Forbes | Will Groupon Survive Until 2016?
June 09, 2011
Daily deal site Groupon wants to sell shares to the public. But how can it justify a $25 billion valuation for those shares if it’s not around in five years? On June 8, I interviewed a Harvard Business School professor who asks whether the daily deal industry is even viable and would like to see more information in Groupon’s prospectus about what he sees as its potential violations of some consumer protection laws.
HBS professor, Ben Edelman, told me that he thinks asking whether Groupon has a competitive advantage, as I did June 6, is the wrong question. Edelman, who helped me with a March 2011 post I did on Sen. John D. Rockefeller IV’s (D-W.Va.) successful efforts to shut down abuses in online shopping, argued that unless the daily deal industry changes its business strategy so it keeps consumers and merchants happy, it will evaporate.
Not all merchants are happy with the daily deal industry. An example, I cited was a restaurant in Portland, Ore. that believes its decision to work with Groupon was its worst business decision ever – costing it $8,000. Edelman suggested that the restaurant’s cost analysis may have been flawed, but does not question the sincerity of its perception.
In his view, merchants are not doing a particularly good job of measuring whether they are better off working with Groupon. To do that, Edelman believes that restaurants, for example, should measure whether the Groupon brings in enough new customers who keep coming back and paying full price to help cover the restaurant’s fixed costs.
Edelman estimates that the cost of food represents 30% of revenue for a typical restaurant and 70% of its costs — such as rent, waiters, and depreciation of chairs and tables — are fixed. Edelman thinks that restaurants do not do the analysis required to figure out whether enough customers who visit the restaurant using a Groupon come back and pay full price in sufficient numbers to cover their fixed costs.
He is also concerned that the Groupon may be causing that restaurant’s loyal, full-fare-paying customers to bolt. After all, those loyal customers may reason that the Groupon is rewarding people who try the restaurant once at a big discount while punishing the loyal customers by charging them full price. Edelman does not believe restaurants are keeping track of how many loyal customers Groupons are chasing away.
Groupons also introduce significant complexity for restaurant management. According to Edelman, when a restaurant has to redeem a Groupon, it often gets a flood of customers that overwhelms its operations. The result is that the customers who show up with the Groupon have a less than satisfactory experience and don’t return.
When Edelman asked his HBS students whether they would use a Groupon, roughly 100% of them raised their hands. But when he asked them whether they would return without a Groupon, only 1% said they would. This informal sample suggests that restaurants ought to invest in the data needed to analyze whether daily deals are a worthwhile way to market themselves.
Edelman also thought the Notre Dame study I mentioned, in which 40% of merchants said they would not do business with Groupon again, was valid — but could be improved by observing whether they actually go back to Groupon, rather than asking them if they will as the study did.
Not all daily deal sites generate such high levels of merchant and consumer dissatisfaction. Edelman cites Restaurant.com as an example of a discount site that does a much better job of creating and sustaining merchant and consumer satisfaction. Unlike Groupon — that offers daily deals on a wide variety of services like pumpkin-picking and skydiving — Edelman believes that Restaurant.com is more focused and humble.
From the restaurant’s perspective, Groupon’s fees are very high. Edelman believes that Groupon’s fees are “far above marginal costs” and this attracts competitors. Restaurant.com charges restaurants nothing and charges consumers as little as $3 for a $25 discount. Groupon would have charged at least $12 for a similar discount, according to Edelman.
Restaurant.com has been around for over a decade because it creates value for restaurants and consumers. In Edelman’s view, restaurants like the fact that it does not require them to pay for the daily deal and that it lets them add restrictions to push business towards slow nights. By contrast, Groupon tends to disallow such restrictions.
And Edelman believes that while consumers might initially be frustrated that they can’t get the discount on Saturday, the value they’re getting is sufficient that they might be quite happy to try the restaurant on a Thursday. They will likely get better service and perhaps consider coming back to pay full fare in the future.
Edelman, whose Harvard degrees include a PhD in Economics and a JD, believes that Groupon’s prospectus does not provide enough details about its legal exposure to violations of consumer protection laws. In general, Edelman believes that the prospectus should add more details about complaints Groupon has received from regulators and attorneys. Edelman described these to me in our interview and is putting the finishing touches about them in a soon-to-be-released paper.
Edelman declined to comment on whether Groupon would be around in 2016. But he does think that its survival depends on changing the way it operates. He thinks that Restaurant.com — since it’s focused on making merchants and consumers better off — is a better model for the daily deal industry.