Ok, not exactly the French Revolution, but they did turn down $6 billion from Google. I can’t help but wonder why. Perhaps my wonder is explained by the Shavian observation about those who can and those who can’t.
Groupon was not the first group buying site. Mobshop, funded, by amongst others, Paul Allen, folded in 2001 (or reincarnated as something else). What is it about Groupon that will ensure its path to glory will lead to other than the grave? I’m tempted to shout Santayana! Stantayana! I won’t, though.
Lets start with Groupon’s offers to users. Pay $x to get a coupon worth $2x from a merchant. If a certain number, say Q, of users sign on, then the coupon is issued, otherwise not. If the target Q is reached, the coupon is issued, the user pays $x, Groupon keeps $0.5x and sends, in installments, $0.5x to the merchant. Notice, by holding back the payment to the merchant, Groupon is able to ensure, to some extent, that the merchant comes through on their promise to discount by $2x.
Now switch to merchants. Why go through Groupon to offer a coupon? There are other outlets, including the traditional ones of coupons in the newspaper, flyers and those sent via the mail. More importantly, why discount in the first place? Let us count the whys (not mutually exclusive but, I hope, exhaustive):
- Price discrimination.
- To encourage trial, so as to convert to regular business. In effect, advertising.
- To attract business during slack periods.
- Move inventory that is old or obsolete.
- Incremental volume; coupon may induce an existing buyer to increase the volume they purchase or buy other items they don’t normally buy.
- Experiment to determine the demand curve.
Reason (6) may have some merit, but the pool of customers who use the coupon are not an unbiased sample of potential customers. The coupon will attract a disproportionate number of the price conscious (adverse selection!). So, I will focus on reasons (1-5). A common feature of reasons (1-5) is the desire to cut price selectively rather than across the board. Hence, a coupon is effective as a means of selective price cutting as long as those prepared to full price (full payers) are less likely to track and use the coupons. Thus, the important question: what is it about Groupon that allows it to distinguish more effectively between full payers and non-full payers?
Traditional methods (newspapers and bulk mail) impose a slight cost on users with finding the coupon that (potentially) discourages those who would pay full price from coupon hunting. In contrast, Groupon makes it easier to find the coupon by alerting you to the presence of the coupon. On the flip side, to many alerts and sorting through them raises the cost of finding the coupon.
Perhaps Groupon generates higher redemption rates, so that coupons can be sent to fewer people? A merchant can adjust for that by paying different amounts to carry coupons via different channels. For example, suppose channel A generates one redemption for every 10 coupons sent out, while channel B generates one redemption for every 100 coupons sent out. Assuming no adverse selection issues between the two channels, simply pay B a tenth of what one pays A.
No coupon scheme can perfectly screen between the full payer and non-full payer. In some cases the merchant can control for it by limiting when (requiring a reservation) and by whom (new customers) the coupon can be used. So, there will be some mixing. To much mixing, and the coupon becomes an across the board price cut. Groupon’s quantity threshold allows the merchant to limit the downside of mixing. For example, one could assume, in the worst case that only customers who would buy at full price use the coupon. Then compute, for the offered discount, the incremental volume needed to break-even. This break-even volume would be the quantity threshold needed for the offer to go into effect (an aside: it follows that merchants who complain that participating in a Groupon offering lost profits, implies they haven’t done their arithmetic).Traditional coupon delivery methods do not have this capability. However, Groupon clones, can easily replicate this.
So, from my armchair, I cannot tell whether Groupon can distinguish full payers from non-full payers any better than traditional coupon outlets. The merchant is probably in a better position to do this and should be doing so. Thus, why prefer Groupon to any one of its clones. Perhaps its the large installed base of eyeballs? Ok, but what is their cost of switching from Groupon to a clone or going to an aggregator of coupon sites?
16 comments
May 12, 2011 at 1:29 am
Chris
Never used Groupon and might be completely stupid but could there be some learning. Idea is that with more past deals you can profile users better and target people who are especially likely to use the coupon. Question is whether Groupon has such targeting algorithms….?
May 15, 2011 at 12:56 pm
rvohra
Suppose that groupon targets customers better than coupons in the mail. For example, 1 in 10 of groupon users are the target customer whereas 1 in 100 of the coupon by mail user are the target customers. As long as the price of the coupon in the mail is a factor 10 smaller than the groupon price there is no reason to prefer groupon to coupon by mail. So, for the targeting story to make sense it must be the the prices are out of whack (perhaps coupon by mail finds it harder to track and measure how effective they are at targeting).
May 12, 2011 at 4:20 am
Kanishka
I got to see some data summaries for GroupOn for an undisclosed country [for confidentiality I can’t reveal which country, though conceivably representative]. To my surprise the median redemption rate of purchased coupons was (significantly) less than 25%. This implies > 75% of consumers who purchased a coupon did not redeem the purchased coupon. This could be due to consumers buying this as an option or difficulty booking or simply consumers forgetting. Not sure if these will survive with consumers learning over time.
However interestingly this implies that in these data, the merchant’s revenue per good/service consumed is > $2x
May 15, 2011 at 12:58 pm
rvohra
Surprising! However, as you suggest this is profitability based on `found money’. Hard to believe that it is sustainable.
June 13, 2011 at 3:01 pm
SM
Are you sure though that Groupon shares the revenue of unredeemed coupons with the merchant? Non-redemption is good for the Groupon/merchant combination in general but I don’t think Groupon splits that equally with the merchant.
May 12, 2011 at 9:12 am
Scott E
Not selling to Google was a mistake. Google can enter the group buying market and provide the same service. Google will attach their Adwords and search result services and offer a better option for mechants. Google will take the majority of this market share within 5 years. Living Social already provides a better service than Groupon with it’s local deals. Living Social has broken Chicago (Groupon’s headquarters) into regions so you get deals in your area of Chicagoland.
May 16, 2011 at 4:59 am
Rupert
Groupon should have sold to Google? This statement is completely false for a number of reasons.
1. Groupon is going public at a rumored 15 to 25 billion dollar IPO. 25 billion vs 5 billion? that’s a min of 3x greater than the offer they got from google? end of story.
2. While Google has the reach, and it would make sense that they could tie products together. They don’t understand the pain of a small biz owner. Google is a pure tech company not a customer service company so it remains to be seen if they can figure that out. (but I agree they should be able to)
3. Living Social will definitely overtake Gpon. But not before they go public(so I doubt anyone at GPON cares)
4. Gpon will not be around in 5 years. I agree.
June 9, 2011 at 6:59 pm
Blake
Google is entering the market…
http://www.google.com/offers
So has facebook.
May 13, 2011 at 11:52 am
Dimagrire
…………………………………………………
May 16, 2011 at 4:54 am
Rupert
“Ok, but what is their cost of switching from Groupon to a clone or going to an aggregator of coupon sites? ”
Typically when they switch to a competitor there is no cost to the merchant and they get better service. And sometimes, it’s a more competitive price split.
Gpon has a lot of eyeballs. But that will only last for a short period of time.
June 9, 2011 at 11:12 pm
A. Lynn
I have enjoyed Groupon, and you are right, you have to remember to use them. Groupon does send you reminders about coupon expirations, and I have to input reminders on my calendar to use them. I appreciate all the comments. I have an interview next week with LivingSocial and these posts are giving me food for thought. It would be great to work for a company that has a fun culture and useful consumer products/service. My career has focused on healthcare, and “fun” would be a welcome change. Wish me luck!
June 10, 2011 at 4:37 pm
rvohra
Dear A. Lynn
Good luck on the interview. BTW, I heard another argument recently for Groupon. They aggregate retailers who for some reason find advertising on-line directly difficult.
And Blake, yes Google is entering, and I think they have the advantage of better targeting via mobile devices. They can deliver offers that are time and location specific.
June 13, 2011 at 3:09 pm
SM
Prof. Vohra – what is your take on how the rent split (currently 25% is what merchant keeps) will trend over time as this category matures? My take – the balance should tilt away from coupon sites. Currently for a product worth $2x, a customer pays $x which is split equally between Groupon and the merchant. So the merchant in effect gets 25% of the potential revenue. As Groupon clones proliferate, competition for the sought-after merchants (top restaurants in the area, Amazon, GAP etc) will have coupon sites competing for sharing a larger piece of this revenue with the merchant. This should either mean smaller discounts for end-consumer or larger % share for the merchant (or both).
June 14, 2011 at 1:31 pm
rvohra
Dear SM
The share that Groupon takes may fall with an increase an competition. Or, the share may stay the same (or rise) but with a dip in the number of retailers who use Groupon. Why the last? Groupon may choose to differentiate itself from the competition. Perhaps, by improving targeting, focusing on retailer segments that they are better able to match to users, increase users stickiness (via a friendly interface, engaging descriptions) etc. However, I suspect that the net effect will be lower profits.
June 14, 2011 at 9:25 am
A Sekhon
Lots if interesting comments, I think one of the reasons Groupon provides an edge over traditional coupon service (news papers, flyers etc) is that with Groupon the merchant knows how many customers bought the coupon and they can limit it as well. This tells me that over a period of time the mix of merchants advertising on Groupon would tilt to those looking to move old inventory (number 4 on prof’s list).
June 17, 2011 at 1:16 pm
Mihir Choudhary
We are missing the psychological aspect here. There has never been a tool like Groupon and alikes that could bring hundreds of customer thru the door of a small business. Attracting new customers is a real big challenge for small businesses. So in my opinion the demand for services like Groupon is primarily to drive demand for the first time. I am not sure what is the repeat business from both businesses and consumers of those businesses. Here is a data point: http://www.spaboomblog.com/2010/groupon-only-22-repeat-business