806

Direct
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
918,318

 
903,871

 
489,407

 
502,153

 
338,070

 
235,475

 
1,745,795

 
1,641,499

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
14,173

 
32,795

 
185,988

 
307,155

 
551,871

 
137,768

 
752,032

 
477,718

Direct
476,341

 
329,442

 
187,982

 
9,632

 
12,520

 
12,403

 
676,843

 
351,477

Total
490,514

 
362,237

 
373,970

 
316,787

 
564,391

 
150,171

 
1,428,875

 
829,195

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
171,782

 
127,416

 
133,466

 
155,628

 
156,339

 
67,837

 
461,587

 
350,881

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross billings
$
1,580,614

 
$
1,393,524

 
$
996,843

 
$
974,568

 
$
1,058,800

 
$
453,483

 
$
3,636,257

 
$
2,821,575

(1)
Includes gross billings from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other gross billings as a component of the Local category. Other gross billings were previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment gross billings increased by $187.1 million to $1,580.6 million for the six months ended June 30, 2014, as compared to $1,393.5 million for the six months ended June 30, 2013. The increase in gross billings was comprised of a $128.3 million increase in our Goods category, which included $37.5 million of gross billings from our Ideeli acquisition. The increase in gross billings was also comprised of a $44.4 million increase in our Travel category and a $14.4 million increase in our Local category. The increase in gross billings in the North America segment resulted from higher unit sales and an increase in active customers, partially offset by lower gross billings per average active customer and increased order discounts for the six months ended June 30, 2014, as compared to the prior year period. We believe that increases in transaction activity by active customers who make purchases on mobile devices and in the number of deals that we offered contributed to the growth in billings for our North America segment. In addition, we have continued to refine our approach to targeting customers and have undertaken marketing initiatives to increase consumer awareness of deals available through our marketplaces, which we believe contributed to the billings growth.
Although North America segment gross billings increased by 13.4% during the six months ended June 30, 2014, as compared to the prior year, we believe that the continued growth of our online marketplaces of deals, where merchants have a continuous presence on our websites for an extended period of time, is impacting the timing of customer purchases in our Local category. Historically, our customers often purchased a Groupon voucher when they received our email with a limited-time offer, even though they may not have intended to use the voucher in the near term. However, the growth of our marketplaces of deals enables customers to wait until they are ready to use the related vouchers before making purchases, which we believe is currently adversely impacting gross billings.
EMEA
EMEA segment gross billings increased by $22.3 million to $996.8 million for the six months ended June 30, 2014, as compared to $974.6 million for the six months ended June 30, 2013. The increase in gross billings was comprised of a $57.2 million increase in our Goods category, resulting from higher unit sales in this category for the six months ended June 30, 2014, as compared to the prior year period. The increase in gross billings in the EMEA segment also resulted from an increase in active customers and higher gross billings per average active customer for the six months ended June 30, 2014, as compared to the prior year period. The increase in Goods gross billings was partially offset by a $12.7 million decrease in our Local category and a


60

$22.2 million decrease in our Travel category. The favorable impact on gross billings from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $36.4 million.
    Rest of World
Rest of World segment gross billings increased by $605.3 million to $1,058.8 million for the six months ended June 30, 2014, as compared to $453.5 million for the six months ended June 30, 2013. The increase in gross billings was attributable to our acquisition of Ticket Monster, which contributed $613.5 million in gross billings for the six months ended June 30, 2014, and also generated higher unit sales and an increase in active customers for the six months ended June 30, 2014, as compared to the prior year period. The increase in gross billings was comprised of a $414.2 million increase in our Goods category, a $102.6 million increase in our Local category and an $88.5 million increase in our Travel category. The increase in gross billings in the Rest of World segment was partially offset by lower gross billings per average active customer for the six months ended June 30, 2014, as compared to the prior year period. The unfavorable impact on gross billings from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $15.2 million.
On a pro forma basis, the combined gross billings of our Rest of World segment, as if the Company had acquired Ticket Monster as of January 1, 2013, were $841.4 million for the six months ended June 30, 2013. This pro forma gross billings amount is not necessarily indicative of what the actual results of the combined company would have been if the acquisition had occurred as of January 1, 2013, nor is it indicative of future results.
Revenue
We generate revenue from third party revenue deals, direct revenue deals and other transactions. Revenue for the six months ended June 30, 2014 and 2013 was as follows:
 
Six Months Ended June 30,
 
2014
 
2013
 
(in thousands)
Revenue:
 
 
 
Third party
$
820,869

 
$
852,234

Direct
676,843

 
352,170

Other
11,501

 
5,745

Total revenue
$
1,509,213

 
$
1,210,149

Revenue increased by $299.1 million to $1,509.2 million for the six months ended June 30, 2014, as compared to $1,210.1 million for the six months ended June 30, 2013. This increase was attributable to the $324.7 million increase in direct revenue from transactions in our Goods category, where we are the merchant of record and for which revenue is reported on a gross basis. The increase in revenue was partially offset by a $31.4 million decrease in third party revenue. The net increase in revenue was attributable to higher unit sales and an increase in active customers for the six months ended June 30, 2014, as compared to the prior year period. We also increased the number of merchant relationships and the volume of deals we offer to our customers. Our acquisitions of Ticket Monster and Ideeli contributed $64.6 million and $37.5 million of revenue, respectively, for the six months ended June 30, 2014. The favorable impact on revenue from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $4.1 million.
Third Party Revenue
Third party revenue decreased by $31.4 million to $820.9 million for the six months ended June 30, 2014, as compared to $852.2 million for the six months ended June 30, 2013. The decrease in third party revenue is primarily due to a $31.9 million decrease in our Local category. Although third party gross billings in our Local category increased $99.2 million, the percentage of gross billings that we retained after deducting the merchant's share decreased to 35.9% for the six months ended June 30, 2014, as compared to 40.0% for the six months ended June 30, 2013. The decrease in third party revenue in the current period was also due to a $7.7 million decrease in our Goods category, which resulted from a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 14.9% for the six months ended June 30, 2014, as compared to 25.0% in the prior year period. The decrease in third party revenue was offset by an $8.3 million increase in our Travel category, which resulted from a $110.7 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 18.8% for the six months ended June 30, 2014, as compared to 22.3% for the six months ended June 30, 2013. Our acquisition of Ticket Monster contributed $64.6 million of revenue, primarily third party revenue, for


61

the six months ended June 30, 2014. The decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins.
Direct Revenue
Direct revenue increased by $324.7 million to $676.8 million for the six months ended June 30, 2014, as compared to $352.2 million for the six months ended June 30, 2013. Direct revenue for the six months ended June 30, 2014 includes $37.5 million from our Ideeli acquisition. We are often the merchant of record for transactions in the Goods category, particularly in North America and also in EMEA beginning in September 2013, such that the resulting revenue is reported on a gross basis within direct revenue. In addition, we expect that any growth in direct revenue will result in a smaller increase in income from operations than growth in third party revenue because direct revenue includes the entire amount of gross billings, before deducting the cost of the related inventory, while third party revenue is net of the merchant's share of the transaction price. Additionally, our Goods category has lower margins than our Local category, primarily as a result of shipping and fulfillment costs related to direct revenue transactions. 
We believe that direct revenue deals in our Goods category will increase in the future in the EMEA and Rest of World segments as we continue to build out our global supply chain infrastructure.
Other Revenue
Other revenue increased by $5.8 million to $11.5 million for the six months ended June 30, 2014, as compared to $5.7 million for the six months ended June 30, 2013, primarily due to an increase in payment processing revenue, advertising revenue and commission revenue, which we launched in the fourth quarter of 2013. Other revenue also includes reservation revenue, which we launched in the third quarter of 2013, and point of sale revenue. Those other revenue sources were not significant for the six months ended June 30, 2014 and 2013, and we do not expect them to be material in the near term.
Revenue by Segment
Revenue by segment for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
378,652

 
25.1
%
 
$
386,601

 
31.9
%
Direct
 
476,341

 
31.6

 
330,135

 
27.3

Total segment revenue
 
854,993

 
56.7

 
716,736

 
59.2

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
270,601

 
17.9

 
334,128

 
27.6

Direct
 
187,982

 
12.5

 
9,632

 
0.8

Total segment revenue
 
458,583

 
30.4

 
343,760

 
28.4

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
183,117

 
12.1

 
137,250

 
11.3

Direct
 
12,520

 
0.8

 
12,403

 
1.1

Total segment revenue
 
195,637

 
12.9

 
149,653

 
12.4

Total revenue
 
$
1,509,213

 
100.0
%
 
$
1,210,149

 
100.0
%


62

Revenue by category and segment for the six months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
341,747

 
$
348,978

 
$
205,605

 
$
221,818

 
$
86,525

 
$
89,263

 
$
633,877

 
$
660,059

Direct revenue
—

 
693

 
—

 
—

 
—

 
—

 
—

 
693

Total
341,747

 
349,671

 
205,605

 
221,818

 
86,525

 
89,263

 
633,877

 
660,752

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
2,720

 
7,795

 
34,320

 
78,813

 
74,872

 
33,047

 
111,912

 
119,655

Direct revenue
476,341

 
329,442

 
187,982

 
9,632

 
12,520

 
12,403

 
676,843

 
351,477

Total
479,061

 
337,237

 
222,302

 
88,445

 
87,392

 
45,450

 
788,755

 
471,132

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
34,185

 
29,828

 
30,676

 
33,497

 
21,720

 
14,940

 
86,581

 
78,265

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total revenue
$
854,993

 
$
716,736

 
$
458,583

 
$
343,760

 
$
195,637

 
$
149,653

 
$
1,509,213

 
$
1,210,149

(1)
Includes revenue from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other revenue as a component of the Local category. Other revenue was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment revenue increased by $138.3 million to $855.0 million for the six months ended June 30, 2014, as compared to $716.7 million for the six months ended June 30, 2013. The increase in revenue primarily resulted from a $146.9 million increase in direct revenue from our Goods category, which included $37.5 million of direct revenue from our Ideeli acquisition. Direct revenue, which is recorded on a gross basis, is derived primarily from selling products through our Goods category where we are the merchant of record. The increase in revenue was also due to higher unit sales and an increase in active customers, partially offset by lower gross billings per average active customer and increased order discounts for the six months ended June 30, 2014, as compared to the prior year period. Currently, the Company incurs the entire cost of order discounts through lower gross billings without a corresponding reduction to the merchant's share of a voucher sale. In future periods we intend to seek opportunities to share the cost of order discounts with merchants in North America as we negotiate future merchant agreements.
We believe that increases in transaction activity on mobile devices and in the number of deals that we offered contributed to the growth in revenue for our North America segment. In addition, we have continued to refine our approach to targeting customers and have undertaken marketing initiatives to increase consumer awareness of deals available through our marketplaces, which we believe contributed to the revenue growth.
EMEA
EMEA segment revenue increased by $114.8 million to $458.6 million for the six months ended June 30, 2014, as compared to $343.8 million for the six months ended June 30, 2013. The increase in revenue primarily resulted from a $178.4 million increase in direct revenue from our Goods category. Revenue from transactions in the Goods category in our EMEA segment were primarily presented on a net basis within third party revenue in the prior year period, as we were not typically the merchant of record for those transactions outside of the United States. However, we began increasing the number of product deals offered in our EMEA segment for which we are the merchant of record beginning in September 2013. As a result, the proportion of direct revenue deals in the Goods category of our EMEA segment increased in the second quarter of 2014 as compared to the prior year period, and we expect that the proportion of direct revenue deals in the Goods category of our EMEA segment will continue to increase in future periods.


63

The increase in direct revenue in our Goods category was partially offset by a $44.5 million decrease in third party revenue in our Goods category, which resulted from a $121.2 million decrease in gross billings and a decrease in the percentage of gross billings that we retained after deducting the merchant's share to 18.5% for the six months ended June 30, 2014, as compared to 25.7% for the six months ended June 30, 2013. The increase in revenue was partially offset by a $16.2 million decrease in third party and other revenue from our Local category, which primarily resulted from a decrease in the percentage of third party and other gross billings that we retained after deducting the merchant's share to 42.0% for the six months ended June 30, 2014, as compared to 44.2% for the six months ended June 30, 2013. These decreases in the percentage of third party and other gross billings that we retained during the six months ended June 30, 2014 reflect the overall results of individual deal-by-deal negotiations with our merchants and can vary significantly from period-to-period. We were willing to accept lower deal margins in our Local category, as compared to the prior year period, in order to improve the quality and increase the number of deals offered to our customers by offering more attractive terms to merchants.
The overall increase in revenue in our EMEA segment was also due to higher unit sales, an increase in active customers and higher gross billings per average active customer for the six months ended June 30, 2014, as compared to the prior year period. The favorable impact on revenue from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $17.1 million.
Rest of World
Rest of World segment revenue increased by $46.0 million to $195.6 million for the six months ended June 30, 2014, as compared to $149.7 million for the six months ended June 30, 2013. The increase in revenue was primarily attributable to our acquisition of Ticket Monster, which contributed $64.6 million in revenue for the six months ended June 30, 2014. Revenue from our Goods category increased by $41.9 million for the six months ended June 30, 2014, as compared to the prior year period, due to a $41.8 million increase in third party revenue, which resulted from a $414.1 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 13.6% for the six months ended June 30, 2014, as compared to 24.0% in the prior year period. The increase in third party revenue from our Goods category was attributable to the Ticket Monster acquisition, and the decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins. In our Rest of World segment, revenue from transactions in our Goods category are primarily presented on a net basis within third party revenue, as we have not typically been the merchant of record for those transactions outside of the United States and EMEA.
The increase in revenue from our Rest of World segment was also due to a $6.8 million increase in revenue from our Travel category, which resulted from an $88.5 million increase in gross billings, partially offset by a reduction in the percentage of gross billings that we retained after deducting the merchant's share to 13.9% for the six months ended June 30, 2014, as compared to 22.0% in the prior year period. Although gross billings on third party and other revenue transactions in our Local category increased by $102.6 million, third party and other revenue in our Local category decreased by $2.7 million, which resulted from a reduction in the percentage of third party and other gross billings that we retained after deducting the merchant's share to 25.6% for the six months ended June 30, 2014, as compared to 37.9% for the six months ended June 30, 2013. The decrease in the percentage of gross billings that we retained after deducting the merchant's share primarily reflects the impact of Ticket Monster's lower deal margins. The unfavorable impact on revenue from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $12.4 million.
Cost of Revenue
Cost of revenue on third party, direct revenue and other deals for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Cost of revenue:
 
 
 
 
Third party
 
$
112,450

 
$
124,304

Direct
 
612,901

 
320,923

Other
 
8,279

 
1,219

Total cost of revenue
 
$
733,630

 
$
446,446

Cost of revenue is comprised of direct and certain indirect costs incurred to generate revenue. For direct revenue deals,


64

cost of revenue includes the cost of inventory, shipping and fulfillment costs and inventory markdowns. Fulfillment costs are comprised of third party logistics provider costs, as well as rent, depreciation, personnel costs and other costs of operating our own fulfillment center, which began operations in the fourth quarter of 2013. For third party revenue transactions, cost of revenue includes estimated refunds for which the merchant's share is not recoverable. Other costs incurred to generate revenue, which include credit card processing fees, editorial costs, certain technology costs, web hosting and other processing fees, are allocated to cost of third party revenue, direct revenue, and other revenue in proportion to gross billings during the period. As a result of the significant growth we have experienced from direct revenue transactions relative to our total gross billings for the six months ended June 30, 2014, as compared to the prior year period, an increased share of those allocable costs has been allocated to cost of direct revenue in our condensed consolidated statement of operations for the six months ended June 30, 2014.
Cost of revenue increased by $287.2 million to $733.6 million for the six months ended June 30, 2014, as compared to $446.4 million for the six months ended June 30, 2013, which was attributable to the growth in direct revenue from our Goods category. The increase in cost of revenue was primarily driven by the cost of inventory and related shipping and fulfillment costs on direct revenue deals, which were not as significant during the prior year period. We currently outsource most of our inventory fulfillment activities in the United States to third party logistics providers. However, we expect to reduce our usage of those third parties in future periods by transitioning additional inventory fulfillment work in the United States to internal resources. For example, we launched our own fulfillment center in the fourth quarter of 2013. Additionally, to further reduce the involvement of third party logistics providers in the fulfillment process in the United States, we have increased our use of arrangements in which the suppliers of our product offerings ship merchandise directly to our customers. We are also refining our inventory management practices to better allocate inventories among warehouses in different geographic regions throughout the United States to reduce shipping distances to customers and increase units per order. We believe that these initiatives will ultimately reduce our fulfillment costs and improve the margins on direct revenue transactions in our Goods category. Those margins improved on a sequential basis in the second quarter of 2014 as compared to the first quarter of 2014. However, we may incur increased fulfillment costs from time to time as we enhance our internal processes and continue to transition fulfillment work from third party logistics providers.


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Cost of Revenue by Segment
Cost of revenue by segment for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
dollars in thousands
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
52,261

 
7.1
%
 
$
52,351

 
11.7
%
Direct
 
443,064

 
60.4

 
297,443

 
66.7

Total segment cost of revenue
 
495,325

 
67.5

 
349,794

 
78.4

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
20,887

 
2.8

 
39,730

 
8.9

Direct
 
155,960

 
21.3

 
10,778

 
2.4

Total segment cost of revenue
 
176,847

 
24.1

 
50,508

 
11.3

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
47,581

 
6.5

 
33,442

 
7.5

Direct
 
13,877

 
1.9

 
12,702

 
2.8

Total segment cost of revenue
 
61,458

 
8.4

 
46,144

 
10.3

Total cost of revenue
 
$
733,630

 
100.0
%
 
$
446,446

 
100.0
%
Cost of revenue by category and segment for the six months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
46,451

 
$
46,928

 
$
15,166

 
$
25,111

 
$
16,159

 
$
13,888

 
$
77,776

 
$
85,927

Direct
—

 
636

 
—

 
—

 
—

 
—

 
—

 
636

Total
46,451

 
47,564

 
15,166

 
25,111

 
16,159

 
13,888

 
77,776

 
86,563

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
432

 
997

 
3,608

 
10,585

 
26,757

 
17,070

 
30,797

 
28,652

Direct
443,064

 
296,807

 
155,960

 
10,778

 
13,877

 
12,702

 
612,901

 
320,287

Total
443,496

 
297,804

 
159,568

 
21,363

 
40,634

 
29,772

 
643,698

 
348,939

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
5,378

 
4,426

 
2,113

 
4,034

 
4,665

 
2,484

 
12,156

 
10,944

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total cost of revenue
$
495,325

 
$
349,794

 
$
176,847

 
$
50,508

 
$
61,458

 
$
46,144

 
$
733,630

 
$
446,446

(1)
Includes cost of revenue from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other cost of revenue as a component of the Local category. Other cost of revenue was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America segment cost of revenue increased by $145.5 million to $495.3 million for the six months ended June 30, 2014, as compared to $349.8 million for the six months ended June 30, 2013. The increase in cost of revenue was primarily driven by the cost of inventory and shipping and fulfillment costs related to direct revenue deals in our Goods category, due to the growth of that category as compared to the prior year. Cost of revenue for the six months ended June 30, 2014 includes $32.3 million from the Ideeli acquisition.


66

EMEA
EMEA segment cost of revenue increased by $126.3 million to $176.8 million for the six months ended June 30, 2014, as compared to $50.5 million for the six months ended June 30, 2013. The increase in cost of revenue was primarily driven by the cost of inventory and shipping and fulfillment costs related to direct revenue deals in our Goods category, as we began increasing the number of product deals offered in our EMEA segment for which we are the merchant of record beginning in September 2013.
Rest of World
Rest of World segment cost of revenue increased by $15.3 million to $61.5 million for the six months ended June 30, 2014, as compared to $46.1 million for the six months ended June 30, 2013. Cost of revenue for the six months ended June 30, 2014 includes $20.9 million from the Ticket Monster acquisition, which primarily consists of credit card processing fees.
Gross Profit
Gross profit for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Gross profit:
 
 
 
 
Third party
 
$
708,419

 
$
727,930

Direct
 
63,942

 
31,247

Other
 
3,222

 
4,526

Total gross profit
 
$
775,583

 
$
763,703

Gross profit increased by $11.9 million to $775.6 million for the six months ended June 30, 2014, as compared to $763.7 million for the six months ended June 30, 2013. This increase in gross profit resulted from the $299.1 million increase in revenue during the six months ended June 30, 2014, partially offset by the $287.2 million increase in cost of revenue. The acquisitions of Ticket Monster and Ideeli contributed $43.7 million and $5.2 million of gross profit, respectively, for the six months ended June 30, 2014.
Gross profit as a percentage of revenue decreased to 51.4% for the six months ended June 30, 2014, as compared to 63.1% for the six months ended June 30, 2013. The decrease in gross profit as a percentage of revenue during the six months ended June 30, 2014, as compared to the prior year period, was primarily attributable to the increase in direct revenue. Direct revenue primarily relates to deals in our Goods category, which typically have lower margins than deals in our Local and Travel categories. Additionally, direct revenue and the related cost of revenue are presented on a gross basis in our consolidated statements of operations, which contributes to lower gross profit as a percentage of revenue.
Gross profit on third party revenue decreased by $19.5 million to $708.4 million for the six months ended June 30, 2014, as compared to $727.9 million for the six months ended June 30, 2013. This decrease in gross profit resulted from the $31.4 million decrease in third party revenue, partially offset by the $11.9 million decrease in the cost of third party revenue. Gross profit as a percentage of revenue on third party revenue deals increased to 86.3% for the six months ended June 30, 2014, as compared to 85.4% for the six months ended June 30, 2013.
Gross profit on direct revenue increased by $32.7 million to $63.9 million for the six months ended June 30, 2014, as compared to $31.2 million for the six months ended June 30, 2013. This increase in gross profit resulted from the $324.7 million increase in direct revenue to $676.8 million for the six months ended June 30, 2014, as compared to $352.2 million for the six months ended June 30, 2013, partially offset by the $292.0 million increase in cost of revenue on direct revenue deals to $612.9 million for the six months ended June 30, 2014, as compared to $320.9 million for the six months ended June 30, 2013. Gross profit as a percentage of revenue on direct revenue deals increased to 9.4% for the six months ended June 30, 2014, as compared to 8.9% for the six months ended June 30, 2013. The increase in gross profit as a percentage of revenue on direct revenue deals was attributable, in part, to lower shipping and fulfillment costs as a percentage of direct revenue, partially offset by increased cost of inventory sold as a percentage of direct revenue.
    


67

Gross Profit by Segment
Gross profit by segment for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
% of total
 
2013
 
% of total
 
 
(dollars in thousands)
North America:
 
 
 
 
 
 
 
 
Third party and other
 
$
326,391

 
42.1
 %
 
$
334,250

 
43.8
 %
Direct
 
33,277

 
4.3

 
32,692

 
4.2

Total gross profit
 
359,668

 
46.4

 
366,942

 
48.0

EMEA:
 
 
 
 
 
 
 
 
Third party and other
 
249,714

 
32.2

 
294,398

 
38.5

Direct
 
32,022

 
4.1

 
(1,146
)
 
(0.1
)
Total gross profit
 
281,736

 
36.3

 
293,252

 
38.4

Rest of World:
 
 
 
 
 
 
 
 
Third party and other
 
135,536

 
17.5

 
103,808

 
13.6

Direct
 
(1,357
)
 
(0.2
)
 
(299
)
 
—

Total gross profit
 
134,179

 
17.3

 
103,509

 
13.6

Total gross profit
 
$
775,583

 
100.0
 %
 
$
763,703

 
100.0
 %
Gross profit by category and segment for the six months ended June 30, 2014 and 2013 was as follows (in thousands):
 
North America
 
EMEA
 
Rest of World
 
Consolidated
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
 
2014
 
2013
Local (1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party and other(2)
$
295,296

 
$
302,050

 
$
190,439

 
$
196,707

 
$
70,366

 
$
75,375

 
$
556,101

 
$
574,132

Direct
—

 
57

 
—

 
—

 
—

 
—

 
—

 
57

Total
295,296

 
302,107

 
190,439

 
196,707

 
70,366

 
75,375

 
556,101

 
574,189

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Goods:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party
2,288

 
6,798

 
30,712

 
68,228

 
48,115

 
15,977

 
81,115

 
91,003

Direct
33,277

 
32,635

 
32,022

 
(1,146
)
 
(1,357
)
 
(299
)
 
63,942

 
31,190

Total
35,565

 
39,433

 
62,734

 
67,082

 
46,758

 
15,678

 
145,057

 
122,193

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Travel:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Third party(2)
28,807

 
25,402

 
28,563

 
29,463

 
17,055

 
12,456

 
74,425

 
67,321

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total gross profit
$
359,668

 
$
366,942

 
$
281,736

 
$
293,252

 
$
134,179

 
$
103,509

 
$
775,583

 
$
763,703

(1)
Includes gross profit from deals with local merchants, from deals with national merchants, and through local events.
(2)
During the three months ended March 31, 2014, the Company began classifying other gross profit as a component of the Local category. Other gross profit was previously aggregated with the Travel category. The prior period category information has been retrospectively adjusted to conform to the current period presentation.
North America
North America gross profit decreased by $7.3 million to $359.7 million for the six months ended June 30, 2014, as compared to $366.9 million for the six months ended June 30, 2013. The decrease in gross profit was comprised of a $6.8 million decrease in the Local category and a $3.9 million decrease in the Goods category, partially offset by a $3.4 million increase in the Travel category.


68

EMEA
EMEA gross profit decreased by $11.5 million to $281.7 million for the six months ended June 30, 2014, as compared to $293.3 million for the six months ended June 30, 2013. The decrease in gross profit was comprised of a $6.3 million decrease in the Local category, a $4.3 million decrease in the Goods category and a $0.9 million decrease in the Travel category.
Rest of World
Rest of World gross profit increased by $30.7 million to $134.2 million for six months ended June 30, 2014, as compared to $103.5 million for the six months ended June 30, 2013. The increase in gross profit was comprised of a $31.1 million increase in the Goods category and a $4.6 million increase in the Travel category, partially offset by a $5.0 million decrease in the Local category.
Marketing
For the six months ended June 30, 2014 and 2013, marketing expense was $143.2 million and $105.1 million, respectively. Marketing expense by segment as a percentage of segment revenue and as a percentage of total marketing expense for the six months ended June 30, 2014 and 2013 was as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
% of Segment Revenue
 
% of Total Marketing
 
2013
 
% of Segment Revenue
 
% of Total Marketing
 
 
(dollars in thousands)
North America
 
$
72,339

 
8.5
%
 
50.5
%
 
$
52,861

 
7.4
%
 
50.3
%
EMEA
 
39,781

 
8.7

 
27.8

 
32,976

 
9.6

 
31.4

Rest of World
 
31,079

 
15.9

 
21.7

 
19,217

 
12.8

 
18.3

Marketing
 
$
143,199

 
9.5

 
100.0
%
 
$
105,054

 
8.7

 
100.0
%
Our marketing expense increased by $38.1 million to $143.2 million for the six months ended June 30, 2014, as compared to $105.1 million for the six months ended June 30, 2013. Marketing expense as a percentage of revenue increased to 9.5% for the six months ended June 30, 2014, as compared to 8.7% for the six months ended June 30, 2013. We evaluate marketing expense as a percentage of revenue because it gives us an indication of how well our marketing spend is driving revenue growth.
Our subscriber acquisition and customer activation marketing activities also include elements that are not presented as "Marketing" on our consolidated statements of operations, such as order discounts, free shipping on qualifying merchandise sales and accepting lower margins on our deals. Marketing is the primary method by which we acquire customers, and as such, is an important part of our business.
North America
North America segment marketing expense increased by $19.5 million to $72.3 million for the six months ended June 30, 2014, as compared to $52.9 million for the six months ended June 30, 2013. For the six months ended June 30, 2014, marketing expense as a percentage of revenue for the North America segment increased to 8.5%, as compared to 7.4% for the six months ended June 30, 2013. These increases were primarily attributable to an increase in online marketing spend, in connection with our initiatives to grow our active customer base and increase awareness of the pull marketplaces.


69

EMEA
EMEA segment marketing expense increased by $6.8 million to $39.8 million for the six months ended June 30, 2014, as compared to $33.0 million for the six months ended June 30, 2013. For the six months ended June 30, 2014, marketing expense as a percentage of revenue for the EMEA segment decreased to 8.7%, as compared to 9.6% for the six months ended June 30, 2013. The increase in marketing expense for the six months ended June 30, 2014, as compared to the prior year period, was primarily due to increased spending on online marketing channels, such as search engine marketing and affiliate programs that utilize third parties to promote our deals online.
Rest of World
Rest of World segment marketing expense increased by $11.9 million to $31.1 million for the six months ended June 30, 2014, as compared to $19.2 million for the six months ended June 30, 2013. For the six months ended June 30, 2014, marketing expense as a percentage of revenue for the Rest of World segment increased to 15.9%, as compared to 12.8% for the six months ended June 30, 2013. These increases were primarily attributable to our acquisition of Ticket Monster, as we incurred $16.3 million of marketing expenditures for the six months ended June 30, 2014 in connection with our initiatives to grow the business.
Selling, General and Administrative
Selling, general and administrative expense increased by $47.0 million to $657.8 million for the six months ended June 30, 2014, as compared to $610.8 million for the six months ended June 30, 2013. This increase was attributable to the Ticket Monster and Ideeli acquisitions. Wages and benefits (excluding stock-based compensation) within selling, general and administrative expense increased by $41.6 million for the six months ended June 30, 2014, as compared to the prior year period, primarily due to the additional employees from those acquisitions. Depreciation and amortization recorded within selling, general and administrative expense increased by $24.9 million for the six months ended June 30, 2014, primarily due to increased amortization expense related to intangible assets acquired as part of those acquisitions. These increases were partially offset by lower corporate costs, including lower consulting and legal costs. Additionally, stock-based compensation recorded within selling, general and administrative expense decreased due to forfeitures resulting from the departures of two senior executives during the current period.
Selling, general and administrative expense as a percentage of revenue was 43.6% for the six months ended June 30, 2014, as compared to 50.5% for the six months ended June 30, 2013, respectively. Although revenue increased by $299.1 million, or 24.7%, for the six months ended June 30, 2014, as compared to the prior year period, selling, general and administrative expense increased by $47.0 million, or 7.7%. We are continuing to refine our sales management and administrative processes, including through automation and ongoing regionalization of back-office functions, in connection with our efforts to generate increased operating efficiencies.
Acquisition‑Related Expense (Benefit), Net
For the six months ended June 30, 2014 and 2013, we incurred net acquisition-related expenses of $2.4 million and benefits of $0.7 million, respectively. For the six months ended June 30, 2014, the net acquisition-related expense included $2.4 million of external transaction costs, primarily related to the acquisitions of Ticket Monster and Ideeli as described in Note 2 "Business Combinations," partially offset by less than $0.1 million related to changes in the fair value of contingent consideration. See Note 9 "Fair Value Measurements" for information about fair value measurements of contingent consideration arrangements.
(Loss) Income from Operations
The loss from operations for the six months ended June 30, 2014 was $27.8 million, as compared to income from operations for the six months ended June 30, 2013 of $48.6 million. The change in (loss) income from operations for the six months ended June 30, 2014, as compared to the prior year period, was primarily due to the increase in selling, general and administrative expense of $47.0 million and marketing expense of $38.1 million, partially offset by the increase in gross profit of $11.9 million. The favorable impact on the loss from operations from year-over-year changes in foreign exchange rates for the six months ended June 30, 2014 was $2.7 million.
North America
Segment operating income in our North America segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, decreased by $63.9 million to $25.9 million for the six months ended June 30, 2014, as compared to $89.9 million for the six months ended June 30, 2013. The decrease in segment operating income was primarily attributable


70

to an increase in segment operating expenses and a decrease in segment gross profit.
EMEA
Segment operating income in our EMEA segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, decreased by $12.3 million to $46.6 million for the six months ended June 30, 2014, as compared to $58.9 million for the six months ended June 30, 2013. The decrease in segment operating income was primarily attributable to a decrease in segment gross profit and an increase in segment operating expenses.
Rest of World
Segment operating loss in our Rest of World segment, which excludes stock-based compensation and acquisition-related expense (benefit), net, increased by $4.0 million to a loss of $42.6 million for the six months ended June 30, 2014, as compared to a loss of $38.6 million for the six months ended June 30, 2013. The increased segment operating loss was primarily attributable to an increase in segment operating expenses, partially offset by an increase in segment gross profit.
Other Expense, Net
Other expense, net was $1.9 million for the six months ended June 30, 2014, as compared to $10.7 million for the six months ended June 30, 2013. The decrease in other expense, net was primarily due to a decrease in foreign currency transaction losses for the six months ended June 30, 2014, as compared to the prior year period.
Provision for Income Taxes
For the six months ended June 30, 2014 and 2013, we recorded income tax expense of $26.6 million and $46.7 million, respectively.
The effective tax rate was (89.7)% for the six months ended June 30, 2014, as compared to 123.2% for the six months ended June 30, 2013. The most significant factors impacting our effective tax rate for the six months ended June 30, 2014 and 2013 were losses in jurisdictions that we are not able to benefit due to uncertainty as to the realization of those losses, amortization of the tax effects of intercompany sales of intellectual property and nondeductible stock-based compensation expense.
We expect that our consolidated effective tax rate in future periods will continue to differ significantly from the U.S. federal income tax rate as a result of our tax obligations in jurisdictions with profits and valuation allowances in jurisdictions with losses. Our consolidated effective tax rate in future periods will also be adversely impacted by the amortization of the tax effects of intercompany transactions, including intercompany sales of intellectual property that we expect to undertake in the future.
We are subject to income tax audits in multiple jurisdictions. There are many factors, including factors outside of our control, which influence the progress and completion of these audits. As of June 30, 2014, we believe that it is reasonably possible that a change of up to $48.0 million in unrecognized tax benefits may occur within the next 12 months upon closing of income tax audits or the expiration of applicable statutes of limitations.



71

Non-GAAP Financial Measures
In addition to financial results reported in accordance with U.S. GAAP, we have provided the following non-GAAP financial measures: Adjusted EBITDA, free cash flow and foreign exchange rate neutral operating results. These non-GAAP financial measures are used in addition to and in conjunction with results presented in accordance with U.S. GAAP. However, these measures are not intended to be a substitute for those reported in accordance with U.S. GAAP. These measures may be different from non-GAAP financial measures used by other companies, even when similar terms are used to identify such measures.
Adjusted EBITDA. Adjusted EBITDA is a non-GAAP financial measure that comprises net income (loss) excluding income taxes, interest and other non-operating items, depreciation and amortization, stock-based compensation and acquisition-related expense (benefit), net. We exclude stock-based compensation expense and depreciation and amortization because they are primarily non-cash in nature, and we believe that non-GAAP financial measures excluding these items provide meaningful supplemental information about our operating performance and liquidity. Acquisition-related expense (benefit), net is comprised of the change in the fair value of contingent consideration arrangements and external transaction costs related to business combinations, primarily consisting of legal and advisory fees. Our definition of Adjusted EBITDA may differ from similar measures used by other companies, even when similar terms are used to identify such measures. Adjusted EBITDA is a key measure used by our management and Board of Directors to evaluate operating performance, generate future operating plans and make strategic decisions for the allocation of capital. Accordingly, we believe that Adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and Board of Directors.
The following is a reconciliation of Adjusted EBITDA to the most comparable U.S. GAAP financial measure, "Net loss" for the three and six months ended June 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
Net loss
 
$
(20,922
)
 
$
(5,551
)
 
$
(56,285
)
 
$
(8,793
)
Adjustments:
 
 
 
 
 
 
 
 
Stock-based compensation(1)
 
31,655

 
32,446

 
55,384

 
62,353

Acquisition-related expense (benefit), net(2)
 
597

 
(815
)
 
2,382

 
(747
)
Depreciation and amortization
 
34,658

 
21,468

 
69,398

 
42,168

Other expense, net
 
1,023

 
5,579

 
1,863

 
10,662

Provision for income taxes
 
12,045

 
27,384

 
26,615

 
46,721

Total adjustments
 
79,978

 
86,062

 
155,642

 
161,157

Adjusted EBITDA
 
$
59,056

 
$
80,511

 
$
99,357

 
$
152,364

(1)
Represents stock-based compensation expense recorded within "Selling, general and administrative," "Cost of revenue," and "Marketing" on the consolidated statements of operations.
(2)
Represents changes in the fair value of contingent consideration related to business combinations and external transaction costs related to business combinations, primarily consisting of legal and advisory fees.
Free cash flow. Free cash flow is a non-GAAP financial measure that comprises net cash provided by operating activities less purchases of property and equipment and capitalized software. We use free cash flow, and ratios based on it, to conduct and evaluate our business because, although it is similar to cash flow from operations, we believe that it typically represents a more useful measure of cash flows because purchases of fixed assets, software developed for internal-use and website development costs are necessary components of our ongoing operations. Free cash flow is not intended to represent the total increase or decrease in our cash balance for the applicable period.
Free cash flow has limitations due to the fact that it does not represent the residual cash flow available for discretionary expenditures. For example, free cash flow does not include the cash payments for business acquisitions. In addition, free cash flow reflects the impact of the timing difference between when we are paid by customers and when we pay merchants and suppliers. Therefore, we believe it is important to view free cash flow as a complement to our entire consolidated statements of cash flows.


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The following is a reconciliation of free cash flow to the most comparable U.S. GAAP financial measure, "Net cash (used in) provided by operating activities," for the three and six months ended June 30, 2014 and 2013 (in thousands):
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
 
 
 
Net cash (used in) provided by operating activities
 
$
(22,747
)
 
$
43,302

 
$
(43,464
)
 
$
52,062

Purchases of property and equipment and capitalized software
 
(31,053
)
 
(14,042
)
 
(47,408
)
 
(28,510
)
Free cash flow
 
$
(53,800
)
 
$
29,260

 
$
(90,872
)
 
$
23,552

 
 
 
 
 
 
 
 
 
Net cash used in investing activities
 
$
(34,498
)
 
$
(15,862
)
 
$
(173,106
)
 
$
(46,541
)
Net cash used in financing activities
 
$
(114,753
)
 
$
(7,941
)
 
$
(156,245
)
 
$
(17,283
)
Foreign exchange rate neutral operating results. Foreign exchange rate neutral operating results show current period operating results as if foreign currency exchange rates had remained the same as those in effect in the comparable prior year period. These measures are intended to facilitate comparisons to our historical performance. For a reconciliation of foreign exchange rate neutral operating results to the most comparable U.S. GAAP financial measure, see "Results of Operations" above.
Liquidity and Capital Resources
As of June 30, 2014, we had $868.1 million in cash and cash equivalents, which primarily consisted of cash, money market accounts and overnight securities.
Since our inception, we have funded our working capital requirements and expansion primarily with cash flows from operations and through public and private sales of common and preferred stock, which have yielded net proceeds of approximately $1,857.1 million. Although we generated negative cash flow from operations for the six months ended June 30, 2014, our trailing twelve-month cash flow from operations was positive $122.9 million as of June 30, 2014, and we expect cash flows from operations to be positive in annual periods for the foreseeable future. We generally use this cash flow to fund our operations, make additional acquisitions, purchase capital assets, purchase treasury stock and meet our other cash operating needs. Cash flow (used in) provided by operations was $(43.5) million and $52.1 million for the six months ended June 30, 2014 and 2013, respectively.
We consider the undistributed earnings of our foreign subsidiaries as of June 30, 2014 to be indefinitely reinvested and, accordingly, no U.S. income taxes have been provided thereon. As of June 30, 2014, the amount of cash and cash equivalents held in foreign jurisdictions was approximately $326.4 million. We have not, nor do we anticipate the need to, repatriate funds to the United States to satisfy domestic liquidity needs arising in the ordinary course of business.
In August 2014, we entered into a three-year senior secured revolving credit agreement (the "Credit Agreement") that provides for aggregate principal borrowings of up to $250.0 million. Borrowings under the Credit Agreement bear interest, at our option, at a rate per annum equal to the Alternate Base Rate or Adjusted LIBO Rate (each as defined in the Credit Agreement) plus an additional margin ranging between 0.25% and 2.00%. We are required to pay quarterly commitment fees ranging from 0.20% to 0.35% per annum of the average daily amount available under the Credit Agreement. The Credit Agreement also provides for the issuance of up to $45.0 million in letters of credit, provided that the sum of outstanding borrowings and letters of credit do not exceed the maximum funding commitment of $250.0 million. Under the terms of the Credit Agreement, we are required to maintain, as of the last day of each fiscal quarter, unrestricted cash of at least $400.0 million, including $200.0 million in accounts held with lenders under the Credit Agreement or their affiliates. The Credit Agreement also contains various other operating and financial covenants. See Note 12 "Subsequent Events" for additional information. No borrowings are currently outstanding under the Credit Agreement.
Although we can provide no assurances, we believe that our available cash and cash equivalents balance and cash generated from operations should be sufficient to meet our working capital requirements and other capital expenditures for at least the next twelve months.
Uses of Cash
On January 2, 2014, we acquired Ticket Monster for an aggregate acquisition price of $259.4 million, after closing working capital adjustments, of which $99.9 million was paid in cash and the balance was paid in our Class A common stock. On January


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13, 2014, we acquired all of the outstanding equity interests of Ideeli for an aggregate acquisition price of $42.7 million, of which $42.3 million was paid for in cash. In the second quarter of 2014, we acquired two other businesses for an aggregate acquisition price of $7.5 million, of which $3.5 million was paid for in cash. We intend to continue to acquire additional businesses and make strategic minority investments in complementary businesses throughout 2014 to grow our customer base, expand our merchant relationships, enhance our technology capabilities and acquire experienced workforces.
In order to support our current and future global expansion, we expect to continue to make significant investments in our technology platforms and business processes, as well as internal tools aimed at improving the efficiency of our operations. We will also continue to invest in sales and marketing as we seek to grow both the number of active deals available through our online local marketplaces and the volume of transactions through those marketplaces.
The Board of Directors has authorized us to purchase up to $300 million of our outstanding Class A common stock through August 2015.  The timing and amount of any share repurchases will be determined based on market conditions, share price and other factors, and the program may be discontinued or suspended at any time. Repurchases will be made in compliance with SEC rules and other legal requirements and may be made in part under a Rule 10b5-1 plan, which permits stock repurchases when the Company might otherwise be precluded from doing so. During the six months ended June 30, 2014, we purchased 20.3 million shares of Class A common stock for an aggregate purchase price of $135.4 million (including fees and commissions) under the share repurchase program. As of June 30, 2014, up to $118.0 million of Class A common stock remains available for repurchase under the share repurchase program.
We currently plan to fund investments in business acquisitions, strategic minority investments, technology, and sales and marketing, as well as our share repurchase program, with our available cash and cash equivalents and cash flows generated from our operations. We also have the ability to borrow funds under the Credit Agreement, described above, although we have no immediate plans to do so. We may also seek to raise additional financing, if available on terms that we believe are favorable, to increase the amount of liquid funds that we can access for future acquisitions or other strategic investment opportunities.
Cash Flow
Our net cash flows from operating, investing and financing activities for the six months ended June 30, 2014 and 2013 were as follows:
 
 
Six Months Ended June 30,
 
 
2014
 
2013
 
 
(in thousands)
Cash provided by (used in):
 
 
 
 
Operating activities
 
$
(43,464
)
 
$
52,062

Investing activities
 
(173,106
)
 
(46,541
)
Financing activities
 
(156,245
)
 
(17,283
)
Effect of changes in exchange rates on cash and cash equivalents
 
431

 
(15,516
)
Net decrease in cash and cash equivalents
 
$
(372,384
)
 
$
(27,278
)
Cash Provided By Operating Activities
Cash provided by operating activities primarily consists of our net loss adjusted for certain items, including depreciation and amortization, stock‑based compensation, deferred income taxes and the effect of changes in working capital and other items.
Our current merchant arrangements are structured as either a redemption payment model or a fixed payment model defined as follows:
Redemption payment model - We typically pay our merchants upon redemption for the majority of deals in our EMEA and Rest of World segments. Under our redemption merchant payment model, we collect payments at the time our customers purchase Groupons and make payments to our merchants at a subsequent date. Using this payment model, merchants are not paid until the customer redeems the Groupon that has been purchased. If a customer does not redeem the Groupon under this payment model, we retain all of the gross billings from the unredeemed Groupon. The redemption model generally improves our overall cash flow because we do not pay our merchants until the customer redeems the Groupon.


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Fixed payment model - We typically pay our merchants under the fixed payment model for the majority of deals in North America. For third party revenue deals in which the merchant has a continuous presence on our websites and mobile applications by offering deals for an extended period of time, which currently represents a substantial majority of our third party revenue deals in North America, we remit payments to the merchant on an ongoing basis, generally bi-weekly, throughout the term of the offering. For direct revenue deals in our Goods category, payment terms with our suppliers typically range from net 30 days to net 60 days. Under the fixed payment model, merchants are paid regardless of whether the Groupon is redeemed.
Our Goods category has lower margins than our Local and Travel categories. As a result, the significant revenue growth in that category in recent periods, both in absolute dollars and as a percentage of the Company's overall revenue, has not generated commensurate benefits to our operating cash flows. Additionally, the decline in revenue from our Local category for the six months ended June 30, 2014, as compared to the prior year period, has adversely impacted our operating cash flows.
We experience swings in accrued merchant and supplier payables associated with our normal revenue-generating activities, including both third party and direct revenue sales transactions, that can cause volatility in working capital levels and impact cash balances more or less than our operating income or loss would indicate. In recent periods, the shift in our business from limited-time daily deal offerings to a demand fulfillment model that enables customers to search for goods and services that are offered by merchants for an extended period of time through our websites and mobile applications has reduced our overall cash flow benefits from the timing differences between when we receive cash from customers and remit payments to our merchants. We pay merchants who offer deals for an extended period of time on an ongoing basis, generally bi-weekly, throughout the term of the offering. We expect this trend to continue in the future.
For the six months ended June 30, 2014, our net cash used in operating activities was $43.5 million, which consisted of a $103.5 million net decrease related to changes in working capital and other assets and liabilities and a $56.3 million net loss, partially offset by a $116.3 million net increase for certain non-cash items. The net decrease in cash resulting from changes in working capital activities primarily consisted of a $41.9 million decrease in accrued merchant and supplier payables, a $36.9 million decrease in accrued expenses and other current liabilities, a $27.3 million increase in accounts receivable, a $5.9 million increase in prepaid expenses and other current assets, and a $5.2 million decrease in accounts payable. The $41.9 million decrease in accrued merchant and supplier payables was primarily due to the timing of payments to suppliers of merchandise and the seasonally high levels of Goods transactions in the fourth quarter of 2013. The net adjustments for certain non-cash items include $69.4 million of depreciation and amortization expense and $55.4 million of stock-based compensation expense, partially offset by $9.9 million of excess tax benefits on stock-based compensation.
For the six months ended June 30, 2013, our net cash provided by operating activities was $52.1 million, which consisted of a $99.5 million net increase for certain non-cash items, partially offset by a $38.6 million net decrease related to changes in working capital and other assets and liabilities and an $8.8 million net loss. The net adjustments for certain non-cash items include $62.4 million of stock-based compensation expense and $42.2 million of depreciation and amortization expense. The net decrease in cash resulting from changes in working capital activities primarily consisted of a $38.0 million decrease in accrued merchant and supplier payables and a $22.8 million decrease in accounts payable, partially offset by a $16.0 million decrease in prepaid expenses and other current assets. The $38.0 million decrease in accrued merchant and supplier payables was primarily attributable to payments to suppliers of merchandise in early 2013 related to Goods transactions from November and December of 2012.
Cash Used In Investing Activities
Cash used in investing activities primarily consists of capital expenditures, acquisitions of businesses and minority investments.
For the six months ended June 30, 2014, our net cash used in investing activities of $173.1 million consisted of $120.7 million in net cash paid for acquisitions as described in Note 2, "Business Combinations," $47.4 million in capital expenditures, including capitalized internally-developed software, $4.6 million in purchases of investments, and $0.4 million in purchases of intangible assets.
For the six months ended June 30, 2013, our net cash used in investing activities of $46.5 million consisted of $28.5 million in capital expenditures, including capitalized internally-developed software, $13.1 million in purchases of investments, $2.0 million related to the settlement of the liability related to the purchase of an additional interest in a consolidated subsidiary, $1.5 million for purchases of intangible assets and $1.5 million in net cash paid for business acquisitions.
Cash Used in Financing Activities
For the six months ended June 30, 2014, our net cash used in financing activities of $156.2 million was driven primarily


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by purchases of treasury stock under our share repurchase program of $135.5 million and taxes paid related to net share settlements of stock-based compensation awards of $24.3 million. Our net cash used in financing activities was also due to partnership distributions to noncontrolling interest holders of $4.1 million, settlements of purchase price obligations related to acquisitions of $3.1 million and payments of capital lease obligations of $2.1 million, partially offset by $9.9 million of excess tax benefits related to stock-based compensation and $3.1 million of proceeds from stock option exercises and our employee stock purchase plan.
For the six months ended June 30, 2013, our net cash used in financing activities of $17.3 million was driven primarily by taxes paid related to net share settlements of stock-based compensation awards of $16.0 million, settlements of purchase price obligations related to acquisitions of $5.0 million and partnership distributions to noncontrolling interest holders of $2.8 million, partially offset by $3.8 million of excess tax benefits related to stock-based compensation and $3.0 million of proceeds from stock option exercises and our employee stock purchase plan.
Free Cash Flow
Free cash flow, a non-GAAP financial measure, was $(90.9) million and $23.6 million for the six months ended June 30, 2014, and 2013, respectively.  The decrease in free cash flow for the six months ended June 30, 2014, as compared to the prior year period, was due to the $95.5 million decrease in our operating cash flow and higher capital expenditures.  For further information and a reconciliation to the most applicable financial measure under U.S. GAAP, refer to our discussion under "Non-GAAP Financial Measures" above.  


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Contractual Obligations and Commitments
Except for commitments under operating leases that were assumed in connection with the Ticket Monster and Ideeli acquisitions, as described in Note 2, "Business Combinations," our commitments as of June 30, 2014 did not materially change from the amounts set forth in our 2013 Annual Report on Form 10-K. As of June 30, 2014, estimated future payments under operating leases assumed in connection with the Ticket Monster and Ideeli acquisitions for each of the next five years and thereafter are as follows (in thousands):
 
 
Operating leases
2014
 
$
2,735

2015
 
5,243

2016
 
5,034

2017
 
4,418

2018
 
2,631

Thereafter
 
11,110

Total minimum lease payments
 
$
31,171

Off-Balance Sheet Arrangements
We did not have any off-balance sheet arrangements as of June 30, 2014.
Critical Accounting Policies and Estimates
Management's Discussion and Analysis of Financial Condition and Results of Operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP"). Our significant accounting policies are discussed in Note 2 "Summary of Significant Accounting Policies" in the notes to the consolidated financial statements included in our 2013 Annual Report on Form 10-K for the year ended December 31, 2013, as filed with the U.S. Securities and Exchange Commission ("SEC") on February 20, 2014.
    The preparation of consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts and classifications of assets and liabilities, revenue and expense, and related disclosure of contingent liabilities. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. If actual amounts are ultimately different from previous estimates, the revisions are included in our results of operations for the period in which the actual amounts become known.
An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact the financial statements. Management believes its critical accounting policies that reflect its more significant estimates and assumptions are policies related to revenue recognition, refunds, goodwill and long-lived assets, income taxes and other-than-temporary impairments.
Revenue Recognition
We recognize revenue when the following criteria are met: persuasive evidence of an arrangement exists; delivery has occurred; the selling price is fixed or determinable; and collection is reasonably assured.
Third party revenue recognition
We generate third party revenue, where we act as the third party marketing agent, by offering goods and services provided by third party merchants at a discount through our online local commerce marketplaces that connect merchants to consumers. Our marketplaces include deals offered in three primary categories: Local, Goods and Travel. Customers purchase the discount vouchers ("Groupons") from us and redeem them with merchants.     


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The revenue recognition criteria are met when the customer purchases a deal, the Groupon has been electronically delivered to the purchaser and a listing of Groupons sold has been made available to the merchant. At that time, our obligations to the merchant, for which we are serving as a marketing agent, are substantially complete. Our remaining obligations, which are limited to remitting payment to the merchant and continuing to make available on our website information about Groupons sold that was previously provided to the merchant, are inconsequential or perfunctory. For a portion of the hotel deals offered through our online local marketplaces, we facilitate the booking of rooms by taking reservations through our websites and managing any subsequent changes to those reservations. We defer the revenue on those deals until the customer's stay occurs.
We record as revenue the net amount we retain from the sale of Groupons after deducting the portion of the purchase price that is payable to the featured merchant, excluding applicable taxes and net of estimated refunds for which the merchant's share is recoverable. Revenue is recorded on a net basis because we are acting as a marketing agent of the merchant in the transaction.
For merchant payment arrangements that are structured under a redemption model, merchants are not paid until the customer redeems the Groupon that has been purchased. If a customer does not redeem the Groupon under this payment model, we retain all the gross billings. We record revenue from unredeemed Groupons and derecognize the related accrued merchant payable when our legal obligation to the merchant expires, which we believe is shortly after deal expiration in most jurisdictions that have payment arrangements structured under a redemption model.
Direct revenue recognition
We evaluate whether it is appropriate to record the gross amount of our sales and related costs by considering a number of factors, including, among other things, whether we are the primary obligor under the arrangement, have inventory risk and have latitude in establishing prices.
Direct revenue is derived primarily from selling consumer products through our Goods category where we are the merchant of record. We are the primary obligor in these transactions, are subject to general inventory risk and have latitude in establishing prices. Accordingly, direct revenue is recorded on a gross basis, excluding applicable taxes and net of estimated refunds. For purposes of evaluating whether product revenue should be recognized on a gross basis, unmitigated general inventory risk is a strong indicator of whether a seller has the risks and rewards of a principal to the sale transaction. U.S. GAAP specifies that general inventory risk exists if a seller either takes title to a product before that product is ordered by a customer (that is, maintains the product in inventory) or will take title to the product if it is returned by the customer (that is, back-end inventory risk) and the customer has a right of return. We have unmitigated general inventory risk on all of our direct revenue. Currently, that general inventory risk is primarily in the form of back-end inventory risk, as the amount of inventory that we maintain on hand has not been significant in relation to the amount of our direct revenue. However, we had $55.5 million of finished goods inventory on hand as of June 30, 2014, and in future periods we may increase the levels of inventory on hand for our Goods category. For Goods transactions where we are performing a service by acting as a marketing agent of the merchant, revenue is recorded on a net basis and is presented within third party revenue.
Direct revenue, including associated shipping revenue, is recorded when title passes to the customer. In connection with our rollout of increased direct revenue deals outside the United States, a global change was made to customer terms and conditions in the fourth quarter of 2013 to specify that title to products transfers upon delivery. As a result of this change, we began recognizing direct revenue upon delivery, rather than shipment.
Discounts
We provide discount offers to encourage purchases of goods and services through our marketplaces. We record discounts as a reduction of revenue.
Refunds
We estimate future refunds utilizing a statistical model that incorporates the following data inputs and factors: historical refund experience developed from millions of deals featured on our website, the relative risk of refunds based on expiration date, deal value, deal category and other qualitative factors that could impact the level of future refunds, such as introductions of new deals, discontinuations of legacy deals and expected changes, if any, in our practices in response to refund experience or economic trends that might impact customer demand. The portion of customer refunds for which the merchant's share is not recoverable on third party revenue deals is estimated based on the refunds that are expected to be issued after expiration of the related vouchers, the refunds that are expected to be issued due to the merchant bankruptcy or poor customer experience, and whether the payment terms of the related merchant contracts are structured using a redemption payment model or a fixed payment model.


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We accrue costs associated with refunds within "Accrued expenses" on the consolidated balance sheets. The cost of refunds for third party revenue where the amounts payable to the merchant are recoverable and for all direct revenue is presented on the consolidated statements of operations as a reduction to revenue. The cost of refunds for third party revenue for which the merchant's share is not recoverable is presented as a cost of revenue.
We assess the trends that could affect our estimates on an ongoing basis and make adjustments to the refund reserve calculations if it appears that changes in circumstances, including changes to the Company's refund policies, may cause future refunds to differ from our original estimates. If actual results are not consistent with the estimates or assumptions stated above, we may need to change our future estimates, and the effects could be material to the condensed consolidated financial statements.
Impairment Assessments of Goodwill and Long-Lived Assets
A component of our growth strategy has been to acquire and integrate businesses that complement our existing operations. We account for business combinations using the acquisition method of accounting and allocate the acquisition price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based upon their estimated fair values at the acquisition date. The difference between the acquisition price and the fair value of the net assets acquired is recorded as goodwill.
In determining the fair value of assets acquired and liabilities assumed in business combinations and for determining fair values in impairment tests, we use one of the following recognized valuation methods: the income approach (including discounted cash flows), the market approach and the cost approach. Our significant estimates in those fair value measurements include identifying business factors such as size, growth, profitability, risk and return on investment and assessing comparable revenue and operating income multiples. Further, when measuring fair value based on discounted cash flows, we make assumptions about risk-adjusted discount rates, future price levels, rates of increase in revenue, cost of revenue, and operating expenses, weighted average cost of capital, rates of long-term growth, and income tax rates. Valuations are performed by management or third party valuation specialists under management's supervision, where appropriate. We believe that the estimated fair values assigned to the assets acquired and liabilities assumed and for determining fair value in business combinations and impairment tests are based on reasonable assumptions that marketplace participants would use. However, such assumptions are inherently uncertain and actual results could differ from those estimates.
Goodwill is allocated to our reporting units at the date the goodwill is initially recorded. Once goodwill has been allocated to the reporting units, it no longer retains its identification with a particular acquisition and becomes identified with the reporting unit in its entirety. Accordingly, the fair value of the reporting unit as a whole is available to support the recoverability of its goodwill.
We evaluate goodwill for impairment annually on October 1 or more frequently when an event occurs or circumstances change that indicates the carrying value may not be recoverable. We have the option to assess goodwill for impairment by first performing a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we determine that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then the two-step goodwill impairment test is not required to be performed. If we determine that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, we perform the two-step goodwill impairment test. In the first step, the fair value of the reporting unit is compared to its book value including goodwill. If the fair value of the reporting unit is in excess of its book value, the related goodwill is not impaired and no further analysis is necessary. If the fair value of the reporting unit is less than its book value, there is an indication of potential impairment and a second step is performed. When required, the second step of testing involves calculating the implied fair value of goodwill for the reporting unit. The implied fair value of goodwill is determined in the same manner as goodwill recognized in a business combination, which is the excess of the fair value of the reporting unit determined in step one over the fair value of its net assets and identifiable intangible assets as if the reporting unit had been acquired. If the carrying value of the reporting unit's goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. For reporting units with a negative book value (i.e., excess of liabilities over assets), we evaluate qualitative factors to determine whether it is necessary to perform the second step of the goodwill impairment test. As of June 30, 2014, our market capitalization of $4.4 billion substantially exceeded our consolidated net book value of $730.9 million.
Long‑lived assets, such as property, equipment and software, net and intangible assets, net, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. If circumstances require that a long‑lived asset or asset group be tested for possible impairment, we first compare the undiscounted cash flows expected to be generated by that long-lived asset or asset group to its carrying amount. If the carrying amount of the long‑lived asset or asset group is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying amount exceeds its fair value.


79

Future changes in our assumptions or the interrelationship of those assumptions may negatively impact future valuations. In future measurements of fair value, adverse changes in assumptions could result in an impairment of goodwill or long-lived assets that would require a non-cash charge to the consolidated statements of operations and may have a material effect on our financial condition and operating results.
Income Taxes
We account for income taxes using the asset and liability method, under which deferred income tax assets and liabilities are recognized based upon anticipated future tax consequences attributable to differences between financial statement carrying values of assets and liabilities and their respective tax bases. We regularly review deferred tax assets to assess whether it is more likely than not that the deferred tax assets will be realized and, if necessary, establish a valuation allowance for portions of such assets to reduce the carrying value.
For purposes of assessing whether it is more likely than not that our deferred tax assets will be realized, we consider the following four sources of taxable income for each tax jurisdiction: (a) future reversals of existing taxable temporary differences, (b) projected future earnings, (c) taxable income in carryback years, to the extent that carrybacks are permitted under the tax laws of the applicable jurisdiction, and (d) tax planning strategies, which represent prudent and feasible actions that a company ordinarily might not take, but would take to prevent an operating loss or tax credit carryforward from expiring unused. To the extent that evidence about one or more of these sources of taxable income is sufficient to support a conclusion that a valuation allowance is not necessary, other sources need not be considered. Otherwise, evidence about each of the sources of taxable income is considered in arriving at a conclusion about the need for and amount of a valuation allowance. We have incurred significant losses in recent years and had accumulated deficits of $909.5 million and $848.9 million as of June 30, 2014 and December 31, 2013, respectively. A cumulative loss in the most recent three-year period is a significant piece of negative evidence that is difficult to overcome when assessing the realizability of deferred tax assets. Outside of the United States, we have only recognized deferred tax assets to the extent that they will be realizable either through future reversals of existing taxable temporary differences or through taxable income in carryback years for the applicable jurisdictions. Due to our cumulative losses outside of the United States, we have recognized valuation allowances against deferred tax assets that are not supported by those objective sources of taxable income. As of June 30, 2014, we have not recognized deferred tax assets without a valuation allowance outside of the United States when the only sources of taxable income are projected future earnings or tax planning strategies. For certain jurisdictions where applicable tax law imposes limitations that may prevent us from realizing our deferred tax assets through the scheduled reversal of taxable temporary differences, we have recorded valuation allowances in excess of the net deferred tax asset balances.
We are subject to taxation in the United States, various state and foreign jurisdictions. Significant judgment is required in determining the worldwide provision for income taxes and recording the related income tax assets and liabilities. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. For example, our effective tax rate could be adversely affected by earnings being lower than anticipated in countries where we have lower statutory rates and higher than anticipated in countries where we have higher statutory rates, by changes in foreign currency exchange rates, by changes in the valuation of our deferred tax assets and liabilities, or by changes in the relevant tax, accounting and other laws, regulations, principles and interpretations. Our practice for accounting for uncertainty in income taxes is to recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more likely than not criteria, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority.
We are subject to audit in various jurisdictions, and such jurisdictions may assess additional income tax against us. Although we believe our tax estimates are reasonable, the final determination of any tax audits and any related litigation could be materially different from income tax provision accruals and, therefore, could materially affect our operating results or cash flows in the period(s) in which that determination is made.
Other-than-Temporary Impairment of Investments
An unrealized loss exists when the current fair value of an investment is less than its amortized cost basis. We conduct reviews of all of our investments with unrealized losses on a quarterly basis to evaluate whether those impairments are other-than-temporary. This evaluation, which is performed at the individual investment level, consists of several qualitative and quantitative factors regarding the severity and duration of the unrealized loss as well as our intent and ability to hold the investment for a period of time that is sufficient to allow for an anticipated recovery in value. Evidence considered in this evaluation includes the amount of the impairment, the length of time that the investment has been impaired, the factors contributing to the impairment, the financial condition and near-term prospects of the investee, recent operating trends and forecasted performance of the investee, market conditions in the geographic area or industry in which the investee operates, and our strategic plans for holding the investment in


80

relation to the period of time expected for an anticipated recovery in value. Additionally, we consider whether we intend to sell the investment or whether it is more likely than not that we will be required to sell the investment before recovery of its amortized cost basis. Investments with unrealized losses that are determined to be other-than-temporary are written down to fair value with a charge to earnings. Unrealized losses that are determined to be temporary in nature are not recorded for cost method investments and equity method investments, while such losses are recorded, net of tax, in accumulated other comprehensive income (loss) for available-for-sale securities. Our evaluation of other-than-temporary impairments involves consideration of qualitative and quantitative factors regarding the severity and duration of the unrealized loss, as well as our intent and ability to hold the investment for a period of time that is sufficient to allow for an anticipated recovery in value.
Recently Issued Accounting Standards
In May 2014, the Financial Accounting Standards Board issued Accounting Standards Update ("ASU") 2014-09, Revenue from Contracts with Customers. This ASU is a comprehensive new revenue recognition model that requires a company to recognize revenue to depict the transfer of goods or services to a customer at an amount that reflects the consideration it expects to receive in exchange for those goods or services. The ASU is effective for annual periods beginning after December 15, 2016 and interim periods within those annual periods. Management is still assessing the impact of adoption on its condensed consolidated financial statements.
There are no additional accounting standards that have been issued but not yet adopted that we believe will have a material impact on our consolidated financial position or results of operations.


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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have operations both within the United States and internationally, and we are exposed to market risks in the ordinary course of our business, including the effect of foreign currency fluctuations, interest rate changes and inflation. Information relating to quantitative and qualitative disclosures about these market risks is set forth below.
Foreign Currency Exchange Risk
We transact business in various foreign currencies other than the U.S. dollar, principally the Euro, Korean won, British pound sterling, Japanese yen and Brazilian real, which exposes us to foreign currency risk. For the three months ended June 30, 2014, we derived approximately 30.3% and 13.3% of our revenue from our EMEA and Rest of World segments, respectively. For the six months ended June 30, 2014, we derived approximately 30.4% and 12.9% of our revenue from our EMEA and Rest of World segments, respectively. Revenue and related expenses generated from our international operations are generally denominated in the local currencies of the corresponding countries. The functional currency of our subsidiaries that either operate or support these markets is generally the same as the corresponding local currency. The results of operations of, and certain of our intercompany balances associated with, our international operations are exposed to foreign exchange rate fluctuations. Upon consolidation, as exchange rates vary, our revenue and other operating results may differ materially from expectations, and we may record significant gains or losses on the re-measurement of intercompany balances.
We assess our foreign currency exchange risk based on hypothetical changes in rates utilizing a sensitivity analysis that measures the potential impact on working capital based on a 10% change (increase and decrease) in currency rates. We use a current market pricing model to assess the changes in the value of the U.S. dollar on foreign currency denominated monetary assets and liabilities. The primary assumption used in this model is a hypothetical 10% weakening or strengthening of the U.S. dollar against all our currency exposures as of June 30, 2014 and December 31, 2013.    
As of June 30, 2014, our net working capital deficit (defined as current assets less current liabilities) from subsidiaries that are subject to foreign currency translation risk was $190.3 million. The potential increase in this working capital deficit from a hypothetical 10% adverse change in quoted foreign currency exchange rates would be $19.0 million. This compares to a $168.2 million working capital deficit subject to foreign currency exposure as of December 31, 2013, for which a 10% adverse change would have resulted in a potential increase in this working capital deficit of $16.8 million. The primary difference between foreign currency exposure from December 31, 2013 to June 30, 2014 is due to fluctuations in foreign currencies against the U.S. Dollar during 2014 and increases in the working capital deficit in the current period, primarily attributable to our acquisition of Ticket Monster.
Interest Rate Risk
Our cash and cash equivalents primarily consist of cash and money market funds. Our exposure to market risk for changes in interest rates is limited because our cash and cash equivalents have a short-term maturity and are used primarily for working capital purposes. In August 2014, the Company entered into a three-year Credit Agreement that provides for aggregate principal borrowings up to $250.0 million. As of August 5, 2014, there were no borrowings outstanding under the Credit Agreement. Because our Credit Agreement bears interest at a variable rate, we will be exposed to market risk relating to changes in interest rates, once we draw down under the Credit Agreement. We also have long-term borrowings, which consist of $8.9 million of long-term capital lease obligations, and investments in convertible debt securities issued by nonpublic entities that are classified as available-for-sale. We believe that the interest rate risk on the long-term capital lease obligations and investments is not significant.
 
Impact of Inflation
We believe that our results of operations are not materially impacted by moderate changes in the inflation rate. Inflation and changing prices did not have a material effect on our business, financial condition or results of operations for the three and six months ended June 30, 2014 and 2013.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act), as of the end of the period covered by this Quarterly


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Report on Form 10-Q.
Based on this evaluation, our management concluded that, as of June 30, 2014, our disclosure controls and procedures are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There was no change in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Limitations on Effectiveness of Controls and Procedures
In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.


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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
For a description of our material pending legal proceedings, please see Note 6 "Commitments and Contingencies" of the Notes to the accompanying unaudited Condensed Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q.
ITEM 1A. RISK FACTORS
Our business, prospects, financial condition, operating results and the trading price of our Class A common stock could be materially adversely affected by any of these risks, as well as other risks not currently known to us or that we currently consider immaterial.
Risks Related to Our Business
Our revenue and operating results may continue to be volatile.
Our revenue and operating results will continue to vary from quarter to quarter due to the rapidly evolving nature of our business. We believe that our revenue growth and ability to achieve and maintain profitability will depend, among other factors, on our ability to:
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acquire new customers and retain existing customers;
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attract new merchants and retain existing merchants who wish to offer deals through the sale of Groupons;
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effectively address and respond to challenges in international markets;
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expand the number, variety and relevance of products and deals we offer, particularly as we attempt to build a more complete local marketplace;
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increase the awareness of our brand domestically and internationally;
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successfully achieve the anticipated benefits of business combinations or acquisitions, including our acquisitions of Ticket Monster and Ideeli;
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provide a superior customer service experience for our customers and merchants;
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respond to changes in consumer and merchant access to and use of the Internet and mobile devices;
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react to challenges from existing and new competitors; and
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respond to seasonal changes in supply and demand.
In addition, our margins and profitability may depend on our product sales mix, our geographic revenue mix and merchant pricing terms. For example, sales in our Goods category, which typically carry lower margins than sales in our Local category, have grown faster in some recent periods, which has resulted in lower margins and profitability during those periods. Accordingly, our profitability may vary significantly from quarter to quarter.
Our strategy to become a complete local commerce marketplace may not be successful and may expose us to additional risks.
One of our key objectives is to expand upon our traditional daily deals business by building out a more extensive local commerce marketplace. This strategy has required us to devote significant resources to attracting and retaining merchants who are willing to run deals on a continuous basis with us in order to build a significant inventory for our customers, as well as continuing management focus and attention. We have accepted, and expect to continue to accept, a lower portion of the gross billings from some of our merchants as we expand our marketplace. In addition, we are continuously refining our process for presenting the most relevant deals to our customers based on their personal preferences. If we are not successful in pursuing these objectives, our business, financial position and results of operations could be harmed.


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If we are unable to successfully respond to changes in the market, our business could be harmed.
Our business grew rapidly in prior periods as merchants and consumers have increasingly used our marketplace. However, this is a new market which we created in late 2008 and which has operated at a substantial scale for only a limited period of time. Given the limited history, we are constantly evolving our strategy and may not always be successful in doing so. We expect that the market will evolve in ways which may be difficult to predict. For example, we believe that in some of our markets, including North America, investments in new subscriber acquisition are less productive and the continued growth of our revenue will require more focus on increasing or maintaining the rate at which our existing customers purchase Groupons and our ability to expand the number and variety of deals that we offer. It is also possible that merchants or customers could broadly determine that they no longer believe in the value of our current services or marketplace. In the event of these or any other changes to the market, our continued success will depend on our ability to successfully adjust our strategy to meet the changing market dynamics. If we are unable to successfully adapt to changes in our markets, our business, financial condition and results of operations could suffer a material negative impact.
Our international operations are subject to increased challenges, and our inability to adapt to the varied commercial and regulatory landscapes of our international markets may adversely affect our business.
Our ability to grow our business in our international markets requires management attention and resources and requires us to localize our services to conform to a wide variety of local cultures, business practices, laws and policies. The different commercial and Internet infrastructure in other countries may make it more difficult for us to replicate our business model. In many countries, we compete with local companies that understand the local market better than we do, and we may not benefit from first-to-market advantages. We are subject to risks of doing business internationally, including the following:
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our ability to maintain merchant and customer satisfaction such that our marketplace will continue to attract high quality merchants;
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our ability to successfully respond to macroeconomic challenges, including by optimizing our deal mix to take into account consumer preferences at a particular point in time;
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strong local competitors, many of whom have been in the market longer than us;
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different regulatory requirements, including regulation of gift cards and coupon terms, Internet services, professional selling, distance selling, bulk emailing, privacy and data protection, banking and money transmitting, that may limit or prevent the offering of our services in some jurisdictions, cause unanticipated compliance expenses or limit our ability to enforce contractual obligations;
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difficulties in integrating with local payment providers, including banks, credit and debit card networks and electronic funds transfer systems;
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different employee/employer relationships and the existence of workers' councils and labor unions;
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shorter payment cycles, different accounting practices and greater problems in collecting accounts receivable;
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higher Internet service provider costs;
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seasonal reductions in business activity;
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expenses associated with localizing our products, including offering customers the ability to transact business in the local currency; and
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differing intellectual property laws.
We are subject to complex foreign and U.S. laws and regulations that apply to our international operations, including data privacy and protection requirements, the Foreign Corrupt Practices Act, the UK Anti-Bribery Act and similar local laws prohibiting certain payments to government officials, banking and payment processing regulations, and anti-competition regulations, among others. The cost of complying with these various and sometimes conflicting laws and regulations is substantial. We have implemented policies and procedures to ensure compliance with these laws and regulations, however, we cannot assure you that our employees, contractors, or agents will not violate our policies. Changing laws, regulations and enforcement actions in the U.S. and throughout the world could harm our business.


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If, as we continue to expand internationally, we are unable to successfully replicate our business model due to these and other commercial and regulatory constraints in our international markets, our business may be adversely affected.
Our financial results will be adversely affected if we are unable to execute on our marketing strategy.
We historically focused our marketing spend on subscriber acquisition, but have shifted our focus to customer activation and mobile application downloads, as well as to increasing awareness of our shift to a more complete local commerce marketplace. We increased our marketing expense to $143.2 million during the first two quarters of 2014 as compared to $105.1 million during the first two quarters of 2013. If our assumptions regarding our marketing efforts and strategies prove incorrect, our ability to generate profits from our investments may be less than we have assumed. In such case, we may need to increase expenses or otherwise alter our strategy and our results of operations could be negatively impacted.
If we fail to retain our existing customers or acquire new customers, our revenue and business will be harmed.
We must continue to retain and acquire customers that make purchases on our platform in order to increase revenue and achieve consistent profitability. As our customer base continues to evolve, it is possible that the composition of our customers may change in a manner that makes it more difficult to generate revenue to offset the loss of existing customers and the costs associated with acquiring and retaining customers. If customers do not perceive our offerings to be attractive or if we fail to introduce new and more relevant deals, we may not be able to retain or acquire customers at levels necessary to grow our business and profitability. If we are unable to acquire new customers in numbers sufficient to grow our business and offset the number of existing active customers that cease to make purchases, the revenue we generate may decrease and our operating results will be adversely affected.
Our future success depends upon our ability to retain and add high quality merchants.
We depend on our ability to attract and retain merchants that are prepared to offer products or services on compelling terms through our marketplace and provide our customers with a good experience. We do not have long-term arrangements to guarantee the availability of deals that offer attractive quality, value and variety to customers or favorable payment terms to us. In addition, if we are unsuccessful in our efforts to introduce services to merchants as part of our local commerce operating system, we will not experience a corresponding growth in our merchant pool sufficient to offset the cost of these initiatives. We must continue to attract and retain merchants in order to increase revenue and profitability. If new merchants do not find our marketing and promotional services effective, or if existing merchants do not believe that utilizing our services provides them with a long-term increase in customers, revenue or profits, they may stop making offers through our marketplace. In addition, we may experience attrition in our merchants in the ordinary course of business resulting from several factors, including losses to competitors and merchant closures or bankruptcies. If we are unable to attract new merchants in numbers sufficient to grow our business, or if merchants are unwilling to offer products or services with compelling terms through our marketplace or offer favorable payment terms to us, our operating results will be adversely affected.
If our efforts to market, advertise and promote products and services from our existing merchants are not successful, or if our existing merchants do not believe that utilizing our services provides them with a long-term increase in customers, revenue or profits, we may not be able to retain or attract merchants in sufficient numbers to grow our business or we may be required to incur significantly higher marketing expenses or reduce margins in order to attract new merchants. A significant increase in merchant attrition or decrease in merchant growth would have an adverse effect on our business, financial condition and results of operations.
We may be subject to breaches of our information technology systems, which could harm our relationships with our customers and merchants, subject us to negative publicity and litigation, and cause substantial harm to our business.
In operating a global online business, we and our third party service providers maintain significant proprietary information and manage large amounts of personal data and confidential information about our employees, customers and merchants.  Because of our high profile and the number of customer records we maintain, we and the third party providers are at an increased risk of attacks on our systems.
Our risk and exposure to these matters remains heightened because of, among other things, the evolving nature of these threats, our prominent size and scale, our entrance into the mobile payments space, our expanded geographic footprint and international presence, the outsourcing of some of our business operations and threats of cyber-attacks.  Although cybersecurity and the continued development and enhancement of our controls, processes and practices designed to protect our systems, computers, software, data and networks from attack, damage or unauthorized access are a high priority for us, this may not successfully protect our systems against all vulnerabilities, including technologies developed to bypass our security measures.  In


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addition, outside parties may attempt to fraudulently induce employees, merchants or customers to disclose sensitive information in order to gain access to our secure systems and networks. For example, in May 2013, a hacker accessed a database of our Taiwan subscribers containing usernames and passwords.  
As cyber threats continue to evolve, we may be required to expend significant additional resources to continue to modify or enhance our protective measures or to investigate and remediate any information security vulnerabilities.  Further, because the techniques used to gain access to, or sabotage, systems often are not recognized until launched against a target, we may be unable to anticipate the correct methods necessary to defend against these types of attacks.  Any actual breach, the perceived threat of a breach or a perceived breach, could cause our customers and merchants to cease doing business with us, subject us to lawsuits, regulatory fines or other action or liability, which would harm our business, financial condition and results of operations.
We may incur losses in the future as we expand our business.
We had an accumulated deficit of $909.5 million as of June 30, 2014. We anticipate that our financial results will be impacted as we continue to invest in our growth, through increased spending in some areas and through accepting a lower portion of the proceeds from our deals, as we attempt to add more merchants to our marketplace. These efforts may prove more difficult than we currently anticipate, and we may not succeed in realizing the benefits of these efforts in a short time frame, or at all. Many of our efforts to generate revenue from our business are new and unproven, and any failure to increase our revenue, as well as any changes in our mix of sales between our higher and lower margin categories, could prevent us from attaining or increasing, or could reduce, our profitability. We cannot be certain that we will be able to attain or increase profitability on a quarterly or annual basis. If we are unable to effectively manage these risks and difficulties as we encounter them, our business, financial condition and results of operations may suffer.
We operate in a highly competitive industry with relatively low barriers to entry, and must compete successfully in order to grow our business.
We expect competition in e-commerce generally, and group buying in particular, to continue to increase. A substantial number of group buying sites that attempt to replicate our business model have emerged around the world. In addition to such competitors, we expect to increasingly compete against other large businesses who offer deals similar to ours as an add-on to their core business. We also expect to compete against other Internet sites that serve niche markets and interests. In some of our categories, such as goods, travel and entertainment, we compete against much larger companies who have more resources and significantly larger scale. In addition, we compete with traditional offline coupon and discount services, as well as newspapers, magazines and other traditional media companies who provide coupons and discounts on products and services.
We believe that our ability to compete successfully depends upon many factors both within and beyond our control, including the following:
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the size and composition of our customer base and the number of merchants we feature;
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the timing and market acceptance of deals we offer, including the developments and enhancements to those deals offered by us or our competitors;
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customer and merchant service and support efforts;
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selling and marketing efforts;
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ease of use, performance, price and reliability of services offered either by us or our competitors;
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our ability to generate large volumes of sales, particularly with respect to goods and travel deals;
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our ability to cost-effectively manage our operations; and
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our reputation and brand strength relative to our competitors.
Many of our current and potential competitors have longer operating histories, significantly greater financial, marketing and other resources and larger customer bases than we do. These factors may allow our competitors to benefit from their existing customer base with lower customer acquisition costs or to respond more quickly than we can to new or emerging technologies and changes in consumer habits. These competitors may engage in more extensive research and development efforts, undertake more far-reaching marketing campaigns and adopt more aggressive pricing policies, which may allow them to build larger customer


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bases or generate revenue from their customer bases more effectively than we do. Our competitors may offer deals that are similar to the deals we offer or that achieve greater market acceptance than the deals we offer. This could attract customers away from our websites and applications, reduce our market share and adversely impact our gross margin. In addition, we are dependent on some of our existing or potential competitors for banner advertisements and other marketing initiatives to acquire new customers. Our ability to utilize their platforms to acquire new customers may be adversely affected if they choose to compete more directly with us or prevent us from using their services.
If we are unable to maintain favorable terms with our merchants, our revenue may be adversely affected.
The success of our business depends in part on our ability to retain and increase the number of merchants who use our service, particularly as we continue to grow our marketplace. Currently, when a merchant works with us to offer a deal for its products or services, it receives an agreed-upon portion of the total proceeds from each Groupon sold, and we retain the rest. If merchants decide that utilizing our services no longer provides an effective means of attracting new customers or selling their goods and services, they may require a higher portion of the total proceeds from each Groupon sold. In addition, while we have historically absorbed the full cost of promotional discounts that we offer to our customers from time to time (such as 10% off any order), we intend to begin passing on a portion of these discounts to our merchants, but may not be successful in doing so.  Also, as part of our strategy to grow our merchant base, we have been accepting a lower portion of the total proceeds from each Groupon sold in some instances. This could adversely affect our revenue and gross profit.
In addition, we expect to face increased competition from other Internet and technology-based businesses. We also have seen that some competitors will accept lower margins, or negative margins, to attract attention and acquire new customers. If competitors engage in group buying initiatives in which merchants receive a higher portion of the revenue than we currently offer, or if we target merchants who will only agree to run deals if they receive a higher portion of the proceeds, we may be forced to take a lower portion of the gross billings.
Our operating cash flow and results of operations could be adversely impacted if we change our merchant payment terms or our revenue does not grow.
Our merchant payment terms and revenue growth have historically provided us with operating cash flow to fund our working capital needs. Our merchant arrangements are generally structured such that we collect cash up front when our customers purchase Groupons and make payments to our merchants at a subsequent date, either on a fixed schedule or upon redemption by customers. We currently pay our merchants upon redemption in many deals in our international markets, but we may continue to move toward offering payments on a fixed schedule in those markets.
We believe that seasonal fluctuations will continue to impact our cash flows, particularly as a result of the growth of our Goods category. Our operating cash flow for the six months ended June 30, 2014 was adversely impacted by a $41.9 million decrease in accrued merchant and supplier payables, which was primarily due to the timing of payments to suppliers of merchandise and the seasonally high levels of Goods transactions in the fourth quarter of 2013. Our operating cash flows have been adversely impacted by lower growth or declines in our Local category in recent periods. We have used the operating cash flow provided by our merchant payment terms and revenue growth to fund our working capital needs. If we offer our merchants more favorable or accelerated payment terms or our revenue does not grow in the future, our operating cash flow and results of operations could be adversely impacted and we may have to seek alternative financing to fund our working capital needs.
Our success is dependent upon our ability to provide a superior mobile experience for our customers, and our customers' continued ability to access our offerings through mobile devices.
In June 2014, 55% of our global transactions were completed on mobile devices. Over 91 million people have downloaded our mobile applications worldwide. In order to continue to grow our mobile transactions, it is critical that our applications work well with a range of mobile technologies, systems, networks and standards. Our business may be adversely affected if our customers choose not to access our offerings on their mobile devices or use mobile devices that do not offer access to our mobile applications.


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Our business depends on our ability to maintain and scale the network infrastructure necessary to send our emails and operate our websites, mobile applications and transaction processing systems, and any significant disruption in service on our email infrastructure, websites, mobile applications or transaction processing systems could result in a loss of subscribers, customers or merchants.
Customers access our deals through our websites and mobile applications, as well as via emails that are often targeted by location, purchase history and personal preferences. Our reputation and ability to acquire, retain and serve our current customers and potential customers are dependent upon the reliable performance of our websites, mobile applications, email delivery and transaction processing systems and the underlying network infrastructure. As our customer base and the amount of information shared on our websites and applications continue to grow, we will need an increasing amount of network capacity and computing power. We have spent and expect to continue to spend substantial amounts on data centers and equipment and related network infrastructure to handle the traffic on our websites and applications. The operation of these systems is expensive and complex and could result in operational failures. In the event that our subscriber base or the amount of traffic and transactions on our websites and applications grows more quickly than anticipated, we may be required to incur significant additional costs. Interruptions in these systems, whether due to system failures, computer viruses, physical or electronic break-ins or otherwise (including spam filters preventing emails from reaching current and potential customers), could affect the security or availability of our websites and applications, and prevent our customers from accessing our services. If we do not maintain or expand our network infrastructure successfully or if we experience operational failures, we could lose current and potential customers and merchants, which could harm our operating results and financial condition.
In addition, a substantial portion of our network infrastructure is hosted by third party providers. Any failure of these providers to handle existing or increased traffic and transactions could significantly harm our business. Any financial or other difficulties these providers face may adversely affect our business, and we exercise little control over these providers, which increases our vulnerability to problems with the services they provide.
If our emails are not delivered and accepted, or are routed by email providers in a less favorable way than other emails, our business may be substantially harmed.
If email providers implement new or more restrictive email delivery policies it may become more difficult to deliver emails to customers. For example, certain email providers, including Google, have started to categorize our emails as "promotional," and these emails are directed to an alternate, and less readily accessible, section of a customer’s inbox. If email providers materially limit or halt the delivery of our emails, or if we fail to deliver emails to customers in a manner compatible with email providers’ email handling or authentication technologies, our operating results and financial condition could be substantially harmed. In addition, if we are placed on "spam" lists or lists of entities that have been involved in sending unwanted, unsolicited emails, our ability to contact customers through email could be significantly restricted.
We purchase and sell some products from indirect suppliers, which increases our risk of litigation and other losses.
We source merchandise both directly from brand owners and indirectly from retailers and third party distributors, and we often take title to the goods before we offer them for sale to our customers.  Further, some brand owners, retailers and third party distributors may be unwilling to offer products for sale on the Internet or through Groupon in particular, which could have an adverse impact on our ability to source and offer popular products. By selling merchandise sourced from parties other than the brand owners, we are subject to an increased risk that the merchandise may be damaged or non-authentic, which could result in potential liability under applicable laws, regulations, agreements and orders, and increase the amount of returned merchandise. In addition, brand owners may take legal action against us, which even if we prevail could result in costly litigation, generate adverse publicity for us, and have a material adverse impact on our business, financial condition and results of operations.
We are subject to inventory management and order fulfillment risks as a result of our Goods category.
We purchase much of the merchandise that we offer for sale to our customers, and we expect to increase the percentage of merchandise that we offer directly for sale as compared to merchandise that our customers purchase directly from third parties. The demand for products can change for a variety of reasons, including customer preference, quality, seasonality, and the perceived value from customers of purchasing the product through us. In addition, this is a relatively new business for us, and therefore we have a limited historical basis upon which to predict customer demand for the products. If we are unable to adequately predict customer demand and efficiently manage our inventory, we could either have an excess or a shortage of inventory, either of which would have a material adverse effect on our business.
Purchasing the goods ourselves prior to the sale also means that we will be required to fulfill orders on a timely, efficient and cost-effective basis.  Many other online retailers have significantly larger inventory balances and therefore are able to rely on


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past experience and economies of scale to optimize their order fulfillment. Because we rely primarily on third party logistics providers for order fulfillment and delivery, many parts of our supply chain are outside our control. Delays or inefficiencies in our processes, or those of our third party logistics providers, could subject us to additional costs, as well as customer dissatisfaction, which would adversely affect our business. Additionally, we assume the risks of inventory damage, theft and obsolescence, as well as risks of price erosion for these products. These risks are especially significant because some of the merchandise we sell is characterized by seasonal trends, fashion trends, obsolescence and price erosion and because we sometimes make large purchases of particular types of inventory. Our success will depend on our ability to sell our inventory rapidly, the ability of our buying staff to purchase inventory at attractive prices relative to its resale value and our ability to manage customer returns and other costs. If we are unsuccessful in any of these areas, we may be forced to sell our inventory at a discount or loss.
The integration of our international operations with our North American technology platform may result in business interruptions.
We currently use a common technology platform in our North America segment to operate our business and are close to fully implementing this platform in most EMEA counties but have not yet substantially rolled out this platform to the countries in our Rest of World segment. Such changes to our technology platform and related software carry risks such as cost overruns, project delays and business interruptions and delays. If we experience a material business interruption as a result of this process, it could have a material adverse effect on our business, financial position and results of operations and could cause the market value of our Class A common stock to decline.
We are involved in pending litigation and an adverse resolution of such litigation may adversely affect our business, financial condition, results of operations and cash flows.
We are involved in litigation regarding, among other matters, patent, consumer, securities and employment issues. Litigation can be expensive, time-consuming and disruptive to normal business operations. The results of complex legal proceedings are often uncertain and difficult to predict. An unfavorable outcome with respect to any of these lawsuits could have a material adverse effect on our business, financial condition, results of operations or cash flows. For additional information regarding these and other lawsuits in which we are involved, see Note 6 "Commitments and Contingencies" to the condensed consolidated financial statements.
An increase in our refund rates could reduce our liquidity and profitability.
Customers have the ability to receive a refund of their purchase price upon the occurrence of specified events. As we increase our revenue and expand our product offerings, our refund rates may exceed our historical levels. For example, as a result of a shift in our deal mix and higher price point offers that began in the fourth quarter of 2011, our refund rates became higher than historical levels. A downturn in general economic conditions may also increase our refund rates. An increase in our refund rates could significantly reduce our liquidity and profitability.
Because we do not have control over our merchants and the quality of products or services they deliver, we rely on a statistical model that incorporates the following data inputs and factors to estimate future refunds: historical refund experience developed from millions of deals featured on our website, the relative risk of refunds based on expiration date, deal value, deal category and other qualitative factors that could impact the level of future refunds, such as introductions of new deals, discontinuations of legacy deals and expected changes, if any, in our practices in response to refund experience or economic trends that might impact customer demand. Our actual level of refund claims could prove to be greater than the level of refund claims we estimate. If our refund reserves are not adequate to cover future refund claims, this inadequacy could have a material adverse effect on our liquidity and profitability.
Our standard agreements with our merchants generally limit the time period during which we may seek reimbursement for customer refunds or claims. Our customers may make claims for refunds with respect to which we are unable to seek reimbursement from our merchants. Our inability to seek reimbursement from our merchants for refund claims could have an adverse effect on our liquidity and profitability.
The loss of one or more key members of our management team, or our failure to attract, integrate and retain other highly qualified personnel in the future could harm our business.
In order to be successful, we must attract, retain and motivate executives and other key employees, including those in managerial, technical and sales positions. Hiring and retaining qualified executives, engineers and qualified sales representatives are critical to our success, and competition for experienced and well qualified employees can be intense. In order to attract and retain executives and other key employees in a competitive marketplace, we must provide a competitive compensation package,


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including cash and share-based compensation. Our primary form of share-based incentive award is restricted stock units. If the anticipated value of such share-based incentive awards does not materialize, if our share-based compensation otherwise ceases to be viewed as a valuable benefit, or if our total compensation package is not viewed as being competitive, our ability to attract, retain, and motivate executives and key employees could be weakened. The failure to successfully hire executives and key employees or the loss of any executives and key employees could have a significant impact on our operations.
An increase in the costs associated with maintaining our international operations could adversely affect our results of operations.
Certain factors may cause our international costs of doing business to exceed our comparable costs in North America. For example, in some countries, expanding our product and service offerings may require a close commercial relationship with one or more local banks, a shared ownership interest with a local entity or registration as a bank under local law. Such requirements may reduce our revenue, increase our costs or limit the scope of our activities in particular countries.
Further, because our international revenue is denominated in foreign currencies, we could become subject to increased difficulties in repatriating money without adverse tax consequences and increased risks relating to foreign currency exchange rate fluctuations. Further, we could be subject to the application of U.S. tax rules to acquired international operations and local taxation of our fees or of transactions on our websites.
We conduct portions of certain functions, including product development, customer support and other operations, in regions outside of North America. Any factors which reduce the anticipated benefits, including cost efficiencies and productivity improvements, associated with providing these functions outside of North America, including increased regulatory costs associated with our international operations, could adversely affect our business.
We may be subject to additional unexpected regulation which could increase our costs or otherwise harm our business.
The application of certain laws and regulations to Groupons, as a new product category, is uncertain. These include laws and regulations such as the CARD Act, and, in certain instances, potentially unclaimed and abandoned property laws. In addition, from time to time, we may be notified of additional laws and regulations which governmental organizations or others may claim should be applicable to our business. If we are required to alter our business practices as a result of any laws and regulations, our revenue could decrease, our costs could increase and our business could otherwise be harmed. In addition, the costs and expenses associated with defending any actions related to such additional laws and regulations and any payments of related penalties, judgments or settlements could adversely impact our profitability. As we expand into new lines of business and new geographies, we will become subject to additional laws and regulations.
We may have exposure to greater than anticipated tax liabilities.
Our income tax obligations are based on our corporate operating structure, including the manner in which we develop, value and use our intellectual property and the scope of our international operations. The tax laws applicable to our international business activities, including the laws of the United States and other jurisdictions, are subject to interpretation. The taxing authorities of the jurisdictions in which we operate may challenge our methodologies for valuing developed technology or intercompany arrangements, which could increase our worldwide effective tax rate and harm our financial position and results of operations. In addition, our future income taxes could be adversely affected by greater earnings in jurisdictions that have higher statutory tax rates, by changes in the valuation of our deferred tax assets and liabilities, or by changes in tax laws, regulations or accounting principles. We are subject to regular review and audit by both U.S. federal and state and foreign tax authorities. Any adverse outcome of such a review or audit could have a negative effect on our financial position and results of operations. In addition, the determination of our worldwide provision for income taxes and other tax liabilities requires significant judgment by management, and there are many transactions where the ultimate tax determination is uncertain. Although we believe that our estimates are reasonable, the ultimate tax outcome may differ from the amounts recorded in our financial statements and may materially affect our financial results in the period or periods for which such determination is made.
The enactment of legislation implementing changes in the U.S. taxation of international business activities or the adoption of other tax reform policies could materially affect our financial position and results of operations.
The current administration has made public statements indicating that it has made international tax reform a priority, and key members of the U.S. Congress have conducted hearings and proposed a wide variety of potential changes. Certain changes to U.S. tax laws, including limitations on the ability to defer U.S. taxation on earnings outside of the United States until those earnings are repatriated to the United States, could affect the tax treatment of our foreign earnings, as well as cash and cash equivalent balances we currently maintain outside of the United States. Due to the large and expanding scale of our international business activities, any changes in the U.S. taxation of such activities may increase our worldwide effective tax rate and harm our


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financial position and results of operations.
The implementation of the CARD Act and similar state and foreign laws may harm our business and results of operations.
It is not clear at this time, but Groupons may be considered gift cards, gift certificates, stored value cards or prepaid cards and therefore governed by, among other laws, the CARD Act, and state laws governing gift cards, stored value cards and coupons. Other foreign jurisdictions have similar laws in place, in particular European jurisdictions where the European E-Money Directive regulates the business of electronic money institutions. Many of these laws contain provisions governing the use of gift cards, gift certificates, stored value cards or prepaid cards, including specific disclosure requirements and prohibitions or limitations on the use of expiration dates and the imposition of certain fees. For example, if Groupons are subject to the CARD Act and are not included in the exemption for promotional programs, it is possible that the purchase value, which is the amount equal to the price paid for the Groupon, or the promotional value, which is the add-on value of the Groupon in excess of the price paid, or both, may not expire before the later of (i) five years after the date on which the Groupon was issued or the date on which the customer last loaded funds on the Groupon if the Groupon has a reloadable feature; (ii) the Groupon's stated expiration date (if any); or (iii) a later date provided by applicable state law. We and several merchants are currently defendants in purported class action litigation that has been filed in federal and state court claiming that Groupons are subject to the CARD Act and various state laws governing gift cards and that the defendants have violated these laws by issuing Groupons with expiration dates and other restrictions. In the event that it is determined that Groupons are subject to the CARD Act or any similar state or foreign law or regulation, and are not within various exemptions that may be available to Groupon under the CARD Act or under some of the various state or foreign jurisdictions, our liabilities with respect to unredeemed Groupons may be materially higher than the amounts shown in our financial statements and we may be subject to additional fines and penalties. In addition, if federal or state laws require that the face value of Groupons have a minimum expiration period beyond the period desired by a merchant for its promotional program, or no expiration period, this may affect the willingness of merchants to issue Groupons in jurisdictions where these laws apply.
If we are required to materially increase the estimated liability recorded in our financial statements with respect to unredeemed Groupons, our results from operations could be materially and adversely affected.
In certain states and foreign jurisdictions, Groupons may be considered a gift card. Some of these states and foreign jurisdictions include gift cards under their unclaimed and abandoned property laws which require companies to remit to the government the value of the unredeemed balance on the gift cards after a specified period of time (generally between one and five years) and impose certain reporting and record-keeping obligations. We do not remit any amounts relating to unredeemed Groupons based on our assessment of applicable laws. The analysis of the potential application of the unclaimed and abandoned property laws to Groupons is complex, involving an analysis of constitutional and statutory provisions and factual issues, including our relationship with customers and merchants and our role as it relates to the issuance and delivery of a Groupon. In the event that one or more states or foreign jurisdictions successfully challenges our position on the application of its unclaimed and abandoned property laws to Groupons, or if the estimates that we use in projecting the likelihood of Groupons being redeemed prove to be inaccurate, our liabilities with respect to unredeemed Groupons may be materially higher than the amounts shown in our financial statements. If we are required to materially increase the estimated liability recorded in our financial statements with respect to unredeemed gift cards, our net income could be materially and adversely affected. Moreover, a successful challenge to our position could subject us to penalties or interest on unreported and unremitted sums, and any such penalties or interest would have a further material adverse impact on our net income.
Government regulation of the Internet and e-commerce is evolving, and unfavorable changes or failure by us to comply with these regulations could substantially harm our business and results of operations.
We are subject to general business regulations and laws as well as regulations and laws specifically governing the Internet and e-commerce. Existing and future regulations and laws could impede the growth of the Internet or other online services. These regulations and laws may involve taxation, tariffs, subscriber privacy, anti-spam, data protection, content, copyrights, distribution, electronic contracts and other communications, consumer protection, the provision of online payment services and the characteristics and quality of services. It is not clear how existing laws governing issues such as property ownership, sales and other taxes, libel and personal privacy apply to the Internet as the vast majority of these laws were adopted prior to the advent of the Internet and do not contemplate or address the unique issues raised by the Internet or e-commerce. In addition, it is possible that governments of one or more countries may seek to censor content available on our websites and applications or may even attempt to completely block our emails or access to our websites. Adverse legal or regulatory developments could substantially harm our business. In particular, in the event that we are restricted, in whole or in part, from operating in one or more countries, our ability to retain or increase our customer base may be adversely affected and we may not be able to maintain or grow our revenue as anticipated.


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New tax treatment of companies engaged in Internet commerce may adversely affect the commercial use of our services and our financial results.
Due to the global nature of the Internet, it is possible that various states or foreign countries might attempt to regulate our transmissions or levy sales, income or other taxes relating to our activities. Tax authorities at the international, federal, state and local levels are currently reviewing the appropriate treatment of companies engaged in Internet commerce. New or revised international, federal, state or local tax regulations may subject us or our customers to additional sales, income and other taxes. We cannot predict the effect of current attempts to impose sales, income or other taxes on commerce over the Internet. New or revised taxes and, in particular, sales taxes, VAT and similar taxes would likely increase the cost of doing business online and decrease the attractiveness of advertising and selling goods and services over the Internet. New taxes could also create significant increases in internal costs necessary to capture data, and collect and remit taxes. Any of these events could have an adverse effect on our business and results of operations.
Failure to comply with federal, state and international privacy laws and regulations, or the expansion of current or the enactment of new privacy laws or regulations, could adversely affect our business.
A variety of federal, state and international laws and regulations govern the collection, use, retention, sharing and security of consumer data. The existing privacy-related laws and regulations are evolving and subject to potentially differing interpretations. In addition, various federal, state and foreign legislative and regulatory bodies may expand current or enact new laws regarding privacy matters. For example, recently there have been Congressional hearings and increased attention to the capture and use of location-based information relating to users of smartphones and other mobile devices. We have posted privacy policies and practices concerning the collection, use and disclosure of subscriber data on our websites and applications. Several Internet companies have incurred substantial penalties for failing to abide by the representations made in their privacy policies and practices. In addition, several states have adopted legislation that requires businesses to implement and maintain reasonable security procedures and practices to protect sensitive personal information and to provide notice to consumers in the event of a security breach. Any failure, or perceived failure, by us to comply with our posted privacy policies or with any data-related consent orders, Federal Trade Commission requirements or orders or other federal, state or international privacy or consumer protection-related laws, regulations or industry self-regulatory principles could result in claims, proceedings or actions against us by governmental entities or others or other liabilities, which could adversely affect our business. In addition, a failure or perceived failure to comply with industry standards or with our own privacy policies and practices could result in a loss of subscribers or merchants and adversely affect our business. Federal, state and international governmental authorities continue to evaluate the privacy implications inherent in the use of third party web "cookies" for behavioral advertising. The regulation of these cookies and other current online advertising practices could adversely affect our business.
We may suffer liability as a result of information retrieved from or transmitted over the Internet and claims related to our service offerings.
We may be, and in certain cases have been, sued for defamation, civil rights infringement, negligence, patent, copyright or trademark infringement, invasion of privacy, personal injury, product liability, breach of contract, unfair competition, discrimination, antitrust or other legal claims relating to information that is published or made available on our websites or service offerings we make available (including provision of an application programming interface platform for third parties to access our website, mobile device services and geolocation applications). This risk is enhanced in certain jurisdictions outside the United States, where our liability for such third party actions may be less clear and we may be less protected. In addition, we could incur significant costs in investigating and defending such claims, even if we ultimately are not found liable. If any of these events occurs, our net income could be materially and adversely affected.
We are subject to risks associated with information disseminated through our websites and applications, including consumer data, content that is produced by our editorial staff and errors or omissions related to our product offerings. Such information, whether accurate or inaccurate, may result in our being sued by our merchants, subscribers or third parties and as a result our revenue and goodwill could be materially and adversely affected.
We may not be able to adequately protect our intellectual property rights or may be accused of infringing intellectual property rights of third parties.
We regard our trademarks, service marks, copyrights, patents, trade dress, trade secrets, proprietary technology, merchant lists, subscriber lists, sales methodology and similar intellectual property as critical to our success, and we rely on trademark, copyright and patent law, trade secret protection and confidentiality and/or license agreements with our employees and others to protect our proprietary rights. Effective intellectual property protection may not be available in every country in which our deals are made available. We also may not be able to acquire or maintain appropriate domain names or trademarks in all countries in


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which we do business. Furthermore, regulations governing domain names may not protect our trademarks and similar proprietary rights. We may be unable to prevent third parties from acquiring and using domain names that are similar to, infringe upon or diminish the value of our trademarks and other proprietary rights. We may be unable to prevent third parties from using and registering our trademarks, or trademarks that are similar to, or diminish the value of, our trademarks in some countries.
We may not be able to discover or determine the extent of any unauthorized use of our proprietary rights. Third parties that license our intellectual property rights also may take actions that diminish the value of our proprietary rights or reputation. The protection of our intellectual property may require the expenditure of significant financial and managerial resources. Moreover, the steps we take to protect our intellectual property may not adequately protect our rights or prevent third parties from infringing or misappropriating our proprietary rights. We are currently subject to multiple lawsuits and disputes related to our intellectual property and service offerings. We may in the future be subject to additional litigation and disputes. The costs of engaging in such litigation and disputes are considerable, and there can be no assurances that favorable outcomes will be obtained.
We are currently subject to third party claims that we infringe their proprietary rights or trademarks and expect to be subject to additional claims in the future. Such claims, whether or not meritorious, may result in the expenditure of significant financial and managerial resources, injunctions against us or the payment of damages by us. We may need to obtain licenses from third parties who allege that we have infringed their rights, but such licenses may not be available on terms acceptable to us or at all. These risks have been amplified by the increase in third parties whose sole or primary business is to assert such claims.
Our business depends on a strong brand, and if we are not able to maintain and enhance our brand, or if we receive unfavorable media coverage, our ability to expand our base of customers and merchants will be impaired and our business and operating results will be harmed.
We believe that the brand identity that we have developed has significantly contributed to the success of our business. We also believe that maintaining and enhancing the "Groupon" brand is critical to expanding our base of customers and merchants. Maintaining and enhancing our brand may require us to make substantial investments and these investments may not be successful. If we fail to promote and maintain the "Groupon" brand, or if we incur excessive expenses in this effort, our business, operating results and financial condition will be materially and adversely affected. We anticipate that, as our market becomes increasingly competitive, maintaining and enhancing our brand may become increasingly difficult and expensive. Maintaining and enhancing our brand will depend largely on our ability to be a group buying leader and to continue to provide reliable, trustworthy and high quality deals, which we may not do successfully.
We receive a high degree of media coverage around the world. Unfavorable publicity or consumer perception of our websites, applications, practices or service offerings, or the offerings of our merchants, could adversely affect our reputation, resulting in difficulties in recruiting, decreased revenue and a negative impact on the number of merchants we feature and the size of our customer base, the loyalty of our customers and the number and variety of deals we offer each day. As a result, our business, financial condition and results of operations could be materially and adversely affected.
Acquisitions, joint ventures and strategic investments could result in operating difficulties, dilution and other consequences.
We have in the past acquired a number of companies, including Ticket Monster, which we acquired on January 2, 2014 for total consideration of $259.4 million, and Ideeli, which we acquired on January 13, 2014 for total consideration of $42.7 million. We expect to continue to evaluate, consider and potentially consummate a wide array of potential strategic transactions, including acquisitions and dispositions of businesses, joint ventures, technologies, services, products and other assets and minority investments. However, we may be unable to successfully complete potential acquisitions. Acquisitions involve significant risks and uncertainties, including uncertainties as to the future financial performance of the acquired business, difficulties integrating acquired personnel into our business, the potential loss of key employees, customers or suppliers, difficulties in integrating different computer and accounting systems and exposure to unknown or unforeseen liabilities of acquired companies. We may not realize the anticipated benefits of any or all of our acquisitions and investments, or we may not realize them in the time frame expected. In addition, the integration of an acquisition could divert management's time and the company's resources. If we pay for an acquisition or a minority investment in cash, it would reduce our cash available for operations or cause us to incur debt, and if we pay with our stock it could be dilutive to our stockholders. Additionally, we do not have the ability to exert control over our joint ventures and minority investments, and therefore we are dependent on others in order to realize their potential benefits.
Our business may be subject to seasonal sales fluctuations which could result in volatility or have an adverse effect on the market price of our Class A common stock.
Our business has been and may continue to be subject to sales seasonality. This seasonality may cause our working capital cash flow requirements to vary from quarter to quarter depending on the variability in the volume and timing of sales. These


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factors, among other things, make forecasting more difficult and may adversely affect our ability to manage working capital and to predict financial results accurately, which could adversely affect the market price of our Class A common stock.
Failure to deal effectively with fraudulent transactions and customer disputes would increase our loss rate and harm our business.
Groupons are issued in the form of redeemable coupons with unique identifiers. It is possible that consumers or other third parties will seek to create counterfeit Groupons in order to fraudulently purchase discounted goods and services from our merchants. While we use advanced anti-fraud technologies, it is possible that criminals will attempt to circumvent our anti-fraud systems using increasingly sophisticated methods. In addition, our service could be subject to employee fraud or other internal security breaches, and we may be required to reimburse customers and/or merchants for any funds stolen or revenue lost as a result of such breaches. Our merchants could also request reimbursement, or stop using Groupon, if they are affected by buyer fraud or other types of fraud.
We may incur significant losses from fraud and counterfeit Groupons. We may incur losses from claims that the customer did not authorize the purchase, from merchant fraud, from erroneous transmissions, and from customers who have closed bank accounts or have insufficient funds in them to satisfy payments. In addition to the direct costs of such losses, if they are related to credit card transactions and become excessive, they could potentially result in our losing the right to accept credit cards for payment. If we were unable to accept credit cards for payment, we would suffer substantial reductions in revenue, which would cause our business to suffer. While we have taken measures to detect and reduce the risk of fraud, these measures need to be continually improved and may not be effective against new and continually evolving forms of fraud or in connection with new product offerings. If these measures do not succeed, our business will suffer.
We are subject to payments-related risks.
We accept payments using a variety of methods, including credit card, debit card and gift certificates. As we offer new payment options to customers, we may be subject to additional regulations, compliance requirements and fraud. For certain payment methods, including credit and debit cards, we pay interchange and other fees, which may increase over time and raise our operating costs and lower profitability. We rely on third parties to provide payment processing services, including the processing of credit cards and debit cards and it could disrupt our business if these companies become unwilling or unable to provide these services to us. We are also subject to payment card association operating rules, certification requirements and rules governing electronic funds transfers, which could change or be reinterpreted to make it difficult or impossible for us to comply. If we fail to comply with these rules or requirements, we may be subject to fines and higher transaction fees and lose our ability to accept credit and debit card payments from customers or facilitate other types of online payments, and our business and operating results could be adversely affected.
We are also subject to or voluntarily comply with a number of other laws and regulations relating to money laundering, international money transfers, privacy and information security and electronic fund transfers. If we were found to be in violation of applicable laws or regulations, we could be subject to civil and criminal penalties or forced to cease our payments services business. In addition, events affecting our third party payment processors, including cyber-attacks, Internet or other infrastructure or communications impairment or other events that could interrupt the normal operation of our payment processors, could have a material adverse effect on our business.
When we process credit card payments for merchants, we may be subject to chargeback liability if our merchants refuse or cannot reimburse chargebacks resolved in favor of their customers.            
    
We offer a credit card payment processing service to merchants.  If we process a payment that is successfully disputed by the customer at a later date, the transaction is normally “charged back” to the merchant and the purchase price is credited or otherwise refunded to the cardholder. If we or our clearing bank is unable to collect such amounts from the merchant's account, or if the merchant refuses or is unable, due to closure, bankruptcy or other reasons, to reimburse us for the chargeback, we bear the loss for the amount of the refund paid to the cardholder.  Any chargebacks not paid by our merchants may adversely affect our financial condition and results of operations. In addition, if our clearing bank terminates our relationship and we are unable to secure a relationship with another clearing bank, we would be unable to process payments.

Federal laws and regulations, such as the Bank Secrecy Act and the USA PATRIOT Act and similar foreign laws, could be expanded to include Groupons.
Various federal laws, such as the Bank Secrecy Act and the USA PATRIOT Act and foreign laws and regulations, such as the European Directive on the prevention of the use of the financial system for the purpose of money laundering and terrorist


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financing, impose certain anti-money laundering requirements on companies that are financial institutions or that provide financial products and services. For these purposes, financial institutions are broadly defined to include money services businesses such as money transmitters, check cashers and sellers or issuers of stored value cards. Examples of anti-money laundering requirements imposed on financial institutions include subscriber identification and verification programs, record retention policies and procedures and transaction reporting. We do not believe that we are a financial institution subject to these laws and regulations based, in part, upon the characteristics of Groupons and our role with respect to the distribution of Groupons to subscribers. However, the Financial Crimes Enforcement Network, a division of the U.S. Treasury Department tasked with implementing the requirements of the Bank Secrecy Act, recently proposed amendments to the scope and requirements for parties involved in stored value or prepaid access cards, including a proposed expansion of financial institutions to include sellers or issuers of prepaid access cards. In the event that this proposal is adopted as proposed, it is possible that a Groupon could be considered a financial product and that we could be a financial institution. In the event that we become subject to the requirements of the Bank Secrecy Act or any other anti-money laundering law or regulation imposing obligations on us as a money services business, our regulatory compliance costs to meet these obligations would likely increase which could reduce our net income.
State and foreign laws regulating money transmission could be expanded to include Groupons.
Many states and certain foreign jurisdictions impose license and registration obligations on those companies engaged in the business of money transmission, with varying definitions of what constitutes money transmission. We do not currently believe we are a money transmitter given our role and the product terms of Groupons. However, a successful challenge to our position or expansion of state or foreign laws could subject us to increased compliance costs and delay our ability to offer Groupons in certain jurisdictions pending receipt of any necessary licenses or registrations.
Our responsibilities as a public company may cause us to incur significant costs, divert management's attention and affect our ability to attract and retain qualified board members and executives.
We are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002, including the requirements of Section 404, as well as new rules and regulations subsequently implemented by the Securities and Exchange Commission, or the SEC, the Public Company Accounting Oversight Board and the marketplace rules of the NASDAQ stock market. Compliance with these public company requirements has increased and will continue to increase our legal and financial compliance costs and increase demand on our systems and resources. It also may be more difficult for us to attract and retain qualified persons to serve on our board of directors or as executive officers.
In addition, changing laws, regulations and standards relating to public disclosure and corporate governance are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. These laws, regulations and standards are subject to varying interpretations, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to our disclosures and to our governance practices. We have invested, and intend to continue to invest, resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a diversion of management’s time and attention away from activities that generate revenue and help grow our business.


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Our ability to raise capital in the future may be limited, and our failure to raise capital when needed could prevent us from growing.
We may in the future be required to raise capital through public or private financing or other arrangements. Such financing may not be available on acceptable terms, or at all, and our failure to raise capital when needed could harm our business. Additional equity financing may dilute the interests of our common stockholders, and debt financing, if available, may involve restrictive covenants and could reduce our profitability. If we cannot raise funds on acceptable terms, we may not be able to grow our business or respond to competitive pressures.
Risks Related to Ownership of Our Class A Common Stock
The trading price of our Class A common stock is highly volatile.
Our Class A common stock began trading on the NASDAQ Global Select Market on November 4, 2011 and since that date has fluctuated from a high of $31.14 per share to a low of $2.60 per share. We expect that the trading price of our stock will continue to be volatile due to variations in our operating results and also may change in response to other factors, including factors specific to technology and Internet commerce companies, many of which are beyond our control. Among the factors that could affect our stock price are:
•
our financial results;
•
any financial projections that we may choose to provide to the public, any changes in these projections or our failure for any reason to meet these projections or projections made by research analysts;
•
the amount of shares of our Class A common stock that are available for sale;
•
the relative success of competitive products or services;
•
the public's response to press releases or other public announcements by us or others, including our filings with the SEC and announcements relating to litigation;
•
speculation about our business in the press or the investment community;
•
future sales of our Class A common stock by our significant stockholders, officers and directors;
•
announcements about our share repurchase program and sales under the program;
•
changes in our capital structure, such as future issuances of debt or equity securities;
•
our entry into new markets;
•
regulatory developments in the United States or foreign countries;
•
strategic actions by us or our competitors, such as acquisitions, joint ventures or restructuring; and
•
changes in accounting principles.
We expect the stock price volatility to continue for the foreseeable future as a result of these and other factors.
Purchases of shares of our Class A common stock pursuant to our stock repurchase program may affect the value of our Class A common stock.

Pursuant to our publicly announced share repurchase program, we are authorized to repurchase up to $300 million of our outstanding Class A common stock through August 2015 and have approximately $118 million remaining under this authorization as of June 30, 2014. The timing and amount of any share repurchases will be determined based on market conditions, share price and other factors. This activity could increase (or reduce the size of any decrease in) the market price of our Class A common stock at that time.



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The concentration of our capital stock ownership with our founders, executive officers, employees and directors and their affiliates will limit stockholders' ability to influence corporate matters.
Our Class B common stock has 150 votes per share and our Class A common stock has one vote per share. As of August 1, 2014, our founders, Eric Lefkofsky, Bradley Keywell and Andrew Mason control 100% of our outstanding Class B common stock and, based on information available to us, approximately 24.0% of our outstanding Class A common stock, representing approximately 50.5% of the voting power of our outstanding capital stock. Messrs. Lefkofsky, Keywell and Mason will therefore have significant influence over management and affairs and over all matters requiring stockholder approval, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets, for the foreseeable future. This concentrated control will limit stockholders' ability to influence corporate matters and, as a result, we may take actions that our stockholders do not view as beneficial. As a result, the market price of our Class A common stock could be adversely affected.

We do not intend to pay dividends for the foreseeable future.
We intend to retain all of our earnings for the foreseeable future to finance the operation and expansion of our business and do not anticipate paying cash dividends. As a result, stockholders can expect to receive a return on their investment in our Class A common stock only if the market price of the stock increases.
Provisions in our charter documents and under Delaware law could discourage a takeover that stockholders may consider favorable.
Provisions in our certificate of incorporation and bylaws, as amended and restated upon the closing of this offering, may have the effect of delaying or preventing a change of control or changes in our management. These provisions include the following:
•
Our certificate of incorporation provides for a dual class common stock structure. As a result of this structure, our founders will have significant influence over all matters requiring stockholder approval, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets. This concentrated control could discourage others from initiating any potential merger, takeover or other change of control transaction that other stockholders may view as beneficial.
•
Our board of directors has the right to elect directors to fill a vacancy created by the expansion of the board of directors or the resignation, death or removal of a director, which prevents stockholders from being able to fill vacancies on our board of directors.
•
Special meetings of our stockholders may be called only by our Executive Chairman of the Board, our Chief Executive Officer, our board of directors or holders of not less than the majority of our issued and outstanding capital stock. This limits the ability of minority stockholders to take certain actions without an annual meeting of stockholders.
•
Our stockholders may not act by written consent unless the action to be effected and the taking of such action by written consent is approved in advance by our board of directors. As a result, a holder, or holders, controlling a majority of our capital stock would generally not be able to take certain actions without holding a stockholders' meeting.
•
Our certificate of incorporation prohibits cumulative voting in the election of directors. This limits the ability of minority stockholders to elect director candidates.
•
Stockholders must provide timely notice to nominate individuals for election to the board of directors or to propose matters that can be acted upon an annual meeting of stockholders. These provisions may discourage or deter a potential acquiror from conducting a solicitation of proxies to elect the acquiror's own slate of directors or otherwise attempting to obtain control of our company.
•
Our board of directors may issue, without stockholder approval, shares of undesignated preferred stock. The ability to authorize undesignated preferred stock makes it possible for our board of directors to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.



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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Recent Sales of Unregistered Securities
During the three months ended June 30, 2014, we did not issue any unregistered securities.
Issuer Purchases of Equity Securities
The Board of Directors has authorized us to purchase up to $300 million of our outstanding Class A common stock through August 2015.  The timing and amount of any share repurchases will be determined based on market conditions, share price and other factors, and the program may be discontinued or suspended at any time.  We expect to fund the repurchases through cash on hand and future cash flow.  We also have the ability to fund share repurchases with borrowings under our Credit Agreement, which we entered into in July 2014. Repurchases will be made in compliance with SEC rules and other legal requirements and may be made in part under a Rule 10b5-1 plan, which permits stock repurchases when the Company might otherwise be precluded from doing so.
During the three months ended June 30, 2014, we purchased 17,228,792 shares of Class A common stock for an aggregate purchase price of $106.0 million (including fees and commissions) under the share repurchase program. A summary of our Class A common stock repurchases during the three months ended June 30, 2014 under the repurchase program is set forth in the following table:
Date
 
Total Number of Shares Purchased
 
Average Price Paid Per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Program
 
Maximum Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under Program
April 1-30, 2014
 
1,610,800

 
$
7.38

 
1,610,800

 
$
212,000,000

May 1-31, 2014
 
13,669,292

 
6.00

 
13,669,292

 
130,000,000

June 1-30, 2014
 
1,948,700

 
6.21

 
1,948,700

 
118,000,000

Total
 
17,228,792

 
$
6.15

 
17,228,792

 
$
118,000,000

ITEM 5. OTHER INFORMATION
ITEM 6. EXHIBITS
See the Exhibit Index immediately following the signature page of this Quarterly Report on Form 10-Q.


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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on this 5th day of August 2014.
GROUPON, INC.
By:
 
/s/ Jason E. Child
 
 
Name:
 
Jason E. Child
 
 
Title:
 
Chief Financial Officer



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EXHIBITS
Exhibit
Number
 
Description
10.20*
 
Employment Agreement by and between Groupon, Inc. and Dane Drobny
31.1
 
Certification of Chief Executive Officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2
 
Certification of Chief Financial Officer pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
 
Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101
 
Interactive data file
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* - Management contract or compensatory plan or arrangement.



101