Daily Deal Sites Mean Everyone Wins

The business models used by daily deal sites such as Groupon and LivingSocial are sustainable because they offer value for all parties. Pro or con?

Pro: Who Doesn’t Love a Discount?

Daily deal sites have exploded onto the scene, and the market and data show that these businesses have the backbone for long-term sustainability and growth.

In terms of the market, it is extremely rare for Amazon, Google, and Facebook—three of today’s most influential technology companies—to all venture into the same exact new market. Yet each has launched daily deal offerings, validating the business model’s sustainability.

On the consumer side of the market, the data point toward the same trend. According to eMarketer, almost 88.2 million people, or half of all U.S. adult Internet users, will redeem an online coupon in 2011, and this number should increase to 96.8 million by 2013. The point is simple: Consumers are always going to search for a deal, and this demand is not diminishing.

Last and most important, despite the media’s trumpeting of Rice University professor Utpal Dholakia’s attempt to cast doubt on the merit of daily deals, his research contains data showing that daily deals are a reliable platform for acquiring users and additional revenue. His customer behavior metrics state the following:


• 79 percent of customers (who purchased a daily deal) were new;
• 36 percent of deal users spent beyond deal value; and
• 20 percent of deal users became repeat buyers.

When these businesses put together a precise, wisely created deal, they will ultimately be able to increase their revenues. In the end, when this is repeated, both merchants and consumers are happy, and ultimately this will fuel the daily deal businesses’ long-term growth and sustainability.

Con: Pitfalls Abound

Two analogies come to mind when I think about Groupon and LivingSocial: "churn and burn" and "pump and dump."

"Churn and burn"—a term conventionally used to describe the actions of stock brokers who inflate their commissions via excessive trading—refers to the relationship with merchants. Although daily deals can work for a few categories, many business owners will find that deals are unprofitable. Take restaurants: In a typical deal, a restaurant will see less than 25 percent of its regular price. Given that cost of food alone is 30 percent of a restaurant’s price, that is a guaranteed loss. To add insult to injury, restaurants will find that 40 percent to 60 percent of customers they "acquired" during their promotion were already customers. Many of these people would have come in at full price; instead, they’re coming in at a loss. Promises of a steady stream of repeat visits from new customers rarely materialize. To be successful in the long term, daily deal providers will have to show sustainable value for their customers.

"Pump and dump"—the practice of artificially boosting the price of stock—relates to investors. One of the scariest things about Groupon’s S-1 is the amount of money insiders have taken out of the business. In the past two rounds of financing, the company raised $1 billion from new investors. Roughly 80 percent, or $800 million, went into the pockets of earlier investors. The S-1 also glosses over high customer acquisition costs and declining purchases per subscriber in established markets.

Buying Groupon stock could be as bad a deal for investors as running a Groupon is for many merchants.

Opinions and conclusions expressed in the Debate Room do not necessarily reflect the views of Bloomberg Businessweek, Businessweek.com, or Bloomberg LP.

Reader Comments

john

First to say, I'm not totally impartial as I work for a UK deals site, but I think most of the arguments on the con side are flawed.

"Given that cost of food alone is 30 percent of a restaurant’s price"--I don't know what the situation is in the states but this statement isn't universally true

"To add insult to injury, restaurants will find that 40 percent to 60 percent of customers they "acquired" during their promotion were already customers. Many of these people would have come in at full price; instead, they’re coming in at a loss"

The source of this data wasn't cited so I can't comment on its specific validity, but again this isn't my experience of running these deals from either side of the fence. While it may be true for chain restaurants, where customers have become familiar with the fact there is usually a promotion running somewhere at the national chains they eat at, for local restaurants, particularly in tourist towns like mine, they may only have a steady customer base of 50 to 100 regulars. Even if a daily deal sells 100 units and only brings 50 new customers in the door--and say 10% of those (5 customers) become regulars that may still be an increase in regulars of as much as 10%--which is huge.

What the arguments against daily deals also fail to take into account is the effect positive word of mouth can have on a local business. Again coming back to the restaurant example, most restaurateurs I've talked to who have run deals don't speak in terms of the profitability of the deal or of the increase in regular customers as much as the latent uplift of bookings they have experienced in the weeks following the deal--given these are businesses that often do little other marketing, in my mind this can only be attributed to word of mouth, which is obviously notoriously hard to measure.

The points about Groupon and the venture capital bubble that a lot of daily deal startups seem to be living in is indeed more of a concern, but I think this varies from site to site. My summary: The daily deals model is sound, but perhaps needs to mature slightly.

Russell

The coupon business has been around, in and out of fashion, underinvestigated and even suspended in many chains for decades at a time. Just because it's on the internet, doesn't make it a slam dunk as a business, or an IPO. Groupon's CEO is a nut job with zero experience. I wouldn't put a dime in here. It's a coupon business. Just keep repeating to yourself over and over.

Thelonious D. Llamosas

Well, John, you may think that the situation in the states, when considering the cost of food in any given restaurant "isn't universally true," but it does, maybe not 100%, but surely in most cases. I work for a franchising consultancy firm in Spain, so I have managed to work for many franchising restaurants, all of them reporting a cost of food ranging between 25% to 35%.

I do like sales and discounts, of course, but are they a sustainable strategy for retailers? Isn't that strategy a formal decrease of prices? For the other part, isn't it true that prices in any given industry tend to fall in the long term? The daily deal Internet sites would be fueling this trend, already known by any business management student.

The success of the daily deal sites among customers is pretty sure, but for merchants this could be true only if they manage to reduce its cost structure by, at least, the same amount.

Ian Tenenbaum

I, too, am not totally impartial as I work in the industry, but I think too many people are focusing on very specific examples where the deal model doesn't work and ignoring the thousands of instances where it's been a life saver for businesses.

Also the deal model is simply a new marketing channel available to businesses with no one holding a gun to their head to take part.

We should get the conversation away from restaurants as well since that is merely one specific industry using this new channel out of thousands of others with very different economics and results.

The key here is that like in any marketing channel throughout time the vendor or merchant has control over how they choose to engage. When a retail store chooses to buy a billboard in town that is fiscally irresponsible based on their cash flow and ROI they can expect we blame the business, not the guy selling the billboard right?

So why has the conversation moved here to blaming the ones providing access to thousands of new customers in a format that eliminates risk on the businesses side?

The real conversation needs to move to how to leverage the daily deal space and ways to craft a promotion that is fiscally responsible for your business. Daily deal education is more important now than criticism and would be more beneficial to the businesses it could be better serving.

The reality is that this new channel is not going anywhere for a long, long time, so businesses need to either educate themselves on ways to protect themselves and structure a deal properly or simply not partake and continuing doing whatever has been successful for them in the past.

Jill Kennedy

I must agree with the con. I have some major issues with Groupon and think they are doomed (long-term) as a company. I just see them as an online version of Valpak. I know their IPO will go through the roof--but they are a bust waiting to happen.

Rusty

I think we will see more target specific deal sites that will put tremendous pressure on LS and Groupon. One example that comes to mind is what Butler Motorcycle Maps out of Eagle Colorado is doing. They have placed QR codes on the back of their maps, and are tying in a discount site called "Biker Breaks." The site is being designed for motorcycle riders actively on the move, offering same day discounts, helping the business owner fill "same day" voids. They are not going to charge the business owner for the use of their discount site, as they have built a mobile tour guide with ad space behind the QR codes. How do you compete with free over the long haul? I too would be cashing out if I was on Groupons' management team.

James

This is yet another nail in the coffin of anyone being willing to buy anything at regular price. It may work in the short term in certain situations, but long term for businesses of any type trying to sell at a fair, full price it will backfire. Just look at department store discounts, for example. Any thinking person sees 70% off and concludes that the regular price is a rip-off and probably almost no one ever pays it. 10% or 20% off used to represent a bargain, but no longer.

Loyd Eskildson

My experience with Groupon was rather annoying--flooding my Inbox with messages of no interest. Solution--un-enrolled.

patmcgraw

If the business owner likes working harder, serving more customers for slimmer profits...go for it. But the ideal situation is to attract customers that appreciate the value of the experience so the owner can work smarter and generate larger profits. Competing on price is not a long-term successful strategy unless you're Wal-Mart and can leverage the supply chain.

Brian Konash

Take away the marketing, and GroupOn looks like an unsecured commercial paper dealer arranging repo transactions between merchants discounting product and buyers taking delivery later. Like pre-2008 paper dealers, they are paying old debts with the new revenues coming in. The money is not segregated by deal.

If buyer or sellers ever get out of balance, this could go badly. Commingling all of the receivables and payables means this business is one optimistic model away from Lehman Brothers.

kez

I ordered off Groupon like twp times and both times the deals got cancelled so I wouldn't even bother ordering if it was something I wanted and at a very good price.

In regard to this article, I think the daily discount is a fatastic idea and if you think about it anything that makes people spend money at the time of a recession is just plan genious. Merchants obviously choose to sell at the price they offer so you can't really blame Groupon if some business who used them makes a loss.

However a smart business that's stuggling can cash into a big audience with a large volume of sales in a short time.

Rand Pearsall

They are a great trial generator. And it has some overall branding value. But it would appear as if the targeting has to improve greatly or, as others have pointed out, they are just giving the product away. That doesn't build a sustainable business.

ldb

The reality is that what's vulnerable isn't the concept of the daily deal, but the purveyors of it. There's no need for a Groupon or LivingSocial when you can aggregate your own audience and incentivize them. Why would Macys pay the premium to an aggregate site that cheapens their brand image with hefty discounts? Why would consumers be loyal to sites that only offer appealing deals about 5% of the time? Discounts, by their very nature, don't foster loyalty so much as they move product (especially of a time-sensitive nature like hotel rooms). Users are loyal to the deal, not the site. There's no barrier to entry. Everyone can get in, and they are.

ondih prayudhi

Pro daily deals. The young generation really likes simple transactions with the fastest response.

Astralis

There are only so many times I can have a massage, pedicure, manicure, spa treatments, and my hair cut in a day.

Groupon is crap.

Advertising Guru

The problem with the "groupon" type of business model is that it is not sustainable for long term business growth and profit. A business owner--say a restaurant--can offer a 40%-50% off special every day. How long can that restaurant sustain business? 1) Customers will come in because it's a deal. 2) The restaurant will have to figure out other ways to cut overhead costs to boost net profit. 3) When you start offering deals like that, it becomes difficult to raise prices when your overall costs increase. In this case, food, delivery charges, etc. So when the restaurant owner starts to raise prices or offers less of a discount, customers might leave for the next "deal." The model is popular, yet not profitable. Again, Groupon--successful? Yes. Profitable? No

Yao

Don't like it. For more than four weeks now, I have not find a single deal I like.

Joco

I think the people are going to get tired of receiving tens of emails every day at the end and will start signing off. What will replace daily deal emails is going to be mobile technology that brings up a deal that is relevant to what you want, where you want, instantly. So I am on the corner of 5th and 6th streets and I want to have coffee--let my deal finder app find me the best coffee deal in this neighborhood. And if the service is great if the place somehow manages to cater to my interests next time I am in this neighborhood, I may not use my deal finder but go directly to them. I am sure lots of people will be more addicted to using deal finders, though, so creating loyalty would be more difficult.

Alejandro Vazquez

Well, from my point of view as a consumer, I've been loving the experience from these deal sites here in Mexico. I got to admit I'm hooked. Frankly I'm a return customer for about 20% of these businesses and my money spent there has easily tripled the discounted deal. And yes, it's only those few places--some very very good--that make you return. Deal sites are great for you to try a new place or service and it's up to the merchant to actually engage you for good ... from a business point of view I think merchants could even give you a 100% discount and still make a profit if they actually hook you with service an experience.

Seshu

As an entrepreneur involved in this business serving a niche community I have to say
1) The food costs represent less than 30% of the total costs
2) The customers that my business is bringing to my current clientele - around 60 ~ 70% are new customers.

At the end of the day this model generates some buzz around the deal and should be treated as an alternate advertising model. In this where a customer walks though the door with the investment that the business is willing to invest.

mehmet

Many stupid comments regarding the industry, how many services can you buy? Obviously many many more than the number of clothes or accessories.... How many times do you eat out? How many times do you have breakfast? How many times do you travel? Compared with private shopping's success, success of daily deals is a much bigger sure thing.

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