2017/03/29

The Death of the Daily Deal

Groupon
Groupon skeptics have never been in short supply. They’ve long said the business model was flawed and that the growth of the company and its sector was based on hope. Critics predicted it was only a matter of time before it would all collapse. That time appears to be now.
LivingSocial, Groupon’s main competitor, was once the object of $175 million worth of investing love from Amazon. At its height, LivingSocial was valued at $6 billion. Today, it has withered away, and its remains were recently acquired by Groupon for $0.
Groupon, once named by Forbes as the fastest-growing company in the history of the web, has also become a shadow of its former self. Its stock has been on a long slide since an IPO high of more than $28 in 2011, to trading around $4 per share today, and observers are leery about its prospects for ever being viable.
“Groupon was nonsense from the beginning,” says Eric Clemons, Wharton professor of operations, information and decisions. “You have to remember that their original business model was to implement group buying, so that we could all have the buying power of an Amazon, or a Wal-Mart, or a Bed Bath & Beyond. We just needed to wait until enough of us wanted to buy the same thing, and Groupon would get us a great price. This was simply ridiculous. There was never any validity to the original group buying business model.”
Groupon, once named by Forbes as the fastest-growing company in the history of the web, has become a shadow of its former self.
Ultimately, there are too many flaws in the business model used by Groupon and other daily-deals sites to make for happy customers and vendors, says Pinar Yildirim, Wharton marketing professor. “Of course, eventually, when both consumers buying the Groupon and vendors enrolling in the service are not happy, discount-buying sites cannot last too long profitably. I do not expect Groupon to go back to its profitable days.”
Wharton marketing professor David Reibstein says that while there was never a compelling argument for Groupon and the like, the case is even less persuasive today. “[This] is a business model that made much more sense during a downturn in the economy,” he notes. “As the economy has picked up, there is less idle capacity and extra inventory, and there is less to be available, period. And so I’ve never been enthusiastic about the business model, and I think the valuation of LivingSocial today is indicative of that business model.”
Groupon continues to experience net losses, and has responded by exiting poorly performing operations in 11 countries and trying to re-tool its business. But analysts are wary. Says a report from Raymond James & Associates: “While optimistic on the improved execution, we continue to believe the turnaround remains in its early stages and would like to see additional signs of improved growth to become more constructive.”
High Price for a Low Return
In you ever find yourself hungry in Pottstown, Pa., you can get $30 worth of food at Salad Society or Society of Burgers for just $15. A 60-minute massage at Ango’s Beauty Concept in Chicago, a $75 value, can be had on Groupon for $29. Recently, you could book a non-stop flight from Atlanta to Cancun for $199. Restrictions apply.
“The internet has never been really very good at bridging the gap between traditional commerce and the web. Then we came along,” Rob Solomon, Groupon’s former president once said.
After its overheated IPO and first incarnation, Groupon positioned itself as a matchmaker between customers wanting deals and vendors in search of new customers, and it “did not do very well with that, either,” Clemons says. “Groupon was intended to give sellers a way to get new buyers to try their product by offering selective discounts. If a seller has a superb new product in a growth market, then using Groupon to get it out in front of new customers makes sense. If a seller has excess capacity and it costs very little to provide discounted trials, then again, Groupon makes sense. If Groupon can provide a great opportunity for access to a select group of influentials who will attract lots of new buyers for the seller, then it makes sense for sellers to use Groupon.”
But Groupon was not designed to do any of these things well, Clemons notes. “There was no way of guaranteeing that you weren’t cannibalizing your existing customers, giving a discount to people who would have bought from you anyway. There was no way to guarantee that the customers you attracted would ever come back without a discount. There was no effective way to limit the quantity of items you sold at a discount. Shops were driven into bankruptcy because Groupon sold thousands of items below cost. That’s crazy.”
In other words, the company never did become adept at bridging the gap between traditional commerce and the web. “It is not surprising that online companies like Groupon and LivingSocial are struggling, because they rely on the consumers who are highly price-sensitive and are not loyal to any particular brand,” says Yildirim. “Most vendors participated in Groupon type of activities with the hopes of earning new consumers for future business, but, unfortunately, when you are attracting mainly these price-sensitive consumers, it is unlikely that they will stick with you at full prices.”
Groupon offers mostly local services at discounted prices, and it is not very likely that consumers will be highly excited about these services, she says. The other issue is the constraints on using services bought on Groupon. “Consumers need what they need at a given time, and Groupon’s business relies on having enough consumers interested in a product over a period of time.”
Moreover, it is not clear that consumers really get the best experience when they walk into a store with a Groupon voucher. “I believe many vendors did treat them as half-price consumers,” says Yildirim. “This is an agency issue, because vendors have to motivate their employees to treat customers using Groupon the same way as their regular customers, which does not always work out. The employees were either burned out on the increased demand over a short period of time, delivering less than ideal service, or figured a consumer using Groupon was less likely to come back again at full price than a consumer paying the full price, so they did not care as much to deliver service.”
Early research into the sector bore out some troubling flaws in the business model. Only a relatively low percentage of deal users, 35.9%, spent beyond the deal value, and just 20% returned for a full-price purchase, according to one examination titled, “How Businesses Fare with Daily Deals: A Multi-site Analysis of Groupon, LivingSocial, OpenTable, Travelzoo and BuyWithMe Promotions,” by Rice University professor of management Utpal Dholakia. Groupon’s own, more recent figures are more flattering to the company: 91% of Groupon customers return or “plan to return to the business,” the firm states in promotional material.
“Shops were driven into bankruptcy because Groupon sold thousands of items below cost. That’s crazy.”–Eric Clemons
The Rice University study examined performance of daily deals through five major sites in 23 U.S. markets, including a survey-based study of 324 businesses conducting a daily-deal promotion between August 2009 and March 2011. The study found that 21.7% of deal buyers never redeemed vouchers they paid for; and that 55.5% of businesses reported making money, 26.6% lost money and 17.9% broke even on their promotions.
Fewer than half of the businesses said they would run another daily deal promotion. A Raymond James survey of about 115 merchants found an even lower number indicating they would do it again, citing the high commission rate and low customer-return rate.
Bigger May Not Be Better
Groupon and other daily deal firms offer something that’s not really new — a digital-age application of an old standby: the coupon booklet. For decades, deal-seekers have been able to pay for a bound stack of coupons for discounts to restaurants, movies and hotels — often sold as a tool for school and church fundraisers. The company — Entertainment — has been around since 1962, and has adjusted itself to the digital age by extending use on an app.
But if Groupon demonstrates one lesson clearly, it’s that translating old ideas into internet profit has been painfully slow for some businesses – that having more customers doesn’t translate easily into having more money. Newspapers have more readers than ever, but still struggle to monetize these users. Groupon has recently decided to focus its attention on millennials, and is in fact growing its business: It added 5.2 million North American customers in the fourth quarter of 2016, putting its total number of North American customers at 31.1 million. It still is not clearing a profit.
The growth of Groupon’s customer base may mean little to the company’s future since, of all of the company’s constituencies, it’s the customer who has made out most successfully. Long-term investors certainly have not done well. And for the hair salons and restaurants that have used Groupon, the outcome has been less convincing, says Reibstein. “For some retailers, it did work, because it allowed them to sell some of their soon-to-be-perishable inventory, and for some there was always the hope they would get some people who would be non-users to suddenly try a product or service and then become regular users at full fare,” he says. “To the degree any of that happened, it worked for them, but I am skeptical about whether it happened very much, because often the people who were attracted were the deal-prone customers, and they are not soon to become loyal customers. They chase one deal and move on to the next.”
A growing customer base, he notes, might confirm that that there is a deal-prone segment of the population, but that doesn’t equal decent profit margins for businesses doing deals with Groupon, or a sound long-term business model. Says Reibstein: “Pick the category — imagine any category where I could buy the same product but for a 50% discount if I clicked here. What you end up doing is growing the size of that segment. That’s not good for business in general, and, again, it’s part of the skepticism.”
Other sites with recent splashy IPOs and high expectations are likewise challenged. The hurdle for social media companies like Snapchat and Twitter is partly is that users can be fickle, says Wharton operations, information and decisions professor Kartik Hosanagar. “This is seen in the way Myspace, Foursquare and other social ventures have faded,” he says. “It used to be the case that people talked about the defensibility of these companies being derived from network effects — the idea that the value of the service increases as it has more users. But for most people, network effects are localized.”
He noted that people will value Facebook a lot if their immediate circle of 30 to 40 people are engaged and active there. But it doesn’t matter if there are millions of others. “So the network effect in fact plateaus after some level of growth,” he adds. “And for some demographics, like teenagers, growth of the network into the mainstream is even negative. So, if the network grows a lot and parents and grandparents are active on the platform, the core group of users might even leave.” The bottom line, he says, is that “companies like Snapchat will need to diversify their revenues beyond their core product, much like Facebook has been trying to do through its forays into live video, virtual reality and chatbots.”
“Success of platforms like Groupon is in how they complement the business practices of the vendors.”–Pinar Yildirim
Another approach for Groupon, Clemons says, would be to refocus the model entirely away from its pursuit of mass market — or indiscriminate growth — and toward deals to “offer a targeted Groupon, which is to say not to encourage price shoppers we’ll never see again, but instead encourage trial by influentials. It’s a much smaller business, and it doesn’t pretend to be a form of group buying, but is a form of advertising in which we give attention to influentials. They ought to develop this as a business. This would offer great value to sellers, especially those in growth markets. Customers would still get their bargains, but sellers would get real value. This could be an amazing business.”
The path to a successful business model, says Reibstein, lies in using data to differentiate between customers who are price-sensitive, and those who are not, so businesses are not forgoing revenue from customers who would just as willingly pay full fare. “Having individual-level data and being able to utilize that data in a logical way is part of the answer, and direct mail has always had that individual data. Amazon is very far down this path,” he says.
But without wholesale change, the future of the sector hardly looks rosy. “I am not a big believer that these discount platforms can be a largely profitable business because of the nature of their business and their customer,” says Yildirim. “But of course, this is a two-sided business, and success relies on building the size of each side. The more vendors there are, the more customers will come. The more customers use Groupon, the more vendors will sign up. Success of platforms like Groupon is in how they complement the business practices of the vendors. When the vendor has excess capacity or extra inventory or seasonal shocks to its demand, it may be a good idea for it to sell it through these platforms. But better service providers and manufacturers usually do not have these issues – they are always in demand. So these daily platforms suffer from adverse selection to some degree.”
The biggest threat to Groupon would be promotional programs negotiated by intermediaries that know much more about buyers than Groupon does, Clemons notes. “UberEats or OpenTable could run targeted promotions and could ensure that they did not promote a deal to a restaurant’s existing customers. American Express Platinum could promote a golf resort or a beach resort to customers who have stayed in similar places, but not the ones they are promoting. If Groupon does not improve its business model quickly, it may soon become obsolete.”

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