Groupon’s Founders Make Words Pay, But for Whom?

The New York Times recently wrote a piece suggesting that “Groupon’s fate hinges on words.” Unlike Google, which “had secret algorithms that gave superior search results,” or Facebook, which “provided a way to broadcast regular updates to friends and acquaintances that grew ever more compelling as more people signed up,” in the view of the Times, Groupon has “nothing so special.” Its unique asset is its “ability to make words pay.”

Groupon’s cofounders and earliest investors, Eric Lefkofsky and Brad Keywell, have long displayed a skill at dressing up their investments with a catchy turn of phrase. Looking back on their long history together, dating back to their days as University of Michigan classmates, a pattern quickly emerges of canny operators who have rolled up mature, low-margin businesses and used their “ability to make words pay” to cast them as fast-growing, high-margin technology companies.

Ten-year-old InnerWorkings is a prime example. Visit the site, and you quickly get the impression that the Chicago-based company’s “proprietary technology” is changing the way that its customers source print and promotional material.

But when you look closely at the company, it appears to be a classic roll-up play. In 2006, InnerWorkings bought a company called Applied Graphics, and one year later, it acquired Spectrum Printing Systems, Data Flow Media Systems, and Brown & Partners, all printing service companies. Since then, it has acquired at least three more printing service companies: Etrinisic, Mikam Graphics, and Origen Partners.

That’s a lot of acquisitions to absorb for any company, let alone a startup operating in the drab printing arena. And while InnerWorkings is solidly in the black – its net profit last year was $15.9 million, up from $6.3 million in 2009 — its attempts to position itself as a more glamorous technology company certainly haven’t kept pace with its financials. As of yesterday, the company had just over $10 million in cash and short-term investments and a mere 3.2 percent operating margin (trailing 12 months).

Still, somebody must believe that the company is going to “leverage its technology platform to capitalize on the vast opportunities that are easily accessible to us in today’s print marketplace,” as CEO Eric Belcher commented about the most recent quarter’s numbers. The stock is trading at a very robust 32 price-to-earnings ratio.

(Lefkofsky declined to comment. Groupon is in a quiet period because it has filed to go public.)

Another company that Lefkofsky and Keywell founded has also benefited from high-tech spin. When Echo Global Logistics (ECHO) went public in 2009, the logistics management company made much of its “proprietary” Web-based platform that manages a network of thousands of transportation providers. It, too, is profitable, netting $8.4 million last year. Yet even its numerous acquisitions, including SelecTrans, Mountain Logistics, Best Way Solution, Raytrans Distribution Services, and DNA Freight International, haven’t afforded it the rich margins that technology companies typically enjoy. Echo’s operating margin over the last year is also just 3.2 percent, and its stock has barely moved since its IPO.

Nevertheless, despite that Echo’s accounts payable exceeds its cash on hand, the $316 million market cap company enjoys an astounding 34 price-to-earnings ratio (trailing 12 months).

Now, Lefkofsky and Keywell appear to be at it again with Pawngo, a two-year-old Internet pawn shop that’s being touted as the “next big thing in e-commerce.” (The pair just led a $2.3 million round for the company.) While it’s too early to know if Lefkofsky and Keywell will invoke their trademark “technology platform” terminology, Pawngo certainly seems to fit a pattern of dressing up an old trade with the aura of a high-tech business.

There’s no question that Lefkofsky and Keywell are brilliant businessmen. And no one can begrudge them their success for dressing up staid businesses to appear more attractive. But investors who believe that Groupon will be as “wildly profitable” as Lefkofsky has said it will be should take a close look at InnerWorkings and Echo. Lefkofsky and Keywell may well have an “ability to make words pay,” but the question is, for whom?